Financial accounting (Reflection Writing )

Regulation within financial accounting has a long history. As the needs of society change, new accounting principles must be developed.

This report addresses the way in which a reporting entity should manage their non-current assets and revenue from customers under the current regulatory arrangements in Australia, more specifically, AASB116 Property, Plant and Equipment, AASB136 Impairment of Assets and AASB15 Revenue from Contracts with Customers.

Lump sum acquisition cost is $1,200,000 (plus GST). The apportioned cost is as follows;

The journal entry to record the lump sum acquisition is as follows;

The PPE must be recorded in the balance sheet at cost and according to Para 16 of AASB116 Property Plant and Equipment the cost includes the purchase price and any directly attributable costs. Therefore, the total cost of above PPE is as follows;

Land - The purchase cost of $675,000 and the legal fees of $3,000. Legal fees are professional fees relating to acquisition of land is directly attributable to the land and is a necessary expenditure according to Para 17(f) of AASB116 Property Plant and Equipment. Hence the total cost of land is $678,000.

Building – The purchase price of the building is $400,000 and the renovation cost of $13,000, needed to bring the building to a suitable condition, is a relevant cost to capitalize in the purchase price as per Para 16(b) of AASB116 Property Plant and Equipment. The administration cost of $1,000 is an administrative overhead expense as per Para 19(d) of AASB116. Similarly, the insurance cost of $10,000 is an annually incurring administrative overhead and not included in purchase cost. Finally, the trade discount of 15% on building is a relevant discount to deduct, however its assumed that its already deducted in the purchase cost of $400,000, hence not deducted again. Therefore, the total cost of building to include in Balance sheet is $413,000.

Machinery – The purchase price of machinery is $125,000. The installation cost of $4,500 and the transportation of $1,400 is directly attributable costs to Machinery acquisition according to Para 16(b) of AASB116 Property Plant and Equipment. Hence needs to be included in the purchase cost. The total machinery cost is therefore $130,900.

Building Depreciation

Computation on straight line basis -

Annual Depreciation -

The depreciation for year 2013 is for half a year from January to June.

Machinery Depreciation – Diminishing Balance Method

The depreciation for year 2013 is for half a year from January to June.

According to Para 60 of AASB116 Property Plant and Equipment, “the depreciation method used shall reflect the pattern in which the asset’s future economic benefits are expected to be consumed by the entity”.

The depreciation method applied to an asset shall be reviewed by Dream Furniture Pty Limited at each financial year-end and if there has been a significant change in the expected pattern of consumption of the future economic benefits, the method shall be changed, to better reflect the changed pattern. Such a change shall be accounted for as a change in an accounting estimate in accordance with AASB108.

James and Jess would have wanted to change the depreciation method to units of production, as machinery is used in producing units of output. If the machinery is not used heavily in early years in revenue generation, the diminishing-balance method is not an appropriate method.

According to Para 39 of AASB116 Property Plant and Equipment if the assets carrying value has increased because of revaluation of the assets the revaluation gain is recognized in the Other Comprehensive Income and transferred to Equity under Revaluation Surplus.

The journal entries are as follows;

Property, plant and equipment values can change over time. AASB116(paragraph 29) allows companies one of two choices in accounting for property, plant and equipment, after initial recognition, being the cost model and the revaluation model.

Under the revaluation model, a revaluation loss arises when the carrying amount of the asset exceeds its fair value. This loss represents a write down of a class of non-current assets from carrying amount to fair value, and is treated like an expense, which means it will be recognized in profit-or-loss. This is the reason that Dream Furniture would not want to record the revaluation loss for the building.

Furthermore, under the AASB136, when the carrying amount of a non-current asset is greater than its recoverable amount, the asset is said to suffer an impairment loss, and must be written down to recoverable amount. This write down is also treated as an expense. Dream Furniture would not want to record the impairment loss for the machinery either, as it will also be recognized as a loss for the financial year.

AASB116 can explains that Dream Furniture only change to the cost model for the building if it also changes land to the cost model, as the chosen model shall apply to an entire class of property, plant or equipment (AASB 2015, pg. 10). Land and buildings are an entire class, as they are similar in nature and use, and the same measurement principles must be applied.

Under IASB’s Conceptual Framework, there are six qualitative characteristics that must be followed in financial reporting. One qualitative characteristics that would be violated if the losses were not recorded is faithful representation. The Conceptual Framework states that information reported must be complete, neutral and free from error (IASB 2014, pg. 38). Specifically, not wanting to record the revaluation loss would defy ‘neutral’, as this decision would be made with bias in its selection; and ‘free-from-error’, as this is a clear error/omission in the recording process.

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Due to a storm, the building and machinery have new values.

First-Entry: The fair value of the building, which uses the revaluation model, goes from $400,000 to $200,000. As the carrying value of $400,000 exceeds the new fair value of $200,000, there is a $200,000 Expense on Revaluation of Building ($400000-$200000=$200000).

As at 30 June 2016, the building is said to have a useful life of eight years and an estimated residual value of $100,000. Dream Furniture adopted the straight-line depreciation method for the building.

Depreciation charges must be based on every newly established fair value.

Depreciation: = 12500 annual depreciation.

Second-Entry: Carrying Amount minus Recoverable Amount. (The higher of the ‘Fair Value’ less ‘Costs to Sell’ and the ‘Value in Use’. The ‘Value in Use’ for the machinery of $9500 is higher, which is what we will use.

Impairment Loss: 18,700-9,500=9200

General Journal:

As the general theme of this report has portrayed, regulation within financial accounting is unquestionably important. Although, this regulation not only covers objectives and definitions regarding the reporting of financial information as already seen, but also covers the characteristics needed in financial reports. The IASB’s Conceptual Framework asserts that there are six main qualitative characteristics that financial information should have to be the subject matter of general purpose financial reports: relevance, faithful representation, comparability, verifiability, timeliness and understandability (Hogget 2017, pg. 475).

These characteristics are distinguished in two different groups. Relevance and faithful representation are fundamental qualitative characteristics, while comparability, verifiability, timeliness and understandability are classed as enhancing qualitative characterises. To better understand – relevance and faithful representation are the core and most-important, fundamental characteristics; once the information is relevant and faithfully represented, then it can be enhanced by the enhancing qualitative characteristics.

Dream Furniture, being unsure of which qualitative characteristics to use in their reports, should start with the fundamental qualitative characteristics. This is justified by the importance of these two qualitative characteristics, as mentioned above. Relevance, being the quality that financial information must make a difference in decision making, and faithful representation, being the unbiased and free-from-error financial information, are the two that Dream Furniture must use. On top of this, they should also use the enhancing qualitative characteristics, to enhance the usefulness of information.

Under the AASB 15 Revenue from Contracts with Customers, the five-step process for revenue recognition is used to determine when to recognize and how much revenue to recognize. In Step 1, a contract with the customer must be identified (para 9, AASB 15). The $1000 joining fee and the $100 monthly membership fee are contracts with a customer that can be recognized under AASB 15, as Dream Furniture have approved the contract and are committed to performing their obligations. The entity has identified each party’s rights regarding the transfer of the membership and states that they can be transferred at an additional cost to the prospective customer. The entity has also identified the payment terms for the services, that the monthly membership fee must be payable in advance. The entity’s future cash flow is also expected to increase when payment by customers is made and it is probable that Dream Furniture will collect the amount due by customers (para 9, AASB 15).

In the second step, the performance obligations in the contract must be identified (para 22, AASB 15). Given that Dream Furniture can sell many memberships separately to other customers, it is expected that the customers can gain value from the joining fee and the monthly membership fee either on their own or in conjunction with other resources. The fees are distinct because the customer can benefit from either of these fees in isolation (para 22, AASB 15). Dream Furniture has two obligations to provide monthly membership benefits with the membership fee and to provide administrative services to enrol the customer in the membership.

Dream furniture can use the most likely amount for determining the transaction price of the contract. The revenue should be recorded at a transaction price of $1000 for the joining fee and $100 for the membership fee, as this is the single most likely amount the entity will earn from the contract from its customers (para 47, AASB 15). Dream furniture should recognize this revenue when the monthly membership entitlements are fulfilled (para 31, AASB 15).

General Journal Entries

AASB 2015, Revenue from Contracts with Customers, Australian Accounting Standards Board, retrieved 8 May 2018, <http://www.aasb.gov.au/admin/file/content105/c9/AASB15_12-14.pdf>

AASB 2015, Framework for the Preparation and Presentation of Financial Statements, Australian Accounting Standards Board, retrieved 8 May 2018, <http://www.aasb.gov.au/admin/file/content105/c9/Framework_07-04_COMPjun14_07-14.pdf>

AASB 2015, Property, Plant and Equipment, Australian Accounting Standards Board, retrieved 8 May 2018, <http://www.aasb.gov.au/admin/file/content105/c9/AASB116_08-15_COMPoct15_01-18.pdf>

AASB 2015, Revenue from Contracts with Customers, Australian Accounting Standards Board, retrieved 8 May 2018, <http://www.aasb.gov.au/admin/file/content105/c9/AASB15_12-14.pdf>

Hoggett, Medlin, Edwards, Chalmers, Hellmann, Beattie, Maxfield. Financial Accounting 9E, 9th Edition. John Wiley & Sons Australia.

Asset

Estimated Fair

Value

%Allocated Cost

Land810,000 56%675,000

Building480,000 33%400,000

Machinery150,000 10%125,000

1,440,000 100%1,200,000

1-JanDr. Land675,000

Dr. Building400,000

Dr. Machinery125,000

Dr. GST Receivable120,000

Cr. Cash at Bank400,000

Cr. Loan920,000

(Acquisition of Property Plant & Equipment)

General Journal

Purchase

cost

Residual

value

Depreciable

Amount

Useful

Life

Annual

Depreciation

413,000 93,000 320,000 8 40,000

Year

Annual

Depreciation

WDV

201320,000 393,000

201440,000 353,000

201540,000 313,000

201640,000 273,000

Year

Purchase

cost

Residual

value

Depreciable

Amount

Depreciation

Rate

Depreciation

Carrying

Amount

2013130,900 - 130,900 15%19,635 111,265

2014111,265 30%33,380 77,886

201577,886 30%23,366 54,520

201654,520 30%16,356 38,164

Carrying

Amount

Revalued

Amount

Revaliation

Gain

Land678,000 900,000 222,000

Building

Cost413,000

(Less) Accu. Dep.(140,000) 273,000 400,000 127,000

30-JunDr. Land222,000

Cr. Gain on Revaluation - Land (OCI)222,000

(Revaluation increase on land)

Dr. Accumulated Depreciation on Building140,000

Cr. Building140,000

(Write back Accumulated Depreciation)

Dr. Building127,000

Cr. Gain on Revaluation - Building (OCI)127,000

(Revaluation increase on building)

General Journal

30-Jun Dr. Gain on Revaluation - Land (OCI)222,000

Dr. Gain on Revaluation - Building (OCI)127,000

Cr. Other Comprehensive Income Summary 349,000

(Transfer of OCI gains)

Dr. Other Comprehensive Income Summary 349,000

Cr. Revaluation Surplus (O/E)349,000

(Transfer OCI to Appropriate Reserve)

General Journal

Balance Sheet (Partial)

As at 30 June 2016

NON-CURRET ASSETS

Property plant & Equipment

Land (At revalued amount)900,000

Building (At revalued amount)400,000

Less: Accumulated Depreciation- 400,000

Machinery (At Cost)130,900

Less: Accumulated Depreciation92,736 38,164

1,338,164