Mu Corporation acquires 25 percent of Nu Corporation’s voting stock on July 1, 2004, for $220 million in cash. Nu’s net assets are fairly reported at $1,000 million at the date of acquisition. During 2004, Mu sells $1,050 million in merchandise to Nu at a markup of 20 percent on cost. Nu still holds $210 million of this merchandise in its ending inventory. Also during 2004, Nu sells $240 million in merchandise to Mu at a markup of 10 percent on cost. Mu still holds $95 million of this merchandise in its ending inventory. Nu reports 2004 net income of $105 million.

Required:

Calculate Mu’s equity in Nu’s net income for 2004.

Assume Mu reports total 2004 sales revenue and cost of sales of $1,250 million and $1,000 million, respectively, while Nu reports total 2004 sales revenue and cost of sales of $1,150 million and $920 million, respectively. Compute each company’s gross margin on sales as reported following U.S. GAAP. Now compute gross margin on sales again, excluding intercompany sales. Comment on the results.