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In: Accounting

On January 1, 2011, Borstad Company purchased equipment for $1,200,000. It is depreciating the equipment over...

On January 1, 2011, Borstad Company purchased equipment for $1,200,000. It is depreciating the equipment over 25 years using the straight-line method and a zero residual value. Late in 2016, because of technological changes in the industry and reduced selling prices for its products, Borstad believes that its equipment may be impaired and will have a remaining useful life of 8 years. Borstad estimates that the equipment will produce cash inflows of $420,000 and will incur cash outflows of $307,000 each year for the next 8 years. It is not able to determine the fair value of the equipment based on a current selling price. Borstad’s discount rate is 14%.

Prepare schedules to determine whether, at the end of 2016, the equipment is impaired and, if so, the impairment loss to be recognized. Enter the Accumulated Depreciation amount as a negative number.
Prepare the journal entry to record the impairment.
Next Level How would your answer to Requirement 1 change if the discount rate was 18% and the cash flows were expected to continue for 6 years?
Next Level How would your answer change if management planned to implement efficiencies that would save $11,000 each year?

Refer to Requirement 1 and assume that the company uses IFRS. It determines that the fair value of the equipment is $573,000 and estimates that it would cost $13,000 to sell the equipment. How much would the company recognize as the impairment loss?

this problem uses the present value of annuity table , along with present value of ordinary annuity of 1,present value of annuity due tables

Solutions

Expert Solution

Calculations Step 1 Calculation of book value of Equipment
Original cost of equipment 1200000
Original useful life 25 years
Depreciation for each year 48000 =1200000/25
Accumulated Depreciation for 6 years(from 2011 to 2016) -288000
Book value of equipment at the end of 2016 912000
Step 2 Calculation of Present value of future cashflow from equipment
Cash inflows 420000
Cashoutflows 307000
Net Cash inflows 113000
Present value of Annuity @14% for 8 years 4.638863894
Present value of future cashflow of equipment 524191.62
Impairment loss to be recognized in 2016 is
Book value of equipment at the end of 2016 912000
Present value of future cashflow of equipment 524191.62
Requirement 1 Impairment loss to be recognized in 2016 is 387808.38
Journal entry
Date General Journal Debit Credit
December 31, 2016 Impairment loss on equipment 387808.38
Equipment 387808.38
To record the impairment loss on equipment
Requirement 2 Changes in answers to requirement 1 assuming discount rate to be 18% and cash flow for 6 years
Calculation of Present value of future cashflow from equipment
Cash inflows 420000
Cashoutflows 307000
Net Cash inflows 113000
Present value of Annuity @14% for 8 years 3.49760256
Present value of future cashflow of equipment 395229.0893
Impairment loss to be recognized in 2016 is
Book value of equipment at the end of 2016 912000
Present value of future cashflow of equipment 395229.0893
Impairment loss to be recognized in 2016 is 516770.9107
Requirement 3 If Management plans to implement efficiencies that would save $11000 each year
In requirement 1
Calculation of Present value of future cashflow from equipment
Cash inflows 431000
Cashoutflows 307000
Net Cash inflows 124000
Present value of Annuity @14% for 8 years 4.638863894
Present value of future cashflow of equipment 575219.1228
Impairment loss to be recognized in 2016 is
Book value of equipment at the end of 2016 912000
Present value of future cashflow of equipment 575219.1228
Impairment loss to be recognized in 2016 is 336780.8772
In requirement 2
Calculation of Present value of future cashflow from equipment
Cash inflows 431000
Cashoutflows 307000
Net Cash inflows 124000
Present value of Annuity @14% for 8 years 3.49760256
Present value of future cashflow of equipment 433702.7175
Impairment loss to be recognized in 2016 is
Book value of equipment at the end of 2016 912000
Present value of future cashflow of equipment 433702.7175
Impairment loss to be recognized in 2016 is 478297.2825
Requirement 4 Assuming Company using IFRS & has fair value of equipment
Book value of equipment at the end of 2016 912000
Fair value of an equipment minus cost of disposal 560000
Impairment loss to be recognized in 2016 is 352000

ekkarill92 answered 2 years ago
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