The Board of Directors of Gold Structures Inc. is receiving the 2016 annual Report. A new...

The Board of Directors of Gold Structures Inc. is receiving the 2016 annual Report. A new board member-a wealthy woman with little business experience -questions the company's accountant about depreciation amounts. The new board member wonders why the depreciation expense has decreased from R220 000 in 2014 to R204 000 in 2015 and R196 000 in 2016. She states that she could understand the decreasing annual amounts if the company had been disposing of properties each year, but that did not occur. Further, she notes that the growth in the city is increasing the values of the company properties.

Required:

Prepare a response to the new board member's concerns. Also indicate why the company is recording depreciation when the property values are increasing?

Expert Solution

Generally fixed assets are recorded at cost. In this case,company has recorded the fixed assets at cost. And the depreciation is charged as per WDV (written down value) method.

Eg:	Cost	1000,000	rate 15%
	Year 1 Depreciation	150,000
	Year 2 Depreciation	127,500
	Year 3 Depreciation	108,375

As per the above example, it is clear that the deprecation is being reduced year after year. This is because in this example (as in the case of company ) we have adopted WDV method @15%.

As per WDV method, more depreciation is charged during the initial years and less and less depreciation is charged in the later years.

Even though the property prices are increasing, this does not affect the balance sheet values of the properties of the company as the company is following COST Model rather than REVALUATION Model.

Conclusion:

As per IAS -16 , company may adopt COST Model or REVALUATION Model. Since the company has adopted COST Model, it does not have to revalue the company properties when the values are increasing. And since the cost (of fixed assets) is fixed and they are adopting WDV method, the depreciation for subsequent years tend to reduce year after year.

Note (for reader)

The question does not state the applicable financial reporting framework of the company.

ekkarill92 answered 7 months ago

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