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TUTORIAL 3 Exercise 5.11 Depreciation and revaluation of assets In the 30 June 2016 annual report of Emu Ltd, the equipment was reported as follows: Equipment (at cost) Accumulated depreciation

$ 500 000 150 000 350 000

The equipment consisted of two machines, Machine A and Machine B. Machine A had cost $300 000 and had a carrying amount of $180 000 at 30 June 2016, and Machine B had cost $200 000 and was carried at $170 000. Both machines are measured using the cost model, and depreciated on a straight-line basis over a 10year period. On 31 December 2016, the directors of Emu Ltd decided to change the basis of measuring the equipment from the cost model to the revaluation model. Machine A was revalued to $180 000 with an expected useful life of 6 years, and Machine B was revalued to $155 000 with an expected useful life of 5 years. At 1 July 2017, Machine A was assessed to have a fair value of $163 000 with an expected useful life of 5 years, and Machine B’s fair value was $136 500 with an expected useful life of 4 years. Required 1. Prepare journal entries to record depreciation during the year ended 30 June 2017, assuming there was no revaluation. 2. Prepare the journal entries for Machine A for the period 1 July 2016 to 30 June 2017 on the basis that it was revalued on 31 December 2016. 3. Prepare the journal entries for Machine B for the period 1 July 2016 to 30 June 2017 on the basis that it was revalued on 31 December 2016. 4. Prepare the revaluation journal entries required for 1 July 2017. 5. According to accounting standards, on what basis may management change the method of asset measurement, for example from cost to fair value?

EMU LTD 1. 30 June, 2017 Depreciation expense – Machine A Accumulated depreciation (10% x $300 000)

Dr Cr

30 000

Depreciation expense – Machine B Accumulated depreciation (10% x $200 000)

Dr Cr

20 000

1

30 000

20 000

2. 31 December, 2016 Depreciation expense – Machine A Accumulated depreciation (1/2 x 10% x $300 000)

Dr Cr

15 000

Dr Cr

135 000

15 000

Machine A Cost 300 000 Accum. depreciation 135 000 165 000 Fair value 180 000 Increment 15 000 Accumulated depreciation – Machine A Machine A (Writing the asset down to carrying amount)

Machine A Dr Gain on revaluation of machinery (OCI) Cr (Revaluation of machine from $165 000 to $180 000) Income Tax Expense-OCI Deferred Tax Liability (Tax effect of revaluation of machine)

Dr CR

Gain on revaluation of machinery (OCI) Dr Income Tax Expense (OCI) Asset revaluation surplus – Machine A Cr (Accumulation of net revaluation gain in equity)

135 000

15 000 15 000 4 500 4 500 15 000 4 500 10 500

30 June, 2017 Depreciation expense – Machine A Accumulated depreciation (1/2 x $180 000/6yrs)

Dr Cr

15 000

Dr Cr

10 000

15 000

3. 31 December, 2016 Depreciation expense – Machine B Accumulated depreciation (1/2 x 10% x $200 000) Machine B 2

10 000

Cost 200 000 Accum. depreciation 40 000 160 000 Fair value 155 000 Decrement 5 000 Accumulated depreciation – Machine B Machine B (Writing the asset down to carrying amount) Loss – revaluation decrement (P/L) Machine B (Revaluation of machine from $160 000 to $155 000)

Dr Cr

40 000

Dr Cr

5 000

40 000

5 000

30 June, 2017 Depreciation expense – Machine B Accumulated depreciation (1/2 x $155 000/5yrs)

Dr Cr

15 500 15 500

4. Machine A Revalued Accum. Deprec Carrying amount Fair value Decrement

$ 180 000 15 000 165 000 163 000 2 000

Machine B Revalued Accum. Deprec Carrying amount Fair value Decrement

$ 155 000 15 500 139 500 136 500 3 000

Accumulated depreciation – Machine A Machine A (Writing down to carrying amount)

Dr Cr

15 000

Loss on revaluation of machinery (OCI) Machine A (Revaluation downwards)

Dr Cr

2 000

Deferred Tax Liability Income tax Expense(OCI) (Tax effect of revaluation downwards)

Dr Cr

600

Asset revaluation surplus – Machine A Dr Income Tax Expense (OCI) Dr Loss on revaluation of machinery (OCI) Cr (Reduction in accumulated equity due to revaluation decrement)

1 400 600

3

15 000

2 000

600

2 000

Accumulated depreciation – Machine B Machine B (Writing down to carrying amount)

Dr Cr

15 500

Loss – revaluation decrement (P/L) Machine B (Writing down to fair value)

Dr Cr

3 000

4

15 500

3 000

5. Basis for change in accounting policy Consider the cost basis method and the fair value method in relation to the relevance and reliability of information. Current information is generally more relevant than past information. Determination of cost is generally more reliable than determination of fair value. Consider the trade-off between relevance and reliability, that is, as information becomes less reliable it also loses its relevance. A fair value measure may, because of its timeliness, be more relevant but if the measure becomes more unreliable, the relevance of the information decreases.

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Exercise 5.12 Revaluation of assets On 30 June 2016, the statement of financial position of Kookaburra Ltd showed the following non-current assets after charging depreciation: Building Accumulated depreciation

$ 300 000 $200 000 (100 000) 120 000 (40 80 000 000)

Motor vehicle Accumulated depreciation

The company has adopted fair value for the valuation of non-current assets. This has resulted in the recognition in previous periods of an asset revaluation surplus for the building of $14 000. On 30 June 2016, an independent valuer assessed the fair value of the building to be $160 000 and the vehicle to be $90 000. Required 1. Prepare any necessary entries to revalue the building and the vehicle as at 30 June 2016. 2. Assume that the building and vehicle had remaining useful lives of 25 years and 4 years respectively, with zero residual value. Prepare entries to record depreciation expense for the year ended 30 June 2017 using the straight-line method.

KOOKABURRA LTD General Journal 1. Accumulated depreciation – Building Building (Writing down to carrying amount)

Dr Cr

100 000

Loss on revaluation of building (P&L) Loss on revaluation of building (OCI) Building (Revaluation downwards of building)

Dr Dr Cr

20 000 20 000

Deferred Tax Liability Dr Income Tax Expense (OCI) Cr (Being tax effect of revaluation downwards)

100 000

40 000

6 000 6 000

Asset revaluation surplus - Building Dr 14 000 Income Tax Expense (OCI) Dr 6 000 Loss on revaluation of building (OCI)Cr 20 000 (Reduction in accumulated equity due to revaluation decrement on building) Accumulated depreciation – Vehicle

Dr 6

40 000

Vehicle (Writing down to carrying amount)

Cr

Vehicle Dr Gain on revaluation of vehicle (OCI)Cr (Revaluation to fair value) Income Tax Expense (OCI) Deferred Tax Liability

40 000 10 000 10 000

Dr Cr

3 000

Gain on revaluation of vehicle (OCI) Dr Asset revaluation surplus - vehicle Cr Income Tax Expense (OCI) Cr

10 000

3 000

7 000 3 000

2. Depreciation expense – Building Dr Accumulated depreciation – BuildingCr ($160 000/25)

6 400

Depreciation expense – Vehicle Dr Accumulated depreciation – VehicleCr ($90 000/ 4)

22 500

7

6 400

22 500

Exercise 5.18 Revaluation model On 1 July 2016, Peewee Ltd acquired two assets within the same class of plant and equipment. Information on these assets is as follows. Cost Machine A Machine B

Expected useful life 5 years 3 years

$100 000 60 000

The machines are expected to generate benefits evenly over their useful lives. The class of plant and equipment is measured using fair value. At 30 June 2017, information about the assets is as follows.

Machine A Machine B

Fair value $84 000 38 000

Expected useful life 4 years 2 years

On 1 January 2018, Machine B was sold for $29 000 cash. On the same day, Peewee Ltd acquired Machine C for $80 000 cash. Machine C has an expected useful life of 4 years. Peewee Ltd also made a bonus issue of 10 000 shares at $1 per share, using $8000 from the general reserve and $2000 from the asset revaluation surplus created as a result of measuring Machine A at fair value. At 30 June 2018, information on the machines is as follows. Machine A Machine C

Fair value $61 000 68 500

Expected useful life 3 years 3.5 years

Required 1. Prepare the journal entries in the records of Peewee Ltd to record the events for the year ended 30 June 2017. 2. Prepare journal entries to record the events for the year ended 30 June 2018. PEEWEE LTD 1. 1 July 2016 Machine A Machine B Cash

Dr Dr Cr

100 000 60 000 160 000

30 June 2017 Depreciation expense – Machine A Accumulated depreciation – Machine A (1/5 x $100 000)

8

Dr Cr

20 000 20 000

Depreciation expense – Machine B Accumulated depreciation – Machine B (1/3 x $60 000)

Dr Cr

20 000

Accumulated depreciation- Machine A Machine A (Writing down to carrying amount)

Dr Cr

20 000

Machine A Dr Gain on revaluation of Machine A (OCI) Cr (Revaluation increment: $80 000 to $84 000)

4 000

Income Tax Expense (OCI) Deferred Tax Liability (Being tax effect of revaluation increment)

Dr Cr

1 200

Gain on revaluation of Machine A (OCI) Dr Income Tax Expense (OCI) Cr Asset revaluation surplus – Machine A Cr (Accumulation of net revaluation gain in equity))

4 000

20 000

20 000

4 000

1 200

1 200 2 800

Accumulated depreciation – Machine B Machine B (Writing down to carrying amount)

Dr Cr

20 000

Loss on revaluation – Machine B (P&L) Machine B (Revaluation to fair value at 30/6/17)

Dr Cr

2 000

20 000

2 000

2. 1 January 2018 Machine C Cash (Acquisition of machine C)

Dr Cr

80 000

Depreciation expense – Machine B Dr Accumulated depreciation – Machine B Cr (1/2 x /1/2 x $38 000)

9 500

80 000

9 500

Cash Proceeds on sale of Machine B (Sale of Machine B)

Dr Cr

29 000

Carrying amount of Machine B Sold Accumulated depreciation – Machine B Machine B (Carrying amount of machine sold)

Dr Dr Cr

28 500 9 500

General reserve

Dr

8 000

9

29 000

38 000

Asset revaluation surplus – Machine A Share Capital

Dr Cr

2 000

Depreciation expense – Machine A Dr Accumulated depreciation – Machine A Cr (1/4 x $84 000)

21 000

Depreciation expense – Machine C Dr Accumulated depreciation – Machine C Cr (1/4 x ½ x $80 000)

10 000

10 000

30 June 2018

Accumulated depreciation – Machine A Machine A (Writing down to carrying amount)

21 000

10 000

Dr Cr

21 000

Loss on revaluation of Machine A (OCI) Dr Loss on revaluation of Machine A (P and L) Dr Machine A Cr (Write down of plant from $63000 to $61000)

1142 858

Deferred Tax Liability Income Tax Expense (OCI) (Tax effect of revaluation decrement)

21 000

2 000

Dr Cr

342

Asset revaluation surplus – Machine A Dr Income Tax Expense (OCI) Dr Loss on revaluation of Machine A (OCI) Cr (Accumulation of revaluation loss to equity)

800 342

Accumulated depreciation – Machine C Dr Machine C Cr (Writing down to carrying amount) Loss on revaluation (P&L) Machine C (Revaluation to fair value at 30/6/18)

10

Dr Cr

342

1 142

10 000 10 000 1 500 1 500

Exercise 5.19 Determining the cost of assets Magpie Ltd uses many kinds of machines in its operations. It constructs some of these machines itself and acquires others from the manufacturers. The following information relates to two machines that it has recorded in the 2017–18 period. Machine A was acquired, and Machine B was constructed by Magpie Ltd itself. Machine A Cash paid for equipment, including GST of $8000 Costs of transporting machine — insurance and transport Labour costs of installation by expert fitter Labour costs of testing equipment Insurance costs for 2017–18 Costs of training for personnel who will use the machine Costs of safety rails and platforms surrounding machine Costs of water devices to keep machine cool Costs of adjustments to machine during 2017–18 to make it operate more efficiently Machine B Cost of material to construct machine, including GST of $7000 Labour costs to construct machine Allocated overhead costs — electricity, factory space etc. Allocated interest costs of financing machine Costs of installation Insurance for 2017–18 Profit saved by self-construction Safety inspection costs prior to use

$88 000 3 000 5 000 4 000 1 500 2 500 6 000 8 000 7 500 77 000 43 000 22 000 10 000 12 000 2 000 15 000 4 000

Required Determine the amount at which each of these machines should be recorded in the records of Magpie Ltd. For items not included in the cost of the machines, note how they should be accounted for. Machine A Cost of machine

$88 000 (8 000) 3 000 5 000 4 000 6 000 8 000 7 500 $113 500

GST Transport Installation Testing Safety rails Coolers Adjustments

Expense the insurance costs of $1 500 and training $2 500.

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Machine B Cost of machine

$77 000 (7 000) 43 000 22 000 10 000 12 000 4 000 $161 000

GST labour overheads interest * installation safety

* Under AASB 123 Borrowing Costs interest must be capitalised. Expense the insurance cost of $2 000. Disregard the profit saved by selfconstruction.

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