3. Sommers Co. is analyzing some of its equipment to determine whether it is imp

Question

3. Sommers Co. is analyzing some of its equipment to determine whether it is impaired. The equipment has a cost of $900,000 and accumulated depreciation to date of $425,000. Management estimated the future cash flows from the equipment will be $300,000, and the fair value of the equipment is $220,000.

A) Determine whether the equipment is impaired.

B) If the equipment is impaired, prepare the necessary journal entry.

C) How are impairments reported in the income statement?

D) How do impairments affect the computation of depreciation expense on the impaired asset?

Explanation / Answer

*Every amount pertains to $

Cost of the equipment = 900,000

Accumulated depreciation = 425,000

So, Book value = 900,000 - 425,000 = 475,000

Fair value of the equipment = 220,000

Future cash flows as un discounted = 300,000

A) Since the future un discounted cash flows is less than the book value of the equipment, loss on impairment has occurred.

Loss on impairment = Book value - Market/fair value of the equipment = 475,000 - 220,000 = 255,000

B) Loss on impairment a/c dr 255,000

Accumulated depreciation a/c dr. 425,000

To Equipment a/c 680,000

C) How it is reported in the income statement:

i. Decrease the income by the amount of loss on impairment i.e 255,000

ii. Record asset i.e equipment as a value of 220,000 ( Book value - Impairment loss)

D) After impairment, the depreciation is calculated on the new value of the equipment and this how the loss on impairment or gain on impairment affects the valuation of the depreciation.

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