Why are intercompany transactions eliminated in consolidation?

• A. To simplify accounting by removing all assets.
• B. To reduce taxable income of the group.
• C. To hide internal profits from auditors.
• D. To prevent double counting and present a true economic picture of the group.

Answer: (D)

In consolidation, the group is treated as a single economic entity. Intercompany transactions—sales, loans, dividends, and other transfers between entities within the group—create amounts that cancel each other out when the entities are combined, but if left unadjusted they would inflate internal revenue and expenses and distort the group’s performance. Eliminating these intercompany balances and any unrealized profits embedded in intercompany transactions (such as profits embedded in ending inventory) ensures the financial statements reflect only dealings with external parties. This produces a true economic picture of the group as a whole, rather than a sum of individual entities with internal transfers. The other options miss this purpose: consolidation is not about removing all assets, lowering the group’s taxable income, or hiding internal profits.