Unrealised Profit (Financial Statements)

Claire1705

I am finding unrealised profits is being incorporated into lots of consolidated statement of income questions but cant seem to find anywhere how to work out the figure. I'm sure its because I have glossed over it somewhere in the tutorials but could potentially lose a lot of marks if I dont know how to work out the figure. I know it is deducted from the revenue and something to do with the intercompany transactions but thats all I've managed to work out!

Help anyone?

anniebabe

Hi Claire,
I am just working though that too, in BPP. chapter 11.
Which book are you using?
I was thinking the same thing - there isnt much explanation about half left in inventory, all in inventory, all sold. was getting a bit lost myself.

Nps

Imagine company A sells £100 worth of stock to company B for £400. A has now made £300 profit.

However, B is actually wholly owned by A so in effect A is selling to himself. You can't make a profit by selling to yourself.

B now sells all of that £400 stock so the company has now realised (gained) that £300 profit as it would be included in B's cost of sales and £300 extra has flowed into the company. B may well have made even more profit on it when selling it on, but don't worry about that - we are only concerned about the initial profit at this stage.

Now imagine that B has sold none of that inventory so it retains all £400 of inventory. This means that all £300 of A's profit is unrealised as the group as a whole as not yet received any profit in relation to the sale from A to B as the group still owns all of it.

Now imagine that B has sold half of the inventory and the other half of it remains in B's inventory. The total profit to A would have been £300 but only half of that has been realised, the other half is unrealised. Hence £150 of A's profits can be realised in the groups overall profits.

You will have to make other calculations in the consolidated statements as cost of sales/purchases etc will change depending on how much of the original inventory is used for sales etc.

emuratty

What you need to do is deduct the cost of sales from the selling price to work out the profit - then just work out how much of that is left in stock at year end and that's your adjustment.

For example - During the year Barbie sold goods which had cost £50,000 to Ken for £240,000. Half of these goods still remain in inventory at the end of the year.

So firstly deduct £50,000 from £240,000 which gives £190,000 profit. Then, half are left in stock, so half of £190,000 is £95,000. This is the figure you add to your cost of sales.

omega man

emuratty- I would not do it like that. I would take £240k off the revenues and deduct £145k off the cost of sales.

emuratty

omega man wrote: »

emuratty- I would not do it like that. I would take £240k off the revenues and deduct £145k off the cost of sales.

I think the poster was just asking about the unrealised profit, so that's what I've shown how to calculate. In addition to adding the unrealised profit to the cost of sales, you would of course need to deduct the amount of the sale, in my example £240,000, from both the revenues and the cost of sales. I was just trying to simplify the calculation.

Claire1705

Many thanks for sharing all your methods with me, particularly with the question as an example. Makes sense now - Much appreciated Annie I am using Osborne books but was struggling to understand where the half/all/none left in inventory came into it.