8.2 Flashcards
In an exchange of assets, Junger Co. received equipment with a fair value equal to the carrying amount of the equipment given up. Junger also contributed cash equal to 10% of the fair value of the exchange. If the exchange is not considered to have commercial substance, Junger should recognize
A loss equal to the cash (boot) given up.
The accounting for a nonmonetary transaction should be based on the carrying amount of the asset(s) given up when the exchange lacks commercial substance. Because the boot in the transaction is less than 25% of the fair value of the exchange, the exchange is based on the carrying amount of assets given up.
Bayberry Co. has an asset with a cost of $200,000 and accumulated depreciation of $120,000. Driftwood Co. has an asset with a cost of $250,000 and accumulated depreciation of $160,000. Both assets have a fair value of $100,000. Bayberry and Driftwood find it mutually advantageous to exchange assets, and the exchange results in improved future cash flows for both companies. What amount, if any, is Bayberry’s gain on the exchange?
$200,000.
When the fair value of both assets in a nonmonetary exchange is determinable, the transaction is treated as a monetary exchange. The asset received is measured at the fair value of the asset given up, and any gain or loss is recognized immediately. The gain or loss is the difference between the fair value of the asset given up and its carrying amount. The fair value and carrying amount of the asset Bayberry gave up were $100,000 and $80,000 ($200,000 cost – $120,000 accumulated depreciation), respectively. Therefore, Bayberry’s gain on the exchange is $20,000 ($100,000 FV – $80,000 carrying amount).
Depreciation is computed on the original cost less estimated salvage value under which of the following depreciation methods?
Double-declining balance:
Productive output:
No
Yes
Under the productive-output method, depreciation is determined by allocating the original cost less the estimated salvage value to the projected units of output during the expected life of the asset. Under the double-declining-balance method, depreciation is determined by multiplying the carrying amount at the beginning of each period by a constant rate that is equal to twice the straight-line rate of depreciation. Each year the carrying amount of the asset decreases by the depreciation expense recognized. The double-declining-balance calculation does not include salvage value in calculating depreciation. However, the asset may not be depreciated below the amount of the estimated salvage value.
Freer Co. purchased a piece of machinery for $50,000. Freer will use the machinery in the production of its product line for five years, at which time the machinery will have a residual value of $5,000. Freer anticipates that it will produce 90,000 units the first year with total units of 450,000. Which of the following methods will allow Freer to claim the greatest amount of depreciation in the first year?
Double-declining balance.
Similar to the sum-of-the-years’ digits method, the double declining balance method is an accelerated method of depreciation resulting in decreasing depreciation charges over the asset’s useful life. Under this method, depreciation expense is calculated as follows: Carrying amount × Double the straight-line rate of depreciation. The carrying amount is cost less accumulated depreciation (NOTE: salvage value is not considered). The straight-line rate of depreciation is calculated as follows: 100% ÷ Useful life. Here, that rate is 20% (100% ÷ 5 years). Accordingly, Freer’s depreciation expense in the first year under the double declining balance method is $20,000 [$50,000 × (2 × 20%)], which is greater than the other methods.
A company has a parcel of land to be used for a future production facility. The company applies the revaluation model under IFRS to this class of assets. In Year 1, the company acquired the land for $100,000. At the end of Year 1, the carrying amount was reduced to $90,000, which represented the fair value at that date. At the end of Year 2, the land was revalued, and the fair value increased to $105,000. How should the company account for the Year 2 change in fair value?
By recognizing $10,000 in profit or loss and $5,000 in other comprehensive income.
In Year 2, the revaluation increase for the land is $15,000 ($105,000 fair value – $90,000 carrying amount). A revaluation increase must be recognized in other comprehensive income and accumulated in equity as a revaluation surplus. However, the increase must be recognized in profit or loss to the extent it reverses a decrease of the same asset that was recognized in profit or loss. In Year 1, the carrying amount of the asset was reduced by $10,000 ($100,000 – $90,000). This reduction was recognized in profit or loss (as there was no credit in revaluation surplus for the asset at that time). Thus, $10,000 of the increase in Year 2 must be recognized in profit or loss. The remaining $5,000 ($15,000 – $10,000) of the increase is recognized in other comprehensive income as a revaluation surplus.
WD Mining Company purchased a section of land for $600,000 in Year 1 to develop a zinc mine. The mine began operations in Year 9. At that time, management estimated that the mine would produce 200,000 tons of quality ore. A total of 100,000 tons of ore were mined and processed from Year 9 through December 31, Year 16. During January Year 17, a very promising vein was discovered. The revised estimate of ore still to be mined was 250,000 tons. Estimated salvage value for the mine land was $100,000 in both Year 9 and Year 17. Assuming that 10,000 tons of ore were mined in Year 17, what amount should WD Mining Company report as depletion in Year 17?
$10,000.
The original cost of the land was $600,000. The estimated salvage value in both Year 9 and Year 17 was $100,000. The depletion base in Year 9 was therefore $500,000 ($600,000 – $100,000). Half of the estimated 200,000 tons of quality ore were mined in the period Year 9 through Year 16. Thus, $250,000 would have been allocated to the 100,000 tons mined, and the depletion base in January Year 17 would have been $250,000 ($600,000 – $100,000 – $250,000) before the change in estimate. This amount should be allocated over the 250,000-ton revised estimate of available ore. Multiplying by the 10,000 tons actually mined in Year 17 gives the amount of depletion to record of $10,000.
Newt Co. sold a warehouse and used the proceeds to acquire a new warehouse. The excess of the proceeds over the carrying amount of the warehouse sold should be reported as a(n):
Part of continuing operations.
When property, plant, or equipment is disposed of other than by an exchange, the gain or loss is included in the results of continuing operations unless the disposal is reported in discontinued operations. The operating results of discontinued operations are presented in a separate component of the income statement following continuing operations. However, the facts do not indicate that the warehouse sold is (1) a component of the entity or (2) a business or nonprofit activity. For example, a component of an entity must have operations and cash flows clearly distinguishable for operating and financial reporting purposes. Moreover, disposal of a component of an entity must be a strategic shift (e.g., a major part of the entity). Thus, the gain on the sale is not from a discontinued operation.
Bensol Co. and Sable Co. exchanged similar trucks with fair values in excess of carrying amounts. In addition, Bensol paid Sable to compensate for the difference in fair values. The boot paid was less than 25% of the fair value of the exchange. If the exchange lacked commercial substance, Sable recognizes
A gain determined by the proportion of the cash received to the total consideration.
The receipt of boot is considered a partial culmination of an earning process requiring recognition of a partial gain. A gain is realized because the carrying amount of Sable’s truck was less than its fair value, and the total consideration received apparently equaled the fair value. The recognized gain equals the realized gain times the ratio of boot to total consideration received. However, if the boot is 25% or more of the fair value of the exchange, both parties record the transaction as a monetary exchange at fair value, with gains and losses recognized in full.
An asset classified as held for sale has been reclassified as held and used. The asset is measured at the
The lower of (1) the carrying amount before the asset was classified as held for sale, minus any depreciation that would have been recognized if the asset had been held and used, or (2) the fair value at the date of the decision not to sell.
The plan of sale may change because of previously unlikely circumstances, resulting in a decision not to sell. The asset then must be reclassified as held and used. It is remeasured individually to the lower of (1) the carrying amount before the asset was classified as held for sale, minus any depreciation (amortization) that would have been recognized if the asset had been held and used, or (2) the fair value at the date of the decision not to sell.
Under IFRS, an impairment loss recognized is equal to the excess of the carrying amount of an asset over its recoverable amount. The recoverable amount of an asset is
The greater of an asset’s fair value minus cost to sell or its value in use.
Any indication that an asset may be impaired requires the entity to estimate the recoverable amount. The recoverable amount is the greater of an asset’s fair value minus cost to sell or its value in use. Value in use is the present value of estimated future cash flows expected to be derived from the use and disposition of an asset.
Wellington Industries has owned its present facilities since 1981, and Mary Dunlap, CEO, has authorized various expenditures to repair and improve the building during the current year. The building was beginning to sag, and without repair, the building would only last another 8 years. To correct the problem, the foundation was reinforced, and several lolly columns were added in the basement area at a cost of $47,200. As a result, company engineers estimate that the building will have a remaining useful life of 20 years. To install a new computer local area network (LAN) and be ready for the next generation of computers, the phone lines and electrical systems were updated at a cost of $81,300. Wellington engineers estimate that these improvements should last 25 years. The offices and open work spaces were rearranged to reduce exposure to electronic emissions at a material cost of $31,000. The purchase and installation of the computers and software for the LAN cost $102,700. Wellington’s manager of information systems believes that the LAN hardware and software will have to be replaced in 6 years, but further rearrangement of the offices and open work spaces will not be necessary. After the above improvements were completed, the entire building was painted inside and outside at a cost of $9,450.
As controller of Wellington Industries, which one of the following actions would you recommend to be in conformity with generally accepted accounting principles?
Capitalize all costs with the exception of the painting because it represents maintenance expense.
Expenditures on capital assets that improve the asset’s performance or extend its useful life are capitalized as part of the asset’s cost. Accordingly, the building repairs are capitalized. The substitution of a better computer system is classified as an improvement, and the costs also should be capitalized. Moreover, the entity capitalizes the costs of a rearrangement of the configurations of the offices and open work spaces that (1) requires material outlays, (2) is separable from recurring expenses, and (3) provides probable future benefits. However, expenditures that merely maintain the asset at an acceptable level of productivity are expensed as they are incurred. Thus, the costs of painting the building are routine, minor outlays that should be expensed immediately.
Cantor Co. purchased a coal mine for $2,000,000. It cost $500,000 to prepare the coal mine for extraction of the coal. It was estimated that 750,000 tons of coal would be extracted from the mine during its useful life. Cantor planned to sell the property for $100,000 at the end of its useful life. During the current year, 15,000 tons of coal were extracted and sold. What would be Cantor’s depletion amount per ton for the current year?
$3.20.
Cantor’s depletion base is calculated as follows:
Purchase price: $2,000,000
Minus: Residual value: (100,000)
Add: Preparation costs: 500,000
Depletion base: $2,400,000
Thus, the depletion rate is $3.20 per ton ($2,400,000 ÷ 750,000 extractable tons).
On January 2, Year 1, Reed Co. purchased a machine for $800,000 and established an annual depreciation charge of $100,000 over an 8-year life. At the beginning of Year 4, after issuing its Year 3 financial statements, Reed concluded that $250,000 was a reasonable estimate of the sum of the undiscounted net cash inflows expected to be recovered through use of the machine for the period January 1, Year 4 through December 31, Year 8. The machine’s fair value was $200,000 at the beginning of Year 4. In Reed’s December 31, Year 4, balance sheet, the machine should be reported at a carrying amount of
$160,000.
The asset should be written down to fair value if the carrying amount is not recoverable. Because the carrying amount ($800,000 cost – $300,000 accumulated depreciation = $500,000) exceeded the recoverable amount ($250,000) at the beginning of Year 4, Reed should have recognized an impairment loss of $300,000 ($500,000 carrying amount – $200,000 fair value at the beginning of Year 4). Accordingly, the new carrying amount was $200,000, and the new annual depreciation expense for the remaining 5-year useful life (Year 4 - Year 8) was $40,000 ($200,000 ÷ 5 years). The machine should be reported at a carrying amount of $160,000 ($200,000 – $40,000 depreciation) on December 31, Year 4.
Under IFRS, an asset is impaired when its carrying amount exceeds its recoverable amount. The recoverable amount of an asset is
The greater of its fair value minus cost to sell or value in use.
The recoverable amount of an asset is the greater of its fair value minus cost to sell or value in use. Value in use is the present value of the asset’s expected cash flows. The recognized impairment loss is the excess of the asset’s carrying amount over its recoverable amount.
Assets held for sale are measured at the
Lower of carrying amount or fair value minus costs to sell.
Assets held for sale are measured at the lower of carrying amount or fair value minus costs to sell. Costs to sell are incremental direct costs, such as closing costs and brokers’ fees.
