I am putting the explanation for the question. My first calculation was wrong as I switched Fv for carrying value for the asset given up. There will be no gain or loss in this example. No gain becus no Boot was received by Beam. And since the question asks how Beam will record it, he will hv no gain. But for the other party there will be proportional gain.
No loss becus the FV of asset given up – BV of asset given up = $1000..It does not result in a loss..
Please correct my understanding. Is this the correct way to calculate loss in non monetary exchanges?
Beam Co. paid $1,000 cash and traded inventory, which had a carrying amount of $20,000 and a fair value of $21,000, for other inventory in the same line of business with a fair value of $22,000. What amount of gain (loss) should Beam record related to the inventory exchange?
a. $(1,000)
b. $0
c. $2,000
d. $1,000
Explanation
Choice “b” is correct. $0. Under U.S. GAAP, this appears to be a transaction (1) that lacks commercial substance and (2) appears to be an exchange that was made merely to facilitate sales to customers (inventory was traded).
In order to have commercial substance, either (1) the risk, timing, and amount of the expected future cash flows from the asset transferred differs significantly from the risk, timing, and amount of the expected future cash flows from the asset received, or (2) the entity-specific value (based on the company's expectations of value of the asset and not that of the marketplace) of the asset received differs significantly (in relation to the fair values of the assets exchanged) from the asset transferred.
In this case, inventory was traded for inventory, and only $1,000 of cash was paid in the transaction. The future cash flows configuration does not appear to be affected (as both assets are inventory and the $1,000 cash is not significant), nor would it appear that the entity-specific value of the assets received compared to the assets transferred differs much (and is certainly not significant in relation to the fair value of the assets exchanged).
Further (and perhaps even more compelling for the exchange to be treated as lacking commercial substance), the exchange is inventory for inventory, and inventory is a product that is ordinarily held to be sold to customers. One of the three exceptions (the second one) to the general rule of valuing a transaction at fair value is if the exchange was made solely to facilitate a sale to a third party that is not a party to the exchange (such as a customer). Remember that lack of commercial substance was the third exception.
It appears that this exchange “lacks commercial substance” or falls under the “exchange that facilitates the sale” rules and, since boot was paid, there would be no gain recognized for accounting purposes. Since the fair value of the inventory relinquished exceeded the carrying amount of that inventory, there would be no loss either.
Choices “c”, “d”, and “a” are incorrect, per the above explanation.
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