CHAPTER 11 Depreciation, Impairments, and Depletion ……..…………………………………………………………... “allocating the cost of tangible assets to those periods expected to benefit” Depreciable base = Original cost - Salvage value Estimated service life  physical factors economic factors DEPRECIATION

Methods of Depreciation  Units of production  Straight-line  Sum-of-the-years’ digits  Declining-balance method  salvage value in not deducted in determining the depreciable base  Group and composite methods  composite depreciation rate  no gain or loss on disposition

Exercise 11-1 Cost$518,000 Life (in years)12 Salvage value$50,000 (a) Straight-line (b) Sum-of-the-years’ digits

Exercise 11-1 (continued) (c) Double-declining balance Book valueRateDeprec Exp.

Brief Exercise 11-6 GroupCostSalvageLife A$70,000$7,00010 years B50,0005,0005 years C82,0004,00012 years Composite Depreciation Composite rate = Discarded an asset in Group A, $4,000 cost, 7 years old:

Depreciation for Partial Years  Determine depreciation for a full year  Prorate between years Exercise 11-4d: Sum-of-the-years’ digits Total

Depreciation Rate Revisions  No correction of prior years  No adjustments to “catch up” Brief Exercise 11-7 Original estimate: ($8,000 - $1,000)/5 = $1,400 Book value at time of revision: $8,000 - (2 x $1,400) = $5,200 New estimate: ($5,200 - $500)/2 = $2,350

IMPAIRMENTS 1. Recoverability test for impairment future net cash flows (undiscounted) < carrying value 2. If impaired, calculate the amount of the loss carrying value - fair value of the asset market value or PV of future net cash flows 3. Entry: Loss on Impairment2,700 Accumulated Depreciation2,700

Impairment Example Equipment: Taffy maker Original cost$1,000,000 Accum depreciation600,000 Estimated life4 years Annual rev: taffy production $240,000 Annual cost: taffy production130,000 Fair value of taffy maker380,000 Cost of disposal10,000

Impairment Example Equipment: Taffy maker Original cost$1,000,000 Accum depreciation550,000 Estimated life4 years Annual rev: taffy production $240,000 Annual cost: taffy production130,000 Fair value of taffy maker380,000 Cost of disposal10,000

DEPLETION Depletion Base  Acquisition costs  Exploration costs  Development costs  tangible equipment  intangible costs  Restoration costs Inventory250,000 Accumulated Depletion250,000 Recording Depletion BaseExp. Other Asset

Oil & Gas  Full cost method  all exploration costs are capitalized  costs of unsuccessful exploration added to the cost of successful wells  cannot capitalize more than the present value of the reserves  Successful efforts method  only costs of successful efforts are capitalized

Special Depletion Issues  Change in estimate of reserves  accounting is the same as change in estimate of asset life  Current value of reserves  not recorded (recognized)  must be disclosed by oil & gas companies  increase in value of timber is not recorded  Liquidating dividends  dividends in excess of retained earnings  credit the excess to Paid-in Capital

Exercises & Carrying amount ($9M - $1M)$8,000,000 Fair value4,400,000 Net realizable value4,380,000 (a) Asset still used Asset not used (a)

(b) Asset still used Asset not used (b) (c)