 Hello and welcome to this session. This is Professor Farhat in this session. We would look at elimination of unrealized gain or loss on Depreciable assets specifically we're going to be using the cost method now I did two prior sessions one I explained how we dealt with non depreciable and session two dealt with depreciable asset But this section I'm going to use the cost method just to kind of so you know how the cost method work This is an advanced accounting course This this topic is also covered on the CPA exam No, before we start somehow keeping items I always like to connect with my viewer subscribers Please connect with me. You could connect with me only then I'm very active only then and I do post my lectures there as well as other related topics about the CPA exam Accounting your accounting career so on and so forth. If you're a Facebook user Please like my Facebook page accounting lectures. Obviously you want to subscribe to my YouTube channel So you'll always get up to date and this is what I house all my lectures and I do have a Twitter account so in this session what I'm going to do I'm going to use I'm going to work a complete consolidation example Using the cost method and this way we're going to have Subsequent year to the intercompany sale and it's going to be in upstream sale Now what I want you to do is copy all the information down in case if you don't have the slides I'm going to be flipping between the slides and the Excel sheet I would like to show you the full picture of how we're going to go through this process So we have P company owns 80% of S company. The stock was purchased for 960,000 on January 1st 2019. This is when we made the purchase in this company When Shannon companies retained earning was six hundred and seventy five thousand. So this is the beginning Retained earning when we purchased the company on January 1st 2011 Shannon company sold S sold Fixed asset to P company for nine hundred and sixty thousand. So we sold them an Asset for nine hundred and sixty thousand as company has has purchased these assets for one million three hundred and fifty on January 1st 2001 so their cost is one million three hundred and fifty at which time their estimated useful life was 25 year Okay, so they had 25 years to go the estimated remaining useful life to pits company on one one eleven is ten years So what's left is ten years both company employed the straight line method Prepare a consolidated statement work paper for the year ended December 31st. So we're gonna do we're gonna do a complete consolidation and Let's start with the first entry. So what do we do with the first entry now? Actually before we start the first entry. Let me show you the balance sheet and The income statement for S and P company. So this is the this is P company. This is their income statement Revenues minus expenses. This is S company revenue minus expenses. This is the beginning retained earnings of P company, this is the one one for S company. This is income from above. Obviously, this is income from above This is the dividend declared by P company This is the dividend declared by S company and this is their current assets the investment which has not been adjusted yet Planned property and equipment the appreciation Capital stock, you know Shannon company as well as Pits company. Okay, so the first thing we need to do is to basically re-establish the the investment income basically bring the investment account as well as the retained earnings account to Establish reciprocity bring them up to date. Now, let's take a look at what we are giving in this problem We are told that retained earnings was when we bought the company retained earnings was 675,000. This is when we bought the company. How much is retained earnings now to retained earnings now is one million and 38,000 this number right here. Okay, what does that mean? Well, let's do a quick computation to see what happened from that date to that date Okay, when we bought this company was too big when we bought the company retained earning was 675 therefore from the date that we purchased the company Till today the difference between the beginning retained earning and when we bought the company 336,000 so simply put the retained earning of Shannon Shannon Shannon retained earning increased by 363 What's gonna happen? Those earnings will increase our investment account by only 80 percent. Why 80 percent because we we Own 80 percent of the company. So the increase times Times point eight that's gonna give us $290,400 simply put we are going to make an adjustment and that adjustment it's gonna bring the investment account up We're gonna debit the investment account 200 90,400 we're gonna debit. This is the investment account. We're gonna increase the investment account notice We increase the investment account by 290,000 that's the debit and we are going to credit the retained earnings of P because basically what happened those earnings becomes our earning So this is the first entry 294,000 $400. So this is the first entry. Let me show it to you on the PowerPoint slides Okay, so this is the First entry to establish reciprocity convert to equity basically we need to bring all the earnings So what happened is the difference between those two is the earnings that S company generated Since they were purchased which is 363 we got 80 percent of it this 80 percent will increase our investments and will increase Our retained earning to brings the investment account Which we're gonna be eventually eliminating the second that we need to bring it up to date before we eliminate Okay, so the next thing we're gonna look at is What happened and the transaction of the intercompany transaction if you remember from the data giving S company? Sold P company a piece of equipment. Okay, the original cost of S was 1,350 The accumulated depreciation was 540 cost minus accumulated depreciation gives us the Book value and basically what they did they sold it to the parent company for 960 okay, so the parent company will debit Equipment 960,000 they will credit cash 960,000 and this is 11 2011 this is when the transaction took place. So it's good to go back and see what happened on the sub What they do they debit cash 960 They will debit accumulated depreciation 540 They will credit the equipment at 1,350 And they will credit again They will credit again and I'm doing this on purpose. They will credit again the difference between the two is 810 I'm sorry 810 minus 960 is what 100 and So the book value was 8 Book value was 810 and They sold it for 960 Therefore the gain was 150,000 the gain is 150,000 let me just remind you what we need to do we need to Always report the asset at 1,960 we need to remove this gain every year and we need to restore The accumulated depreciation. Okay, so remember those three accounts will need to be adjusted All right now by the end of the year what happened is this so by the end of that year by the end of 2000 and And 11 It's okay. I'm going through this slowly, but that's okay by the end of 2011. What happened is this What happened is this The company will debit the gain They will debit the game. This is one at 1231 2011 they will debit the game. They will debit this game 150,000 to take out this game They will debit equipment For 390 to make sure the equipment is back The equipment is back to the original value to the original cost for the consolidation And they will credit accumulated depreciation 540,000 this is all happening 1231 2011 now also remember what what else happened. So basically I I Eliminated the intercompany gain. I Put the asset back on the books I put the depreciation back on the books for the consolidated entity at the original cost and what else would they do that year as well What else would they do that year? They would also now remember the depreciation for As company was 81,000 the depreciation for P company is 96. There's a difference of depreciation of 15,000 Well What's gonna happen is we are going to realize some of that depreciation through usage. Therefore what we do to 1231 2011 we are going to debit Accumulated depreciation 15,000 credit depreciation expense 15,000 and all these entries that I am I am preparing now belongs to 1231 2011 and those are the entries that we work in the prior session So in case you are wondering why I am not covered covering them in detail. So that's why so this is what happened 2011 But the question asks for 2012 so what do we need to do in 2012? Well, the first thing we need to do we need to basically repeat this entry This entry will need to be repeated We need to put eliminate the gain from retained earnings put the equipment back on the books at what million 350 and restore Accumulated depreciation then do something with with depreciation, which we'll do in a moment. So let's do it step by step All right, first thing We debit property plant and equipment 390,000 we debit retained earning and we debit non-controlling interest. We don't Debit gain anymore. The gain is gone. Remember and just a minute ago. I told you I debited gain 150 the gain is gone But this is the gain now. This is the 150. It's part of retained earnings So we debit retained earnings were removed from retained earnings 120 and we remove from the non-controlling interest because remember We we only have 80% of the gain and we remove from non-controlling We move from non-controlling interest 30,000 then we established the original the accumulated depreciation up 540,000 so this is basically the same entry that we did the prior year Except that it's for this year Okay for 2012 and this entry will keep repeating itself until the asset is sold. All right now what else What else do we have? What else do we have to do? What else do we have to do? Then for that same year you remember the prior year we booked depreciate we adjusted depreciation of 15,000 We have to do the same thing. We're gonna debit Accumulated Depreciation 15,000 credit Depreciation expense 15,000 so this is what we need to do for this 15,000. Are we done yet? We're not done yet We also have to account for the prior year Accumulated depreciation that was in the in the work papers of the prior year, which is not reflected in the box Therefore we need to debit accumulated Depreciation 15,000 because it was for the full year then credit retained earnings for the parent company 12,000 credit NCI 3000 now you're asking can I can I do a compound entry here and the answer is yes I'm gonna combine those two entries. I just wanted to show you that basically it's two entries one for the current year and One to recapture the the prior gain that was that was not showing in the On the on the books of each of each of each party So let me go back go in there and show you the consolidated entry Now what I should do I should go back to the Excel sheet and update update everything. So let me just let me do this Discard let me go to the Excel sheet. So this is the end. Let me show you the entry in case Slide show So this is the this is the entry so part of this 15,000 is for the current year And part of it for the prior year for the accumulated depreciation This is the current year and those 15,000 from the prior year. Let's go go to the Excel sheet because I told you I'm gonna keep doing this on the Excel sheet on the Excel sheet here So what's gonna happen? I'm gonna have to debit as I told you property plant and equipment earlier We I need to debit property plant and equipment 390,000 thus increasing property plant and equipment by 390,000 I need to debit retained earnings. I need to debit retained earnings by 120,000 For P company therefore I need to debit Retained earnings for P company now word that I come up with that 120,000. It's 150 of The gain total gain and we only gonna get 80% out of it, which is 120,000 I need to debit the non-controlling interest 30,000 Need to debit non-controlling interest 30,000 and where's that 30,000 coming from? It's 150,000 In part of that gain went to the non-controlling interest of 20%. That's 30,000 and I also need to re-establish my My accumulated depreciation. Where's my balance sheet? Accumulated depreciation. I need to establish this account for 500 and 40,000 And what I just did in case you're wondering I just I just updated book in this entry now. I'm gonna update this entry. I'm gonna debit accumulated depreciation 30,000 I'm gonna debit accumulated depreciation 30,000 I am going to credit other expenses 15 the other expenses is for depreciation But they don't have depreciation here. Therefore I'm gonna credit expenses 15,000 I Am going to credit retained earnings 12 non-controlling interest rate. I'm gonna credit retained earnings 12 And again, this is the part of the 15,000 80% goes to the parent company and Non-controlling interest is 3,000 3,000 okay Let's keep going. Let's keep going with the consolidation. I know you have to work very slowly here. I want you to understand everything Okay, now what else do I have to do? I have to eliminate intercompany dividend Let's look at the sheet. Maybe it's easier to eliminate intercompany dividend. I have total dividend of 60 Of 60,000. What do I need to do? I need to eliminate this. Therefore. I am going to debit this account I'm going to debit this account 60,000 dollar Notice the the dividend is removed the dividend is removed and I'm going to have to credit this account here, what is the Dividend 60,000 dividend declared. This is the dividend declared. This is Shannon company credit dividend declared 60,000 so basically the journal entry would look something like this debit dividend income Credit dividend declared. I just did this Now at the end I have to eliminate. Let me just show you the entry then I will show it to you on the books on the on the Excel sheet and the last thing you do last thing we have to do for this exercise is eliminate the investment account and create the NCI we have to debit the retained earning for S company because The retained earning of S company does not appear on the consolidation, which will be 1,038 We have to debit the common stock of S company all the common all the equity of S company will have to be gone We have to also we have to also remove them against the investment account We credit the investment account and we establish NCI 3,200 let's do that. Let's do the let's do these entries. Okay, so I'm gonna have to debit first start with retained earning I'm gonna have to debit the retained earnings and retained earnings is right here for Shannon company 1 1,083,000. I'm gonna have to debit this account 1,038,000 It is a count retained a minute eliminated the retained earnings. I also have to eliminate the Company common stock. They have 525. I have to debit this account 525 That's gone. Okay. Now I have to I debit those and have to credit the investment account Let me credit the investment account The investment account is 1,200 1,200 1,250,000 400 dollars. I have to credit this account 1,200 1,250,000 and $400 the investment account is gone What's left is I have to establish is I have to establish the NCI the non Controlling account the non-controlling account now the non-controlling account I mean you have to do the you have to compute the non-controlling account So how do we compute the non-controlling account? Well, the non-controlling account is the 20% So remember the beginning retained earnings for this company when we started when we purchased this company the beginning retained earnings was 675,000 that was given in the problem when we bought the company it was 675 and the ending retained earning was 1 1,038 As of the beginning of the year 1 1 of this year retained earning was 1,000,000 1,038,000 So overall the the act the retained earnings of the company Increased by 363. What is our share? What's the share of the of the non-controlling interest or shares 20 percent? The first year is 20 percent. That's 72,000 600 take 300,000 which is income of this year times 0.8 That's 240,000 Those two is the 312 600 300 312 600 Therefore we credit this non-controlling interest 312 600 this is where the twill 312 600 312 600 coming coming from okay Now let's see Let's see Let's see what we have here. So none. We still have to Remove the non-controlling interest here. Remember, we have to we have to remove the non-controlling interest from the consolidated Workpaper now how how much do we remove from the non-controlling interest? Remember, we're gonna start with 300,000 300,000 Plus the 15,000 of depreciation that we did in an entry entry three Times 20 percent was working. Okay, and that's negative sixty three negative sixty three Thousand negative sixty three Thousand so here's the consolidated income now the consolidated income six hundred and twenty seven thousand and The ending NCI is three hundred thirty three thousand six hundred Dollars, which is the retained earnings from above from NCI. They have income of sixty three thousand for NCI Minus the dividend for NCI that's equal to forty eight forty eight Then what we do is we when we establish the prior NCI, which is two eighty five six hundred So the earning plus two eighty five six hundred Which is thirty thousand? Which is minus thirty thousand plus thirty plus twelve six hundred equal to the eighty five the ending retained earning is three thirty The ending NCI is three thirty six six hundred Total assets. Let's make sure that it equals total asset three million Eight hundred eighty four thousand one hundred liabilities and equities is the same thing which is it means we did it We did it we compute this properly. Okay, so this is how we computed this now you might be asked to to to to come up with Ending retained earnings ending ending retained earnings, which is the retained earnings of the consolidated retained earnings You might have to prove this. So this is the consolidated retained earnings one million eight hundred seventy four thousand four hundred now How do we how can we just make sure we understand the ending retained earnings? Now when we started the retained earnings was for the parent company one million five hundred thousand We just one million five hundred thousand This is the retained earnings P company Then what's gonna happen to retained earning? It's gonna increase by the amount of earnings that we generated over over the years Okay, and how much did we generated over the years? Well now the ending retained earnings for S company is one million two hundred and sixty three This is Retained earnings for P company the end of the year and when we bought this company retained earnings was six hundred and seventy five thousand So let's find the difference between those one million two hundred sixty three minus six seventy five It's five eighty eight Okay, so this is the earnings that we got from S company over over the years up to date Then we have to be careful We have to deduct we have to deduct any Unrealized profit on sale of equipment. What does that mean? Remember when we sold the equipment and we go back here and I'm flipping back and forth because there's no way around this When we sold the equipment, we had the gain of 150. We had a gain of 150 Remember we have to deduct that gain. Okay, because it's intercompany gain So when we bought that when we when we start when in 2001 We go back here. We had the gain of 150 then remember by the end of the first year We recognize 15,000 of that gain in form of depreciation. This is year one Depreciation which is 2011 then this year. We recognize another 15,000 for year two depreciation So now you have subtract rather than subtracting 150. We're only gonna subtract 120 And what is that and that's the unrealized profit on sale of equipment Okay, minus 120 So 588 minus 120 is 468 Now remember we're only gonna get 80% of that Because the parent company owns 80% so 468 and the non-controlling interest get the rest times 0.8 That's gonna give us 374 374 400 3 374 400 and if we do if we add 374 400 That's gonna give us 1,874,400. Yes, it does a dead match. So basically I basically I did a confirmation Okay, so hopefully you would you understand How we did this company computation how we confirmed the retained earnings If you have any questions any comments by all means email me if you're studying for your CPA exam As always study hard if you need additional lectures go to my website And if you happen to go to my website, please consider contributing or donating money study hard for the exam. It's worth it