- 7 Marks
Question
Gama Plastic Limited owns a number of plastic recycling plants in various parts of the country which supply most of the raw material used by Gama Plastic Limited for its production of household and corporate plastic products.
On December 1, 2015, the directors of Gama Plastic Limited announced publicly that it intends to voluntarily reduce the level of harmful emissions from its recycling plants through modifications of the plants.
The average useful economic life of these plants as of December 31, 2015, was 15 years. Gama Plastic Limited charges depreciation in relation to the recycling plants to cost of sales on a straight-line basis.
The directors believe that while the modifications will be effective from early 2016 onward, the actual cash costs of the modifications will be as follows:
| Date | Amount (N’000) |
|---|---|
| December 31, 2016 | 100,000 |
| December 31, 2017 | 80,000 |
| December 31, 2018 | 140,000 |
No contract was signed until 2016, but Gama Plastic Limited prides itself on its excellent public image and has a well-known reputation for meeting both legal and constructive obligations.
The directors of Gama Plastic Limited believe that it is appropriate to use discounted cash flow techniques and that an appropriate rate would be 10%, with the following discount factors:
| Year | PV Factor |
|---|---|
| 1 | 0.909 |
| 2 | 0.826 |
| 3 | 0.751 |
| 4 | 0.683 |
| 5 | 0.620 |
| 6 | 0.564 |
Required:
Assuming the actual cash cost of the modification is a reliable estimate, calculate the provisions that should be included in the statement of financial position and the charges to the statement of profit or loss of Gama Plastic Limited in respect of the proposal for each of the years 2015 and 2016. (7 Marks)
Answer
b. Gama Plastics Limited
Calculation or measurement of provisions
The amount recognised as a provision should be the best estimate of the expenditure required to settle the present obligation at the end of the reporting period. That is, the amounts that the entity would rationally pay to settle the obligation or transfer it to a third party at the reporting date. The estimates will be determined by the judgment of the entity’s management supported by the experience of similar transactions and experts advice.
Calculation or measurement of provisions of Gama Plastics Limited
Since the modification cost will enhance the economic benefits of the plants, it means that the calculated provision of N262,120,000 should be capitalised and included in the carrying amount of the plant.
Gama Plastics Limited
Statements of financial position extracts as at December 31
- Tags: Depreciation, Discounted Cash Flow, Emission Modifications, IAS 37, Provisions
- Level: Level 3
- Uploader: Kofi