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Dear Mike,
On 1 July 20X7, Spider acquired 60% of the equity share capital of Fly and on that date made a $10 million loan to Fly at a rate of 8% per annum.
What will be the effect on group retained earnings at the year end date of 31 December 20X7 when this intragroup transaction is cancelled?
A Group retained earnings will increase by $400,000.
B Group retained earnings will be reduced by $240,000.
C Group retained earnings will be reduced by $160,000.
D There will be no effect on group retained earnings.my answer is A, book’s answer is C, so which one is correct?
thanks,
Thanh, whenever I’m faced with a question like this, I find it easier to solve if I make up some figures to better appreciate the problem
Try this:
Let the pre-interest profits for the 2 entities be $7,600,000 and $3,400,000 respectively (that $3,400,000 for Fly is just the post-acquisition profit figure)
Calculate the interest that is involved in the question … that’s 8% of $10,000,000 for 6 months and that works out to be $400,000
So the profit figures for the 2 entities will change to become $8,000,000 and $3,000,000 respectively following the receipt by Spider and the payment by Fly of $400,000
The calculation of the consolidated profits BEFORE any adjustment is made to cancel the intra-group interest would be 100% of Spider’s $8,000,000 + 60% of Fly’s $3,000,000 = a total of $9,800,000
When we cancel the intra-group interest, the adjusted amounts become $7,600,000 Spider and $3,400,000 Fly
Now the calculation for consolidated profits becomes 100% of Spider’s $7,600,000 and 60% of Fly’s $3,400,000 = an adjusted total of $9,640,000
So the effect of cancelling the intra-group interest is a fall in the consolidated profits from $9,800,000 down to $9,640,000 = a fall of $160,000
And that’s answer option C
OK?
thanks Mike,
In case that the loan is vice versus ( s lend p), does group retained earnings also reduced by $160,000?
and for consolidated statements, assume that there are no other adjustments, is it corrected to say that the base figures for NCI in the case that P lend S is $3,000,000, and in case that S lend P is $3,800,000.
thanks again.
Put the same pretend figures in a working and do it the way that I have suggested
Now you tell me if consolidated profits have increased or decreased!
The movement is $160,000 but look at the figures carefully
‘is it corrected to say that the base figures for NCI in the case that P lend S is $3,000,000, and in case that S lend P is $3,800,000.’
That depends on what you mean by ‘the base figures’
In both scenaria the pre-interest figures are $7,600 and $3,400
After recording the interest the figures become $8,000 and $3,000 in the first scenario and $7,200 and $3,800 in the second scenario
Scenario 1, the pre-adjustment consolidated profits are 100% of $8,000 and 60% of $3,000 = $9,800
The post-adjustment consolidated profits are 100% of $7,600 and 60% of $3,400 = $9,640
Scenario 2, the pre-adjustment consolidated profits are 100% of $7,200 and 60% of $3,800 = $9,480
The post-adjustment consolidated profits are 100% of $7,600 and 60% of $3,400 = $9,640
Profits up? Or profits down?
Base figures for the nci are (scenario 1) $3,400 and (scenario 2) $3,400
Thanks Mike,
I mean: % of NCI x bases figures (post adjusted profit of subsidiary) = profit attributed to NCI.
For intragroup loan, NCI still earns/charged with their share of finance income/expense on intragroup loans (that means no adjustment related to intragroup loan when calculating NCI)?
And base figures for the nci are (scenario 1) $3,000 and (scenario 2) $3,800 if there are no other adjustment?
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