Solution manual advanced accounting 11th by beams chapter07

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Chapter 7
INTERCOMPANY PROFIT TRANSACTIONS — BONDS
Answers to Questions
1

Intercompany borrowing gives rise to notes or advances receivable from and payable to affiliates, as well
as reciprocal interest receivable and payable accounts and interest income and expense accounts.

2

Direct lending and borrowing transactions do not give rise to unrealized gains and losses. Any income
reported by the lender is precisely reciprocal to an expense reported by the borrower, and the transactions
are complete on the date consummated. Similarly, direct lending and borrowing transactions do not give
rise to unrecognized gains and losses since intercompany amounts received and paid are both realized and
recognized from the viewpoint of the separate legal entities.

3

Constructive gains and losses are gains and losses from the viewpoint of the consolidated entity but not
from the viewpoint of the separate affiliates involved. The purchase of a parent’s outstanding bonds by its
subsidiary at a price below the book value of the bonds on the parent’s books results in a constructive gain.
Although the bonds are not actually retired, they are constructively retired from the viewpoint of the
consolidated entity because they are no longer liabilities of the consolidated entity to outside parties.

4

The book value of the liability is $1,004,700, computed as $1,000,000 plus $10,000 minus $5,300. If an
affiliate purchases half of the bonds at 98, it will record a bond investment of $490,000. From the
viewpoint of the consolidated entity, the purchase of the bonds results in a constructive retirement of

$500,000 par of bonds payable. The constructive gain on the bonds is $12,350 [($1,004,700  50%) –
$490,000].

5

A constructive gain on bonds is a gain for consolidated statement purposes that is not recorded on the
books of the separate affiliates. The affiliates continue to carry the bonds as a liability (issuer) and
investment (purchaser) on their separate books. Alternatively, an unrealized gain on the sale of land is
recorded on the books of the selling affiliate, but it is not recognized as a gain for consolidated statement
purposes because the land is still held within the consolidated entity. Thus, a constructive gain on bonds is
realized and recognized from the viewpoint of the consolidated entity but it is not recognized on the books
of the affiliates. An unrealized gain on the sale of land is recognized on the books of the selling affiliate but
is not realized or recognized from the viewpoint of the consolidated entity.

6

Constructive gains on intercompany bonds are realized and recognized through the interest income and
expense reported on the separate books of the affiliates. The difference between the interest income
reported by the investor and the interest expense reported by the issuer on the intercompany bonds is the
amount of constructive gain recognized in each period. Constructive gains and losses are recognized in the
consolidated financial statements before they are recognized on the books of the affiliates.

7

If a subsidiary purchases parent bonds at a price in excess of book value, a constructive loss results. The
loss is attributed to the parent since it is the parent bonds that are constructively retired. This approach of
associating constructive gains and losses on intercompany bonds with the issuer is consistent with the
procedures used in earlier chapters of associating gains and losses on intercompany sales transactions with
the selling affiliates.

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7-1

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Intercompany Profit Transactions — Bonds

7-2

8a

Assume bonds were purchased at the beginning of the current year
10% bonds payable
52,000
Interest income
5,250
Interest payable
2,500
Investment in S bonds
49,000
Interest expense
4,500
Interest receivable
2,500
Constructive gain on bonds
3,750
To eliminate reciprocal bond investment and liability amounts,
reciprocal interest income and expense amounts, reciprocal
interest receivable and payable amounts, and enter the

constructive gain on bonds. The constructive gain is computed as
the $52,500 book value of bonds that were retired for $48,750.

8b

Assume bonds were purchased one year earlier
10% bonds payable
52,000
Interest income
5,250
Interest payable
2,500
Investment in S bonds
49,000
Interest expense
4,500
Interest receivable
2,500
Investment in S stock (90%)
3,375
Noncontrolling interest
375
To eliminate reciprocal bond investment and liability amounts,
reciprocal interest income and expense amounts, reciprocal
interest receivable and payable amounts, and adjust controlling
and noncontrolling interest holdings for constructive gain less
piecemeal recognition. The constructive gain is computed as:
$53,000 book value - $48,500 cost = $4,500 of which $750 was
recognized on the books of the affiliates in the prior year.

9

Separate entries are as follows:
Investment in S
Income from S
To recognize income
subsidiary income.

40,000
40,000
equal

to

80%

of

reported

Investment in S
Income from S

4,000
4,000

To recognize gain on constructive retirement of
bonds (parent’s books).
The full amount of constructive gain on bonds is recognized as
investment income because we assign the full amount to the parent

issuer.
10

Investment income from subsidiary
75% of subsidiary’s $100,000 reported income
Less: 75% of $8,000 constructive loss on retirement of
subsidiary bonds

$75,000
6,000

Investment income

$69,000

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Chapter 7

7-3

11a

A constructive gain will result when interest income exceeds interest
expense on the bonds that are constructively retired.

11b

The constructive gain is associated with the parent since the issuer
reports interest expense.

11c

The $200 difference between interest income and expense represents a
piecemeal recognition of the constructive gain from the constructive
retirement of bonds payable.

SOLUTIONS TO EXERCISES
Solution E7-1
c
1
a
2

3
4

d
a

Solution E7-2
a
1
Book value of Pan bond’s acquired by
Sow ($900,000 + $48,000)  2/3
Cost to Sow
Constructive gain

d
2
Nominal interest on Pan’s remaining
outstanding bonds $300,000  8%
Less: Amortization of premium ($48,000  1/3)/ 4 years
Interest expense on consolidated income statement
Solution E7-3
c
1
Cost of $80,000 par of Pal bonds January 1, 2011
Book value acquired ($400,000 par - $8,000 discount)  20%
Constructive gain
d
2
Par value of bonds payable
Less: Unamortized discount ($8,000 - $2,000)
Book value of bonds
Percent outstanding
Bonds payable
c
3
Constructive gain $2,400/4 years  3 years
c
4
Nominal interest
Add: Amortization of discount
Percent outstanding
Interest expense
5

b

$632,000
602,000
$ 30,000

$ 24,000
4,000
$ 20,000

$ 76,000
78,400
$ 2,400
$400,000
(6,000)
394,000
80%
$315,200
$

1,800

$ 40,000
2,000
42,000
80%
$ 33,600

Piecemeal recognition of gain is $2,400  25% in 2012.

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Intercompany Profit Transactions — Bonds

7-4

Solution E7-4
1

Controlling Interest Share of Consolidated net income (in thousands)
Pat’s separate income
Add: Income from Sal
Share of Sal’s income
($500  80%)
Less: Loss on bonds constructively
retired
Book value
($1,000 - $40)  40%
Cost to Sal
Add: Piecemeal recognition of loss
($16,000/4 years)
Controlling Interest Share of
Consolidated net income

2

$

800

$400

$384
400

(16)
4

388
$1,188

Noncontrolling interest share
Sal’s reported income
$500  20%

$

100

Consolidated Net Income = $1,188 + $100 = $1,288.
Solution E7-5
Pim Corporation and Subsidiary
Consolidated Income Statement
for the year ended December 31, 2019
(in thousands)
Sales
Less: Cost of sales

$1,500
(870)

Gross profit
Add: Gain on constructive retirement of bondsb
Less: Operating expenses
Operating profit
Other Items:
Bond interest expensea
Consolidated net income
a
b

630
6
(250)
386
$

(30)
356

Parent’s bond interest expense $50,000 less interest on bonds held intercompany
$20,000 = $30,000.
Book value of parent’s bonds purchased $200,000 less purchase price $194,000 =
$6,000 gain on constructive retirement.

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Chapter 7

7-5

Solution E7-6
1

Constructive loss
Cost paid to retire 1/2 of Son’s bonds
Book value of bonds retired ($990,000  .5)
Constructive loss on bond retirement

2

$503,000
495,000
$ 8,000

Income from Son
Share of Son’s reported income $14,000  70%
Less: Constructive loss $8,000  70%
Add: Piecemeal recognition of constructive loss
($8,000/4 years)  70%
Income from Son

$

$

9,800
(5,600)
1,400
5,600

Solution E7-7
1

2

3

a
January 1, 2011 cost of $200,000 par bonds
Book value acquired ($1,000,000 + $45,000 premium)  20%
Constructive gain

$195,500
209,000
$ 13,500

b
Constructive gain $13,500/5 years  4 years

$ 10,800

c
Book value $1,036,000  80% outstanding

$828,800

Solution E7-8
1a

1b

Constructive gain
Book value of bonds January 1, 2012
Amortization for 6 months ($30,000/4 years  1/2 year)
Book value of bonds July 1, 2012
Percent purchased by Say

$970,000
3,750
973,750
60%

Book value of bonds purchased
Purchase price

$584,250
574,800

Constructive gain

$

9,450

Consolidated bond interest expense for 2012
Bond interest expense January 1 to July 1
($1,000,000  8%  1/2 year) + $3,750 amortization

$ 43,750

Bond interest expense July 1 to December 31
[($1,000,000  8%  1/2 year) + $3,750 amortization]  40%
Consolidated bond interest expense

17,500
$ 61,250

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Intercompany Profit Transactions — Bonds

7-6

1c

Bond liability of Par
January 1, 2012
Amortization 2012
December 31, 2012

Par
$1,000,000
$1,000,000

Discount
$30,000
- 7,500
$22,500

Consolidated bond liability $977,500  40% outstanding
Alternative Calculation:
Book value at July 1, 2012
Portion left
Remaining book value at July 1, 2012
Add: Discount amortization(40% x $3,750)
Book value at December 31, 2012
2

Book Value
$970,000
+ 7,500
$977,500
$391,000

$973,750
x 40%
$389,500
1,500
$391,000

The amounts would not be different if Say had been the issuer and Par
the purchaser. However, the constructive retirement gains would ‘belong’
to Say and would have been allocated to both Par and the noncontrolling
interests in Say.

Solution E7-9 (amounts in thousands)
Subsidiary purchases parent company bonds:
Gain on constructive retirement of bonds
1a
Book value of Pin’s bonds constructively
retired ($5,000 - $100 unamortized
discount)  40%
Purchase price of $1,000 par bonds
Gain on constructive bond retirement

$1,960
1,900
$
60

Consolidated interest payable
($3,000 + $1,000)  10% interest  1/2 year

$

1c

Bonds payable at par ($3,000 + $1,000)

$4,000

1d

None But Sid’s investment in Pin bonds will be $1,920.

1b

Cost January 2
Add: Amortization ($100,000/5 years)
Total (Eliminated in consolidation)
2a

2b

200

$1,900
20
$1,920

Parent purchases subsidiary bonds:
Loss on constructive retirement of bonds
Sid’s bonds payable ($1,000 + $20)
Price paid by Pin
Loss on constructive retirement of bonds
(80% to Pin and 20% to Noncontrolling interests)
Consolidated interest expense
Pin bonds ($5,000  10% interest)
+ $20 amortization

$1,020
1,030
$ (10)

$

2c

None Interest receivable of $50 is eliminated in consolidation.

2d

Book value of bonds payable
Pin’s bonds December 31, 2011
Add: Amortization for 2012 ($100 / 5 years)
Book value of bonds payable

520

$4,900
20
$4,920

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Chapter 7

7-7

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Intercompany Profit Transactions — Bonds

7-8

Solution E7-10 (in thousands)
1

2

Gain from constructive retirement of bonds
Book value of bonds purchased by Sal
($2,000 + $60)  25%
Price paid by Sal
Gain from constructive retirement of bonds

Working paper entry to eliminate effect of intercompany bond holdings
12% bonds payable
512
62
Interest incomea
Interest payable
30
Investment in Pad bonds

492
Gain on retirement of bonds
25
57
Interest expenseb
Interest receivable
30
a
b

3

($500  12% interest) + $2 amortization = $62
[($2,000  12%) - $12 amortization]  25% intercompany = $57

Consolidated income statement amounts — 2013
Constructive gain
a

None

b

Noncontrolling interest share ($300  20%)

$

60

c

Bond interest expense
[($2,000  12%) - $12]  75% outsiders

$

171

d
4

$515
490
$ 25

Bond interest income

None

Consolidated balance sheet amounts — December 31, 2013
Investment in Pad bonds
a
b

Book value of bonds payable
($2,000 + $36)  75% outsiders

c

Bond interest receivable

d

Bond interest payable
$2,000  12%  75% outsiders  1/2 year

None

$1,527
None

$

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90

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Chapter 7

7-9

Solution E7-11
Preliminary computations:
Book value of Saw bonds on January 1, 2012
Purchase price paid by Par
Gain on constructive retirement of Saw bonds

$1,000,000
783,000
$ 217,000

Amortization of gain on bonds ($217,000/7 years)
Computation of noncontrolling interest share:
Share of Saw’s reported income ($140,000  20%)
Add: Share of constructive gain ($217,000  20%)
Less: Piecemeal recognition of constructive gain ($31,000  20%)
Noncontrolling interest share

$

31,000

$

28,000
43,400
(6,200)
65,200

$

Par Corporation and Subsidiary
Consolidated Income Statement
for the year ended December 31, 2012
(in thousands)
Sales
Less: Cost of sales

Gross profit
Add: Gain from constructive retirement of Saw
Less: Operating expenses
Consolidated net income
Less: Noncontrolling interest share
Controlling interest share of NI

$1,800
950

$
$

850
217
400
667
65.2
601.8

Solution E7-12
1

Pub Corporation and Subsidiary, December 31, 2011

Interest receivable
Investment in Sap bonds
Interest payable ($40,000  80%)
8% bonds payable (($1,000,000  80%)- 13,500
discount)

Interest income
Interest expense ($86,000/2) + .8(86,000/2)
Loss on retirement of bonds payable

Amounts Appearing
in Consolidated
Financial Statements
0
0
32,000
786,500
0
77,400
7,800a

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Intercompany Profit Transactions — Bonds

7-10

Solution E7-12 (continued)
a

Computation of loss on intercompany bonds
Balance of investment in bonds at December 31, 2011
Add: Amount amortized for July 1 to December 31, 2011

($5,000 balance at December 31  30/36 months = $6,000 unamortized
at July 1)
Investment cost July 1, 2011
Less: Book value acquired [$1,000,000 - ($15,000
unamortized discount at December 31  30/36 months)]  10%
Loss on constructive retirement of bonds

2

$105,000

1,000
$106,000

$

98,200
7,800

Consolidation working paper entries at December 31, 2011
Interest income
3,000
8% bonds payable
98,500
Loss on retirement of bonds
7,800
Investment in Sap bonds
105,000
Interest expense
4,300

To eliminate intercompany bonds, record constructive loss on
retirement, and eliminate intercompany interest income and
expense.
Interest payable
4,000
Interest receivable
4,000
To eliminate reciprocal interest payable and receivable amounts.

3

Consolidation working paper entries at December 31, 2012
Investment in Sap (80%)
5,200
Noncontrolling interest
1,300
Interest income
6,000
8% bonds payable
99,100
Investment in Sap bonds
103,000
Interest expense
8,600
To eliminate intercompany bonds, interest income and expense, and
to charge the unrecognized portion of the constructive loss at the
beginning of the period 80% to the investment in Sap and 20% to
the noncontrolling interest.
Interest payable
4,000

Interest receivable
4,000
To eliminate reciprocal interest payable and receivable amounts.

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Chapter 7

7-11

Solution E7-13
1

Gain on constructive retirement of bonds
Purchase price of bonds
Book value
Gain on constructive retirement of bonds

2

$48,800
50,000
$ 1,200

Son accounts for its investment in Pap bonds
January 2, 2013
Investment in Pap bonds

48,800
Cash
To record investment in $50,000 par, 8% Pap bonds.
July 1, 2013
Cash
Investment in Pap bonds
Interest income
To record interest and amortization.

48,800

2,000
200
2,200

December 31, 2013
Interest receivable
2,000
Investment in Pap bonds
200
Interest income
To accrue interest and record amortization.
3

Pap accounts for its bonds payable
July 1, 2013
Interest expense
Cash
To record interest payable for 6 months.
December 31, 2013

Interest expense
Interest payable
To accrue interest for 6 months.

4

2,200

4,000
4,000

4,000
4,000

Pap accounts for its investment in Son
December 31, 2013
Investment in Son
40,800
Income from Son
40,800
To record income from Son
(80%  $50,000) + $1,200 constructive gain - $400 piecemeal
recognition of gain.

5

Noncontrolling interest share ($50,000  20%)

Controlling share of NI ($200,000 + $40,800)
Consolidated Net Income = $10,000 + $240,800 = $250,800

$ 10,000
$240,800

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Intercompany Profit Transactions — Bonds

7-12

SOLUTIONS TO PROBLEMS
Solution P7-1
1

Loss on constructive retirement of bonds
Purchase price of $50,000 par bonds
April 1, 2011
Book value of bonds acquired:
Par value
Less: Unamortized discount $1,800 for 27
of 36 months ($1,800  .75)
Book value of bonds
Intercompany bonds

$53,600
$100,000
2,400

97,600
50%

Loss on constructive retirement of bonds
2

4

$ 4,800

Interest income and expense
Interest income in consolidated income statement — 2011
Interest expense in consolidated income statement — 2011
$8,800 - ($8,800  3/4 year  50%)

3

48,800

0
$ 5,500

Interest receivable and payable
Interest receivable in consolidated balance sheet
at December 31, 2011

0

Interest payable in consolidated balance sheet at
December 31, 2011

$ 1,000

Consolidation working paper entries
Loss on constructive retirement of bonds
4,800
8% bonds payable
49,100
Interest income
2,100
Investment in Pan bonds
52,700
Interest expense
3,300
To eliminate reciprocal interest income and expense amounts and
reciprocal bond investment and liability amounts and enter
unrecognized constructive loss.
Interest payable
1,000
Interest receivable
To eliminate reciprocal payables and receivables.

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Chapter 7

7-13

Solution P7-2
Pew Corporation and Steel Corporation
Schedule to Determine Pew’s Net Income and Controlling Interest Share of
Consolidated Net Income
Pew’s separate income

2011
$500,000

2012
$375,000

2013
$460,000

2014
$510,000

Total
$1,845,000

80% of Sat’s net income

+ 80,000

+ 96,000

+ 88,000

+ 96,000

+

360,000

$5,000 unrealized profit in
Sat’s December 31, 2011
Inventory

-

+

5,000

$10,000 unrealized profit in
Sat’s December 31, 2012
Inventory

5,000

- 10,000

+ 10,000

$15,000 unrealized profit in
2013 on sale of land

upstream  80%

- 12,000

-

12,000

$30,000 unrealized profit on
sale of equipment in 2013

- 30,000

-

30,000

$7,500 depreciation on
unrealized profit on
equipment in 2013 and 2014

+

+

7,500

+

15,000

$8,000 constructive loss on
purchase of Pew’s bonds
in 2014

-

8,000

-

8,000

$2,000 piecemeal recognition of
constructive loss in 2014

+

2,000

+

2,000

Pew’s net income

$575,000

$466,000

7,500

$523,500

$607,500

$2,172,000

Pew’s net income under the equity method equals the Controlling Interest Share
of consolidated net income.
Solution P7-3
Income from Sum for 2011:
Share of reported income of Sum ($200,000  75%)
Add: Unrealized profit in beginning inventory of Sum
Less: Unrealized profit in ending inventory of Sum
Add: Piecemeal recognition of gain on sale of equipment
to Pad ($48,000/6 years)  75%
Less: Unrealized gain on sale of land to Sum
Less: Unrealized gain on sale of building to Sum less
piecemeal recognition through depreciation ($40,000 - $2,000)
Add: Gain on constructive retirement of Pad bonds
($200,000 - $188,000)
Income from Sum

$ 150,000
24,000
(30,000)
6,000
(20,000)
(38,000)

12,000
$ 104,000

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Intercompany Profit Transactions — Bonds

7-14

Solution P7-3 (continued)
Investment in Sum at December 31, 2011:
Underlying equity in Sum ($1,040,000  75%)
Less: Unrealized profit in Sum’s ending inventory
Less: Unrealized gain on equipment sold to Pad
($48,000 - $24,000 recognized)  75%
Less: Unrealized gain on sale of land to Sum
Less: Unrealized gain on sale of building to
Sum ($40,000 - $2,000 recognized)
Add: Gain on constructive retirement of Pad’s bonds
Investment in Sum December 31

$780,000
(30,000)
(18,000)
(20,000)
(38,000)
12,000

$686,000

Noncontrolling interest share:
Net income of Sum
$200,000
Add: Piecemeal recognition of gain on equipment ($48,000/6 years)
8,000
Sum’s realized income
208,000
Noncontrolling interest percentage
25%
Noncontrolling interest share
$ 52,000

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Chapter 7

7-15

Solution P7-3 (continued)
Pad Corporation and Subsidiary
Consolidation Working Paper
for the year ended December 31, 2011
(in thousands)

Pad

Income Statement
Sales
Gain on land
Gain on building
Income from Sum
Gain on bonds
Cost of sales

$ 1,260
20
40
104

$ 1,000

700*

600*

152*

80*

Depreciation expense
Interest expense
Other expenses
Consolidated NI
Noncontrolling int. share
Controlling share of NI
Retained Earnings

Retained earnings — Pad
Retained earnings — Sum
Controlling share of NI
Dividends
Retained earnings
December 31
Balance Sheet
Cash
Bond interest receivable
Other receivables
Inventories
Land
Buildings — net
Equipment — net
Investment in Sum stock

40*
92*

b 100
f 20
m 40
H 104
D

440

$

300

$

200

$

200
200
160*

440
320*

$

420

$

240

$

54

$

162
10

60
100
140
360
180

80
160
180
300
280
686

$2,160

g 12
b 100
c 24
e
8
m
2

12
1,206*

$

222*
40*

212*
492
52*
440

$

300

188
$1,200

$

$

52

i 200
440
h 120
k 40

a

c
e
h

$1,740

100
20
400
800
420
$1,740
Noncontrolling interest January 1
Noncontrolling interest December 31

30

Consolidated
Statements

120*
k

$

Investment in Pad bonds

Accounts payable
Bond interest payable
10% bonds payable
Common stock
Retained earnings

Adjustments and
Eliminations

Sum 75%

20

24
24
16

$

420

$

236

j 10
a 20
d 30
f 20
m 38
e 24
i 750

120
230
300
622
436

g 188
$1,944

160

800
240
$1,200

320*

$
j 10
g 200
i 800

e

8

i 250
k 12

260
10
200
800
420

254

$1,944

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Intercompany Profit Transactions — Bonds

7-16

Solution P7-4
Preliminary Computations:
Acquisition price
Implied fair value of She ($320,000 / 80%)
She’s book value
Excess allocated to plant & equipment with 8 year life

$ 320,000
$ 400,000
(300,000)
$ 100,000

Annual depreciation of excess ($100,000 / 8 years)

$

1

2

3

4

5

6

7

12,500

Loss is from the constructive retirement of bonds
Purchase price of bonds
Book value of bonds ($100,000 + $3,000 premium)
Loss on retirement of bonds

$106,000
103,000
$ 3,000

Consolidated sales
Combined sales
Less: Intercompany sales
Consolidated sales

$280,000
50,000
$230,000

Consolidated cost of goods sold
Combined cost of goods sold
Less: Intercompany sales
Less: Unrealized profits in beginning inventory
Add: Unrealized profits in ending inventory
Consolidated cost of goods sold

$170,000
(50,000)
(20,000)
10,000
$110,000

Unrealized profit in beginning inventory
Forced computations ($170,000 + $10,000) - ($50,000 +
$110,000)

$ 20,000

Unrealized profit in ending inventory
Combined inventories ($100,000 + $50,000)
Less: Consolidated inventories
Unrealized profit in ending inventory

$150,000
140,000
$ 10,000

Consolidated accounts receivable

Combined accounts receivable ($120,000 + $60,000)
Less: Intercompany receivables
Consolidated accounts receivable

$180,000
15,000
$165,000

Noncontrolling interest share
She’s reported net income
Less: Depreciation of excess
Add: Unrealized profit in beginning inventory
Less: Unrealized profit in ending inventory
Sher’s realized income
Noncontrolling interest percentage
Noncontrolling interest share

$ 30,000
(12,500)
20,000
(10,000)
27,500
20%
$ 5,500

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Chapter 7

7-17

Solution P7-4 (continued)
8

Noncontrolling interest December 31, 2013
Beginning noncontrolling interest (($335,000 + $75,000
unamortized excess)  20%)
Less: Unrealized profit in beginning inventory
($20,000  20%)
Less: Noncontrolling interest dividends ($15,000  20%)
Add: Noncontrolling interest share
Noncontrolling interest December 31

$ 82,000
(4,000)
(3,000)
5,500
$ 80,500

Alternative computation:
Ending equity of She (($350,000 + $62,500 unamortized
$ 82,500
excess(  20%)
(2,000)
Less: Unrealized profit in ending inventory ($10,000  20%)
Noncontrolling interest December 31, 2013
$ 80,500

9

10

Investment in She stock at December 31, 2012
Investment in She stock at cost
Add: Changes in retained earnings to December 31, 2012
($135,000 - $100,000)  80%
Less: 80% of Excess of ($100,000/8 years x 80%) = $10,000
per year  2 years)
Less: Unrealized profit in beginning inventory
($20,000  80%)
Investment in She stock December 31, 2012

(16,000)
$312,000

Alternative computation:
Investment in She stock December 31, 2013
Less: Income from She for 2013
Add: Dividends from She ($15,000  80%)
Investment in She stock December 31, 2012

$320,000
(20,000)
12,000
$312,000

Income from She
Share of She’s reported net income

Less: Depreciation on excess ($100,000/8 years)
Add: Unrealized profit in beginning inventory
Less: Unrealized profit in ending inventory
She’s adjusted and realized income
Pet’s 80% controlling share
Less: Constructive loss on retirement of bonds
($3,000 - $1,000)
Pet’s income from She

$320,000
28,000
(20,000)

$ 30,000
(12,500)
20,000
(10,000)
$ 27,500
$ 22,000
(2,000)
$ 20,000

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Intercompany Profit Transactions — Bonds

7-18

Solution P7-5 [AICPA adapted]
1

Consolidated cash ($50,000 + $15,000)

$ 65,000

2

Equipment — net ($800,000 equipment - $320,000 accumulated
depreciation - $21,000 unrealized profit + $7,000 profit
realized through depreciation of excess)

$466,000

3

Investment in Saw does not appear in consolidated
statements.

4

Bonds payable (Saw’s bonds payable of $200,000  1/2 held
outside the consolidated entity)

$100,000

5

Common stock (Poe’s stock)

$100,000

6

Beginning retained earnings (Poe’s retained earnings)

$272,000

7

Dividends paid (Poe’s dividends)

$ 80,000

8

Gain on retirement of bonds (Book value of Saw’s
bonds acquired by Poe $100,000 less acquisition cost
of $91,000. Since bonds were acquired on December 31,
2011, none of the $9,000 gain has been amortized.)

$

Cost of goods sold ($860,000 combined - $60,000
intercompany sales + $10,000 unrealized profit in
ending inventory)

$810,000

Interest expense (Saw paid interest for the entire year to
outside entities so all of Saw’s interest is reported)

$ 16,000

Depreciation expense ($45,000 combined - depreciation on
the unrealized gain $7,000)

$ 38,000

9

10

11

9,000

Solution P7-6
Income from Sal for 2012:
Share of reported income of Sal ($100,000  75%)
Add: Unrealized profit in beginning inventory of Sal
Less: Unrealized profit in ending inventory of Sal
Add: Piecemeal recognition of gain on sale of equipment
to Par ($24,000/6 years)  75%
Less: Unrealized gain on sale of land to Sal
Less: Unrealized gain on sale of building to Sal less
piecemeal recognition through depreciation ($20,000 - $1,000)
Add: Gain on constructive retirement of Par bonds

($100,000 - $94,000)
Income from Sal for 2012

$ 75,000
12,000
(15,000)
3,000
(10,000)
(19,000)
6,000
$ 52,000

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Chapter 7

7-19

Solution P7-6 (continued)
Investment in Sal at December 31, 2012:
Underlying equity in Sal ($520,000  75%)
Less: Unrealized profit in Sal’s ending inventory
Less: Unrealized gain on equipment sold to Par
($24,000 - $12,000 recognized)  75%
Less: Unrealized gain on sale of land to Sal
Less: Unrealized gain on sale of building to
Sal ($20,000 - $1,000 recognized)

Add: Gain on constructive retirement of Par’s bonds
Investment in Sal December 31

$390,000
(15,000)
(9,000)
(10,000)
(19,000)
6,000
$343,000

Noncontrolling interest share:
Net income of Sal
Add: Piecemeal recognition of gain on
equipment ($24,000/6 years)
Sal’s realized income
Noncontrolling interest percentage
Noncontrolling interest share

$100,000
4,000
104,000
25%
$ 26,000

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Intercompany Profit Transactions — Bonds

7-20

Solution P7-6 (continued)
Par Corporation and Subsidiary
Consolidation Working Papers
for the year ended December 31, 2012
(in thousands)
Par
Income Statement
Sales
Gain on plant
Income from Sal
Gain on bonds
Cost of sales

500

b
f
h

50
30
52

350*

300*

d

15

Depreciation expense

76*

40*

Interest expense
Operating expense
Consolidated NI
Noncontrolling int. share
Controlling share of NI

20*
46*

Retained Earnings
Retained earnings — Par
Retained earnings — Sal
Controlling share of NI
Dividends
Retained earnings
December 31
Balance Sheet
Cash
Bond interest receivable

Other receivables
Inventories
Land
Buildings — net
Equipment — net
Investment in Sal stock

$

630
30
52

Adjustments and
Eliminations

Sal 75%
$

220

$

150

$

100

$

100
100
80*

220
160*

$

210

$

120

$

27

$

81
5
30
50
70
180
90

40
80
90
150
140
343

870
Accounts payable
50
Bond interest payable
10
10% bonds payable
200
Common stock
400
Retained earnings
210
$ 870
Noncontrolling interest January 1
Noncontrolling interest December 31

g
b
c
e
f

6
50