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ACCT 341 - Intermediate Financial Accounting 1 > Chapter 11 - Depreciation, Impairment, and Disposition > Flashcards

Chapter 11 - Depreciation, Impairment, and Disposition Flashcards

1
Q

What is the purpose of depreciation? What is not the purpose of it?

A

To the allocate the cost in the period of use. Not to equate an assets carrying amount to the fair value.

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2
Q

What are the three factors in the depreciation process?

A
  1. Asset component
  2. Depreciable amount
  3. Depreciation period.
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3
Q

What is the asset component concept of depreciation?

A

Judgement must be used when allocating the cost of an asset to its different components, so that we can record the appropriate amount of depreciation on assets that may have differing lives.

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4
Q

What is the depreciable amount under IFRS? How often must this amount be re-evaluated under IFRS?

A

The difference between the (cost of the asset/ reevaluated amount (revaluation model) - residual value)
It must be re-evaluated at least once every year.

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5
Q

What is the depreciable amount under ASPE?

A

The amount will be the greater of:
1. (Cost - Residual Value) / Estimated Useful Life
or
2. (Cost - Salvage Value) / Total life of the asset

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6
Q

How is the residual value typically measured? What is the residual value net of?

A

Professional judgement is required however it is typically immaterial and nil since there is little to no value. It is net of disposal costs.

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7
Q

What is the useful life?

A
  1. The estimate of the period over which we expect to use the asset

or

  1. The number of units we expect the asset to produce over it’s useful life.
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8
Q

T or F: The useful life is typically shorter than the physical life.

A

True

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9
Q

Why is the useful life typically shorter than the physical life? What are the two causes?

A

The expected time in which there will be economic benefits are shorter than the actual physical life of the asset. Obsolescence or inadequacy of the asset due to changes in the demand.

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10
Q

Under IFRS, when does depreciation commence? What is the treatment of the depreciation if the asset is idled?

A

When the asset is available for use. It continues to be depreciated.

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11
Q

Under ASPE, when does depreciation commence?

A

When the management determines that the asset is in use through criteria such as capacity, occupancy level, or the passage of time.

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12
Q

What is the formula for the straight line depreciation?

A

(Cost - Residual) / Useful Life

or

(Carrying Amount - Residual Value) / Remaining Useful Life.

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13
Q

When do we use the straight line method?

A

When we expect the benefits to be continuous throughout the year and the repair costs are minimal.

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14
Q

What is the double diminishing balance method? When do we use the diminishing balance method?

A

A depreciation method depreciation is recognized at higher amounts in the early years of its life. When the asset is expected to have high maintenance costs and be idled for long periods of time later down in its life.

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15
Q

What is the purpose of the diminishing balance method? What happens to the depreciation later down the line?

A

Make it such that the costs of depreciation and repair are approximately equal throughout the life of the asset. It becomes less and less.

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16
Q

What is the double diminishing balance method?Who uses the double diminishing balance method?

A

It is similar to the diminishing balance method, however this one is *2. Typically used by companies with manufacturing equipment that tends to have higher downtimes later down the road.

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17
Q

What is the formula for the double diminishing method?

A

Carrying Amount * (2/ Useful Life)

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18
Q

What do we not include in the double diminishing method that is included in the straight line method? What is the result of this?

A

The residual value is not included which makes the results more conservative.

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19
Q

When do we cease the depreciation of an asset?

A

We cease the depreciation when the carrying amount of the asset is equivalent to the residual value.

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20
Q

What do we use the activity methods for? What is the formula for the depreciation/ depletion rate? What is the formula for the depreciation per period?

A

They can be used for depreciation or depletion.
Depreciation / Depletion Rate = (Cost - Residual value) / Useful life

Depreciation Rate * Number of Output units in the period = Depreciation per Period.

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21
Q

What is the activity depreciation method? What makes this depreciation method differ? What industries use this method?

A

Depreciation or depletion can vary each year depending on how much a company uses the asset which gives a better matching of revenues and expenses. The passage of time does not cause depreciation. That that have different production levels throughout the year.

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22
Q

Why is the Capital Cost Allowance used?

A

The Capital Cost Allowance is used because the CRA does not permit the presentation of depreciation expense on the income tax return.

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23
Q

What firm would be permitted to use the Capital Cost Allowance Method?

A

A small company whose main external user is the Canada revenue agency, can substitute the depreciation expense for the CCA

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24
Q

Does the CCA abide by the rules of IFRS and ASPE?

A

No, it does not abide by the rules of IFRS and ASPE unless the amounts are immaterial.

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25
Q

How should a firm choose a depreciation method?

A

The best way to choose a depreciation method is to ensure that the revenues and expenses properly match. The reality however, is that most companies will choose a depreciation method to maximize or minimize current or future income.

26
Q

How do we deal with depreciation of partial periods?

A

Under the straight line method most companies will record the depreciation for the whole year and then apply a fraction for the number of months they use it during the year.

27
Q

How do most companies account for depreciation on PPE purchased in the first year under the straight line method?

A

They apply the assumption that the asset was purchased at some time near the middle, and thus only apply depreciation at the middle portion, as that is the average.

28
Q

How do we account for the depreciation using the double diminishing balance method?

A

We only account for the amount of time that we actually held and had the asset.

29
Q

What depreciation method is used for the depletion of mineral resources?

A

The units of production method.

30
Q

What is the definition of depreciation?

A

It is an estimate based on estimated useful lives and residual values.

31
Q

How often should the estimates be reviewed and revised. What if there is a change in the depreciation method?

A

The management should review and revise them every year, and once that occurs apply it on a prospective basis, meaning moving forward we must apply the new and proper estimate, even if the depreciation method changes

32
Q

What do we do if there is an estimate change? What variables need to be changed and

A

If there is an estimate change than we change the:

Carrying amount –> Cost
Revised Residual –> Old Residual
Revised Useful Life / Units or Production –> Total useful life or the total units of production.

33
Q

Describe the impairment of the cost model

A

The revaluation and the fair value model automatically adjust the PPE at the end of the year, but the cost model does not measure the assets at fair value, there is a high chance that it is actually impaired.

34
Q

What are four external indicators of impairment on PPE?

A
  1. Reduction in the fair value of the asset.
  2. Change in the technological, economical, or legal environment.
  3. Market rates of return have increased ( lowering the present value of the assets)
  4. Book Value (Equity accounts of the company / Number of outstanding common shares) > Value of the shares that trade in the stock market (book value is greater than market capitalization.
35
Q

What are the four internal indicators of impairment on PPE?

A
  1. The asset is obsolete or damaged
  2. Significant change in the way that the company uses the asset.
  3. Internal reports indicate that the asset will be less productive than originally estimated.
  4. Cost incurred to acquire and make the asset ready for use have risen considerably since the first estimates.
36
Q

What method of impairment is used under ASPE? What does it mean?

A

The cost recovery model. It assesses whether the asset is recoverable and whether the fair value of the asset is above the carrying amount. If both of these conditions or at least one of these conditions exist than it is not impaired, but if both of them fail the test than it is impaired.

37
Q

What is the recoverability test?

A

The recoverability test states that the un discounted cash flows must be greater than the carrying amount to be classified as recoverable. If it is not, than it is deemed as unrecoverable.

38
Q

What do we do if the asset fails the recoverability test?

A

We assess the impairment by taking the fair value and comparing it with the carrying amount, reducing the carrying amount to the fair value.

39
Q

What do we assess the fair value of PPE?

A

We look at the prices that are actively quoted in the market to discounted value of the expected future cash flows. If both of them are available, we use the quoted market price as it is more objective.

40
Q

How does IFRS deal with impairment losses on PPE?

A

IFRS permits the reversal of impairment losses, that is required to bring the carrying amount up to the point that it would have been at if the impairment never occurred.

41
Q

How does ASPE deal with impairment losses on PPE?

A

ASPE does not permit the reversal of the impairment losses. This cost is now used to calculate all further depreciation

42
Q

What do we do if the asset does not generate cash flow on its own?

A

The asset is allocated to a group of assets when applying the impairment test.

43
Q

When would we need to consider the repayment of principle amounts for loans under the recoverability test?

A

The assets cash flows are the only source to pay down the loans.

44
Q

What is the impairment model implemented under IFRS?

A

They apply the rational entity model which assess for impairment at the end of every year. If there is no signs of impairment than nothing else must be done, if there is an impairment than a similar process will be followed to ASPE.What

45
Q

What are the three exceptions to impairment tests under IFRS?

A
  1. Intangible assets with indefinite lives
  2. Intangible Assets that are not yet ready for use
  3. Goodwill arising from a business combination.
46
Q

What is the recoverable amount under IFRS?

A

It is the greater of
1. Fair Value - Cost to Sell
2. Value in Use (The discounted cash flows )

47
Q

Why do we groups some assets together?

A

These are assets that are brought together since they cannot be evaluated for impairment as they do not generate enough cash flows on their own.

48
Q

What is an asset group / Cash generating unit?

A

Smallest identifiable group of assets that generates cash flow that is largely independent of the cash flows from other assets or groups of assets.

49
Q

How do we allocate an impairment loss on a CGU to the assets under ASPE?

A

We allocate it based on the weights of the assets’ carrying amount at the time of the impairment. However, we cannot reduce it beyond the fair value if that is know.

50
Q

How do we allocate an impairment loss on a CGU unit to the assets under IFRS?

A

Similar to the ASPE method, however we cannot reduce it beyond the higher of:
1. FV less cost to sell
2. Value in use
3. Zero

51
Q

What happens to impairment losses when we have a discontinued business?

A

The impairment loss is reversed and reported separately.

52
Q

What is the treatment of the long lived assets disposed by sale for ASPE and IFRS?

A

ASPE - It is a current asset if the company had sold the assets by the date of the statement, or the proceeds will arrive in a year.

IFRS - They are classified as current assets when sold.

53
Q

How do we de-recognize an asset at the date of a disposal?

A
  1. Ensure the depreciation is up to date
  2. Debit the cash or other forms of consideration.
  3. Credit the cost of the asset and debit the accumulated depreciation
  4. Record a gain or loss.
54
Q

How do we record if the company donates an asset?

A

Sell it as if it were at fair value, but debit donation expense not cash.

55
Q

For major categories of PPE, what should be disclosed?

A
  1. Cost
  2. Accumulated Depreciation
  3. Useful life
  4. Depreciation Method
  5. Schedule for the changes in the accounts.
56
Q

For items that we do not depreciation, how do we present them?

A

We present them as separate and explain why we do not depreciate them (held for sale / under construction).

57
Q

What are four other items that we must disclose?

A
  1. Depreciation Expense
  2. Impairment Loss
  3. Loss reversals.
  4. Pledged an asset for a security loan
58
Q

What do we disclose if we use the cost model?

A

We must disclose the fair value of investment properties along with any underlying assumptions relating to the determination of the fair values.

59
Q

When analyzing depreciation what is important to note?

A

Depreciation is not a source of cash flow and when we replace an asset we need more cash flow arising from the revenue .

60
Q

What does a high asset turnover ratio mean?

A

It does not necessarily mean that the company is good at producing revenues, it could indicate that there are low assets due to aging or leasing.

61
Q

What should we assess the asset turnover ratio with and why?

A

The profit margin to determine the return on assets. Multiplying these two gives a return on assets.

ACCT 341 - Intermediate Financial Accounting 1 (3 decks)

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