On January 1, 2015, Pearl Ltd. purchased equipment for $696,000. The equipment w

Question

On January 1, 2015, Pearl Ltd. purchased equipment for $696,000. The equipment was assumed to have an 8-year useful life and no residual value, and was to be depreciated using the straight-line method. On January 1, 2017, Pearl's management became concerned that the equipment may have become obsolete. Management calculated that the undiscounted future net cash flows from the equipment was $500,250, the discounted future net cash flows was $443,700, and the current fair value of the equipment (after costs to sell) was $435,000.

a) Assuming that Pearl is a private Canadian company following ASPE, identify which model should be used to test for impairment.

b) Record the journal entry to record the impairment loss, if any.

c) Assuming that Pearl is a public Canadian company, identify which model should be used to test for impairment.

d) Record the journal entry to record the impairment loss, if any.

Explanation / Answer

a) ASPE uses a two-step impairment testing process which is as follows:

Firstly we need to calculate the carrying amount of equipment on January 1, 2017 which is calculated as follows:-

As per the first step we need to compare the carrying amount and expected undiscounted cash flows (i.e. $522,000 and $500,250). The undiscounted cash flows of $500,250 is less than the carrying amount we don't need to go for second step and the impairment loss is :-

Impairment Loss = Carrying amount - Undiscounted cash flows = $522,000-$500,250 = $21,750

b) Journal Entry to record the Impairment Loss

c) If Pearl company is a public canadian company then it will account it as per IFRS, IFRS uses as one step impairment test- if any indication of impairment exists, then compare the recoverable amount of the asset with the carrying amount of the asset. If the carrying value exceeds the recoverable amount, then write down the carrying amount to the recoverable amount. The recoverable amount is defined as the higher of the fair value less cost to sell or the value in use. The value in use is the present value of the future cash flows expected from the assets.

d) In this case, recoverable amount is higher of

Fair value less cost to sell = $435,000 or

Value in use = Discounted future cash flows = $443,700

is Value in use (i.e.$443,700) and

Carrying Amount = $522,000

The carrying amount of $522,000 is more than the recoverable amount of $443,700. Thus Impairment loss will be recognised of $78,300 ($522,000-$443,700)

Journal Entry to record the Impairment Loss

Purchase Cost on January 1, 2015 $696,000 Less: Depreciation for the year 2015 and 2016 [(696,000-0)/8 yrs]*2 yrs ($174,000) Carrying amount as on january 1, 2017 $522,000

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