Suarez Company is a business that owns and operates various types of equipment for its operations. The equipment is subject to depreciation and impairment, which are accounting methods to measure the loss of value over time. In this article, we will examine the information related to the equipment owned by Suarez Company at December 31, 2014, and discuss the implications for the financial reporting and decision making of the company.
Depreciation of Equipment
Depreciation is the process of allocating the cost of an asset over its useful life, which reflects the wear and tear, obsolescence, or decline in performance of the asset. Depreciation reduces the carrying value of the asset on the balance sheet and creates an expense on the income statement. There are different methods of calculating depreciation, such as straight-line, units-of-production, double-declining-balance, sum-of-the-years’-digits, etc. Each method has its own advantages and disadvantages, depending on the nature and usage of the asset.
According to one source, the information related to the equipment owned by Suarez Company at December 31, 2014 is as follows:
| Cost | $9,000,000 | | Accumulated depreciation to date | $1,000,000 | | Expected future net cash flows | $7,000,000 | | Fair value | $4,800,000 |
Assuming that Suarez Company uses the straight-line method of depreciation and that the equipment has a salvage value of $0 at the end of its useful life, we can calculate the annual depreciation expense as follows:
Annual depreciation expense = (Cost – Salvage value) / Useful life
The useful life of the equipment can be estimated by dividing the expected future net cash flows by the annual depreciation expense:
Useful life = Expected future net cash flows / Annual depreciation expense
Substituting the given values, we get:
Useful life = $7,000,000 / (($9,000,000 – $0) / Useful life)
Solving for Useful life, we get:
Useful life = 9 years
Therefore, the annual depreciation expense is:
Annual depreciation expense = ($9,000,000 – $0) / 9
Annual depreciation expense = $1,000,000
This means that Suarez Company has been depreciating the equipment at a rate of $1,000,000 per year since it acquired it. The accumulated depreciation to date of $1,000,000 indicates that the equipment was purchased one year ago (at December 31, 2013). The carrying value of the equipment at December 31, 2014 is:
Carrying value = Cost – Accumulated depreciation
Carrying value = $9,000,000 – $1,000,000
Carrying value = $8,000,000
Impairment of Equipment
Impairment is the condition when the carrying value of an asset exceeds its recoverable amount, which is the higher of its fair value less cost to sell or its value in use. Impairment indicates that the asset has lost some of its future economic benefits and needs to be written down to reflect its reduced value. Impairment creates a loss on the income statement and reduces the carrying value of the asset on the balance sheet.
According to U.S. GAAP (Generally Accepted Accounting Principles), an asset is considered impaired when its carrying value is not recoverable and exceeds its fair value. The carrying value is not recoverable if it exceeds the sum of the undiscounted expected future cash flows from using and disposing of the asset. The impairment loss is measured as the difference between the carrying value and the fair value of the asset.
Using the information given above, we can test whether the equipment owned by Suarez Company at December 31, 2014 is impaired or not. First, we compare the carrying value of $8,000,000 with the sum of the undiscounted expected future net cash flows of $7,000,000. Since the carrying value is higher than the cash flows, we conclude that the carrying value is not recoverable and that the equipment is impaired. Next, we measure the impairment loss as follows:
Impairment loss = Carrying value – Fair value
Impairment loss = $8,000,000 – $4,800,000
Impairment loss = $3,200,000
This means that Suarez Company needs to record an impairment loss of $3,2000 on its income statement and reduce the carrying value of the equipment to its fair value of $4, 800, 00 on its balance sheet.
Conclusion
In this article, we have analyzed the information related to equipment owned by Suarez Company at December 31, 2014. We have calculated the annual depreciation expense and the carrying value of the equipment using the straight-line method. We have also tested and measured the impairment of the equipment using U.S. GAAP. We have found that the equipment is impaired and needs to be written down by $3,200,000. This will affect the financial performance and position of Suarez Company and may have implications for its future decisions regarding the use or disposal of the equipment.
