Question

1. On 1 January 2013, Grove Limited acquired and installed a machinery for use in its manufacturing business. When acquired, the machinery cost £1,200,000, had an estimated useful life of 10 years and an expected residual value of £200,000. Grove depreciates machinery on a straight-line basis over its useful life. The company follows a calendar year reporting period.

At 31 December 2014, the annual review of all machinery found that this particular item of machinery had incurred significant damage. As a result, the engineering department estimated the fair value less costs to sell the machinery at this date was £710,000. As the machinery can operate in a limited capacity, it could be expected to provide annual net cash flows of £105,000 for the next 8 years, while the expected residual value will remain unchanged. The relevant discount rate is 8%.

1. Which IFRS standard would you consult to account for the event that occurred on 31 Dec. 2014? (0.5 point)
2. What is the difference between such an event and the depreciation of machinery? (1.5 points)
3. Show the relevant steps to test for the accounting impact of this event, and provide the appropriate journal entry, if necessary. (4 points)

Answer 1

a. IAS 16 of IFRS will be consulted to account for the event that occurred on 31st Dec.2014.

b. What is the difference between such an event and the depreciation of machinery, This may mean that an event occurred that damaged the machine. And impact of that damage on Depreciation to be provided for, on the damaged machine. that is to so that on damaged machine depreciation is whether to be charged on the full machinery cost OR on cost as reduced on damage. (Depreciation will be charged on historical machinery cost and not on rduced / damaged cost.)

c) If the machinery is not fully damaged then no entry is required to be passed. Repair cost if increases the efficacy of machine to be capitalized with machinery and Depreciated with the machine.

Journal Entry on Repair in above case:

Machine A/c Dr. XXXX

To Cash/bank/accounts Payable Cr. XXXX

(Credit either cash or bank or account payable as the case maybe)

Repair of Machine to bring the same at original position

Journal Entry on Repair in above case:

Repairs & Maintenance A/c    Dr. XXXX

To Cash/bank/accounts Payable Cr. XXXX

(Credit either cash or bank or account payable as the case maybe)

For reduction in cost of Machine due to damage no journal or other accounting entry is required.