NARRATIVE

REPORT
 As a business flourishes, it may need to extend its operations to a wider geographical area in
order to generate more profits. And there are various ways to extend business operations, for instance
through electronic commerce, mail order, or having sales personnel travel far away from main office.
However, if the business’ objectives are greater customer relationship and lower delivery cost,
establishing a new sales outlet that can be more responsive to customer’s needs may achieve the desired
results.

The establishment of an outlaying selling unit may take the form of an agency or a branch. The
distinction between an agency and a branch is based upon the functions assigned to the organization as
well as the degree of independence that is assumes in the exercise of such functions. The table below will
provide the summary of the differences of the two.

Sales Agency Branch

1. Display merchandise and takes 1. Carries stock of merchandise used to fill
customers’ orders but does not carry stock customers’ orders (or provides services
of merchandise to fill customers’ orders. similar to those provided by the home
office.)

2. Customers’ orders are sent to the home 2. Grants credit in accordance with the
office for the approval of credit. company’s policies, makes normal
Customers remit payments directly to the warranties, fill customers’ orders, and
home office. makes collection on sales.

3. Holds revolving cash fund provided by
the home office that is replenished when
depleted. No other cash funds are held.
3. Has its own assets and liabilities and
generates its own revenues and incurs its
own expenses. Makes periodic
remittances to home office subject to
company policy.

4. Not separate accounting entity. The only
accounting records maintained are cash
receipts and cash disbursement books
necessarily to account for revolving fund.
The main office maintains records of the
sales made through the agency and the
expenses it incurs.
4. A separate accounting entity for internal
reporting. It maintains its own complete
set of accounting records.
For external reporting, the branch’s
financial statements are combined with
the home office’s financial statements

Here are some of the examples we have….

Sales Agency Branch

1. A booth located in a shopping mall that 1. A branch of Banco de Oro located in a
displays miniature design of house and shopping mall.
lots.
2. A booth located on a side walk offering
internet connection on behalf of an internet 2. Mang Tony’s fish ball- New York branch.
service provider.
Accounting for an Agency

The typical agency does not require a complete set of books. Ordinarily summaries of working
fund receipts and disbursements and records of sales to customers are sufficient, which when
accompanied by supporting evidence in the form of paid vouchers are sent to the home office. When the
local manager or salespeople are to be paid according to the volume of sales completed, sales records
supply this information

Agency Transaction: Establishment of petty cash fund, 10,000

Working Fund-Junior Agency 10,000
Cash 10,000

Agency Transaction: Shipped merchandise to agency for use as samples, 4,000

Samples inventory-Junior Agency 4,000
Cash 4,000

Purchase of agency equipment, 20,000

Equipment- Junior Agency 20,000
Cash 20,000
Expenses were incurred out of working fund:
Utilities, 2,000
Advertising expense, 3,000
Other expenses, 4,000

NO ENTRY

Payment of salaries to employees of agency, 5,000

Salaries Expense- Junior Agency 5,000
Cash 5,000
End of the year adjustment: Replenishment of agency’s working fund

Utilities expense 2,000

Advertising expense 3,000
Other expenses 4,000
Cash 9,000

Sales order from agency are filled and customer are billed,100,000 and goods are delivered by
the home office
Accounts Receivable 100,000
Sales- Junior Agency 100,000

End of the year adjustment: Depreciation expense for agency equipment, 2,000
Depreciation Expense- Junior Agency 2,000
Accumulated Depreciation-Equipment-Junior Agency 2,000

End of the year adjustment: Agency samples inventory amounted to 1,000 net realizable value

Advertising Expense 3,000

Samples Inventory-Junior Agency 3,000
End of the year adjustment: COGS identified with Junior Agency, 60,000
Cost of Good Sold- Junior Agency 60,000
Shipment to Junior Agency 60,000

CLOSING ENTRIES: Sales Revenue Account

Sales 100,000
Income Summary-Junior Agency 100,000

CLOSING ENTRIES: Cost of Good Sold Account

Income Summary-Junior Agency 60,000
Cost of Good Sold-Junior Agency 60,000

CLOSING ENTRIES: Expenses Account

Income Summary-Junior Agency 19,000
Utilities expense 2,000
Advertising expense (3,000+3,000) 6,000
Other expenses 4,000
Salaries Expense 5,000
Depreciation Expense 2,000

CLOSING ENTRIES: Agency Income Summary to General Income Summary

Income Summary- Junior Agency 21,000
Income Summary 21,000

In adopting the imprest fund system for the agency working fund:

1. The home office writes a check to the agency for the amount of the fund.
2. Establishment of the working fund is recorded on the home office books by a debit to the
agency working fund account and a credit to Cash.
3. The agency will request fund replenishment whenever the fund runs low and at the end of
each fiscal period. Such request is normally accompanied by an itemized and authenticated
statement of disbursements and paid vouchers.
4. Upon sending the agency a check in replenishment of the fund, the home office debits
expense or other accounts for which the disbursements form the fund were reported and
credit Cash

Home Office and Branch Accounting: General Procedures

Branch is a self- contained business which acts independently but subject to the control of
the home office. The branch is within the bounds of company policy, but outside of these
policies, a manager may be given complete authority over how the branch is managed. But of
course, the degree of self- management is governed by the home office. The performance of the
branch would then be judged on the basis of the financial statements which are submitted to the
home office, then verified by the company’s internal auditors. The branch also keeps the books
of original entry and posts to ledger records. Other procedures to be observed by the branch are:
 1. A branch’s cash and merchandise and such other assets as may be needed are supplied
by the home office.
2. The branch may purchase merchandise from outsiders to satisfy certain local needs for
goods not available for the affiliated unit
3. The branch ships merchandise, bills its customers, makes collections on account, and
deposits the sum in its own bank account.
In Branch Accounting, there are a reciprocal account which replaces certain accounts for
internal reporting purposes. When self-balancing books are kept by the branch, an account called
Home Office Current takes the place of Capital Accounts. The Home Office Current is a quasi-
ownership account equity that shows the net investment of the home office in the branch. Instead
of capital accounts used in the normal accounting, the term Home Office Current is used for the
accounting records of the branch showing just how much the home office invested in the branch.
The Home Office Current account is credited for additional investments, expense paid by the
home office, and for profits resulting from branch operations. It is debited for remittances to the
home office, and for losses from branch operations. It indicates the extent of the accountability
of the branch to the home office. When the branch closes its books at the end of every
accounting period, the Branch Income Summary Account is closed to Income Summary Account
which will then be transferred to Home Office Current. On the other hand, the reciprocal
account used by the home office is the Investment in Branch or Branch Current, which is a
noncurrent asset account of the Home Office. It also shows the net investment of the home office
in the branch. From the term reciprocal account, the Home Office Current and the Branch
Current are the reciprocal of each other, representing the same thing. The only difference is that
the Home Office Current is treated as an equity account, and the Branch Current is treated as an
asset. These accounts are eliminated when combined financial statements are prepared. A branch
is treated as a separate accounting entity for internal reporting. While for external reporting, the
home office and its branch are treated as a single reporting entity. Moreover, the branch does not
have a separate legal entity.

Home Office Current Branch Current

Remittances made by Cash, goods, or Cash, goods, or Remittances or other

the branch to the services received services transferred to assets received from
home office from the home office the branch the branch

Losses from Profits resulting from Branch Income Branch Losses

operations branch operations

Liabilities and Liabilities and

expenses paid by expenses paid by
home office on behalf home office on behalf
of branch of branch

From the T-accounts, we could infer that for every debit in the Home Office Current is a credit in
the Branch Current. Therefore, these reciprocal accounts must be equal at any given point in
time. In cases where the balances of these accounts do not equal, reconciliation must be made.
Adjusting entries should be made first before combined financial statements are prepared.
For Property, Plant and Equipment Used by the Branch, depreciable branch assets are normally
carried on the home office books. This procedure may be followed when depreciation rates are to
be uniformly applied to certain group of assets or when insurance policies are to be acquired by
the home office for all assets.
Case 1 Case 2
Equipment is purchased by the home office Equipment is purchased by the branch
for the branch
Home Office Books: Home Office Books:
Equipment –Branch xx Equipment –Branch xx
Cash or Accounts Payable xx Branch Current xx

Branch Books: Branch Books:

No entry is required Home Office Current xx
Cash or Accounts Payable xx

Subsequent Depreciation

Home Office Books: Branch Books:

Branch Current xx Depreciation Expense xx
Accumulated Depreciation xx Home Office xx
-Branch

Expenses incurred and paid by the branch are recorded in the normal way. However, certain
expenses are paid by the home office on behalf of the branch, which are then recorded as a
investment of the home office in the branch. Branches are notified and such charges are recorded
on the branch books so that branch income statements may provide complete summaries of the
operations of the branch. There are guidelines however when it comes to these expenses:
1. Certain items are traceable to individual branches and are immediately charged to the
branches
2. Other charges resulting in benefits that are not directly identified with certain branches
are summarized in the home office books and allocated periodically on an equitable basis
3. When a home office only acts in a supervisory capacity, it may be desirable to charge
all expenses to the branches. The Home Office Accounts would then be reduced by the
amounts charged.
4. The home office may charge the individual branches for interest and rent on the
working capital and properties and equipment transferred to the branches. The branch
would record it as an expense, while a revenue for the home office.
There are three alternative methods available to the home office for billing merchandise shipped
to its branches. The shipments may be:
1. At Home Office Cost (original cost)
2. At Billed Price or a Percentage Above Home Office Cost (original cost + mark-up)
3. At the Branch’s Retail Selling Price
Billing at Home Office Cost is the simplest method and is widely used.

JOURNAL ENTRIES
Transfer of Assets other than merchandise Transfer of Assets other than merchandise
by home office to branch by home office to branch
CARRIED ON THE HOME OFFICE CARRIED ON THE BRANCH BOOKS
BOOKS HOME OFFICE BOOKS:
HOME OFFICE BOOKS: Branch Current XX
Equipment-branch XX Asset Account XX
Asset Account XX BRANCH BOOKS:
BRANCH BOOKS: Asset Account XX
Memorandum record Home Office Current XX
Purchase of Assets by branch to be carried Transfer of Merchandise by Home Office
on home office books to Branch
HOME OFFICE BOOKS: HOME OFFICE BOOKS:
Asset Account XX Branch Current XX
Branch Current XX Shipments to Branch XX
BRANCH BOOKS: BRANCH BOOKS:
Home Office Current XX Shipments from Home Office XX
Cash/Accounts Payable XX Home Office Current XX

Remittances by branch to home office Branch charges submitted by home office

HOME OFFICE BOOKS: HOME OFFICE BOOKS:
Cash/ Asset Account XX Branch Current XX
Branch Current XX *Accumulated Depreciation XX
-Branch Equipment

BRANCH BOOKS: BRANCH BOOKS:

Home Office Current XX Expense XX
Cash / Asset Account XX Home Office Current XX

Determination of branch net income or loss Returns of merchandise by branch to home

HOME OFFICE BOOKS: office
(IF NET INCOME) HOME OFFICE BOOKS:
Branch Current XX Shipments to Branch XX
Branch Income Summary XX Branch Current XX
(IF NET LOSS) BRANCH BOOKS:
Branch Income Summary XX Home Office Current XX
Branch Current XX Shipments from Home Office XX
BRANCH BOOKS:
Sales XX Transactions of branch with outsiders
Expense XX HOME OFFICE BOOKS:
Income Summary XX No Entries
Income Summary XX BRANCH BOOKS:
Home Office Current XX IN THE USUAL MANNER

Preparation of branch and home office statements

Separate financial statements may be prepared for the home office so that management will be
able to appraise the results of its operations and its financial position. However, the branch
financial statements are prepared for internal use only. A separate income statement and balance
sheet should be prepared for a branch so that management may review the operating results of
the branch. Shipments from Home Office Account should be added to the beginning inventory to
show the merchandise available by the branch. The home office also prepares statements to show
its financial position and operating results.

Preparation of Combined Statements for Home Office and Branches

Though separate statements offer significant information to home office and branch officials, such
statements must be complied fully stating a company’s financial position and the result of its operations.

 The financial position of the business unit in its entirety is fully represented only when individual
asset and liability items of the various branches are substituted for the branch investment balances
and combined with the home office items.
  Operating results for the business as a whole are fully presented only when individual revenue
and expense items of the various branches are substituted for the branch net income or loss and
combined with the home office data.
Stockholder, creditors and taxing authorities require combined statements. These parties normally have
little or no interest in the separate status and operating results of individual departments or branches of a
business

In combining branch data with the home office data, the elimination of certain reciprocal interoffice items
is necessary:

1. In preparing a combined balance sheet, the home office account and the branch account are
eliminated, since these accounts are without significance when the related units are recognized as
a single entity,
2. In preparing a combined income statement, their accounts Shipment from Home Office and
Shipment to Branch are eliminated, since these balances summarize interoffice transfers that are
not significant when the related units are reported as a single entity.
3. Other interoffice revenue and expense items are also eliminated so that the combined statement
may report only the result of transactions with outsiders.

Reconciliation of Reciprocal Accounts and Several Branches

Reciprocal accounts (Interoffice or Intra-company accounts)

Transactions of either the home office or the branch with external parties are recorded in the
normal way. Thus, the PFRSs apply when recording these transactions.

However, for internal reporting purposes, transactions between a home office and its
branch are recorded in reciprocal accounts, namely:

1. “Investments in branch” account (or `Branch Current` account)

- The home office maintains this accounts for its investments in the branch.
2. “Home office” account (or `home office current` account)
- The branch maintains this accounts in is books to account for investments received
from the home office.
The “Investment in branch” is an asset account in the home office`s individual financial
statements; while the “Home office” is an equity account in the branch’s individual financial
statements. These accounts are eliminated when combined financial statements are prepared.

A branch treated as a separated accounting entity for internal reporting. However, when
preparing financial statements for external reporting, the home office and its branch are viewed
as a single reporting entity. Moreover, the branch does not have a separate legal existence.

Reconciliation of reciprocal accounts

As of any given point of time, the “Investment in branch” and the “Home office” accounts must
have equal balances. If these accounts do not balance, reconciliation procedures must be
performed.

Reconciling the reciprocal accounts is similar to bank reconciliation procedures.

Reconciliation items can be broadly classified into the following:
 a. Transfer in-transit – at the time financial statements are prepared, there may be asset
transfers between the home office and the branch which were not yet recorded by the
supposedly recipient.
For instance, there may be shipments of inventory made by the home office which were
not yet received and recorded by the branch by the end of reporting period. The adjusting
entry would be simply a debit to “Shipments from home office,” and probably to
“Freight-in” also, and a corresponding credit to “Home office” account.

b. Unrecorded Debit and Credit memos

A debit memo sent by the home office to the branch means that the home office has debited
(increased) the “Investments in branch” account. Therefore, the corresponding entry to be
made in the branch books is a credit (increase) to the “Home office” account. The opposite
applies to a credit memo.

For example, when the home office collects accounts receivable on behalf of the branch,
the home office would record the transaction as a debit to cash and a credit to the
“Investment in branch” account. Therefore, to notify the branch of the transaction, the home
office will send a credit memo to the branch. The branch will in turn record the credit memo
as a debit to the “Home office” account and a credit to accounts receivable.

A debit memo sent by the branch to the home office means that the branch has debited
(decreased) the “Home office” accountant. Therefore, the corresponding entry to be made in
the home office books is a credit (decrease) to the “Investment in branch” account. The
opposite applies to a credit memo.

For example, when the branch returns damaged merchandise received from the home
office, the branch would record the transaction as a debit to “Home office” account and a
credit to “Shipments from home office” account. Therefore, to notify the home office of the
transaction, the branch will send a debit memo to the home office. The home office will in
turn record the debit memo as a debit to “Shipments to branch” account and a credit to the
“Investment in branch” account.

A lag in the recording of debit and credit memos can result to imbalance in the reciprocal
accounts on cut-off date.

c. Errors
Errors such as omission in recording, double recording, mathematical mistakes, and the like can
result to imbalance in the reciprocal accounts.

Home Office with several branches

As mentioned earlier, when an entity has more than one branch, separate investment accounts for
each of the branches shall be maintained in the home office books. Each branch shall maintain its
own home office account and shall record its own transactions with the home office.
Transactions between a branch and the home office will not affect the records of the other
branches.

However, errors may arise if a transaction between a certain branch and the home office
was erroneously recorded by the home office to another branch`s investment account or a branch
erroneously records a transaction of another branch with the home office.
NOTES TO THE ILLUSTRATIONS:

The entry to record an allocated expense from the home office is a debit expense and credit home
office. An error in recording the debit portion of the entry does not necessarily affect the home
office account.

The entry to record a cash remittance from a branch is debit cash and credit investment account.
An error in recording the debit portion of the entry does not affect the investment account.

A credit memo received from the home office means that the branch has credited (increased) the
“Home office” account. Therefore, the home office shall record the credit memo as a debit to the
“Investment in branch” account and a credit to some other account. An error to the “some other
account” does not necessarily affect the investment account.

No entry is needed in the books of the home office when a branch acquires assets to be
maintained in its books. No correcting entry is needed.

This transaction does not affect the reciprocal accounts of Branch One and the home office. No
correcting entry is needed.

The reversal of the debit memo was properly made since the charges does not belong to Branch
One. Although, correcting entries may be need in Branch Six`s and Branch Seven`s reciprocal
accounts with home office, no correcting entries are needed in Branch One`s reciprocal accounts
with the home office. Inter-branch transactions will be discussed momentarily.

Reporter: Maliwat, Kamille P.

Home Office and Branch Accounting: Special Procedures

In addition to the general procedures discussed, the following transactions between the home
office and the branch which create special accounting problems will be discussed:
a) Merchandise shipments to the branch at a price in excess of cost, at billed price
b) Merchandise shipments to the branch at the branch’s selling price
c) Interbranch transfers of cash
d) Interbranch transfers of merchandise

This narrative focuses on merchandise shipments to the branch at a price in excess of cost, at
billed price. The home office may prefer to bill merchandise to branches at cost plus a mark-up
based on cost, otherwise known as billed price, and in order to withhold from the branch officials
complete information concerning the actual cost of merchandise shipped and actual earnings
from branch operations.
Upon receipt of merchandise from the home office, the branch records the charges that
are listed on the invoice accompanying the goods.

Illustration: Merchandise shipments from are billed price at 25% above cost.
The branch received merchandise shipments from home office amounting to P40,000.

Home Office Books Branch Books

Branch Current (at billed price) 40,000 Shipments from home office,
Shipments to branch, at cost 32,000 at billed price 40,000
Allowance for Overvaluation Home Office Current 40,000
of Branch Inventory 8,000
The branch returned P2,500 of the merchandise acquired from the home office.

Home Office Books Branch Books

Shipments to branch, at cost 2,000 Home Office Current 2,500

Allowance for Overvaluation Shipments from home office,
of Branch Inventory 500 At billed price 2,500
Branch Current 2,500

In the home office books, the Branch Current account now has a debit balance of P31,500 before
income summary accounts are closed. On the other hand, in the branch books, the Home Office
account now has a credit balance of P31, 500 before income summary accounts are closed, as
shown below:

Home Office Books: Branch Books:

Branch Current Home Office Current
Cash sent to branch Equipment acquired Equipment acquired Cash sent to branch
P40,000 by branch P20,000 by branch P20,000 P40,000
Shipments to branch Shipment returns Shipment returns Shipments from
40,000 2,500 2,500 home office
Depreciation charged Remittance 30,000 Remittance30,000 40,000
to branch4,000 Balance forwarded Balance forwarded Depreciation
31,500 31,500 charged by home
office 4,000
Total P84,000 TotalP84,000 TotalP84,000 Total P84,000
Balance P31,500 Balance P31,500

Closing Entries: Assume that at the end of xxx1, the branch reports its ending inventory at P14,
500 [P2, 000 + (P10, 000, cost x 125%)]

Home Office Books: Branch Books:

Sales95,000 Sales60,000
Shipments to branch 30,000 Merchandise inventory, 12/31 14,500
Merchandise inventory, 12/31 25,000 Income Summary 1,000
Merchandise inventory, 1/1 Purchases8,000
40,000 Shipments from home office37,500
Purchases Salaries Expense 14,000
90,000 Utilities Expense
Salaries Expense 3,000 2,000
Utilities Expense 2,000 Rent Expense 6,000
Depreciation Expense Depreciation Expense 4,000
 2,500 Miscellaneous Expense
Miscellaneous Expense 4,000
2,500
Income Summary Home Office Current 1,000
10,000 Income Summary
1,000
Branch Income Summary 1,000
Branch Current
1,000

Allowance for Overvaluation

of Branch Inventory 5,000
Branch Income Summary
5,000

Branch Income Summary 4,000

Income Summary
4,000

Income Summary 14,000

Retained Earnings
14,000

After the entries have been recorded, the accounts portraying branch operations in the home
office records will have a debit balance of P30,500. On the branch books, after closing entries
have been recorded, the Home Office Current account shows a credit balance of 30,500, the
same amount as the debit balance in the Branch Current account.
In the entries, the branch records its shipments from the home office at the billed price.
The branch manager is usually not aware of the home office’s cost; therefore, the only available
figure is the billed price. However, the home office records the shipment at its cost and sets up an
Allowance for Overvaluation of Branch Inventory. The Allowance for Overvaluation of Branch
Inventory account, also called Unrealized Profit in Branch Inventory, is the peso amount above
the home office’s cost that is billed to the branch. The amount remains in this account until the
shipment is reshipped or sold by the branch to the outsiders.
In the closing entries, the branch records and reports its net loss to home office, at P6,
000. However, in addition to the amount of net income reported by branch, the home office
recognizes the realized profit on sales made by the branch of merchandise billed above cost,
which amounts to P5, 000.
After the closing entry, the Allowance for Overvaluation of Branch Inventory account
will have a remaining credit balance of P2,500. The balance can be verified by determining the
overvaluation in branch ending inventory. The home office in its preparation of the statement of
financial position shows the Allowance for Overvaluation of Branch Inventory as a deduction
from the Branch Current account.
A closing entry closes the branch net income of P4, 000 (realized mark-up of P5,000
minus net loss of P1,000), as far as the home office is concerned, to the Income Summary
account.
A worksheet is prepared to make a combined income statement and balance sheet. The entries to
eliminate the entries do not appear on the books of the home office and branch books. They are
entries only to prepare combined financial statements for external purposes.
The reciprocal accounts, Home Office and Branch Current, are cancelled by the following
entry:

Home Office 31,500

 Branch Current 31,500

Account balances arising from the transfer of merchandise between the home office and the
branch are cancelled by the following elimination entry:

Shipments to branch, at cost

Allowance for Overvaluation of Branch Inventory
Shipments from home office, at billed price

The ending inventory, which is carried at billed price in the balance sheet and in the income
statement, is reduced by P2,500 to its actual cost by the following elimination entry:

Merchandise inventory, 12/31 (/income Statement) 2,500

Merchandise inventory, 12/31 (Balance Sheet) 2,500
The amount realized profit from sales in beginning inventory to reduce it to cost by the
following elimination entry:

Allowance for Overvaluation of Branch Inventory Xxx

Merchandise, 1/1 (Income Statement) xxx
In developing combined statements, the affiliated entities are recognized as one entity.
Accounts for the home office and the branch must be restated so that, when combined, they will
offer those balances that would have resulted if the transactions of the related entities had been
recorded in one set of books. In this process any balance sheet accounts that report interoffice
debits and credits and have no meaning when the related entities are recognized as one entity are
eliminated. Any income statement accounts that report transfers of merchandise or charges for
services between affiliated entities similarly require elimination.
When merchandise accounts report values other that cost and an unrealized intercompany
inventory profit account has been established, merchandise accounts will require restatement to
cost the Unrealized Profit or Allowance for Overvaluation of Branch Inventory account will
require cancellation. Combining branch and home office accounts results to that balance that
would have been obtained if one set of accounts had been maintained in recording activities of
both the branch and the home office. Combining account balances are carried to appropriate
Income Statement and Balance Sheet columns on the work sheet. Following such transfers, the
Income Statement columns are summarized, and the net income is carried to the Balance Sheet
columns.

Billing at Retail Sales Price

Billing at retail sales price is one of the special problems that you may encounter in home office
and branch accounting. Unlike billing at a price in excess of cost or the mark up based on cost
and the interbranch transactions, billing at retail sales price is not widely used for some reasons.
According to Antonio Dayag, billing at retail sales price is based on the desire of the home office
to strengthen the internal control over the inventories of the branch. This is a way of the home
office to monitor the inventories of the branch. When the branch informed the home office
regarding its current sales, the inventory position, or the remaining inventory, of the branch can
be determined by subtracting sales from the goods shipped to the branch, assuming no purchases
from outside parties. Therefore, at the end of the period, the amount of ending inventory
calculated by the home office, using sales and total goods shipped to the branch, must be the
same to the physical inventory of the branch. If the inventory reported by both parties is not
equal, the discrepancy must be investigated and explained for the satisfaction of the home office.
Since goods shipped to the branch are recorded by the branch at its retail selling price, the cost of
goods sold and the sales are equal, therefore no gross profit, rather the branch will report a loss
equal to its operating expenses. Procedures used in billing at retail sales price are the same with
the price above cost if the inventories of the branch include purchases from outside parties.

Sample problems:

Problem 1:

A. For the first requirement; in determining the billing rate based on cost, divide the billings to
branch by home office, or simply shipments from home office, by the shipments to branch. Since
shipments from home office is recorded by the branch at billed price, while the shipments to
branch which recorded by the home office is at cost, therefore by dividing the two amounts the
billing rate based on cost can be determined.

B. Realized mark up is the mark up of the goods already sold by the branch. Since the branch is
not aware regarding the allowance for overvaluation of its inventory, the realized mark up can
only be determined by the home office by subtracting the unrealized mark up for the year, which
is based from the ending inventory of the branch at cost, from the total mark up from the
beginning inventory and transfer of inventory from home office.

C. The cost of goods sold included in the combined financial statement of the branch and home
office is at cost since reciprocal accounts are eliminated. Cost of goods sold at coat can also be
determined using the cost of goods sold at billed by deducting from it the realized markup.

D. Ending inventory at cost is the ending inventory reported by the branch, which is at billed
price, divided by the billing rate based on cost.

E. Unrealized mark up can be determined by subtracting the ending inventory at cost and at
billed price.

F. Ending balance of allowance for mark up is the unrealized mark up based on ending
inventory.

G and H. Individual profit of the branch is the branch reported by the branch in its books.
Therefore, this amount is at billed price since the branch is not aware of the true cost of the
inventory transferred from the home office. While true profit is the profit computed by the home
office using the true cost of branch's inventory and this is the profit used in the combined
financial statements.

I. The adjusted balance of the branch current account is the difference between the true profit and
individual profit of the branch.

Problem 2:

A. Balance of allowance for mark up before year end is the total mark up after adjustment for
any returns and allowances made by the branch to the home office.
 B. At the end of the year. The branch reported a net loss but if the goods shipped from home
office are billed at cost, the home office reported a net income in its books rather than a net loss
which reported by the branch.

Problem 3:

A. In this problem, the mark up is based on the billed price rather than on the cost. Therefore the
billed price is at 100% while the cost is at 80% and a markup of 20%.

Inter-branch Transactions
Usually, the branch only transacts with the home office and with outside parties, but there are
instances that the home office wills direct the branch to transfer cash or any other asset to
another branch. These transactions are called inter-branch transactions. The problem is how these
branches will record the said transaction in their respective book. Instead of opening special
account they will record the transaction as if they are transacting with the home office. The
reason for this accounting treatment is in order to eliminate any special accounting, subsequent
reconciliation of reciprocal accounts, and to prevent a branch to have an open account. One
common example of interbranch transaction is the transfer of cash. The entries of branches and
home office are as follows:

Home office books Branch #1's books Branch #2's books

Investment
in branch Home
#1 xxx Cash xxx office xxx
Investment
in branch Home
#2 xxx office xxx cash xxx

Another interbrach transaction is the transfer of merchandise. As merchandise is transferred from

the home office to branch, normally it will incur freight. The journal entries to record the
transaction:

Home office books Branch #1's books

Investment in xxx   Shipments from xxx  
branch #1 home office
  Shipments to xxx Freight-in xxx  
branch #1
  cash xxx   Home xxx
office
But because of the indirect transfer of merchandise from branch to another branch, the problem
is the amount of freight to be recorded. According to PAS 2, recognize only necessary cost
incurred in bringing the asset to their present location and condition. Therefore, the cost to be
recognized by the receiving branch is only the necessary cost of freight, regardless of the freight
incurred by the transferring branch by the reason if indirect routing.

That is, in case there is a an excessive freight incurred, the receiving branch will capitalize only
the necessary freight, the transferring branch will recognize the actual cost incurred and the
home office will recognize the necessary cost and will expense the excessive freight.

In case there is a saving because of the indirect routing, the receiving branch will recognize only
the actual cost incurred that is lower than the necessary freight incurred for conservatism, while
the transferring branch will always record at actual amount and lastly no income to be
recognized by the home office.