PPE Home exercise

1. PPEHome exercise

2. Question 1: • Q1. A ship owner has properties with a carrying value of $10m. He is going to exchange his properties for a ship which has a market value of $20m by paying an additional sum of cash of $5m. • Please make double entry

3. CV 10m Exchange MV 20m Cash 5m +

4. Question 1: Answer • Dr. PPE (Ship)                         20mCr. Gain on disposal                            5mCr. PPE                           10mCr.Cash                             5m

5. Question 2: Self test Q1 • Q2. A non-current asset cost $20,000 and is being depreciated at 10% using the diminishing balance method. • How does this asset appear in the statement of financial position in the first and second year of ownership?

6. Question 2: Answer Cost: 20,000 • Statement of financial position as at 1st year • Property, plant and equipment: • Depreciation($20,000 x 10%) 2,000 • Accumulated depreciation 2,000 • Net book value 18,000 • Statement of financial position as at 2nd year • Property, plant and equipment: • Depreciation($18,000 x 10%) 1,800 • Accumulated depreciation 3,800 • Net book value 16,200 Cost: 20,000

7. Question 3:Self test Q2 • Q3. a) What are the purposes of providing for depreciation? • b) In what circumstances is the diminishing balance method more appropriate than the straight-line method? Give reasons for your answer.

8. Question 3 : Answer • a) The purposes: • To Calculate the True Profits, deducted out of the income earned from their use in order to calculate true profit net or loss; • To show true Financial Position, deducted from the assets and then at such reduced value these may be shown in the FP • To make Provision for replacement of assets, provision for depreciation is a charge to profits and loss account though depreciation is not paid. The amount of depreciation accumulated during the working life of the asset provides additional working capital besides providing sum at the end of the working life of the asset for its replacement.

9. The accounts of a business try to recognise that the cost of a non-current assets is gradually consumed as the asset wears out. This is done by gradually writing off the asset’s cost to profits or loss over several accounting periods. This process is known as depreciation, and is an example of the accruals assumption. HKAS16 property, Plant and Equipment requires that depreciation should be allocation on a systematic basis to each accounting period during the useful life of the asset.

10. With regard to the accrual principal, it is fair that the profits should be reduced by the depreciation charge; this is not an arbitrary exercise. Depreciation is not, as is sometimes supposed, an attempt to set aside funds to purchase new non-current assets when required. Depreciation is not generally provided on freehold land because it does not ‘wear out’ (unless it is held for mining or similar purposes). Leasehold land : has depreciation

11. Question 3 : Answer • B) If machine is more efficient and generate greater service potential early, the diminishing balance method more appropriate than the straight-line method; • Because the diminishing balance method recognize higher amounts of depreciation in the earlier years of a fixed asset's life, this method can recognize relevant higher depreciation expense in earlier years when machine is more efficient early. • Over time, the depreciation expense and the efficiency of machine moves in a downward, and the relevant maintenance costs tend to become higher; the accelerated depreciation is fairly charges to income.

12. Question 4: Review of useful life • Q4. A machine costs of $100,000 and has a useful life of 10 years since its acquisition in 20x7. At the end of the second year of use, the asset is assessed to have a remaining useful life of five years. The company adopts the straight line depreciation method. • What will be the depreciation charge for 20x9? • make double entry

13. Question 4: Answer Carrying value (not called residual value) • Depreciation for 20x7 and 20x8: $100,000 / 10 *2 years = $10,000 *2 years • Residual value at the end of 20x8: $100,000 – $10,000 x 2 = $80,000 • Depreciation charge for 20x9: $80,000 / 5 = $16,000 Carrying value Carrying value (x cost)

14. Question 5: Review of depreciation method of useful life • Q5. Using the same data as above, assume that at the end of the second year the company changes from the straight line method to the diminishing balance method of depreciation, at a rate of 25 percent per annum. • The carrying amount of $80,000 is therefore written off from 20x9 onwards using the diminishing balance method over its remaining useful life. Please make depreciation double entry.

15. Question 5: Answer Carrying value (not called residual value) • Depreciation for 20x7 and 20x8: $100,000 / 10 *2 years = $10,000 *2 years • Residual value at the end of 20x8: $100,000 – $10,000 x 2 = $80,000 • Depreciation for 20x9: • Dr. Deprecation ($80,000 x 25%) $20,000 • Cr. Accumulated Depreciation $20,000 Carrying value (x cost)

16. Question 6: Revaluation • Q6. Ozric Co has an item of freehold land carried in its books at $300,000. Two years ago a slump in land values led the company to reduce the carrying value from $350,000. This ($350,000-$300,000)was taken as an expense in profit and loss*. There has been a surge in land prices in the current year, however, and the land is now worth $380,000. • Account for the revaluation in the current year. *Impairment loss = $50,000

17. Question 6: Answer • Dr. Freehold land $80,000 • Cr. Administrative expense-reversal of impairment loss-I/S $50,000 • Cr. Revaluation surplus – Equity $30,000 (This $30,000 will be showed in “other” comprehensive income” in statement of comprehensive income & revaluation surplus on Equity respectively) -Recorded “50,000 Impairment loss in previous years”

18. Question 7: Revaluation decrease • Q7. Let us simply swap round the example given above. The original cost was $350,000, revalued upwards to $380,000 two years ago. The value has now fallen to $300,000. • Account for the decrease in value

19. Question 7 : Answer • Revalued upwards to $380,000 from $350,000: • Dr. Property, plant and equipment 30,000 • Cr. revaluation – surplus 30,000 • Fallen to $300,000 from $380,000: • Dr. revaluation surplus 30,000 • Dr. impairment – loss* 50,000 • Cr. Property, plant and equipment 80,000 *Reverse $30k the revaluation surplus first in financial position. Then it allocate to $50Kimpairment loss in income statement. Answer:Administrative expense- impairment loss

20. Question 8: Revaluation and depreciation • Q8. Siwa Ltd bought an asset for $200,000 at the beginning of 20x7. It had a useful life of five years. On 1 January 20x9 the asset was revalued to $240,000. The expected useful life has remained unchanged (ie three years remain). • Account for the revaluation and state the treatment for depreciation from 20X9 onwards. • Make double entry.

21. No “residual value” name in double entry Question 8: Answer Dr. Asset.                     200000Cr. Acc Dep.                            128000Cr. Residual Value.                  72000 Beginning of the year, not at the end of year” • NBV at the beginning of 2009: (200,000- (2yearsx$200,000/5yr))=120,000 • At the revaluation date (= beginning of the year) • Dr. PPE (FV:240,000-NBV:120,000) $120,000 Cr. Revaluation surplus $120,000 • At the same time: • Dr. Revaluation surplus $40,000 Cr. Retained earnings $40,000 (240,000/3)-(200,000/5)= Excess depreciation amount transferred from revaluations surplus to retained earning.

22. Question 8: Answer Refer textbook, • Depreciation of revalued asset: :Over remaining useful life. Transfer excess depreciation reserve to retained earnings

23. Question 9: Derecognition • Q9. A property was purchased at a cost $10m and has a useful life of 50 years. • At the end of Year 20, the property was revalued to $30m and it's useful life remains unchanged. • The property was sold at the beginning of Year 22 for $33m. • Make double entry.

24. Question 9: Answer Dr. PPE                           22.8mDr. Dep.                          1.2mCr. Revaluation surplus         20mCr. A. Dep. -I/s                        4m 20m 24M (difference between NBV vs Market value) Eliminate all AD –20/50*$10M=4m At the endof Year 20: • Dr. Property-NBV                           24m • ($30m MV-($10m-(20yr/50yrx$10m)NBV) Cr. Revaluation surplus               24m At the end of Year 21: • Dr. Revaluation surplus           0.8m ($30mx1yr/30yr) - ($10mx1yr/50yr) Cr. Retained profits               0.8m Dr Depreciation expenses $30m/30yr 1m Cr Accumulated depreciation 1m The end of the year, not at Beginning of year” Revaluated at year end CAUSE “revaluation reserve’ transfer to ‘RE’ at year end

25. Question 9: Answer Year 22 • Dr. Cash & Bank                           33m Dr. Accumulated depreciation 1m Cr. Property, plant & equipment 30m Cr. Gain on disposal –I/S 4m • Dr. Revaluation reserve         23.2m ($24m-0.8m) Cr. Gain on disposal Retained Earning 23.2m This is to eliminate the revaluation surplus Refer text book: Disposal of revalued assets: Accounts for disposal as normal (eg.$4m) Transfer balance ($24m-$0.8m)on revaluation reserve to retained earning

26. Question 10:Self test Q3 • Q10. A business purchased two rivet making machines on 1 January 20X5 at a cost of $15,000 each. Each had an estimated life of five years and a nil residual value. The straight line method of depreciation is used. • Owing to an unforeseen slump in market demand for rivets, the business decided to reduce its output of rivets, and switch to making other products instead. On 31 March 2007, one rivet marking machine was sold (on credit) to a buyer for $8,000. Later in the year, however, it was decided to abandon production of rivets altogether, and the second machine was sold on 1st December 2007 for $2,500 cash. Required: (monthly depreciation method used) Prepare the machinery account, provision for depreciation of machinery account and disposal of machinery account for the accounting year to 31st December 2007

27. Question 10: Answer January 1,20X5 Dr. Machine ($15,000+15,000) 30,000 Cr. Cash 30,000 December 31,20X5 Dr. Depreciation Expense:2 Machines 6,000 Cr. Accumulated Depreciation:2 Machines 6,000 Working: $(15,000X2 units) / 5yr = $6,000 December 31,20X6 Dr. Depreciation Expense:2 Machines 6,000Cr. Accumulated Depreciation:2 Machines 6,000 One unit depreciation = 6,000/2 units =3,000

28. Question 10: Answer *Remarks: Yearly Straight line method: 2007yr depreciation =$0 Monthly Straight line method: 2007yr depreciation =$2,750 March 31,20X7 Dr Other receivable (not cash) 8,000 Cr PPE-COST 15,000 Dr PPE-AD ($3,000*2+$3,000*3m/12m) 6,750 Dr Loss on disposal 250 (bal) December 1,20X7 Dr. Depreciation Expense :1 Machine 2,750 Cr. Accumulated Depreciation:1 Machine 2,750* (one machine remains: 3,000*11m/12m 1Jan-31 Nov) December 1,20X7 Dr Cash 2,500 Cr PPE-COST 15,000 Dr PPE-AD (3,000*2+3,000*11m/12m) 8,750 (1 Jan at the date of purchases-31Nov) Dr Loss on disposal 3,750 (bal)

29. Question 11: Exam Practice • Q11. Phoenix Real Estate Limited (‘Phoenix’) is a property developer in China. In20X3, Phoenix acquired the land use right of two pieces of land in Beijing for hotel development: • Property One – Since the date of the acquisition of the land, the board of Phoenix has decided to run the hotel on its own and commenced the pre-operating activities of the hotel on 1 January 20X5 when the development is completed and the hotel is available for its intended use. The hotel’s grand opening took place on 1 July 20X5.

30. Question 11: Exam Practice (Con) • Property Two – Since the date of the acquisition of the land, the board of Phoenix has decided to lease the whole property to earn rental. A lease agreement was entered into to lease the whole property to its holding company (the ‘Tenant’) for a period of eighteen years for the operation of a hotel. According to the lease agreement, in addition to the minimum rental, the monthly revenue amount of the hotel operation is provided by the Tenant at the close of business of each month-end-date.

31. Property 1: PPE • Property 2: Investment property