a) On 1/1/17 Okhardia Inc purchased a new machine with the following details Cos
ID: 2558719 • Letter: A
Question
a) On 1/1/17 Okhardia Inc purchased a new machine with the following details Cost of new machine Estimated useful life Estimated salvage value S 800,000 10 yearsS S40,000 The CFO of Okhardia Inc decided to use the straight-line method of depreciation for this asset. Provide the journal entry to record depreciation expense for 2017 and 2018 b) In 2019 the CFO of Okhardia re-assessed the useful life and expected salvage value of this asset. She now revised the estimated useful life and salvage value to: Estimated useful life ars Estimated salvage value S 30,000 Provide the journal entry to record depreciation expense in 2019. c) In 2020 there is a dramatic fall in the demand for the product this machine makes so the CFO of Okhardia Inc is concerned that this asset may be impaired On 7/1/20, before the annual depreciation charge for 2020 was recorded, she estimated that the asset would only have five years of remaining useful life and in this time period the expected net operating cash flows from using the asset would be 2021 2022 2023 2024 2025 S 125,000 S 100,000 S 80,000 S80,000 S 40,000 The CFO estimated that the PV of these future cash flows would be: S360,000 d) i) If this asset subsequently recovered in value in 2023, does Okhardia need to record and gain or loss. Assume Okhardia reports in US GAAP ii) What if Okhardia reports in IFRS?Explanation / Answer
Answer:
Less: Salvage value 40,000
Depreciable amount 760,000
Estimated useful life 10 years
Therefore, 760,000/10 = 76,000 yearly depreciation Rate 10% p.a.
Journal entry for depreciation expense year 2017 and 2018
For 2017 Dr. Depreciation expense account 76000
Cr. To Accumulated depreciation account 76000
(Being depreciation charged as per SLM @ 10%)
For 2018 Dr. Depreciation expense account 76000
Cr. To Accumulated depreciation account 76000
(Being depreciation charged as per SLM @ 10%)
Opening balance as on 01 Jan 2019 (800,000-152,000) 648,000
Less: re-estimated Salvage value 30,000
Depreciable amount 618,000
Re-estimated useful life 9 years
Therefore, 618,000/9 = 68,667 yearly depreciation Rate 10.60 % p.a.
For 2019 Dr. Depreciation expense account 68,667
Cr. To Accumulated depreciation account 68,667
(Being depreciation charged as per revised estimated useful life and salvage value SLM @ 10.60%)
Therefore, Step 1 Recoverability test
The book value of Machine as on 01 Jan 20 579,333
Less: Depreciation for 6 months 01 July 20 34,333
Carrying amount of Machine as on 01 July 2020 545,000
Undiscounted Cash flow expected from
the continuous use of the asset (given 2021 to 2025) 425,000
Assets book value is higher than the undiscounted cash flow. So we need to calculate Impairment loss as per Step 2.
Impairment loss = asset’s book value – asset’s fair value (or the present value of the future cash flows expected).
185,000 = 545,000-360,000
Journal entry for recording Impairment loss:
Dr Impairment loss account 185,000
Cr. Accumulated Impairment loss account 185,000
(Being Impairment loss calculated as per US GAAP guidelines and shown as contra-asset)
II) Under IFRS, IAS 36 is the primary source of guidance on the impairment of tangible assets. The major points covered under this regulation are:
Impairment losses need to be recognized when the asset’s Book Value > asset’s Recoverable amount.
Where Asset’s Recoverable Amount = higher of (Fair value – Selling costs) OR value in use.
The value in use is calculated by discounting future cash flows expected from the continued use of the asset.
IFRS requires the companies to assess the indications of the impairment annually by keeping an eye on the several indicators mentioned above.
The impairment loss is allowed to be reversed if the asset’s value recovers later.
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