The fact that generally accepted accounting principles allow companies flexibili

Question

The fact that generally accepted accounting principles allow companies flexibility in choosing between certain allocation methods can make it difficult for a financial analyst to compare periodic performance from firm to firm. Suppose you were a financial analyst trying to compare the performance of two companies. Company A uses the double-declining-balance depreciation method. Company B uses the straight-line method. You have the following information taken from the 12/31/13 year-end financial statements for Company B: Income Statement Depreciation expense $ 6,500 Balance Sheet Assets: Plant and equipment, at cost $ 65,000 Less: Accumulated depreciation (26,000 ) Net $ 39,000 You also determine that all of the assets constituting the plant and equipment of Company B were acquired at the same time, and that all of the $65,000 represents depreciable assets. Also, all of the depreciable assets have the same useful life and residual values are zero. Required: 1. In order to compare performance with Company A, estimate what B's depreciation expense would have been for 2013 if the double-declining-balance depreciation method had been used by Company B since acquisition of the depreciable assets.

2-If Company B decided to switch depreciation methods in 2013 from the straight line to the double-declining-balance method, prepare the 2013 adjusting journal entry to record depreciation for the year, assuming no journal entry for depreciation in 2013 has been recorded

Explanation / Answer

Let us understand the information given in respect of Company B before solving the problem (All amounts in $) Cost of Plant 65000 Accumulated Depreciation 26000 Net Block 39000 It is also specified that the annual depreciation expense for 2013 is $ 6,500. From this, it can be assumed that the assets are being depreciated on the straight line method in Company B @ 10% per annum ( 6,500 / 65,000) Also, it can be specified that the assets were purchased in 2010, since the depreciation accumulated is for 4 years ( 6,500 X 4 = 26,000). 1. In case Company B switches over to the double declining balance of depreciation, keeping in line with Company A's policy (i) The depreciation rate would be up from 10% (existing) to 20% (double-declining-balance) In that case, the depreciation schedule from 2010 till 2013 would be worked out as under : Year Cost Depreciation Accumul. Net Depn WDV 2010 65000 13000 13000 52000 2011 52000 13000 26000 39000 2012 39000 13000 39000 26000 2013 26000 13000 52000 13000 2015 13000 13000 65000 0 2. In case Company B switches over to the double-declining-balance, the journal entry for the additional depreciation expense in 2013 will be : Depreciation A/c DR $ 6,500 To Accumulated Depreciation A/c $ 6,500 Thus, the total entry for depreciation will be including this amount and total $ 13,000, with a corresponding credit to Accumulated Depreciation .

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