Q20RQ - Horngren'S Financial And Managerial Accounting

Question

What does it mean if an exchange of plant assets has commercial substance? Are gains and losses recorded on the books because of the exchange?

Step-by-Step Solution

Answer

An exchange having commercial substance will affect the business’s future cash flow, and the gains or losses arising from the same must be recorded in the books of accounts.

Step 1: Definition of Plant Assets

The assets employed in the business unit for the long-term purpose of producing goods or services are known as plant assets. These assets are charged with expenses known as depreciation.

Step 2: Exchange of plant assets having commercial substance

The exchange of plant assets has commercial substance when the exchange affects the future cash flow of the business entity. 

If the exchange has commercial substance, the business entity must record the gain or loss arising from such exchange.