Siniaro - Long-Term Asset Acquisition Emmett & Gracie (E & G) is considering a s
ID: 2419965 • Letter: S
Question
Siniaro - Long-Term Asset Acquisition
Emmett & Gracie (E & G) is considering a significant equipment replacement. E & G would like to replace some of their equipment before December 31, 2016. The equipment originally cost $840,000 and the equipment’s accumulated depreciation balance at the end of 2015 is will be $790,000. At this point the equipment is depreciated to its salvage value.Your long-term asset accountant, Joe, tells you about this equipment option 2 as follows:
2. exchange the old equipment for new equipment that is more efficient
The estimated life of any new equipment is 7 years.
E & G would like you to analyze option 2 to determine the financial impact of this decision and any non-financial considerations that may result from this decision. Additional information about option 2 is presented below:
Option 2: Exchange the equipment for a similar piece of equipment with a fair value of $995,000. The fair value of the old equipment is $60,000. E & G can borrow $850,000 on a one-year, 10% note. the balance will be funded with an accounts payable arrangement with the supplier. (Assume the exchange has commercial substance.)
Instructions: (A) Prepare jounral entries in general journal form for option 2 and (B) explain on how option 2 affects the finacial statments and the strengths and weaknesses of this option.
Explanation / Answer
fair value of the old equipment = $60000
Gain on exchange = 60000 - 50000 = $10000
The rest of the value of equipmetnt which has been paid by the borrowing and the accounts payable
= 990000 - 60000 = $930000
There will be a profit of $10000 if the old equipment is exchanged for the new one. The notes payable and the accounts payable will increase by $850000 and $80000 respectively. The strength of this option is the old asset could be exchanged easily with a new one without going through the tedious selling and discarding process of the old asset. Another motivating factor is that the companies get relief from immediate tax impositions for the exchange of the old assets because the exchange of the old asset is not being made in cash.
Cost of the old equipment 840000 Less: accumulated depreciation 790000 WDV at the time of excehnage 50000