Hello, and welcome everyone to our lesson today. Today I'm going to focus on change in estimate. I will actually take two examples and discuss both of them. One of them is a pure change of estimate and the other one is a change in the depreciation method, which is treated like a change in estimate prospectively. A change in principle is treated retrospectively, while today's change that we are going to focus on is the change in estimate which is treated prospectively, means from this point on. Let's take an example. On January 1st, 2017, Universal Company purchased a machine for 528,000 and depreciated it by the straight-line method using an estimated useful life of eight years with no salvage value. On January 1st, 2020, Universal determined that the machine had a useful life of six years from the date of acquisition and will have a salvage value of 48,000. Notice that I'm changing the useful life from 86, and I'm also changing the residual value from 0 to 48,000. How would Universal account for the change in 2020? Basically, simply, straightforward, I need to calculate the book value at the time of the change, and then allocate it or depreciate it using the new estimates. But the starting point is to know, what do you have in the book value of the asset and treat it as if it's a new asset, as if it is a new asset. So when we start, here is the first step. The book value on January 1st, 2020, which is the time of the change in estimate, I had 528,000, which is the cost, minus 528,000 divided 8, which is the useful life, original useful life, times 3, because I have used it three years. That means that the book value is 330,000. I'll take that 330,000 and treat it as if it's a new machine that has 330,000 as a cost as if it is, with a salvage value of 48,000 and a useful life of three years. And that's where I am calculating the depreciation based on the new estimate or the new estimates, whether it's useful life or the residual value. So I have Universal would report depreciation expense of 94,000 in its 2020 income statement. I will not go back and revise the depreciation expenses that were recorded over in the previous period, but I'll leave it as is and work prospectively. Change in estimate also, if the depreciation method changes, that obviously also is treated as a change in estimate because we treat it as if the company is changing the way it is expecting or estimating the benefits that will be generated from the long-term assets. So let's take the example of changing the depreciation method. Prior to 2020, Universal Incorporation used the sum-of-the-years'-digits depreciation on its store equipment. Beginning in 2020, the manager decided to use straight-line depreciation. The equipment cost 3 million when it was purchased at the beginning of 2018, had an estimated useful life of five years, and no estimated residual value. How would Universal account for the change in 2020? Again, I used it for actually 2018, 2019, so I used it for two years here before the change in 2020. When I calculate the depreciation, I need to calculate the book value of that equipment at the beginning of 2020. Here you go. If it's the sum-of-the-year-digits, we have that is five years. Then if you look at the denominator, calculate it, it's 1 plus 2 plus 3 plus 4 plus 5, which is the useful life of the asset. So the rate will be decreasing. The first year is 5/15, the second year is the 4/15. Obviously, I assume that we already know how to calculate the depreciation using different methods, especially sum-of-the-year-digits here. So actually, if I wanted to calculate the accumulated depreciation after two years, I can actually just multiply the 300,000 times 9/15, which is the 4 and the 5. But anyway, I did it as separate depreciation for each year. I calculated the book value at the beginning of 2020. When I calculated that, the new depreciation will be calculated as a 1,200,000, as if the book value is a new asset and has no salvage value, and I'm going to depreciate it over three years using the straight line, and that's why I divided by 3. Then the new depreciation for the remaining three years for 2021 and 22 will be 400,000 in each year. So I treated the change in depreciation method as if it is actually a change in estimate because I assume that that was a change in how the company is perceiving or expecting the benefit that is estimated originally by a different method. Thank you.
