Question

On January 1, 2017, Corgan Company acquired 70 percent of the outstanding voting stock of Smashing, Inc., for a total of $1,190,000 in cash and other consideration. At the acquisition date, Smashing had common stock of $850,000, retained earnings of $400,000, and a noncontrolling interest fair value of $510,000. Corgan attributed the excess of fair value over Smashing's book value to various covenants with a 20-year remaining life. Corgan uses the equity method to account for its investment in Smashing.

During the next two years, Smashing reported the following:

	Net Income			Dividends Declared			Inventory Purchases from Corgan
2017	$	300,000		$	50,000		$	250,000
2018		280,000			60,000			270,000

Corgan sells inventory to Smashing using a 60 percent markup on cost. At the end of 2017 and 2018, 50 percent of the current year purchases remain in Smashing's inventory.

A. Prepare the worksheet adjustments for the December 31, 2018, consolidation of Corgan and Smashing.

Answer 1

Adjustments relating to inventory can be done as below

Since, its given that corgan sells inventory to smashing using 60% markup on cost,

Let us assume cost of goods sold to smashing by corgan be x.

Then selling price becomes 160% of x.

Which implies 160x =2,50,000

X= 2,50,000/160%

= 156250.

Hence cost of goods sold to smashing by corgan during the year 2017 is 156250. Out of which 50% of stock becomes opening inventory for the year 2018.

Given that, purchases from corgan for the year 2018 is 2,70,000.

Hence 160x=2,70,000

X= 2,70,000/160%

= 1,68,750.

Since, its given that 50% of current year purchases remains in closing stock,

The inventory which is bought from corgan limited and still lying as inventory in the books of smashing limited by the end of year

2017: 2,50,000/2=1,25,000

2018: 2,70,000/2= 1,35,000.

Hence, amount of unrealised gain to be eliminated during consolidation of financial statents can be done as

160% of x=1,35,000

X= 84,375

There fore cost of 135000 worth stock is 84,375

Hence , unrealised gain is 1,35,000-84,375= 50,625.

It will be generally presumed that Net income of 2018 is arrived after deducting the dividends declared during the year 2017. Hence dividend declared during 2018 has to be deducted from net income of 2018 since dividend can be declared only after the end of the respecrive financial year, which makes it possible that it might not have beem deducted from net income of 2018.

Hence Net Income available for distribution will be

$,2,80,000-60,000=$2,20,000.

Conclusion: An amount of $50,625 pertaining to unrealised gain has to be eliminated during preparation of consolidated financial statements.

And the dividend has to be deducted before making the net profit for the year available for distribution.