Sometimes a business entity may change its method of accounting for certain item

Question

Sometimes a business entity may change its method of accounting for certain items. It may classify the change as a change in accounting principle, a change in accounting estimate, or a change in reporting entity. The following are three situations faced by Hyde Company relating to accounting changes.

Situation I

Hyde determined that the depreciable lives of its fixed assets are presently too long to fairly match the cost of the fixed assets with the revenue produced. Hyde decided at the beginning of the current year to reduce the depreciable lives of all of its existing fixed assets by 5 years.

Situation II

On December 31, 2015, Hyde owned 51% of Patten Company, at which time Hyde reported its investment using the cost method, owing to political uncertainties in the country in which Patten was located. On January 2, 2016, the management of Hyde was satisfied that the political uncertainties were resolved and the assets of the company were in no danger of nationalization. Accordingly, Hyde will prepare consolidated financial statements for Hyde and Patten for the year ended December 31, 2016.

Situation III

Hyde decides in January 2016 to adopt the straight-line method of depreciation for equipment. The straight-line method will be used for new acquisitions, as well as for previously acquired equipment for which depreciation had been provided on an accelerated basis.

Directions

Choose one situation above, research the related generally accepted accounting principles and prepare a short memo to the president that explains the following: type of accounting change; manner of reporting the change under current generally accepted accounting principles, including a discussion, where applicable, of how amounts are computed; effect of the change on the balance sheet and income statement; and note disclosures that would be necessary. Cite your references and applicable paragraph numbers.

Explanation / Answer

Situation III

To,

The President

Subject: Change in accounting principles-Change in method of depreciation

Change in the method of depreciation from accelerated basis to straight line method is the change in accounting principle which will effect the accounting estimates earlier made. These kind of changes which effect accounting estimate is to be accounted for in the same manner as a change in accounting estimate, that is, prospectively in the current period and future periods affected. This change will not be restrospective.

The change will be reported in the footnotes to the financial statement of the company, annoucing the change in the method of depreciation and the reason for doing so.

Change in the method of depreciation is permitted by FAS 154 only when management justify that new method is more preferable to the old method as it matches the cost of production to the period in which the units are produced

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