Question 3: Impairment Austin Healey is the Managing Director and Sole Shareholder of Papi Waka Ltd (PWL). PWL operates several unrelated businesses. Some years ago, PWL purchased a boutique luxury car charter operation that operates under the name Rich Rentals (RR). Demand for its services had increased to such an extent that RR was about to order a fourth new vehicle, a Bentley, to add to its existing fleet of three near-new Rolls Royces. However, it had not yet placed the order for the Bentley prior to the COVID-19-related lock-down which commended on 25 March 2020, and was able to cancel that order at no cost. Since PWL uses its three Rolls Royces interchangeably in its operations, it considers them and the related assets to be a single Cash Generating Unit (CGU). The related assets comprise service and diagnostic equipment to maintain the Rolls Royces in perfect operating condition, and the first car RR ever bought, a 1961 Lincoln Continental Convertible, which it has kept as a back-up vehicle just in case any of the Rolls Royces is involved in an accident. According to the PWL's draft annual financial statements for the year ended 31 March 2020, the RR CGU comprised the following (after current year's depreciation had been recorded): Most of RR's customers have been wealthy tourists from Asia and the USA, but due to COVID-19, New Zealand's borders have been closed to international tourists, and RR's business has been seriously affected. Demand for Rolls Royces on the second hand market has always been limited. Austin concludes that the Value in Use of this RR CGU is no more than $600,000, as the fall in demand for travel has reduced the present value of the RR's future income streams. The fair value of this CGU was assessed at $620,000. Costs to sell would amount to $30,000, given the significant amount of marketing that would be required to liquidate the CGU or its component assets in the current economic environment. Austin also advises you that there is continued demand for 1961 Lincoln Continental Convertibles because of their association with the late President John F. Kennedy. An independent valuation dated 31 March 2020 indicates that RR's+- Lincoln Convertible would realise at least $50,000, after allowing for costs to sell. a) Explain the difference between depreciation and impairment, and then briefly provide the reason why PWL should charge depreciation for the year, before any impairment is calculated? (3 marks) b) Determine the appropriate accounting treatment for the RR CGU as at the end of the 2020 financial year (i.e. 31 March 2020). Show all your workings, and provide all necessary journal entries. Please round to whole dollars. Journal narrations are not required. (14 Marks) c) Subsequently, during the following (2021) financial year, assume that further depreciation of the RR CGU amounting to $142,000 is expensed. Due to the reopening of the borders on 1 February 2021, an independent valuation of the RR CGU as at 31 March 2021 is now $800,000. Advise whether and why (or why not) PWL may reverse any goodwill impairment on the basis that the increased carrying amount of the RR CGU would not exceed the carrying amount that would have been determined (net of amortisation or depreciation) had no impairment loss been recognised for the asset in 2020 . Calculations or journals are not required. Question 3: Impairment Austin Healey is the Managing Director and Sole Shareholder of Papi Waka Ltd (PWL). PWL operates several unrelated businesses. Some years ago, PWL purchased a boutique luxury car charter operation that operates under the name Rich Rentals (RR). Demand for its services had increased to such an extent that RR was about to order a fourth new vehicle, a Bentley, to add to its existing fleet of three near-new Rolls Royces. However, it had not yet placed the order for the Bentley prior to the COVID-19-related lock-down which commended on 25 March 2020, and was able to cancel that order at no cost. Since PWL uses its three Rolls Royces interchangeably in its operations, it considers them and the related assets to be a single Cash Generating Unit (CGU). The related assets comprise service and diagnostic equipment to maintain the Rolls Royces in perfect operating condition, and the first car RR ever bought, a 1961 Lincoln Continental Convertible, which it has kept as a back-up vehicle just in case any of the Rolls Royces is involved in an accident. According to the PWL's draft annual financial statements for the year ended 31 March 2020, the RR CGU comprised the following (after current year's depreciation had been recorded): Most of RR's customers have been wealthy tourists from Asia and the USA, but due to COVID-19, New Zealand's borders have been closed to international tourists, and RR's business has been seriously affected. Demand for Rolls Royces on the second hand market has always been limited. Austin concludes that the Value in Use of this RR CGU is no more than $600,000, as the fall in demand for travel has reduced the present value of the RR's future income streams. The fair value of this CGU was assessed at $620,000. Costs to sell would amount to $30,000, given the significant amount of marketing that would be required to liquidate the CGU or its component assets in the current economic environment. Austin also advises you that there is continued demand for 1961 Lincoln Continental Convertibles because of their association with the late President John F. Kennedy. An independent valuation dated 31 March 2020 indicates that RR's+- Lincoln Convertible would realise at least $50,000, after allowing for costs to sell. a) Explain the difference between depreciation and impairment, and then briefly provide the reason why PWL should charge depreciation for the year, before any impairment is calculated? (3 marks) b) Determine the appropriate accounting treatment for the RR CGU as at the end of the 2020 financial year (i.e. 31 March 2020). Show all your workings, and provide all necessary journal entries. Please round to whole dollars. Journal narrations are not required. (14 Marks) c) Subsequently, during the following (2021) financial year, assume that further depreciation of the RR CGU amounting to $142,000 is expensed. Due to the reopening of the borders on 1 February 2021, an independent valuation of the RR CGU as at 31 March 2021 is now $800,000. Advise whether and why (or why not) PWL may reverse any goodwill impairment on the basis that the increased carrying amount of the RR CGU would not exceed the carrying amount that would have been determined (net of amortisation or depreciation) had no impairment loss been recognised for the asset in 2020 . Calculations or journals are not required