Question

Clean Aire Anti-Pollution Company is suffering declining sales of its principal product, non-biodegradable plastic cartons. The president, Wade Truman, instructs his controller, Kate Rollins, to lengthen asset lives to reduce depreciation expense. A processing line of automated plastic extruding equipment, purchased for $3.5 million in January 2022, was originally estimated to have a useful life of 8 years and a salvage value of $400,000. Depreciation has been recorded for 2 years on that basis. Wade wants the estimated life changed to 12 years total and the straight-line method continued with no change in the salvage value. Kate is hesitant to make the change, believing it is unethical to increase net income in this manner. Wade says, “Hey, the life is only an estimate, and I’ve heard that our competition uses a 12-year life on their production equipment.”

Instructions

Who are the stakeholders in this situation?

Is the proposed change in asset life unethical, or is it simply a good business practice by an astute president?

What is the effect of Wade’s proposed change on net income in the year of change?

Answer 1

a) The stakeholders in this situation are President, the controller, and the shareholders of the firm. The president and the controller are directly involved in estimating the depreciation expense to be charged to the income statement. The shareholders are involved indirectly since the depreciation expense affects the income statement and net profit available to the shareholders.

b) The suggested change in asset life is a shrewd business practice by astute president. The estimated life of the asset is used to once advantage to change the business results and it is a shrewd business practice.

c) Depreciation expense is an expense charged for usage of asset in the business for generating revenue. The increase in estimated life of the asset decreases the depreciation expense and increase the net income for the period. The change in depreciation expense must in accounted in line with change in accounting estimate and change in accounting policy for depreciation on assets.

The net income will increase by $155,000 for the year based on below working.