Beechy7e Vol 1 SM Ch10

Chapter 10: Depreciation, Amortization, and
Impairment
Suggested Time
Case 10-1 Bright Lights Limited
10-2 Rock Group Limited
10-3 Road Safety Incorporated
Technical Review
TR10-1 Depreciation Decision................................................ 5
TR10-2 Depreciation............................................................... 15
TR10-3 Depreciation Estimates.............................................. 15
TR10-4 Component Depreciation........................................... 10
TR10-5 Fractional Deprecation............................................... 15
TR10-6 Recoverable Amount................................................. 5
TR10-7 Impairment................................................................. 5
TR10-8 Assigning Impairment to Assets................................ 15
TR10-9 Minimum Depreciation test....................................... 5
TR10-10 CCA........................................................................... 10
Assignment A10-1 Depreciation Policy.................................................... 10

A10-2 Interpreting Depreciation Disclosures (*W) ............. 5
A10-3 Valuation Models (*W)............................................. 15
A10-4 Depreciation or Amortization Policy......................... 15
A10-5 Amortization or Impairment...................................... 15
A10-6 Component Depreciation........................................... 20
A10-7 Standby Assets and Spare Parts................................. 20
A10-8 Depreciation Computation (*W)................................ 20
A10-9 Depreciation Schedule............................................... 25
A10-10 Analysis of Three Depreciation Methods—Maximize
Earnings............................................................. 20
A10-11 Identify and Recalculate Depreciation ...................... 20
A10-12 Depreciation and Depletion—Schedule, Entries ….. 25
A10-13 Component Depreciation.......................................… 20
A10-16 Fractional Depreciation.............................................. 20
A10-17 Fractional Depreciation ............................................. 25
A10-18 Comprehensive Intangibles—Accounting and
Amortization (*W)............................................. 20
A10-19 Asset Impairment–Five Situations............................. 20

A10-20 Asset Impairment ...................................................... 15
© 2017 McGraw-Hill Education. All rights reserved.

Solutions Manual to accompany Intermediate Accounting, Volume 1, 7th edition 10-1
A10-21 Asset Impairment (*W).............................................. 15
A10-22 Asset Impairment....................................................... 15
A10-23 Goodwill Impairment................................................. 20
A10-24 Goodwill Impairment................................................. 20
A10-25 Statement of Cash Flows........................................... 15
A10-26 Comprehensive Long-lived Asset Transactions and
Depreciation....................................................... 40
A10-27 CCA Calculations (Appendix 1)................................ 25
A10-28 Revaluation Model (Appendix 2)….......................... 25
A10-29 Asset Impairment (ASPE).......................................... 15
A10-30 Asset Impairment (ASPE).......................................... 15
*W The solution to this assignment is on the text website, Connect.

This solution is marked WEB.
© 2017 McGraw-Hill Education. All rights reserved

10-2 Solutions Manual to accompany Intermediate Accounting, Volume 1, 7th edition
Cases
Case 10-1 Bright Lights Limited
Overview
Bright Lights Limited (Bright) is a relatively young company involved in manufacturing

solar devices. The company is in the development stage, and must be viewed as a high
risk situation because of uncertainties related to technology and the difficulties involved
in establishing a viable operation.
Bright might be a possible take-over target in the future. More immediately, Bright is in
discussions with potential investors and, as such, will benefit from adopting accounting
policies that strengthen the financial statements. The debt-to-equity level is important to
this group of potential investors, as is return on assets (in 20X7 and beyond). The
company’s current cost of borrowing of 9% suggests creditors attach a moderate level of
risk to Bright.
The company has adopted IFRS and should select very conservative accounting policies
because of their risk profile.
Issues
1. Depreciation
2. Government assistance
3. Decommissioning asset and asset retirement obligation
4. Development costs
Analysis and recommendations
1. Depreciation
Bright is depreciating the entire building despite only using 40% of it. The building will
not be fully utilized until 20X7. Assets are not depreciated before they are in use and as a
result only 40% of the building should be depreciated. This will result in depreciation
from 20X4 to 20X6 of $3,360 (($210,000/25)×.4) rather than $8,400($210,000/25).
Starting in 20X7, depreciation expense will be $9,087 (($210,000 – ($3,360 ×3))/22).
This is an error correction that must be corrected on a retrospective basis, with

restatement of 20X4 financial statements.
The building is subject to an impairment test. This is a control on charging too little
deprecation. If, for example, the building were not fully used but was becoming obsolete
or had no alternate use, it would have to be written down through an impairment.
Accordingly, the recoverable amount of the building must be ascertained through fair
value appraisal or value in use (discounted cash flow). There is no information to suggest
that impairment is needed.
2. Government assistance
Government assistance received towards the purchase of the building may be accounted
for using either the deferral method or the net method. Bright is currently using the
deferral method in which the full amount of the government assistance is initially
recorded as a liability on the SFP. The liability and depreciation expense are each
reduced over the life of the building. Under the net method, the government assistance is
initially offset against the cost of the building, resulting in lower amounts for assets and
liabilities. There is no difference between the two methods in terms of the impact on
depreciation expense. If Bright’s current creditors or potential investors evaluate the
company using debt-to-equity or return on asset ratios, then it would be better for Bright
to use the net method of accounting for the government assistance because the ratios
would improve. This change in accounting policy can be justified because it is more
relevant to users.
In addition, since only 40% of the building is being depreciated, only 40% of the annual
amount of government grant should be recognized. This is $800 (($50,000/25)×.4) rather
than $2,000. Later recognition will be higher, at $2,164 (($50,000 – ($800 ×3))/22) per
year, assuming that commercial production starts as scheduled in 20X7
3. Decommissioning and asset retirement obligation
At the beginning of 20X4, Bright made a promise to remove waste management tanks by
the end of 20X13, at an estimated cost of $90,000. This was a public commitment, and it
is reasonable to suggest that the community will rely on the statement. The commitment,
and the amount, is now disclosed in the notes. It will be expensed in 20X13, when the
money is spent.
However, since Bright has created an expectation for outsiders there is a constructive
obligation. Bright is required to set up a liability for the present value of the estimated
cost associated with the future land enhancements. To calculate this liability, Bright
would use a discount factor associated with the risk of the underlying liability. In the
absence of that specific information, Bright’s incremental cost of borrowing of 9% will
be used. The initial recording of the asset retirement obligation will also increase the cost
of the related asset which will then depreciate, causing additional expense. Over the life
of the obligation, the liability will be increased and finance charges recorded on the SCI.
Merely disclosing this commitment in the notes to the financial statements is not
adequate.
There are two views as to when this liability actually exists and should be recorded. One
view is that the need to clean up waste management tanks only exists once the waste
management tanks are installed and put into use in 20X6/20X7. Accordingly, the
constructive obligation would be recorded in 20X6 when the tanks are installed.
Installation of the tanks is the triggering event; the $90,000 commitment is therefore
recorded in 20X6 and the term is seven years, assuming that the tanks are installed at the

end of 20X6. The initial present value, recorded as an increase to the asset and as a
liability, is therefore $49,233.
The other view is that the obligation exists when the promise was made and an
expectation created for outsiders. This occurred at the beginning of 20X4, ten years
before land restoration will happen. This is two years before the waste management
tanks are installed. Therefore, the costs will be associated with an intangible asset, land
access rights, which provide a benefit to Bright for ten years. These rights have a finite
life of ten years, which will be the depreciation and interest period. The initial present
value, recorded as an increase to the asset and as a liability, is therefore $38,017. This is
an error correction that must be corrected on a retrospective basis, with restatement of
20X4 financial statements to include interest and depreciation expense.
Overall, the arguments for 20X6 recognition of the asset retirement obligation appear
stronger. This is because the triggering event is the commencement of commercial
production; before this time, there is no environmental issue to address. This increase in
liabilities and increase in expenses over the duration of the obligation will have a
negative impact on the financial statements and related ratios.
4. Development costs.
From the text:

The following criteria must all be met for a development asset to be capitalized:
1. The asset must be proven to be technologically feasible so it will be
available for sale or use;
2. Management must have the intent to complete and then produce and market,
or use, the asset;
3. The entity must be able to use or sell the asset;
4. The probable future economic benefits for (or external market or internal
usefulness) of the product or process is clearly established;
5. Adequate resources exist, or are expected to be available, to complete the project; and
6. Costs can be reliably measured.
Up to this point, Bright fails one or more of these criteria and expenses. However, they
are making progress toward commercial production and might be able to begin
capitalization. Looking at the criteria, management intent is certainly clear, they intend to
sell the product, adequate financing is in place, and costs should be measurable. The two
remaining factors must be explored. The company should determine whether they have
technological feasibility in 20X5, and adequate proof of a market. If so, capitalization of
development costs, but not operating costs, is appropriate.
This will increase assets and reduce the reported losses, improving the debt-to-equity
ratio. Since the capitalized development expenses would be amortized once operations
begins, 20X7 earnings would be lower than if the current policy is continued. With
capitalization, assets are higher and earnings with amortization are lower, so return on
assets will be lower. Bright may prefer to expense.
Conclusion
Bright will be dealing with many new issues as the nature of their operation changes from
a development company to an operating company. Bright must carefully manage its
accounting policies to avoid misstatement. They must also understand the effect of their
financial statements on their user groups, including both lenders and equity investors.
They would be wise to have a clear understanding of the expectations and success
measures that will be used to judge their progress.

Case 10-2 Rock Group Limited
TO: Wendy Wonders, CFO of Rock Group Limited (“RGL”)

FROM: Accounting Advisor
RE: Scrulox Screws Inc. (“SSI”) Transactions
Prior to analyzing the accounting of the significant transactions of SSI, I

considered the users of their financial statements and their objectives, as
well as the reporting constraints. These considerations provide a context to
frame the accounting analysis.
SSI’s fiscal 20X2 financial statements will be primarily used by the

management of RGL and the owners of SSI, as the basis for determining the
sale price of SSI.
As the seller, SSI will seek to obtain a high selling price and therefore may
attempt to overstate net income – the basis upon which the selling price is
calculated. Specifically, Wally, as the primary shareholder of SSI, has a
vested interest in increasing net income to maximize the amount he
personally receives from the sale. As the bookkeeper, Wally has the ability
to increase net income through the selection of accounting policies, choices,
and estimates and may be biased towards his objective. In analyzing the
various transactions, I have remained cognizant of this potential bias.
As the purchaser, you have an interest in paying the lowest price possible,
and therefore have an objective to lower SSI net income.
A secondary user of their financial statements is the Canada Revenue

Agency, who will use the financial statements to determine if the
appropriate amount of tax has been paid by SSI.
Based on the information provided, there is no evidence that the

Government of Ontario will be using SSI’s financial statements to make any
decisions based on the financial statements, and therefore the Government is
not considered a financial statement user.
As a professional, I have an ethical obligation to ensure that my analysis is

supportable and complies with the identified reporting constraints
(discussed below). As I have been engaged to analyze the SSI transactions
on behalf of RGL, I will consider RGL as the primary user and as such will
ensure to identify accounting opportunities (when facts allow or alternatives
exist) that will enable your company to ethically reduce SSI net income,
supporting a lower purchase price. However, due to the conflicting financial
reporting objectives, the final determination of the appropriate accounting
for each SSI transaction may need to be negotiated as part of the final
purchase price negotiation. To support your negotiation efforts, I have
supported all conclusions with a detailed analysis.
As SSI is a private company reporting under Accounting Standards for
Private Enterprises (“ASPE”), my analysis will comply with ASPE.
However, as RGL, a public company, must report under International
Financial Reporting Standards (“IFRS”), and will need to consolidate the
results of SSI in the future (refer to control analysis below); the accounting
implications under IFRS are also addressed.
ANALYSIS:
Controller Contract
Issue: How to account for the Controller contract commitment.
Analysis:
As of year-end, the commitment is viewed as an executory contract – a contract wherein neither
party has yet fulfilled the requirements of the contract.
A commitment to make payments in the future is only recognized if the commitment meets the
definition of a liability, is measureable, and probable to occur. One element within the definition
of a liability considers if “the transaction or event obligating the entity has already occurred”.
As the Controller will only start work on February 1, 20X3 (i.e. the next fiscal year), and as of
year-end has not rendered any services, no transaction or obligating event has occurred.
Conclusion:
As of year-end, the Controller contract commitment does not meet the definition of a liability. It
does not appear that Wally has recorded a liability and therefore no adjustment is required,
resulting in no implications to the financial statements.
In the next fiscal year, once the Controller starts working, her salary would be considered a cost
of the period and recorded as an expense. Any unpaid salary as of period-end would be recorded
as an accrued liability.
IFRS
The accounting under IFRS is consistent with ASPE.
Barrie Plant
Issue: Is the Barrie plant impaired as a result of the new plant opening? If so, what is the
impairment?
Analysis:
Under ASPE, long-lived assets are tested for impairment whenever events or changes in
circumstances indicate that the assets carrying amount may not be recoverable.
Indicators of Impairment
Indicators of impairment exist for the Barrie plant. The opening of the new plant in Hamilton is
projected to reduce the cash-flows of the existing Barrie plant by about two times – a significant
decline in cash flows, likely resulting from lower production and/or selling prices. As the plant is

scheduled to be shut-down in five years, the current carrying amount of the plant of $25 million
may not be recoverable through use and eventual disposition.
Grouping of Assets
The Barrie plant (plant and all equipment) is assumed to be an asset group because the entire
plant is presumed to function together to generate independent cash flows.
Impairment Testing
Even though indicators of impairment exist, the carrying amount of the Barrie plant is deemed to
be recoverable because the sum of the undiscounted cash-flows expected from the plants use are
25 million (5 years x 5 million /year) an amount equal to the carrying amount.
Conclusion:
The Barrie plant is not impaired.
However, I suggest that the useful life and the residual value of the plant and all corresponding
assets be adjusted to reflect the expected shut-down in five years. Revising the useful life of the
assets to a maximum of five years (i.e. the maximum period over which the assets are expected to
contribute to the future cash flows of the plant) will increase depreciation expense and therefore
lower net income, lowering the selling price of SSI, consistent with your objective.
IFRS
Under IFRS, the Barrie plant would be considered impaired because the IFRS value-in-use model
considers discounted cash flows not undiscounted cash flows. An impairment loss of about
$5.036 million [25 million - $5 million x (P/A, 8%, 5)] would need to be recorded. The bank
borrowing rate of 8% is assumed to reflect the risks inherent in the Barrie plant assets and the
time value of money.
However, on acquisition of SSI, RGL will record the plant (including its assets) at fair value of
$19 million. Since the carrying value to RGL, established on acquisition, will reflect fair value,
no impairment will be present.
Government Grant
Issue: How to present the receipt of the government assistance?
Analysis:
Wally has recorded the entire $10 million in revenue, which is incorrect because the Government
of Ontario assistance was provided for a variety of purposes, including:
1. Capital – Acquisition of new manufacturing equipment.

2. Capital – Payroll costs of those individuals directly involved in the construction of the
new Hamilton plant, such as architects and construction workers, for which the salary
costs would be capitalized to the cost of the new plant as they are costs directly incurred
to build the plant and thus comprise part of its cost.
3. Non-Capital - Individuals indirectly involved in the project such as the marketing
personnel, for which the salary costs would be considered a cost of the period (because
such costs would not qualify as an asset) and expensed as incurred.

The presentation of such assistance should reflect the purpose for which the assistance is meant to
provide. As such, the $10 million must be allocated to the various purposes, as noted above, and
presented accordingly.
Capital
As a policy choice, government assistance towards the acquisition of the manufacturing
equipment and capital related payroll costs can be either:
 deducted from the related fixed assets with any depreciation calculated on the net amount; or
 deferred and amortized to income on the same basis as the related depreciable fixed assets are
depreciated.
If the amount allocated to capital related payroll costs (#2 above) has not yet been incurred, an
appropriate amount should be deferred and recognized in line with the policy choice above only
when incurred. For example, if $1 million of the total assistance is deemed to relate to capital
related payroll costs and as of year-end only $200,000 of such payroll have been incurred,
$200,000 should be recognized in line with the policy choice above and $800,000 of the
assistance should be recorded as a liability to be recognized once related costs are incurred.
Non-Capital
Government assistance toward current or previously incurred payroll expenses should be included
in the determination of net income for the period. However, if a portion of the non-capital payroll
expenses has not yet been incurred, an appropriate amount should be deferred and amortized to
income as the related expenses are incurred.
Conclusion:
The recognition of the entire $10 million of government assistance in revenue is incorrect
because only a portion of the assistance may relate to current year non-capital expenditures.
I recommend that further investigation is conducted regarding intent of the government assistance
and appropriate estimates made to allocate and present the assistance in line with its purposes.
Any adjustment will decrease net income, in line with your objective.
For preliminary analysis purposes, I have excluded the entire $10 million from net income.
IFRS
Catalogues
Issue: Is it appropriate to defer expense recognition for the cost of the catalogue until 20X3?
Analysis:
Under ASPE, services are received when they are performed by a supplier in accordance with a
contract to deliver them to the entity and not when the entity uses them to deliver another service
(for example, to deliver an advertisement to customers) [S.3064.53A]. ASPE however does not
preclude an entity from recognizing a prepayment as an asset when payment for services has been
made in advance of the entity receiving those services.
The future benefit of the $80,000 payment is realized on October 5, 20X2, when the services of
printing the catalogues are received by SSI (i.e. when they are performed by Print Inc. and
delivered to SSI) and not when SSI uses them to deliver the catalogues to their customers. Once

the catalogues have been printed and delivered to SSI, no measurable future benefit remains
because the catalogues are a form of advertisement for which the future benefit cannot be reliably
measured. As such, the payment should be expensed on October 5, 20X2.
Wally may argue that the future benefit of the $80,000 payment is realized when the catalogues
are delivered to the end customer. At this point, the company relinquishes control of the
catalogues in order to receive the benefit of delivered advertising to its end customer. Prior to this
point, the cost qualifies as an asset, as much as any cost incurred prior to the receipt of benefit,
such as prepaid insurance and prepaid rent. However, such an argument, though persuasive,
would be contrary to ASPE guidance.
Conclusion:
The $80,000 cost of catalogues should be recognized as an expense in fiscal 20X2, lowering net
income and therefore lowering the selling price of SSI, consistent with your objective.
IFRS
Inventory Theft
Issue: What is the amount of the inventory loss?
Analysis:
On March 24, 20X2, SSI’s Estevan, Saskatchewan plant was the victim of theft. The amount of
inventory stolen can be estimated using the Gross Margin Method as follows:
Beginning Inventory + Purchases – Cost of Goods Sold = Ending Inventory

1.8 + 1.3 - 0.592 = 2.508
As of the last inventory count on December 31, 20X1, the plant had $1.8 million worth of
products. Purchases during the period are noted to be $1.3 million. SSI’s records indicate that
sales from January 1 to March 24th were $1.48 million. As the company has a consistent gross
margin of 60% on all sales, the cost of goods sold is estimated to have been $0.592 million.
SSI needs to establish the amount of inventory left. If it was all stolen, their loss is $2.508
million. They would record an inventory write-off of $2.508 million in fiscal 20X2, increasing
expenses and lowering net income.
At the same time, SSI should file an insurance claim for the same amount.
SSI may reasonably argue that the loss on the income statement should be reduced as a result of
the proceeds to be received from the insurance company. However, RGL can argue that
recognition of the insurance proceeds should not occur until the insurance company has assessed
the claim and the claim proceeds can be reasonably measurable, which will likely be in fiscal
20X3.
Conclusion:
SSI must record the $2.508 million write-down to inventory as the inventory no longer exists, due
to theft. The write-down will decrease net income, lowering the selling price of SSI, consistent
with your objective.

The amount of loss to be recorded on the income statement is debatable. If we argue that no
recognition of the insurance proceeds should occur until the insurance company assesses the
claim, we should then be willing to reimburse SSI accordingly for any future proceeds that are
received.
IFRS
Under IFRS, SSI may be able to recognize the insurance reimbursement sooner than under ASPE.
Under IFRS, a reimbursement right is recognized as a separate asset when recovery is “virtually
certain”.
Unlike IFRS, under ASPE reimbursements generally are not recognized in the balance sheet until
actually realized. However, as an exception, if a reimbursement is in respect of a recognized loss,
then it is recognized when recovery is “likely”. Under ASPE, a likely loss to an enterprise may be
reduced or avoided by a counterclaim or a claim against a third party. In such a case, the amount
of the likely recovery is an element of the likely loss and, therefore, would be taken into account
in determining the amount to be recognized in the income statement. However, if the probability
of success in the related action is less than likely, a potential recovery would not be taken into
account. Contingent gains are not recorded until realized.
Like IFRS, the recovery is recognized as a separate asset and is not offset against the related
liability in the balance sheet.
Vacant Land
Issue: Is the revaluation of land, to fair value, appropriate?
Analysis:
Wally has recorded land at fair value at the balance sheet date, contrary to the cost measurement
principle of ASPE.
Under ASPE, property, plant and equipment is recorded at cost and subsequently amortized and
tested for impairment (when indicators of impairment exist). Revaluation of land to fair value is
not permitted (unless the land is part of a comprehensive revaluation of all assets and liabilities –
which is not the case).
Due to appreciation of the land over the years, the current year revaluation has resulted in a $5
million gain, which has increased net income.
Conclusion:
The revaluation of the land to fair value is not appropriate and the $5 million unrealized gain
must be reversed, lowering the land carrying value back to its original cost amount and reducing
net income (i.e. gain reversed), lowering the selling price of SSI, consistent with your objective.
IFRS
Under IFRS, the vacant land would likely meet the definition of “investment property” - property
(land or a building or part of a building or both) held to earn rentals or for capital appreciation or
both. Land held for undetermined future use is an explicit example of investment property within
the standard. As such, the land would be eligible to be fair valued, with gains/losses recorded in
net income.

Even if the land did not qualify as investment property, SSI could elect to revalue the land asset
class (in its entirety) using the revaluation model of IAS 16. However, unlike the above
treatment for investment property, the gain would be recorded outside of net income, in other
comprehensive income.
Business Combination – Purchase of SSI
Issue: What is the initial and subsequent accounting for SSI?
Analysis:
Initial Accounting
After considering the various accounting adjustments discussed above, SSI net income is adjusted
to about $8.4 million, resulting in a purchase price of $16.8 million (refer to Appendix 1), which
is significantly lower than the preliminary purchase price of $52 million.
This is a material difference. It is questionable whether the deal would continue on this basis,
since this amount is less than the book value of assets 9see below)
If after negotiation, the selling price is agreed to be $16.8, negative goodwill of $33.97 million
will arise (refer to Appendix 2). Again, a purchase at this price seems unlikely.
Prior to recording any negative goodwill as a gain in the income statement, I suggest a
reassessment be conducted of the calculated fair values of net assets, including the patent.
Subsequent Accounting
By purchasing 100% of the common share of SSI (presumed to be fully voting and participating
shares), RGL will be a controlling shareholder with the unilateral power to direct the significant
activities of the company, including the operating and financing policies. As a controlled
investee, SSI will become a subsidiary of RGL. Under ASPE, RGL must develop a policy to
either i) consolidate subsidiaries or account for them using ii) the Equity Method or iii) Cost
Method. This policy would need to be applied consistently – to SSI and any other future
subsidiaries.
IFRS
Unlike ASPE, subsidiaries must be consolidated under IFRS – no policy choice exists.
Conclusion:
Refer to Appendix 1 and Appendix 2 for detailed calculation on the purchase price and negative
goodwill.
I recommend you contact SSI to commence negotiation regarding the identified accounting issues
and the proposed resolution to those issues. SSI and particularly Wally may not be receptive to
our feedback as many of our conclusions will result in lowering net income and therefore the
selling price of SSI. Please use this report as a basis to commence discussions.
If you have any questions regarding my analysis, please contact me at your convenience.

Appendix 1: Purchase Price Calculation
Purpose: To determine SSI adjusted net income based on accounting analysis conducted and calculate the
purchase price of SSI.
Net Income: $ 26,000,000
Adjustments
Government Grant (preliminary): $ (10,000,000)
Catalogues $ (80,000)
Inventory Theft $ (2,508,000)
Vacant Land: $ (5,000,000)
Adjusted Net Income: $ 8,412,000
Purchase Price Formula

( 2 x Net Income) 2
Purchase Price $ 16,824,000
Conclusion:
The purchase price of SSI is $16,824,000 which is significantly lower than the preliminary suggested price
of $52,000,000.
Appendix 2: Purchase Price Allocation
Purpose: To allocate the purchase price and determine the amount of goodwill or negative goodwill.
Consideration Paid $ 16,824,000
Net Assets Received

Recognized Fair Value of Net
Assets $50,000,000
Patent $ 800,000 $ 50,800,000
Negative Goodwill $ 33,976,000
Conclusion:
Negative goodwill of $33,976,000 arises.
Prior to recording the gain in net income (of RGL), an analysis should be conducted to reassess the fair
value of net assets (including the patent).
The basis of negotiation may have to be adjusted.
Case 10-3 Road Safety Incorporated

Overview
This case identifies accounting policies that were selected by a new employee that has a
motivation to maximize net income to maximize the amount of the bonus he will receive.
In addition, the bank has a covenant with a maximum debt to equity ratio so there is the
motivation to minimize debt and maximize equity. It must be considered whether the
accounting policies selected are in accordance with GAAP first using IFRS and secondly
as a private company using ASPE. Ethics are critical to consider in the evaluation of the
accounting policy.
Issues
1. Valuation basis for land and building
2. Warranty
3. Deferred tax
4. Goodwill
5. Non-monetary transaction
6. Major spare parts
Analysis
For each issue the appropriate accounting policy using IFRS will be discussed then any
difference if ASPE was selected.
1. Valuation basis for land and building
Part A
The vacant land would qualify for investment property since it is being held for capital
appreciation. The building would not qualify as investment property since it is being used
in the operations of the business. The land and building could both be shown at fair value.
The land could use the fair value model as investment property (IAS 40) and the building
could use the revaluation model in property, plant and equipment (IAS 16). However,
only changes to the land will go into net income and the land would not be depreciated.
The building would still be depreciated in the revaluation model and increases in value
would go into other comprehensive income and then the revaluation surplus. Any
appreciation in value would not impact earnings until the building was sold.
The accounting policy suggested by Tom is incorrect for the building but correct for the
land. This would have a negative impact on Tom’s bonus.
Part B
If ASPE were selected the land and building would be valued using cost. The land would
not be depreciated. The building would be depreciated. Any appreciation in value would
not impact the income statement until the land or building was sold.
2. Warranty

Part A
The warranty is not a separate performance obligation. It is not a stand-alone contract and
is meant only to ensure that the product is working as designed. There is no need to
bifurcate the revenue contract on initial recognition. The warranty would be a provision
which should be recognized in the period in which the product has been purchased. The
provision would be determined by estimates based on past history. The amounts may be
small if there are few or any warranty costs.
The accounting policy recommended by Tom is incorrect. The estimated liability would
have a negative impact on the debt to equity ratio and Tom’s bonus.
Part B
If ASPE were selected the accounting policy would be the same since warranty costs are
estimated and recognized at the time the related revenue is recognized.
3. Deferred Tax
**(Note to instructors students likely have little or no knowledge on deferred tax at this
point in the course. It is at discretion of instructor whether this issue should or should not
be included)
Part A
The liability method is required for income tax. This would mean that deferred tax
liabilities must be recognized. Deferred tax assets are only recognized if it is probable
that there will be sufficient taxable profit to use the benefit. However, losses would likely
be recognized as a deferred tax asset since our company becomes profitable.
Tom’s recommended policy is incorrect since the recognition of deferred tax is not
optional. Any deferred tax liabilities would have a negative impact on the debt to equity
ratio. However, the bank often does not consider deferred taxes (in their covenant
calculation). This must be clarified with the bank.
Part B
If ASPE are selected then the liability method would not have to be used. The company
could elect to use the taxes payable method. However, it is only under the liability
method that the tax losses could be recognized as a future tax asset if the more likely than
not provision was met. If this method was selected future tax liabilities would also need
to be recognized.

4. Goodwill
Part A
There are two issues with the recommended accounting policy selected by Tom. Internal
goodwill cannot be recognized therefore RI should not have any existing goodwill on the
books since this is the first year that a company has been purchased. Goodwill must be
tested for impairment on an annual basis. Therefore, Tom’s accounting policy is
incorrect. Existing goodwill must be removed from the Statement of Financial Position.
Part B
The accounting policy would be identical using ASPE in that internal goodwill would not
be recognized. However, in these standards, testing goodwill for impairment does not
need to occur on an annual basis only if an event or circumstance indicates impairment.
5. Non-monetary transaction
Part A
This is a non-monetary transaction. Valuation is an issue. The starting point would be to
use the value of the technology received unless the value of the shares is more
determinable. It would need to be determined if the fair value of either the shares or the
technology could be estimated using a valuation model. If neither value is determinable
which is indicated based on the information that we have the technology should be
recognized at the book value of the shares.
Part B
Under ASPE, the accounting policy would be to look first at the fair value of the shares
unless the fair value of the patent was more reliable.
6. Major spare parts
Part A
Major spare parts and inspections or overhauls are recognized as a separate component
and depreciated over the period until the spare part will be replaced or the next overhaul.
Straight line depreciation is an appropriate method as long as it reflects the pattern of
consumption of benefits.
Tom is incorrect in his accounting policy. This will likely increase depreciation expense
and reduce net income and Tom’s bonus.
Part B
ASPE would not require the use of component accounting (if not practical and when
reliable estimates of useful lives of separate assets cannot be made).
Overall recommendation

It appears that Tom may have been motivated by his bonus and / or the covenant to select
incorrect accounting policies. These do not appear to be ethical decisions.

Technical Review
Technical Review 10-1
a. Goodwill. Not depreciated; indefinite life
b. Trademark with a remaining life of Not depreciated; indefinite life

ten years but renewable for an
infinite period; expected to be used
indefinitely.
c. Customer lists. Not depreciated; indefinite life

(if assumed to have a definite life, must be
amortized)
d. Machinery. Depreciated; finite life
e. Land expected to be held for twenty Not depreciated; indefinite life

years and then sold.
f. Site restoration costs with respect to Depreciated; finite life

the land in e.
g. Buildings, accounted for using the Depreciated

revaluation method.
h. Rental property, accounted for Not depreciated; indefinite life

using the fair value method
i. Vines (winery). Biological asset but exempt and recorded at
cost and depreciated (bearer plants)

Requirement 1
Depreciation Schedule – Straight-line Method
Depreciation Accumulated Net Book

Year Expense Depreciation Cost Value
1 January 20x2 $500,000 $500,000

31 December 20x2 $48,000 1 $ 48,000 500,000 452,000
31 December 20x3 48,000 96,000 500,000 404,000
1 ($500,000 – $20,000) × 1/10
Requirement 2
Depreciation Expense — Productive Output Method

1 January 20x2 $500,000 $500,000

31 December 20x2 $90,000 1 $ 90,000 500,000 410,000
31 December 20x3 72,0002 162,000 500,000 338,000
1 ($500,000 – $20,000)/800,000 =$.6 per unit; 150,000 units x $.6 = $90,000

2 ($500,000 – $20,000)/800,000 =$.6 per unit; 120,000 units x $.6 = $72,000
Requirement 3
Depreciation Schedule — Declining Balance Method

1 January 20x2 $500,000 $500,000

31 December 20x2 $200,000 1 $200,000 500,000 300,000
31 December 20x3 120,000 320,000 500,000 180,000
1 Net book value × .40
Note: The required only asks for depreciation expense; additional information has been
provided for completeness.

Requirement 1
Year Straight-line Units of Declining balance

production
20X8
($34,000 - $8,000)/10 $2,600
(($34,000 - $8,000)/200,000) $4,420
x 34,000
$34,000 x 50% $17,000
20X9
($34,000 - $8,000)/10 $2,600
(($34,000 - $8,000)/200,000) $5,200
x 40,000
($34,000 - $17,000) x .5 $8,500
Requirement 2
Year Straight-line Units of Declining balance

production
20X8
($34,000 - $4,000)/15 $2,000
(($34,000 - $4,000)/300,000) $3,400
x 34,000
$34,000 x 50% $17,000
20X9
($34,000 - $4,000)/15 $2,000
(($34,000 - $4,000)/300,000) $4,000
x 40,000
($34,000 - $17,000) x .5 $8,500

Requirement 1
Component A $80,000/5 = 16,000

Component B $120,000/10 = 12,000
Component C $200,000/25 = 8,000
Total depreciation = $36,000
Depreciation expense................................................. 36,000

Accumulated depreciation, A................................ 16,000
Accumulated depreciation, B................................ 12,000
Accumulated depreciation, C................................ 8,000
Requirement 2
If component A was replaced at the end of year 4, the remaining value of the original part
would be $16,000 (20% of cost). The replacement would trigger a loss because the
component is not fully depreciated.
Component A (new part)........................................... 100,000

Accumulated depreciation (80%).............................. 64,000
Loss on replacement.................................................. 16,000
Component A (old part).................................. 80,000
Cash................................................................ 100,000

Requirements 1 and 2
Year Month Half year Full first year Final year

20X3
(($90,000 - $10,000)/5) $12,000
x 9/12
(($90,000 - $10,000)/5) $8,000
x 6/12
(($90,000 - $10,000)/5) $16,000
$0
20X4 $16,000 $16,000 $16,000 $16,000
20X5 $16,000 $16,000 $16,000 $16,000
20X6 $16,000 $16,000 $16,000 $16,000
20X7 $16,000 $16,000 $16,000 $16,000
20X8 $8,000 $0 $16,000
(($90,000 - $10,000)/5) $4,000
x 3/12
Requirement 3
Year Month Half year Full first year Final year

Proceeds, 20X6 $6,000 $6,000 $6,000 $6,000
Net book value, 20X6

($90,000 – ($12,000 + $30,000
($16,000 x 3))
($90,000 – ($8,000 + $34,000
($16,000 x 3))
($90,000 – ($16,000 x $26,000
4))
($90,000 – ($16,000 x $42,000
3))
Loss on sale $24,000 $28,000 $20,000 $36,000
The amounts are different because different amounts of depreciation have been expensed.

Requirement 1
The recoverable amount is the higher of:

1. fair value less costs to sell $155,000, and
2. value in use $148,000.
The recoverable amount is therefore $155,000.

This value is then compared to the carrying amount of the asset $175,000.
Requirement 2
The amount of the impairment is $20,000 ($175,000-$155,000).
Requirement 1
The recent health studies would be an indication that there may be impairment. The
recoverable amount is the higher of fair value less costs to sell (which cannot be
determined) and value in use of $17,000.
The recoverable amount of $17,000 is then compared to the carrying amount of the asset
$20,000.
The amount of the impairment is $3,000.
Impairment loss...................................................................... 3,000

Machinery....................................................... 3,000
Requirement 2
Yes, impairment can be reversed. The amount of the reversal would be the difference
between the carrying amount had depreciation still been taken. Assuming no depreciation
then the amount of the reversal would be $3,000.
Machinery....................................................................... 3,000
Recovery of impairment loss.......................... 3,000

Requirement 1
The impairment loss is $1,000 ($2,500 less $1,500 recoverable amount)
Carrying Value Proportion Allocation of Net
(thousands) (equipment impairment book
and building loss value
only; $1,250
base)
Equipment $ 600 48% 168(3) $432
Building 650 52% 182(3) 468
Land 700 100(2) 600
Goodwill 550 550(1) --
$2,500 $1,000 $1,500
(1) Allocated first

(2) Allocated only to limit of fair value less cost to sell; ($700 - $600) If land was
included in the general write-down, it would receive ($1,000 - $550) x
($700/$1,950) = $161 of write-down and this would reduce it below its individual
fair value less cost to sell.
(3) Proportions based only on assets excluding land and goodwill. ($1,000 loss less $550
allocated to goodwill and $100 to land); $350 x 48% and 52%
Requirement 2
The impairment loss reversal is $300 ($1,800 less $1,500)

Carrying Value Proportion Allocation of Net
(thousands) (E&B only; impairment book
$900 base) loss value
reversal
Equipment $432 48% 144(3) $576
Building 468 52% 156(3) 624
Land 600 --(2) 600
Goodwill -- --(1) --
$1,500 $300 $1,800
1. Not reversed
2. Not reversed because fair value less cost to sell is not changed
3. Proportions based only on assets excluding land and goodwill.; $300 x 48% and
52%

ASPE minimum amortization test:
Calculation 1 Calculation 2
($254,000 - $125,000)/15 years $8,600

($254,000 - $2,500)/25 years $10,060
Depreciation expense is the larger amount, $10,060
CCA Class 8
20X8
Acquisitions................................................................................ $100,000
CCA for 20x5 ($100,000 × 20% × 1/2)..................................... (10,000)
UCC closing balance.................................................................. $90,000
20X9
Disposals.................................................................................... $(6,000)
Additions.................................................................................... 40,000 34,000
CCA for 20x6 ($90,000 × 20%) + ($34,000 × 20% × 1/2)...... ( 21,400)

Assignments
Assignment 10-1
This method would not be considered acceptable. A method cannot be selected just to be
conservative.
Depreciation policy of external reporting should reflect the consumption of benefits.

However, a declining balance approach is acceptable if it can be justified based on
consumption of benefits.
Some features of the CCA model – some of the high depreciation rates, the treatment of
proceeds on sale, for example - are simply not acceptable for external reporting.
In addition, for external reporting. component depreciation is required; each item of

property, plant and equipment must be separated into significant components and an
appropriate depreciation rate and method must be selected for each component if there
are components with different life spans.

Assignment 10-2 (WEB)
Requirement 1
From Note 1, depreciation is recognized under the straight-line method.
Requirement 2
From Note 1,
1/useful life = 2% 1/useful life = 6%
useful life = 50 years useful life = 16.67 years
Requirement 3
From Note 16, at 31 December 20x2 for buildings:

Book value = $194,969 – $64,545 = $130,424
Percent of useful life remaining = $130,424 ÷ $194,969 = 67%
Requirement 4
From Note 16:

Cost of machinery retired in 20x2........................................................ $16,319
Accumulated depreciation.................................................................... 12,302
Book value of machinery and equipment retired in 20x2..................... $ 4,017
Requirement 5
Depreciation on buildings, machinery for 20x2 was $44,507 ($7,422 + $37,085).

a) $44,507 ÷ $2,079,455 = 2%
b) $44,507 ÷ $187,277 = 24%

a. Cost model – Assets are recorded at historic cost. Depreciation is accounted for each
period with the exception of certain assets e.g. land, goodwill and intangible assets with
indefinite lives. Impairment factors are reviewed each year for all assets and assets are be
written down if impaired, and reinstated if impairment reverses.
b. Revaluation model – Assets are revalued to fair value periodically to reflect market
conditions. Assets are written up, with gains recorded in accumulated OCI. If gains
reverse, OCI is reversed. Impairment factors are reviewed each year for all assets. If the
asset is written down, this is treated as an impairment, and the loss is recorded in
earnings. Loss reversals are also in earnings. Depreciation is recorded each period before
a revaluation is completed. This model is only appropriate for property, plant and
equipment and intangible assets with an active market.
c. Fair value model – Assets are revalued annually to fair value. Gains and losses are
recorded in earnings. Depreciation is not recorded in this model. Impairment testing is
automatically done since fair value is recorded every reporting date. This model is only
appropriate for investment property (rental buildings).
Assignment 10-4
a) Land is not depreciated. Land improvements for site restoration costs are
depreciated, probably straight-line, but based on benefits consumed.
b) Productive-output (referred to as depletion) (industry practice)
c) Straight-line over lifespan of intangible
d) Straight-line (or perhaps productive-output if production is volatile)
e) Straight-line
f) Straight-line (the most simple)
g) Declining-balance (usage)
h) Units-of-production (usage)
i) Declining-balance
j) Declining-balance using rates close to CCA
k) Straight-line (same as parent for consolidation)

Assignment 10-5
Case A
The patent should be amortized since it has a limited lifespan to the company. The
lifespan is 8 years unless it could be resold after Year 8. The appropriate method of
amortization would be straight-line. Useful life would need to be reassessed annually.
Case B
The patent should be amortized since it has a limited lifespan to the company. The
lifespan is the 10 years or until another competitor enters the market. The appropriate
method of amortization would be straight-line. The useful life would be reassessed
annually.
Case C
The quota would have an indefinite life since the cost to renew is minimal, the company
intends to renew and quotas are difficult to obtain. The quota is not depreciated but would
be tested for impairment.
Case D
The trademark at this point has an indefinite lifespan since it is for one of the top selling
products. The trademark would not be amortized, but it would be tested for impairment.
If, at some point, the product were to have a limited lifespan, the company would begin
to amortize the trademark.

Assignment 10-6
Case A
Component depreciation would not be used for this machine. The part is $250/$25,000,
or 1% of cost, which would not be considered significant. The machine would be
depreciated over the 10 years. Replacements parts would be expensed.
Case B
Component depreciation would likely be used for this machine. The part is
$4,000/$20,000 or 20% of cost, which would likely be considered significant.
Professional judgment would need to be used. The part would be depreciated over two
years and the remainder of the machine over ten years, assuming no other significant
components. Replacement components would be capitalized and depreciated.
Case C
Component depreciation would be used for this machine. The major overhaul will be
$12,500/$50,000 or 25% of cost, which would be considered significant. The major
overhaul would be depreciated over three years and the remainder of the machine over its
useful life, assuming no other significant components.

Assignment 10-7
Case A
The first transformer would be depreciated over its useful life of 50 years. The second
transformer would be considered standby equipment. It would be considered an item of
property, plant and equipment since it is expected to be used over the same period. The
second transformer would be depreciated over its useful life of 50 years even though it
may never be brought into service.
Case B
The spare parts would start to be depreciated once they were put in use. They are not
depreciated before installation, because technological obsolescence is not a factor. At
that point they would be depreciated over 50 years.

Requirement 1
(b) Productive
Year (a)DB 30% (c) SL
Output
1 $10,800 $3,840 $5,600
2 7,560 5,760 5,600
(a) $36,000 × 30%; ($36,000 – $10,800) × 30%

(b) ($36,000 – $2,400) ÷ 210,000 = $0.16; $0.16 × 24,000; $0.16 × 36,000
(c) ($36,000 – $2,400) × 1/6 = $5,600
Requirement 2
(b) Productive
Year (a)DB 20% (c) SL
Output
1 $7,200 $3,840 $3,360
2 5,760 5,760 3,360
(a) ($36,000 × .2); (($36,000 - $7,200) × .2)

(b) ($36,000 – $2,400) ÷ 210,000 = $0.16; $0.16 × 24,000; $0.16 × 36,000
(c) ($36,000 – $2,400) × 1/10
Conclusions based on comparisons of 1 and 2:
When years of life enter directly into the depreciation calculation, changing the years of
life has a material impact on depreciation levels. For other methods, the years of life
indirectly affect the calculation (depreciation per unit of product) and may not affect
initial depreciation.
Requirement 3
Factors influencing choice of depreciation policy:

1. Nature and use of the asset
2. Corporate reporting objectives
3. Industry norms
4. Parent company preferences
5. Accounting information costs

Assignment 10-9
Requirement 1
a. Depreciation Schedule – Straight-line Method

1 January 20x5 $156,000 $156,000

31 December 20x5 $31,500 1 $ 31,500 156,000 124,500
31 December 20x6 31,500 63,000 156,000 93,000
31 December 20x7 31,500 94,500 156,000 61,500
31 December 20x8 31,500 126,000 156,000 30,000
1 ($156,000 – $30,000) × 1/4
b. Depreciation Schedule — Declining-Balance Method

1 January 20x5 $156,000 $156,000

31 December 20x5 $62,400 1 $62,400 156,000 93,600
31 December 20x6 37,440 99,840 156,000 56,160
31 December 20x7 22,464 122,304 156,000 33,696
31 December 20x8 3,6962 126,000 156,000 30,000
1 Net book value × .40

2 Limited to take NBV to $30,000; $33,696 – $30,000
c. Depreciation Expense — Service Hours

1 January 20x5 $156,000 $156,000

31 December 20x5 $35,910 1 $ 35,910 156,000 120,090
31 December 20x6 31,500 67,410 156,000 88,590
31 December 20x7 30,240 97,650 156,000 58,350
31 December 20x8 27,720 125,370 156,000 30,630
1 ($156,000 – $30,000)/20,000 = $6.30/hour; 5,700 × $6.30 and then × 5,000 hours,

4,800 hours and 4,400 hours.

Requirement 2
SL depreciation is 20% of cost ($31,500/$156,000) and 25% of depreciable cost

($31,500/$126,000).
Requirement 3
a) The 40% rate for DB was aggressive, as the equipment was almost fully depreciated
in the first three years; the last year had minimal despite the fact that the asset was
still in use.
b) The service hour estimate was quite accurate. The actual hours used were 19,900
versus the 20,000 estimate. Net book value was reduced to $30,630, very close to
the $30,000 estimated net residual value.

Assignment 10-10
a. DB: 50%
Balance in Accumulated
Year Depreciation Expense Depreciation
20x5 ($2,000,000 × .50) = $1,000,000 $1,000,000

20x6 ($1,000,000 × .50) = 500,000 1,500,000
20x7 ($500,000 × .50) = 250,000 1,750,000
$1,750,000
b. Straight-line:
20x5 $ 445,000 (a) $ 445,000

20x6 445,000 890,000
20x7 445,000 1,335,000
$1,335,000
(a) ($2,000,000 – $220,000) × 1/4 = $445,000
c. Units of production ($2,000,000 – $220,000) = $26.18 per unit:

(20,000 + 18,000 + 16,000 + 14,000)
20x5 (20,000 × $26.18)= $ 523,600 $ 523,600

20x6 (18,000 × $26.18)= 471,240 994,840
20x7 (16,000 × $26.18)= 418,880 1,413,720
$1,413,720
The straight-line method results in maximum income for financial statement reporting for
the three-year period ending December 31, 20x7, because cumulative depreciation
expense is smallest for the straight-line method. (See schedules above.)

Assignment 10-11
Requirement 1
 Productive output is Method 2; depreciation follows the usage pattern, slightly lower
in each of the first three years but higher in the last year.
 Straight-line is Method 3 – same depreciation in each year
 Declining balance (50%) is Method 1; steadily and rapidly declining depreciation
until the last year when the remaining balance is presumably written off.
Requirement 2
 Productive output was calculated by ADDING the residual value, not subtracting it:
($87,480 + $6,000) ÷ 4,800 = $19.475 × 1,400 = $27,265 etc.
 Straight-line depreciation was calculated as $87,480 ÷ 4 = $21,870; residual value
was not deducted.
 Declining balance (50%) was done with a 25% rate: $87,480 × .25 = $21,870; in Year
4 depreciation is incorrect since the asset is written down to zero instead it should
have ceased when net book value was equal to the $6,000 residual value.
Requirement 3
Correct year 2 depreciation:
 Productive output: ($87,480 – $6,000)/4,800 = $16.975 × 1,300 = $22,068
 Straight-line: ($87,480 – $6,000) ÷ 4 = $20,370
 Declining balance: 50% × ($87,480 – $43,740) = $21,870

Assignment 10-12
Depreciation Depletion
Book Book
Year Unit Total Value Unit Total Value
Initial Cost $307,000a $600,000b
1 $.77c $ 9,240e 297,760 $1.3d $ 15,600f 584,400
2 .78 18,480 279,280 1.3 31,200 553,200
Because the sheds and machinery are economically tied to the minerals, they are
depreciated on a productive-output basis.
a Sheds $ 160,000
Machinery 144,000
Installation 3,000
Depreciable amount $307,000
b Land cost $600,000

Residual value (80,000)
Depletable amount $520,000
c Depreciation, Units-of-production:
$307,000 ÷ 400,000 kilos = $.77 per kilo
d Depletion, Units-of-production:
$520,000 ÷ 400,000 kilos. = $1.3 per kilo
e 12,000 × $.77 = $9,240. Second year is double the production.
f 12,000 × $1.3 = $15,600. Second year is double the production.

Assignment 10-13
Requirement 1
Component A ($120,000-$5,000)/12 = $9,583 x 2 = $19,166

Component B $40,000/3 = $13,333
Component C ($8,000-$500)/6 = $1,250 x 5 = $6,250
Component D ($2,000/2)= $1,000 x 10= $10,000
Total depreciation = $48,749
Requirement 2
If component B was replaced at the end of year 2,the remaining value of the original part
would be $13,334 (1/3). A loss is recorded because the old component is not fully
depreciated.
Component B (new part)............................................ 50,000

Accumulated depreciation (2/3)................................. 26,666
Loss on replacement.................................................. 13,334
Component B (old part).................................. 40,000
Cash................................................................ 50,000

Assignment 10-14
Requirement 1
Shell ($400,000-$16,000)/10 $ 38,400

Motor $360,000/3 120,000
Tires $40,000/2 20,000
Shovel $340,000/5 68,000
Remainder $60,000/2 30,000
$276,400
Requirement 2
If the equipment was not separated into components, depreciation would be taken on the
equipment as a whole: ($1,200,000 – $16,000)/10 = $118,400. The shell is assumed to
dictate useful life. Other assumptions can be justified.
Requirement 3
The logic behind component depreciation is that when an asset is viewed as a whole, it
does not reflect the pattern of consumption. Some parts or components will be used up
faster than others. The effect of ignoring components is lower depreciation than if the
asset was viewed as components.

Assignment 10-15
Requirement 1
Component Depreciation:
Original Residual Depreciable Estimated Annual

Component Cost Value Cost Life Depreciation
A $ 200,000 $20,000 $ 180,000 10 $ 18,000
B 90,000 0 90,000 5 18,000
C 152,000 32,000 120,000 15 8,000
D 24,800 800 24,000 8 3,000
$466,800 $52,800 $414,000 $47,000
Depreciation expense.......................................................................... 47,000

Accumulated depreciation........................................................... 47,000
Requirement 2
Cash..................................................................................................... 24,000
Accumulated depreciation................................................................... 36,000
Loss………………………………………………………………….. 30,000
Plant asset—Component B (new)....................................................... 100,000
Plant asset—Component B (old)................................................. 90,000
Cash.............................................................................................. 100,000
Requirement 3
Depreciation expense ($466,800 / 15)................................................. 31,120

Accumulated Depreciation........................................................... 31,120
To record depreciation for the year.

Assignment 10-16
Requirement 1
Invoice price of equipment $ 420,000
Net purchase price $420,000
Plus additional costs to prepare for operation:

Shipping 4,000
Installation 3,000
Testing 6,000
Book value when ready for use $ 433,000
Requirement 2
a. Closest month: $433,000 ÷ 6 years × 6/12 = $36,083
b. Full first year: $433,000 ÷ 6 years = $72,167
c. Half-year convention: $433,000 ÷ 6 years × 1/2 = $36,083
Requirement 3
Depreciation by day is tedious to calculate, and not materially more accurate than
depreciation by month. Since depreciation is itself an estimate, it is not rendered more
precise by use of days instead of months.
Requirement 4
Declining balance rate: 33%; given.
a. 20X7: $433,000 × 33% × 6/12 = $71,455

20X8: ($433,000-$71,455) × 33% = $119,313
b. 20X7: $433,000 × 33% = $142,890

20X8: ($433,000 – $142,890) × 33% = $95,736
c. 20X7: $433,000 × 33% × ½ = $71,455

20X8: ($433,000 – $71,455) × 33% = $119,313

Assignment 10-17
Requirement 1
20x5 Accumulated
Machinery
Depreciation
1 January 20x5 $200,000
1 April 20x5 80,000
Depreciation
$200,000 x 1/10 × 12/12 $20,000
$80,000 x 1/5 × 9/12 12,000
Balance, 31 December 20x5 280,000 32,000 Expense, 20x5

20x6
1 December 20x6 10,000
Depreciation
$200,000 × 1/10 × 12/12 20,000
$80,000 × 1/5 × 12/12 16,000
$10,000 × 1/10 × 1/12 84
Disposal (28,000) 36,084 Expense, 20x6
Acc’d depreciation
$28,000 × 1/10 × 2 years ( 5,600)
Balance, 31 December 20x6 $262,000 $62,484
Requirement 2 Accumulated
20x5 Machinery Depreciation
1 January 20x5 $200,000
1 April 20x5 80,000
Depreciation
$200,000 × 1/10 × 1/2 $ 10,000
$80,000 × 1/5 × 1/2 8,000
Balance, 31 December 20x5 280,000 18,000 Expense, 20x5
20x6
1 December 20x6 10,000
Depreciation
$172,000 × 1/10 (Note 1) 17,200
$28,000 × 1/10 × ½ (Note 1) 1,400
$80,000 × 1/5 16,000
$10,000 × 1/10 × 1/2 500
Disposal (28,000) 35,100 Expense, 20x6
Acc’d Depreciation
$28,000 × 1/10 × (1/2 + 1/2) ( 2,800)
$262,000 $ 50,300
Note 1: $172,000 + $28,000; since $28,000 retired in 20x6, only ½ of depreciation taken
in year of retirement.

Requirement 3
The fractional year rule may result in a materially different amount of depreciation
expense. This happens when acquisitions and disposals are not evenly distributed
through the year.

Requirement 1
Organization expense*............................................... 10,000

Patent (intangible asset)............................................. 5,000
Operating expense...................................................... 220,000
Goodwill (intangible asset)........................................ 160,000
Copyright (intangible asset) ...................................... 21,000
Trademark (intangible asset)...................................... 8,000
Training expense*...................................................... 27,500
Research expense ($150,000 × 60%)......................... 90,000
Development costs (intangible asset) ($150,000 × 40%)60,000
Intangibles...................................................... 601,500
* Neither the organizational costs nor the deferred training costs should be capitalized as
intangibles because they have no reliably measurable future benefit. Research costs must
be expensed.
Requirement 2
Amortization expense:
Patent ($5,000 ÷ 20 ) × 11/12.................................. $229

Copyright ($21,000 ÷ 10) × 2/12 .............................. 350
No amortization is charged for intangibles with an indefinite life (the trademark).

Goodwill is also not amortized. These assets are subject to an annual impairment test.
The development costs are not amortized until commercial production begins. However,
development costs are considered an intangible asset (not yet available for sale/use);
irrespective of whether there is any indication of impairment, these costs should be tested
for impairment annually.

Assignment 10-19
Case A
One line of office furniture where agents sell all lines almost certainly will not constitute
an independent cash generating unit for which the cash flows are largely independent of
other cash flows. The furniture probably uses the same production facilities as other lines,
and also uses the same sales force and administrative support system. An impairment test
for this single line would not be feasible or appropriate.
Case B
The Northern Ontario division has both production and sales responsibilities. The
company is decentralized, which implies that the division is responsible for its own cash
flows. An impairment test is necessary.
Case C
As a foreign operation, the US stores are probably organized into a separate corporation.
The stores, as a group, will generate their own cash inflows and outflows. Although there
may be a large volume of transactions with the Canadian head office (e.g., shipping
goods from Canada to the US stores), the US group can be assessed as a separate cash
generating unit. An impairment test should be performed.
Case D
This division clearly is separate from the main business of the corporation and has
independent cash flows. An impairment test should be performed. As well, the division's
net assets should be reported as "held-for-sale" on CHSC's SFP, since a plan for
disposition is in place.
Case E
As a product offering, the connector is just one product in the company's product line and
cannot be assessed independently for impairment. However, it appears that the patent
itself cannot be defended successfully; the patent, as an intangible asset, should be
subject to an impairment test.

Assignment 10-20
Requirement 1
Impairment loss – PlayMark…………………………….. 960,000

Accumulated amortization – PlayMark……….. 960,000
Note: This entry decreases the carrying value of PlayMark to $1,000,000 by

increasing accumulated amortization. This is the customary approach. However, it
also is feasible to credit the asset account directly.
Requirement 2
a. Had no impairment occurred the carrying amount at the end of 20X6 would have
been $1,560,000 ($1,960,000- 20X6 annual depreciation of $400,000).
b. The impairment loss of $960,000 only would be reversed to increase the carrying
amount to $1,560,000. This is a reversal of $560,000. This reversal would be
reported in earnings.

The carrying amount $14,000,000 must be compared to the recoverable amount.

The recoverable amount is the higher of:
1. fair value less costs to sell = $5,400,000, and
2. value in use
($3,000,000 - $200,000 = $2,800,000 x (P/A, 5, 6%; 4.21236) = $11,794,608 +
($100,000 x (P/F, 5, 6%; .74726 = $74,726)
= $11,869,334.
The distress price of $5,000,000 is disregarded.
The recoverable amount is $11,869,334.
Since this is lower than the carrying amount of $14,000,000 there is an impairment of
$2,130,666.

Assignment 10-22
Requirement 1
Impairment loss – abrasives group……………………….. 100

Accumulated depreciation – equipment……….. 74
Accumulated depreciation – fixtures………….. 23
Accumulated amortization – patent rights…….. 3
Calculations:
Net book Allocation of Adjusted
Asset value Proportion impairment loss carrying value
Equipment $220 74% $ 74 $146
Fixtures 70 23% 23 47
Patent rights 10 3% 3 7
$ 300 100% $ 100 $ 200
Requirement 2
Cost Net Book Additional de- Revised net
Value preciation book value if
no impair-
ment
Equipment (10 $400 $220 $40 $180
year life)
Fixtures (10 125 70 12.5 57.5
year life)
Patent rights 80 10 2 8
(40 year life)
$605 $300 $245.5
Requirement 3
The reversal would be allocated proportionally, as the write-down was. No asset may be
written up higher than its individual fair value. No asset may be written up higher than
the amount that would have been its net book value if it had not been impaired, but was
deprecated, instead (requirement 2). This places a ceiling on impairment reversals for
specific assets.

Assignment 10-23
Requirement 1
Impairment loss …………………………………. 1,640

Goodwill…………………………………. 800
Accumulated depreciation – equipment…. 227
Accumulated depreciation – buildings….. 571
Accumulated amortization – patent rights.. 42
Calculations:
Net book Proportion Allocation of Adjusted

Asset value E+B+V impairment loss carrying value
Goodwill 800 800 0
Equipment 1,200 27% 227** 973
Buildings 3,000 68% 571 2,429
Patent rights 240 5% 42 198
$ 5,240* 100% $ 1,640 $ 3,600
Total; only
E+B+P $ 4,440*
*The impairment loss is first allocated to goodwill. Then any remaining amount is
allocated to the remaining assets on a proportionate basis. The total net book value
excludes the net book value of goodwill since this is not included for the allocation of the
loss.
** ($1,640 – $800) x 27%, etc.
Requirement 2
If there is a reversal of impairment the goodwill amount would not be reversed. The value
of the goodwill would remain at zero. The impairment can be reversed for other assets,
but they may not be written up to a value higher than their individual fair value less cost
to sell, or their carrying value had the impairment not been reversed.

Assignment 10-24
Requirement 1
Impairment loss ………………………………………. 10,000

Goodwill…………………………………….. 4,000
Accumulated depreciation – equipment…….. 1,240
Land…………………………………………. 2,000
Accumulated amortization – property……….. 2,760
Calculations:
Proportion Adjusted
Net book E and P only Allocation of carrying
Asset value (rounded) impairment loss value
Goodwill $ 4,000 $ 4,000 0
Land 16,000 2,000 14,000
Equipment 22,000 31% 1,240** 20,760
Property 50,000 69% 2,760 47,420

$ 92,000* 100% $ 10,000 $ 82,000
E+P only $72,000
*The impairment loss is first allocated to goodwill. Land would have been assigned a
loss of 18% of the remaining $6,000 loss, but this would have been $1,080, reducing land
to $14,920. Land has an individual fair value less cost to sell of $14,000, and must be
written down to this number. It absorbs $2,000 of the loss. This leaves an impairment
loss of $4,000 to be allocated to equipment and property.
** ($10,000 - $4,000 - $2,000) x 31%, etc.
Requirement 2
If there is a reversal of impairment the goodwill amount would not be reversed. The value
of the goodwill would remain at $0. The impairment can be reversed for other assets, but
they may not be written up to a value higher than their individual fair value less cost to
sell (eg, land), or their depreciated net book value had the impairment not been reversed.

Assignment 10-25
Operating Activities
Add back:
Depreciation………………………………………….. $1,200,000
Amortization................................................................... 240,000
Loss on sale of machinery.............................................. 100,000
Less:
Gain on sale of land........................................................ (120,000)
Investing Activities
Proceeds on disposition of land.......................................... 1,720,000
Proceeds on disposal of machinery1................................... 524,000
Acquisition of patent2......................................................... (500,000)
1 ($1,824,000 – $1,200,000) = $624,000. $624,000 – $100,000 = $524,000

2 ($240,000 + $260,000) The increase in the patent account was assumed to be because
of an acquisition.

Assignment 10-26
a) Land [455,000 × $175 ÷ ($175 + $375)] rounded.............. 144,800

Warehouse [$455,000 × $375 ÷ ($175 + $375)]................ 310,200
Cash............................................................................ 455,000
The appraisal values are assumed to provide an objective basis for allocating the
purchase price.
b) Warehouse.......................................................................... 53,200
Cash............................................................................ 53,200
Total warehouse cost, $310,200 + $53,200 = $363,400
c) Depreciation expense, warehouse, 20X2 ($363,400 × 10%) 36,340

Accumulated depreciation, warehouse...................... 36,340
Depreciation expense, warehouse, 20X3............................ 32,706

($363,400 – $36,340) × 10% = $32,706
$36,340 + $32,706 = $69,046

($363,400 – $69,046) × 10% = $29,435
$69,046 + $29,435= $98,481

($363,400 – $98,481) × 10% = $26,492
$98,481 + $26,492 = $124,973

($363,400 – $124,973) × 10% = $23,843
$124,973 + $23,843 = $148,816
Net book value of warehouse, $214,584 ($363,400 – $148,816)
d) Warehouse ($214,584 + ( $53,550 × 425/605; 70%)......... 252,202

Land ($144,800 + ( $53,550 × 180/605; 30%)................... 160,752
Accumulated depreciation, warehouse............................... 148,816
Cash ($33,750 + $19,800)......................................... 53,550
Warehouse.................................................................. 363,400
Land............................................................................ 144,800
Note: New appraisal amounts of warehouse and land are $425,000 and $180,000
respectively.
This is the exchange of similar assets. The exchange is recorded at carrying values
adjusted for any additional consideration since the transaction lacks commercial
substance. The value of the transaction is the fair value of the new assets, or a total
of $605,000. The cash exchanged is not material in this transaction. The new relative
fair values are used to allocate the cash payments, but the old fractions may be just
as well justified.
e) Depreciation expense, warehouse, 20X7 ($252,202 × 10%) 25,220

Accumulated depreciation, warehouse........................ 25,220
Depreciation expense, warehouse, 20X8.............................. 22,698

Accumulated depreciation, warehouse........................ 22,698
($252,202 – $25,220) × 10% = $22,698
$25,220 + $22,698 = $47,918
Cash...................................................................................... 356,800
Accumulated depreciation, warehouse............................... 47,918
Warehouse................................................................ 252,202
Gain on insurance proceeds, warehouse................... 152,516
f) Warehouse ($80,000 + $245,800 + $199,600 +

$24,800 + $34,100)........................................................... 584,300
Loss on insurance proceeds, warehouse............................. 13,400
Parking lot........................................................................... 45,200
Cash.............................................................................. 642,900
Warehouse cost: all expenses except the parking lot cost and clean-up. If the cost of
cleaning up the debris is assumed to be already recorded, it will be omitted from this
entry. This is acceptable. It is a cost of the fire, and reduces the gain on insurance
proceeds. Some would capitalize it as part of the new warehouse, but it is hard to see
how fire debris adds to the value of a facility.
g) Income tax payable............................................................... 100,000

Deferred credit, warehouse tax credit........................... 100,000
Alternatively, the warehouse facility might be credited directly.
h) Depreciation expense, warehouse, 20X9............................ 58,430

Accumulated depreciation, warehouse ($584,300 × 10%) 58,430
Deferred credit, warehouse tax credit ($100,000 × 10%)... 10,000
Depreciation expense.................................................... 10,000
If the deferred credit were not separately recorded, the depreciation expense would
be recorded net.
Depreciation expense, parking lot, 20X9........................... 2,260

Accumulated depreciation, parking lot....................... 2,260
($45,200 × 5%)

Assignment 10-27 (Appendix 1)
CCA Class 8
20X5
Acquisitions................................................................................ $300,000
CCA for 20x5 ($300,000 × 20% × 1/2)..................................... (30,000)
20X6
Disposals.................................................................................... $ (11,200)
CCA for 20x6 ($270,000 – $11,200) × 20%.............................. ( 51,760)
20X7
Disposal......................................................................................($19,800)
Acquisition................................................................................. 25,000 5,200
CCA for 20x7 ($207,040 × 20%) + ($5,200 × 20% × 1/2)........ ( 41,928)
20X8
Acquisition................................................................................. 36,000
CCA for 20x8 ($170,312 × 20%) + ($36,000 × 20% × 1/2)...... (37,662)

A10-28 Revaluation Model (Appendix 2):
Requirement 1
In OCI In OCI In earnings In earnings
Gain Gain Loss Loss

reversal reversal
Case A $30
Case B
Year 1 30
Year 2 20 30
Case C
Year 1 50
Year 2 50 10
Requirement 2
Case A
If fair value model was used the $30 million would be a fair value increase in net income.
Case B
If fair value method was used in year one no difference, in year two the entire increase $50
million would be in statement profit and loss.
Case C
If fair value method was used the $50 million in year one would be a gain in statement of profit
or loss and the $60 million would be a loss in the statement of profit or loss in year 2.

Assignment 10-29
Under ASPE, the first step in an impairment test is to compare the carrying value to
undiscounted cash flow.
Carrying amount = $14,000,000
Undiscounted cash flow =
($3,000,000 - $200,000) x 5 = $14,000,000 + $100,000 = $14,100,000
Since this is (barely) higher than the carrying amount there would be no impairment.
Note that IFRS uses discounted cash flows and an impairment would be triggered under IFRS.

Assignment 10-30 Asset Impairment (ASPE)
Requirement 1
Under ASPE, the first step in an impairment test is to compare the carrying value to
undiscounted cash flow.
Carrying amount = $595,000
Undiscounted cash flow =
$50,000 x 5 = $250,000 + $180,000 = $430,000
Since this is lower than carrying value, impairment testing moves to the second step. Fair
value is now determined:
Fair value = $500,000 - $50,000 = $450,000
The impairment loss is $145,000 ($595,000 - $450,000)
Requirement 2
The undiscounted cash flows are now:
$100,000 x 5 = $500,000 + $200,000 = $700,000
Since this is higher than carrying value, impairment testing stops. The fact that the fair value is
less than carrying value is not relevant.


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Chapter 10: Depreciation, Amortization, and

Assignment A10-1 Depreciation Policy.................................................... 10

A10-19 Asset Impairment–Five Situations............................. 20

© 2017 McGraw-Hill Education. All rights reserved.

*W The solution to this assignment is on the text website, Connect.

© 2017 McGraw-Hill Education. All rights reserved

Bright Lights Limited (Bright) is a relatively young company involved in manufacturing

Analysis and recommendations

This is an error correction that must be corrected on a retrospective basis, with

3. Decommissioning and asset retirement obligation

© 2017 McGraw-Hill Education. All rights reserved

From the text:

© 2017 McGraw-Hill Education. All rights reserved

TO: Wendy Wonders, CFO of Rock Group Limited (“RGL”)

Prior to analyzing the accounting of the significant transactions of SSI, I

SSI’s fiscal 20X2 financial statements will be primarily used by the

A secondary user of their financial statements is the Canada Revenue

Based on the information provided, there is no evidence that the

As a professional, I have an ethical obligation to ensure that my analysis is

Issue: How to account for the Controller contract commitment.

© 2017 McGraw-Hill Education. All rights reserved

Issue: How to present the receipt of the government assistance?

1. Capital – Acquisition of new manufacturing equipment.

© 2017 McGraw-Hill Education. All rights reserved.

© 2017 McGraw-Hill Education. All rights reserved

Issue: What is the amount of the inventory loss?

Beginning Inventory + Purchases – Cost of Goods Sold = Ending Inventory

© 2017 McGraw-Hill Education. All rights reserved.

Issue: Is the revaluation of land, to fair value, appropriate?

© 2017 McGraw-Hill Education. All rights reserved

Business Combination – Purchase of SSI

Issue: What is the initial and subsequent accounting for SSI?

© 2017 McGraw-Hill Education. All rights reserved.

Net Income: $ 26,000,000

Adjusted Net Income: $ 8,412,000

Purchase Price Formula

Appendix 2: Purchase Price Allocation

Consideration Paid $ 16,824,000

Net Assets Received

Negative Goodwill $ 33,976,000

The basis of negotiation may have to be adjusted.

Case 10-3 Road Safety Incorporated

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1. Valuation basis for land and building

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6. Major spare parts

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Technical Review 10-1

a. Goodwill. Not depreciated; indefinite life

b. Trademark with a remaining life of Not depreciated; indefinite life

c. Customer lists. Not depreciated; indefinite life

e. Land expected to be held for twenty Not depreciated; indefinite life

f. Site restoration costs with respect to Depreciated; finite life

g. Buildings, accounted for using the Depreciated

h. Rental property, accounted for Not depreciated; indefinite life

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Depreciation Schedule – Straight-line Method

Depreciation Accumulated Net Book

1 January 20x2 $500,000 $500,000

1 ($500,000 – $20,000) × 1/10