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      • We add it to the cost of sales because that it what the accounting standard tells us to do!!!

        Adding it to the cost of sales reduces the group profit (and therefore the retained earnings and total equity), and we also reduce the value of the groups inventory as I explain in the earlier lectures.

  2. Hi John. I don’t understand why we deduct 28,000 from costs of sales.
    Cost of sales does not include profit so why are we deducting 28,000 which includes the profit ?
    Thanks

  4. I dont understand why we deduct $28000 because l thought 3/4 of that sale has already been sold outside the group .l also thought 3/4 of $28000 contains profit that has already been realised .why are we dealing with $28000 when its only $7000 with unrealised profits .please correct me.

    • I think you need to watch again.

      The unrealised profit is only calculated on the 7,000 that is left in inventory.

      However separately all the sales between the two companies are subtracted from both total purchases and total sales, so we are only showing total sales outside the group and total purchases from outside the group.

  7. Hello Mr. Moffat,

    Thank you for the lectures and the entire content on your site! It is a pleasure studying
    with you 馃檪

    Regarding the this lecture, I have a question regarding the sales tax – If we reduce the
    profit like in the example, wouldn’t that reduce the income tax we owe to the government?
    Because, it should be a percentage of our profit before tax?

    • Thank you for your comment 馃檪

      There are special tax rules for groups of companies, but these are not examinable until Paper F6. You will not be asked about any taxes in consolidation questions in Paper F3 馃檪

  8. John

    In relation to the consolidate income statement expample 3. On the non controlling interest if p had sold items to S and one quarter of the goods remained in S books. Would this still result on an unrealised gain in the non controlling interest?

    Many thanks

    • No. There is an unrealised gain but if P sold the goods to S then it reduces P’s profit and therefore their retained earnings.

      (I assume you are watching the lectures and not trying to use the notes on their own, which would be silly 馃檪 )

  9. HI Sir,
    Can I use a different method as per below to derive the answer?

    Cost = 20,000 x 1/4 = 5000
    Profit = 8,000 x 1/4 = 2,000
    SP= 28,000 x 1/4 = 7,000

    Consol I/S
    Revenue (120+110-7) = 223,000
    COS (55+50-5) = 100,000
    GP = 123,000
    Expenses. = 19,000
    Profit b4 tax. = 104,000
    Tax. = 34,000
    Profit. = 70,000

  10. Your lectures and notes have tremendously been helpful to me a lot.
    You are one of the amazing accounting teachers ever!
    Thanks for your hard work and efforts in helping accountancy students.
    May God bless you, your family and your work!

    • The question says that the mark-up that S charged when selling to P was 40%.

      In the consolidated statement we only want to show the profit that has been earned by the group on sales made outside the group. Those goods that remain in P’s inventory have not been sold outside the group and therefore the profit S recorded on the sale of those goods needs to be removed.
      The calculation of this unrealised profit is the normal workings for mark-ups (have you watched the earlier lecture on mark-ups and margins?). To reduce the group profit by this PURP, we simply increase the cost of sales by the amount (which then reduces the final profit).

  13. Hi Sir, I am a bit confused why P’s cost of sales include the whole amount of $28000 while the only amount of the cost of the year was 3/4 of $28000=$2100, why we don’t reduce only $2100 as it’s only related for the year. Many thanks.

  14. Hi! Thanks very much for the videos, they saved me!
    I didnt get one thing, if S sells P goods for 28000, and if 1/4 of them were not sold, does not it imply that 7000 is a cost of inventory?

    I mean for P now the cost of inventory it bought was 28000, and does not 40% of mark up that was mentioned refers to S(!) ?

    Why then we used 40% of mark up calculating P’s inventory?

  15. Thanks John for this great job.
    Please I want you to explain the solution to Section B question 1 C of the specimen exam applicable from June 2014.

    The answer given there is $80,000 ($400,000×20%)

    I thought it should be $50,000 ($400,000 – $150,000)x20% since $150,000 is the unrealized profit.

    Thank you

      • The ACCA’s specimen exam is very helpful because it is in the same format as the real exam and the questions are of exam standard.

        However, obviously the questions are different in every exam and so you can never have enough practice. That is why we have little tests after each chapter of our free lecture notes, and also an online mock exam of our own.
        In addition, you must buy a current edition of a Revision Kit from one of the ACCA approved publishers because they contain lots of exam standard questions to practice on.

    • The profit is 40% of cost, so for every 100 cost, the profit is 40 and therefore the selling price is 140.
      Or, putting it the other way round, for every 140 selling price, the cost is 100.

      So for a selling price of 7,000 (the price of what is left in inventory), then profit is 100/140 x 7,000 = 5,000 (and the profit is therefore 2,000).

      (I assume that you have watched the earlier lecture on mark-ups and margins?)

    • Because by removing the PURP from the closing inventory we are valuing it at cost to the group. Reducing the closing inventory increases the cost of sales and gives the cost of sales from outside the group.

      (In addition, we have to do it this way because the accounting standard tells us to 馃檪 )

  18. Good day sir, if I understand properly we can get the answer using a different method from yours?
    40/140=0.285714285*(28000)=8000
    28000+8000=36000
    36000-28000=8000 profit.
    8000*1/4=2000 unrealised profit which is in the inventory.

    Revenue:(120+110-36)= 194000
    C.O.S: (55+50-36+2)= (71000)
    Gross profit: 123000
    Expenses: (19000)
    PBT 104000
    Income Tax: (34000)
    Profit for the year: 70000

    • But what you have done is wrong (even though the final profit is the same).

      The question says that the goods were sold from S to P for 28,000 including the mark-up.
      Therefore the total revenue and the total cost of sales both should be reduced by 28,000 (the sale price) and not by 36,000 as you have done.

  19. Maybe it’s just me who doesn’t get it. Sorry in advance if this is the case. However, if we have to calculate a 40% mark-up (on cost) from 28,000 sales, isn’t the gross profit equal 8,000 instead of 7,000.

    Sales (140%) 28,000
    Cost of sales (100%) 20,000
    Gross profit (40%) 8,000

    Unrealized profit = 8,000 x 40% = 3,200

    • I do not say anywhere that the profit is 7,000 – you were not watching carefully enough!

      I said that 1/4 of the sales is sales of 7,000 and that the profit included in the 7,000 is 2,000.

      You worked out the profit first, which would have been fine except that 1/4 of profit of $8,000 does not equal $3,200 – it equals $2,000.

    • It was a bit late and I was a little tired. Apologize for taking your time and thank you for a quick reply. Yes, I thought I read that it was 40% of inventories that remained unsold. However, the question clearly states it was one quarter instead. My mistake! Thank you!

  20. Hi!

    If we are preparing both the consolidated balance sheet and income statement, how are we going to reflect the unrealized profit on the inventory(inter entity transaction)? Because if we already adjusted the unrealized profit on the consolidated income statement, the consolidated balance sheet would automatically be adusted (retained earnings). But how about the inventory account? Because our procedure in reflecting the unrealized profit was to increase COS?

    Many thanks!

    Liza

    • In the Statement of financial position, the PURP is removed from the value of the inventory and removed from the retained earnings of the company that sold the goods to the company holding them at the year end.

      In the Statement of profit or loss, the profit is reduced by the PURP (and achieved by increasing the cost of sales), which automatically reduces the retained earnings (and therefore ‘matches’ with the Statement of financial position.

      There is no consolidated inventory account. There are only two companies with t-accounts – the parent and the subsidiary. There is no such thing as a consolidated company with its own t-accounts. The preparation of consolidated statements is simply an exercise at the end of the year using the statements of the two individual companies.
      The inventory accounts in the individual companies are not affected by PURP and their individual statements are not changed in any sense.

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