Understanding IAS 28 Adjustments: How to Treat Intercompany Inventory Transactions in Consolidated Financial Statements

IAS 28 consolidated financial statements intercompany transactions inventory valuation operating profit accounting standards parent subsidiary transactions

The Blue Company owns 25% of the Yellow Company. At 31 December 20X2, Blue holds inventory acquired from Yellow Company during 20X2, at an amount of 250,000. The cost to Yellow Company was 170,000. The Blue Company’s consolidated financial statements have been drafted without any adjustment in relation to this holding of inventory. According to IAS 28, which adjustment should be considered in the Blue Company’s consolidated balance sheet at 31 December 20X2 in determining the inventory and operating profit? Inventory reduced by 170,000 and operating profit reduced by 170,000 Inventory reduced by 20,000 and operating profit reduced by 20,000 Inventory reduced by 250,000 and operating profit reduced by 250,000 Inventory reduced by 250,000 and operating profit reduced by 170,000

According to IAS 28, when a parent company consolidates a subsidiary, any transactions between the parent and subsidiary should be eliminated in preparing the consolidated financial statements. In this case, since Blue Company owns 25% of Yellow Company, it should adjust its consolidated balance sheet and operating profit to reflect the elimination of intercompany transactions.

The inventory held by Blue Company from Yellow Company should be valued at the cost to Yellow Company, which is 170,000. Therefore, the correct adjustment in the consolidated balance sheet would be to reduce the inventory value from 250,000 to 170,000, reflecting the cost price. This reduction in the value of inventory would also lead to a corresponding reduction in operating profit, as the profit recognized in the initial purchase price of the inventory would be removed. Thus, the correct answer is:

Inventory reduced by 80,000 and operating profit reduced by 80,000.

This adjustment ensures that the consolidated financial statements reflect the true and fair view of the group's financial position and performance, eliminating the effects of intercompany transactions.

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