Question

Perez, Inc. owns 80% of Senior, Inc. During Year 1, Perez sold goods with a 40% gross profit to Senior. Senior sold all of these goods in Year 1. For Year 1 consolidated financial statements, how should the summation of Perez and Senior's income statement items be adjusted?
a. Net income should be reduced by 80% of the gross profit on intercompany sales.
b. Sales and cost of goods sold should be reduced by the intercompany sales.
c. No adjustment is necessary.
d. Sales and cost of goods sold should be reduced by 80% of the intercompany sales.

Answer 1

Answer:

B) Sales and cost of goods sold should be reduced by the intercompany sales.

Explanation:

When a parent company consolidates its financial statements with its subsidiaries, it has to eliminate all the transactions involving intercompany sales.

In this case, Perez Inc. must adjust its consolidated financial statements by reducing the sales revenue and COGS of the transaction it made with Senior Inc. (its subsidiary).