Intercompany Eliminations in Consolidation

Introduction

In 2024, Intel's foundry business reported revenue of $17.5 billion. Almost all of it, $17.2 billion, came from selling wafers and services to other Intel businesses, mainly its product divisions; only $385 million came from outside customers. Intel reorganized itself so that its foundry and its chip design businesses would report as if they were separate companies, buying from and selling to each other. But in its consolidated income statement, those internal sales vanished: an elimination of $17.2 billion took the sum of its segments' revenue down to the $53.1 billion it actually earned from customers.

A group is treated as one economic entity, and an entity cannot earn revenue or profit by trading with itself. Every transaction between group companies, a sale, a loan, a fee or a dividend, must be removed when the statements are combined, so that the consolidated figures reflect only dealings with outsiders. The consolidation process these eliminations belong to is covered in consolidation: when you control a subsidiary.

Consolidation starts by adding the parent's and each subsidiary's statements together line by line. That sum counts twice anything that passed between them: a sale shows up as one company's revenue and the other's cost, a loan as one company's receivable and the other's debt. Eliminations are the adjustments that take those amounts back out.

Intercompany elimination

An adjustment made when preparing consolidated financial statements that removes the effects of transactions and balances between entities in the same group, including intercompany revenue and costs, receivables and payables, loans and interest, dividends and any profit not yet realized through a sale to an outside party.

The main eliminations are:

Suppose a parent manufactures goods costing $600 and sells them to a subsidiary for $800. By year-end, the subsidiary has resold three-quarters of them to outside customers for $900 and still holds the rest in inventory:

From the group's point of view, it made goods costing $600, sold three-quarters of them for $900 and still holds the rest at their cost to the group of $150. Its gross profit is $450, not the $500 the two companies report separately: the $50 of margin on goods still inside the group is unrealized profit, not yet earned. It will be recognized when the subsidiary sells the remaining inventory to an outsider.

The Following Year

Eliminations are not booked in either company's own ledgers; they are made afresh each time the consolidated statements are prepared. So in the following year, the consolidation worksheet starts by reducing opening retained earnings by the $50 of profit eliminated last year. When the subsidiary sells the remaining goods to outside customers, that $50 is released into consolidated gross profit. Over the two years, the group recognizes the parent's full $200 margin, $150 in the first year and $50 in the second, matched to the years in which the goods were actually sold outside the group, alongside whatever the subsidiary earns on its own outside sales.

Assets Transferred Within the Group

The same logic applies to equipment, property or intangible assets moved between group companies. If the parent sells a machine with a carrying amount (book value) of $100 to a subsidiary for $160, the group eliminates the $60 gain and keeps the machine at its original carrying amount. Because the subsidiary depreciates the higher $160, each year's consolidated depreciation is reduced to the amount based on the original cost, until the machine is sold or fully depreciated.

Loans, Fees and Dividends

Intercompany loans, interest and fees cancel out in consolidation, but they can leave traces. A loan between companies with different functional currencies creates exchange gains or losses that do not eliminate, unless the loan is effectively part of the parent's long-term investment, in which case the differences go to other comprehensive income, as described in foreign subsidiaries: currency translation and the cumulative translation adjustment. Dividends from a subsidiary to its parent are eliminated, but any dividends paid to the subsidiary's minority shareholders are real outflows from the group.

Intercompany profits are eliminated in full even when the subsidiary is only partly owned, as Accounting Standards Codification (ASC) 810 requires. What the noncontrolling interest changes is who bears the elimination. For downstream sales, from parent to subsidiary, the profit was recorded by the parent, so the whole elimination reduces the parent's share. For upstream sales, from subsidiary to parent, companies choose a policy and may allocate the elimination between the parent and the noncontrolling interest in proportion to their ownership, as Deloitte's guide to the attribution of eliminated income explains. Run the earlier example upstream, with an 80%-owned subsidiary as the seller, and the $50 elimination either falls wholly on the parent or splits $40 to the parent and $10 to the noncontrolling interest. The mechanics of the minority's share are covered in noncontrolling interest.

Taxes follow their own rules, because tax authorities tax individual companies, or national tax groups, rather than the consolidated group as a whole. When inventory moves between group companies in different tax jurisdictions, any tax paid by the seller on the internal profit is deferred, as a prepaid tax, until the inventory is sold outside the group. For other assets, such as intellectual property transferred to a subsidiary, Accounting Standards Update (ASU) 2016-16 requires the tax effects to be recognized when the transfer occurs, as Deloitte's summary of the update explains. Large internal transfers of intellectual property can therefore produce sizable tax charges or benefits in the year they happen.

Segment reporting is where intercompany activity is most visible. Companies report revenue and profit by operating segment including intersegment sales, then reconcile to the consolidated total with an eliminations column, as explained in segment reporting. The reconciliation in Intel's 2024 Form 10-K eliminated $17.2 billion of revenue and $17.4 billion of cost of sales, and reported a foundry segment operating loss of $13.4 billion that depends heavily on the prices its product divisions pay for wafers.

Eliminations also matter whenever a group is broken apart. Carve-out financial statements for a division being sold must reinstate its sales to and purchases from the rest of the group, now as related-party transactions, and carry an allocation of the shared costs the parent incurred on its behalf, which may differ from what the business will pay on its own, as covered in carve-out financial statements. A buyer that values the division on its segment figures should check how much of its revenue came from inside the group and whether those sales will continue on the same terms.

The consolidated cash flow statement is affected too. Intercompany payments, loans and dividends are eliminated, so consolidated cash flows show only receipts from and payments to outsiders. Cash moving between group companies, for instance to fund a subsidiary's investment or to pay dividends to the parent, does not appear, even though it may be constrained by local rules or by the subsidiary's own lenders.