6 Accounting for Non-current Assets 6 Accounting for Non-current Assets Examining the methods of accounting for assets, calculating depreciation and preparing a non- current asset register

JAN 2010CIMA C2 YUAN LI2 Topics  Depreciation  Record keeping  Intangible non-current assets

JAN 2010CIMA C2 YUAN LI3 6.2 Capital and revenue expenditure  Capital expenditure is expenditure likely to increase the future earning capability of the organisation assets in BS  revenue expenditure is that associated with maintaining the organisation’s present earning capability Expenses in IS

JAN 2010CIMA C2 YUAN LI4 Capital expenditure  new items of plant and machinery that are bought from external manufacturers, vehicles, buildings and purchases of land  assets are internally manufactured or when existing assets are modified or repaired??? judgment: if the expenditure significantly improves earnings capability

JAN 2010CIMA C2 YUAN LI5 Example 6.a  Hard disk drive (5m  5G) Part of cost as expense Remainder as capital expenditure

JAN 2010CIMA C2 YUAN LI6 exercise Complete repaint of existing building. Installation of a new central heating system. Repainting of a delivery van. Providing drainage for a new piece of water-extraction equipment. Legal fees on the acquisition of land. Carriage costs on a replacement part for a piece of machinery R C R C C R

JAN 2010CIMA C2 YUAN LI7 Depreciation 6.3 Depreciation  The cost of the non-current asset will benefit the organisation over periods.  The cost is spread over all of the accounting periods in which the asset is expected to be making a contribution to earnings.

JAN 2010CIMA C2 YUAN LI8 Depreciation 6.3 Depreciation Theory  Depreciation is the process where the cost of a tangible non-current asset is spread over its useful life Cost expenses

JAN 2010CIMA C2 YUAN LI9 Depreciation 6.3 Depreciation Theory  Depreciation is shown as an expense in the IS and as accumulated depreciation in the BS  BS shows the cost of the non-current asset less accumulated depreciation, i.e. it shows the carrying amount

JAN 2010CIMA C2 YUAN LI10 Depreciation  Depreciation is a non-cash item and does not guarantee funds remaining are being set aside for any asset replacement  Carrying amount does not necessarily equate to fair value

JAN 2010CIMA C2 YUAN LI11 Balance sheet – typical layout CostAccum. Dep’n Carrying amount BuildingsX(X)X Fixture and fittingsX(X)X Office equipmentX(X)X vehiclesX(X)X plantX(X)X X X

JAN 2010CIMA C2 YUAN LI Calculating depreciation  The straight-line method  The reducing-balance method  The machine-hour method/units of production method  The revaluation method

JAN 2010CIMA C2 YUAN LI The straight-line method Depreciation per annum = Original cost - estimated residual value Estimated useful life DR Accumulated depreciation CR Depreciation expenses

JAN 2010CIMA C2 YUAN LI The reducing-balance method  Some assets give a greater service – and therefore depreciate more – in their early years than they do in later years  expense being greater in the earlier years of an asset’s life than in the later years  Exercice 6.4 P148

JAN 2010CIMA C2 YUAN LI The machine-hour method/units of production method  be depreciated according to the rate

JAN 2010CIMA C2 YUAN LI The revaluation method  not based on the original cost of an individual asset  relies on an estimated cost being made in respect of a group of similar small-value assets when preparing the financial statements e.g. 6.B P150

JAN 2010CIMA C2 YUAN LI17 f annual depreciation Calculating depreciation o f annual depreciation  Charge using straight-line method = original cost – residual value ÷ useful life  Charge using reducing balance method = % of carrying amount  Charge using machine hour/units of production method = (original cost – residual value ÷ total output) X output for the period  Charge for small-asset values is the difference between opening valuation of small items of equipment and the closing value, after adjusting for additions and disposals

JAN 2010CIMA C2 YUAN LI18 Study tip It is more common to be examined on the use of straight line and reducing balance methods

JAN 2010CIMA C2 YUAN LI Depreciation in the year of acquisition and disposal  depreciation on an ‘ actual time basis ’  small organisations to charge a full year’s depreciation in the year of acquisition, and to charge none in the year of disposal

JAN 2010CIMA C2 YUAN LI Accounting for the disposal of a non-current asset profit or loss arising on the disposal of the asset a comparison is made of the difference between the carrying amount of the asset at the date of its disposal and the proceeds received (if any) the proceeds ﹤ the carrying amount treated as an expense

JAN 2010CIMA C2 YUAN LI21 Record keeping double entry  Acquisition DR non-current assets a/c CR bank or payable a/c  Depreciation charge for the year DR depreciation expense a/c CR accumulated depreciation a/c

JAN 2010CIMA C2 YUAN LI22 Record keeping double entry  Disposal original cost DR disposals a/c CR non-current assets a/c  Disposal accumulated depreciation DR accumulated depreciation a/c CR disposals a/c

JAN 2010CIMA C2 YUAN LI23 Record keeping double entry  Disposal: cash DR bank a/c CR disposals a/c  Close the disposals a/c by transferring the balancing figure to the IS as a profit or loss on disposal  Profit on disposal is CR to IS and vice versa

JAN 2010CIMA C2 YUAN LI24 Example – disposals a/c $$ Non-current asset X at cost a/c Accum. X depreciation a/c IS (profit on disposal) XBank X IS (loss on disposal) X XX

JAN 2010CIMA C2 YUAN LI25 Study tip  It may be quicker in examination questions to calculate profit or loss on disposal as carrying amount – cash proceeds from sale

JAN 2010CIMA C2 YUAN LI Record keeping non-current asset register  Used as an aid to control the tangible non- current assets of a business  Usually contains description of asset, date purchased, supplier’s name, cost, location, useful life, method of depreciation, depreciation charges, carrying amount, disposal details, repairs information, insurance details and asset number  Likely to be computerized to improve accuracy, speed and report generation

JAN 2010CIMA C2 YUAN LI27 Intangible non-current asset 6.8 Intangible non-current asset  An asset that does not have a physical substance  may have useful lives e.g. a patent may have a life of 10 years  amortised straight-line method no residual value

JAN 2010CIMA C2 YUAN LI28 goodwill  Unlike tangible assets it does not have physical substance  Represents for example brand name, management team, business contacts, staff relations  not possible to identify goodwill separately from the business

JAN 2010CIMA C2 YUAN LI29 Purchased and non-purchased goodwill  Purchased goodwill = price paid – (fair value of the assets – liabilities) it has an objective valuation it can be recorded in the financial statements

JAN 2010CIMA C2 YUAN LI30  Goodwill is not amortised, but is subject to annual impairment review (impairment is “carrying amount” less “lower revised value”) difference treated as expense  Non-purchased goodwill is a subjective judgment and thus is not recorded in the financial statements goodwill

JAN 2010CIMA C2 YUAN LI31 Other intangibles  Other intangible non-current assets, e.g. patents, are stated in the BS at cost and “depreciated” except that for intangibles it is called amortisation instead

JAN 2010CIMA C2 YUAN LI32 Practice questions 1.Jones Ltd bought a machine for $11,000 on 1 Jan 20x7, which had an expected useful life of five years and an expected residual value of $1,000; the asset was to be depreciated on the straight-line basis. It is company policy to charge a full year’s depreciation in the year of purchase and none in the year of sale. On 30 June 20x9, the machine was sold for $6,500. the amount to be entered in the 20x9 income statement for the year ended 30 June 20x9 for profit or loss on disposal is: Profit/Loss $ answer: loss $500

JAN 2010CIMA C2 YUAN LI33 Practice questions 2. The most appropriate definition of depreciation is: A.A means of allocating the cost of an asset over a number of accounting periods B.A means of determining the decrease in fair value of an asset over time C.A means of estimating the fair value of the asset D.A means of setting funds aside for the replacement of the asset Answer : A

JAN 2010CIMA C2 YUAN LI34 Practice questions 3. Smith Ltd bought a drilling machine for a cost of $30,000. the electrical installation costs were $3,000 and the employees received specific training on how to use this particular machine, at a cost of $4,000. before using the machine on customers’ steelwork, a test was undertaken and the steel cost $2,000. what should be the cost of the machine in the company’s balance sheet? Answer: $39,000

JAN 2010CIMA C2 YUAN LI35 Practice questions 4. A van was purchased by a supermarket on 1 Dec 20x5. the following details were extracted from the purchase invoice. $ Cost 22,000 Diesel 70 Road tax 150 Sales tax 3,300 Total 25,520 Loss $375 The business adopts a date of 31 Dec as its year end. The van was traded in for a replacement vehicle on 1 Jan 20x7 at an agreed value of $12,000. it has been depreciated at 25% per annum on the reducing-balance method, charging a full year’s depreciation in the year of purchase and none in the year of sale. What was the profit or loss on disposal of the vehicle during the year ended Dec 20x7?

JAN 2010CIMA C2 YUAN LI36 Practice questions 5. Which TWO of the following should be accounted for as capital expenditure? A.The cost of painting a building B.The replacement of windows in a building C.The purchase of a car by a garage for resale D.Legal fees incurred on the purchase of a building E.Cost of design error in plans for a new building F.Site preparation costs for a new building answer: D F