Question

Fred Meyer wishes to exchange a unique piece of machinery used in its operations. Fred Meyer has received three offers from other companies in the industry, each of which lacks commercial substance:

Oryx Energy offered to exchange a Franklin desalination water system, and pay $20,900.
Sara Lee offered to exchange a Komatsu 120-ton truck, and pay $62,600.
Dyna-Flex offered to exchange a Massey-Ferguson front-loader, and pay $19,800.

Information concerning each of the assets to be exchanged is noted below:

	Cost	Accum Depn	Fair Value
Fred Meyer--unique piece of machinery	$        330,000	$        265,000	$        181,200
Oryx Energy--Franklin desalination water system	265,000	182,300	160,300
Sara Lee--Komatsu 120-ton truck	330,000	265,000	118,600
Dyna-Flex--Massey-Ferguson front-loader	150,000	65,000	161,400

Based on the three offers above and assuming Fred Meyer uses the straight-line method of depreciation with a salvage value of $1,100 an estimated useful life of 11 years, what is the annual depreciation expense of the exchanged asset that produces the least amount of depreciation expense for Fred Meyer in future years?

Answer 1

The transaction given in question lacks commercial substance so the value of the newly acquired asset will be Fair value of the asset given up and reduced by any cash received.

Below is the calculation of book value of new asset in each case (Value of New asset = Fair Value of Old machine - Cash Received) :

As Fred Meyer wishes to acquire asset that produces the least amount of depreciation expense for him in future years so he will choose offer of Sara Lee as it will have least depreciation of 8781.8 in each year.

Depreciation per year for all offers {(Value of Asset-Salvage Value)/Life = Depreciation Per Annum} :