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ACCM4200-Financial Accounting And Reporting

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Questions:

1.The difference between depreciation, impairment and revaluation losses?
 
2.What impact these charges will have on profitability?
 
3.Why the changes are required for depreciation, impairment and revaluation?
 
4.What disclosures are necessary for these changes?
 
5.How we could otherwise report on performance without upsetting the managers?
 
 

Answer

1.Difference between Depreciation, Impairment and Revaluation

Deprecation is charge to the profit and loss towards the usage of an asset. When an asset is used, its value is declined. Depreciation is the charge on the asst in order to account for its usage, obsolesce and degradation in value due to efflux of time.
 
An asset is said to be impaired when the recoverable amount of the asset in an open market falls below its carrying amount. Impairment is the decline in the value of the asset in the market due to various factors. Once impairment is charges over an asset, it is not likely that the recoverable amount of the asset will go up. For example, we have an asset with a carrying amount of $40000, the recoverable amount of such asset is estimated to be $35000, the asset is said to be impaired by $5000.

Revaluation of asset refers to change in fair value or value in use of the asset. The revaluation is asset results in matching of the carrying amount of the asset with its fair value. Revaluation may be done upwards or downwards, that is, the fair value may be increased or decreased. (Australian Accounting Standards Board)

2.Impact of these on the profitability of the company

As discussed earlier depreciation is charge to the profit and loss. The amount of depreciation charged is sent to the profit and loss statement, that is, depreciation reduces the profit of the
current year. Though there is no actual cash flow, the profit of the company declines due to depreciation.

Impairment loss any should be immediate recognised in the profit and loss stamen. The difference between the carrying amount and recoverable amount of an asset, should be transferred to the profit and loss statement as impairment loss towards asset, this will decline the profits of the company. Such losses are to be shown as a separate line item in profit and loss.
As discussed, revaluation may lead to increase or decrease in the carrying amount of the asset. When the value of the asset increases, then a revaluation reserve of the same amount is created this is shown as a part of the equity in balance sheet. Balance in such reserve is transferred to surplus profits directly on sale on such assets. If the value of the asset declines due to revaluation, then such losses is charges to profit and loss, except in cases when there exists previously created revaluation reserve in connection with such assets. In such cases, the revaluation loss is first written off with revalued loss and remaining amount is then charged to the profit and loss statement. For example, say there is a machine which was earlier revalued from $25000 to $35000, creating a revaluation surplus of $10000. Now the same machine has been revalued downwards by $12000. In this case the revaluation loss will first be written off form the surplus, and remaining amount $2000 will be charged to the profit and loss statement.

All the above create a charge on the profit of the company. Depreciation, impairment and revaluation losses are all written off in the profit and loss statement, decreasing the profit of the year.

3.Need for changes required for depreciation, impairment and revaluation

There are various methods to charge depreciation. The method which is most suitable to the industry type of the company should be opted for. (Australian Accounting Standards Board)Depreciation is tool which is used by many managers in order to manipulate profits; therefore it is important to implement the most suitable for of depreciation so that correct profits of the company can be arrived at. It is impairment to bring changes in the depreciation methods in order to meet with the industry standards or the accounting standards or even to have better presentation of the financial statements.

It is important to have the assets checked for impairment so that correct value of the assets can be recognised in the books of accounts. Also, if there is any sudden decline in the recoverable amount of the asset, then recording impairment loss will help the management appropriate sufficient funds for the replacement of the new asset.
 
 

Revaluation of the asset is done in order to present the assets at the fair value in the books of the accounts. Revaluation helps the users of the financial statement understand the actual financial position of the company. It is also done in order to meet with regulatory requirements.

It is necessary that the companies comply with the regulatory requirements of recognition and disclosure of the above; else it may attract non-compliance penalties

4.Disclosures required for depreciation, Impairment and Revaluation

When depreciation is charged on an asset it is the management responsibility to show such amount charged as depreciation in the books. The company is required to disclose the gross block amount along with accumulated depreciation, addition in accumulated depreciation during the year, any disposals and the net block of assets. The method of charging depreciation should be mentioned. Any change in this method should be reported in the notes along with the reasons and effect of such change on the profits of the company. Following is an example of how to disclose the depreciation details in the books:
Pepper Limited

Fixed Asset schedule as on ………….
 
Description Asset Accumulated depreciation Net Book Value
Opening Value Addition Disposal Closing Value Opening Value Addition Disposal Closing Value
 
The company is required to report any impairment loss charged or reversal of any impairment loss during the year in the profit and loss stamen. They are also required to separately disclose charge or reversal of any impairment loss on revalued asset in the other comprehensive income.

In cases of revaluation of asset the company is required to report the date of revaluation, if any registered value was involved, the amount of the block if cost model was continues, revaluation surplus, restriction on use of revaluation surplus and any use of funds from revaluation surplus.

5.Performance reporting methods

In order to evaluate the performance of the mangers it is important to choose correct attributes. Considering only the profits irrespective of other factors is not a correct way to evaluate the performance of the managers. The management should account for performance with the help of various financial ratios. The improvement in productivity and reduction in losses and wastages should be accounted for while evaluating the performance. Increase the revenue with increased cost with not benefit the company. Therefore, the management should also consider cost effectiveness of the managers. Implementation of budgets and variances should also be accounted for while evaluating the performance.

For example: if the Profits of the company were $5000 with revenue of $50000, the profit margin was 10%, in the previous year. In the current year the company earns a profit of $6000 with revenue of $65000, the profit margin is 9.23%. Therefore, we see that even though the profit increased the efficiency has declined.

Assets form a very important part of the organisation. It is necessary that they are properly recorded and valued in the books of accounts. Not accounting the assets properly may affect the profitability and productivity of the company. The assets recorded should be properly valued and depreciated, and should be timely checked for impairment. Though these may affect the profit of the company, but it would help the management in provide for the future assets.
 
I hope that the above helps you to understand the concepts related to accounting of the assets. Kindly write to me in case any further assistance is required. 

 

Bibliography

Australian Accounting Standards Board. (n.d.). Impairment of Assets. Retrieved from www.aasb.gov.au: https://www.aasb.gov.au/admin/file/content105/c9/AASB136_07-04_COMPjun09_01-10.pdf

Australian Accounting Standards Board. (n.d.). Property, Plant and Equipment. Retrieved from www.aasb.gov.au: https://www.aasb.gov.au/admin/file/content105/c9/AASB116_07-04_COMPjun09_01-09.pdf
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