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Solution Practice 9 Business Combinations AND Impairment

Body Defences (University of Western Australia)

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PRACTICE 9: BUSINESS COMBINATIONS AND IMPAIRMENT

Exercise 7.12

Impairment loss for a CGU, reversal of impairment loss

One of the CGUs of Cooper Ltd is associated with the manufacture of wine barrels. At
30 June 2019, Cooper Ltd believed, based on an analysis of economic indicators, that
the assets of the unit were impaired.

The carrying amounts of the assets and liabilities of the unit at 30 June 2019 were:

Buildings $ 420 000

Accumulated depreciation — buildings* (180 000)
Factory machinery 220 000
Accumulated depreciation — machinery** (40 000)
Goodwill 15 000
Inventories 80 000
Receivables 40 000
Allowance for doubtful debts (5 000)
Cash 20 000
Accounts payable 30 000
Loans 20 000
*Depreciated at $60 000 p.a.
**Depreciated at $45 000 p.a.

Cooper Ltd determined the recoverable amount of the unit to be $535 000. The
receivables were considered to be collectable, except those considered doubtful. The
company allocated the impairment loss in accordance with AASB 136/IAS 36.

During the 2019–20 period, Cooper Ltd increased the depreciation charge on buildings
to $65 000 p.a., and to $50 000 p.a. for factory machinery. The inventories on hand at 1
July 2019 were sold by the end of the year. At 30 June 2020, Cooper Ltd, because of a
return in the market to the use of traditional barrels for wines and an increase in wine
production, assessed the recoverable amount of the CGU to be $30 000 greater than the
carrying amount of the unit. As a result, Cooper Ltd recognised a reversal of the
impairment loss.

Required
1. Prepare the journal entries for Cooper Ltd at 30 June 2019 and 2020. (LO5 and
LO6)
2. What differences would arise in relation to the answer in requirement 1 if the
recoverable amount at 30 June 2020 was $20 000 greater than the carrying amount
of the unit? (LO5 and LO6)
3. If the recoverable amount of the buildings at 30 June 2020 was $175 000, how would
this change the answer to requirement 2? (LO5 and LO6)

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COOPER LTD

1. Carrying amount of assets:

Buildings $240 000

Factory machinery 180 000
Goodwill 15 000
Inventory 80 000
Receivables 35 000
Cash 20 000
570 000
Value in use 535 000
Impairment loss $35 000

Goodwill is written down by $15 000, and the balance of the impairment loss, namely $20
000 is written off across the other relevant assets.

Carrying Proportion Allocation Net Carrying

Amount of Loss Amount

Buildings 240 000 24/42 11 429 228 571

Machinery 180 000 18/42 8 571 171 429
420 000 20 000

The journal entry for 2019 is:

DR Impairment loss 35 000

CR Goodwill 15 000
CR Accumulated depreciation and
impairment losses – buildings 11 429
CR Accumulated depreciation and
impairment losses – machinery 8 571
(Allocation of impairment loss)

At 30 June 2020, the two assets are reported as follows.

Buildings $420 000

Accumulated depreciation
and impairment losses 256 429 [180 000 + 11 429 + 65 000]
163 571

Factory machinery $220 000

Accumulated depreciation and
impairment losses 98 571 [40 000 + 8 571 + 50 000]
121 429

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The carrying amounts of these assets if no impairment loss had occurred would have been:

Buildings $420 000

Accumulated depreciation
and impairment losses 240 000 [180 000 + 60 000]
180 000

Factory machinery $220 000

Accumulated depreciation and
impairment losses 85 000 [40 000 + 45 000]
135 000

The differences between the carrying amounts recorded at 30 June 2020 and the carrying
amounts if no impairment losses had been recorded are:

Buildings $16 429 [180 000 – 163 571]

Factory machinery $13 571 [135 000 – 121 429]
$30 000

As the recoverable amount at 30 June 2020 exceeds the carrying amount by $30 000, then the
total amount can be recognised.

DR Accumulated depreciation and

impairment losses – buildings 16 429
DR Accumulated depreciation and
impairment losses – factory machinery 13 571
CR Income: reversal of impairment loss 30 000
(Reversal of impairment loss)

2. If the excess of the recoverable amount over carrying amounts at 30 June 2020 was only
$20 000, then the reversal would be based on a pro rata allocation based on carrying amounts
at time of reversal.

Carrying Proportion Allocation Net Carrying

Amount of Excess Amount

Buildings 163 571 0.57 11 479 175 050

Machinery 121 429 0.43 8 521 129 950
285 000 20 000
The entry would be:

DR Accumulated depreciation and

impairment losses – buildings 11 479
DR Accumulated depreciation and
Impairment losses – factory machinery 8 521
CR Income: reversal of impairment loss 20 000
(Reversal of impairment loss)

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3. If the recoverable amount of the buildings at 30 June 2020 was only $175 000, then the
reversal of the impairment for buildings could only be $11 429 (i.e. $175 000 less $163 571).
Hence the balance of $50 (i.e. $11 479 - $11 429) could be allocated to factory machinery.

The journal entry is:

DR Accumulated depreciation and

impairment losses – buildings 11 429
DR Accumulated depreciation and
impairment losses – factory machinery 8 571
CR Income: reversal of impairment loss 20 000
(Reversal of impairment loss)

The $8571 allocated to factory machinery still does not exceed the carrying amount if the
asset had never been impaired. The factory machinery will now be shown as:

Factory machinery $220 000

Accumulated depreciation and
impairment losses 90 000 [40 000 + 8571 +50 000 – 8571]
$130 000

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Exercise 25.9

Accounting for a business combination by the acquirer

Doctor Ltd was finding difficulty in raising finance for expansion while Who Ltd was
interested in achieving economies by marketing a wider range of products. They entered
discussions on how they could mutually achieve added benefits to both companies. They
prepared the following financial positions of the companies at 30 June 2020.

It was agreed that it would be mutually advantageous for Doctor Ltd to specialise in
manufacturing, and for marketing, purchasing and promotion to be handled by Who
Ltd. Accordingly, Who Ltd sold part of its assets to Doctor Ltd on 1 July 2020, the
identifiable assets acquired having the following fair values.

The acquisition was satisfied by the issue of 40 000 ‘A’ ordinary shares (fully paid) in
Doctor Ltd.

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Required
1. Assuming the assets acquired constitute a business, show the journal entries to
record the above transactions in the records of Doctor Ltd:
(a) if the fair value of the ‘A’ ordinary shares of Doctor Ltd was $2 per share
(b) if the fair value of the ‘A’ ordinary shares of Doctor Ltd was $2.20 per share.
2. Show the statement of financial position of Doctor Ltd after the transactions,
assuming the fair value of Doctor’s Ltd’s ‘A’ ordinary shares was $2.20 per share.
(LO6)

DOCTOR LTD – WHO LTD

1.

(a)

Assuming the fair value of “A” ordinary shares was $2 per share:

Acquisition analysis:

Net fair value of identifiable assets and

liabilities acquired
Consideration transferred
Gain on bargain purchase
$22 000 (inventory)
+ $34 000 (land and buildings)
+ $27 000 (plant and machinery)
= $83 000
40 000 shares x $2.00
= $80 000
= $3 000

Journal entries:

Inventories Dr 22 000
Land and buildings Dr 34 000
Plant and machinery Dr 27 000
Gain on bargain purchase Cr 3 000
Share capital “A” Ordinary Cr 80 000
(Assets acquired and shares issued)

(b)
Assuming the fair value of “A” ordinary shares was $2.20 per share:

Acquisition analysis:

Net fair value of identifiable assets

and liabilities acquired = $83 000
Consideration transferred = 40 000 shares x $2.20
= $88 000
Goodwill = $5 000

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Journal entries:

Inventory Dr 22 000
Land and buildings Dr 34 000
Plant and machinery Dr 27 000
Goodwill Dr 5 000
Share capital “A” Ordinary Cr 88 000
(Assets acquired and shares issued)

DOCTOR LTD
Statement of Financial Position
as at 30 June 2020
$
Current Assets
Cash 12 000
Accounts receivable 18 000
Inventory 65 000
Total Current Assets 95 000

Non-Current Assets
Land and buildings 57 000
Plant and machinery 79 000
less Accumulated depreciation 34 000 45 000
Goodwill 5 000
Total Non-Current Assets 107 000
Total Assets 202 000

Current Liabilities
Accounts payable 42 000
Non-current Liabilities
Debentures 20 000
Total Liabilities 62 000
Net Assets 140 000

Equity
Share capital
40 000 ordinary shares, fully paid 40 000
40 000 “A” ordinary shares, fully paid 88 000 128 000
Retained earnings 12 000
Total Equity 140 000

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