Plant Assets and Intangibles Chapter 10

Plant Assets Asset Account on Related Expense Account the Balance Sheet on the Income Statement Plant Assets Land……………………………… none Buildings, Machinery and Equipment, Furniture and Fixtures, and Land Improvements………….… Depreciation Natural Resources………..…… Depletion Intangibles………………………. Amortization

Objective 1 Measure the cost of a plant asset.

Cost Principle An asset must be carried on the balance sheet at the amount paid for it. The cost of an asset equals the sum of all of the costs incurred to bring the asset to its intended purpose, net of discounts

Land and Land Improvements Purchase price of land $500,000 Add related costs: Back property taxes $40,000 Transfer taxes 8,000 Removal of buildings 5,000 Survey fees 1,000 54,000 Total cost of land $554,000

Land Improvements All improvements located on the land but subject to decay: Paving Fences Sprinkler systems Lights in parking lot

Buildings – Construction Architectural fees Building permits Contractor’s charges Materials Labor Overhead

Buildings – Purchasing Purchase price Brokerage commissions Sales and other taxes Repairing or renovating building for its intended purpose

Machinery and Equipment Purchase price less discounts Transportation charges Insurance in transit Sales and other taxes Purchase commissions Installation cost Expenditures to test asset before it is placed in service

Lump-Sum Purchases Example Andrea Ortiz paid $110,000 for a combined purchase of land and a building. The land is appraised at $90,000 and the building at $60,000. How much of the purchase price is allocated to land and how much to the building?

Lump-Sum Purchases Example Land: $90,000 ÷ $150,000 = 60% $110,000 × 60% = $66,000 Building: $60,000 ÷ $150,000 = 40% $110,000 × 40% = $44,000

Distinction Between Capital and Revenue Expenditures Does the expenditure increase capacity or efficiency or extend useful life? YES NO Capital Expenditure Debit Plant Assets accounts Revenue Expenditure Debit Repairs and Maintenance account

Measuring the Depreciation of Plant Assets Cost or basis Estimated residual value Estimated useful life

Account for depreciation. Objective 2 Account for depreciation.

Units-of-Production (UOP) Depreciation Methods Straight-Line (SL) Units-of-Production (UOP) Double-Declining-Balance (DDB)

Depreciation Methods Example Donishia and Richard Catering, Inc., purchased a delivery van on January 1, 200x, for $22,000. The company expects the van to have a trade-in value of $2,000 at the end of its useful life. The van has an estimated service life of 100,000 miles or 4 years.

Straight-Line Method Example (Cost – Residual value) ÷ years of useful life ($22,000 – 2,000) ÷ 4 = $20,000 ÷ 4 = $5,000 Year 1 Depreciation: $ 5,000 Year 2 Depreciation: 5,000 Year 3 Depreciation: 5,000 Year 4 Depreciation: 5,000 Total Depreciation: $20,000

Units-of-Production Method Example ($22,000 – 2,000) ÷ 100,000 = $.20/mile Year 1: 30,000 miles = $ 6,000 Year 2: 27,000 miles = 5,400 Year 3: 23,000 miles = 4,600 Year 4: 20,000 miles = 4,000 Total: 100,000 miles = $20,000 (Actual mileage in year 4 was 22,000)

Double-Declining-Balance Method Example Straight-line rate is 100% ÷ 4 = 25% Double-declining-balance = 2 times the straight-line rate = 50% What is the book value of the van at the end of the first year? $22,000 × 50% = $11,000 $22,000 – $11,000 = $11,000

Double-Declining-Balance Method Example Dec. 31, 200x Depreciation Expense $11,000 Accumulated Depreciation $11,000 To record depreciation expense for a one-year period

Depreciation Methods Comparison

Use of Depreciation Methods

Select the best depreciation method for tax purposes. Objective 3 Select the best depreciation method for tax purposes.

Relationship Between Depreciation and Taxes MACRS was created by the Tax Reform Act of 1986. It is an accelerated method used for depreciating equipment.

Depreciation for Partial Years Assume that Donishia and Richard Catering, Inc., owned the van for 3 months. How much is the van’s depreciation? Straight-line method: $5,000 × 3/12 = $1,250 Double-declining-balance method: $11,000 × 3/12 = $2,750

Revising Depreciation Rates Revised SL depreciation = Cost – Accumulated depreciation – New residual value ÷ Remaining useful life

Account for the disposal Objective 4 Account for the disposal of a plant asset.

Disposing of Plant Assets selling exchanging discarding (scrapping it) Gain/loss is reported on the income statement... and closed to Income Summary.

Disposing by Discarding Example On September 1, Joe, manager of Joe’s Landscaping, is contemplating the disposal of an old piece of equipment: Equipment cost: $36,000 Residual value: $ 6,000 Accumulated depreciation: $20,000 Estimated useful life at acquisition: 10 years

Disposing by Discarding Example Assume the equipment is discarded on November 30. What is the accumulated depreciation on November 30? ($36,000 – $6,000) ÷ 10 = $3,000 $3,000 ÷ 12 = $250 $250 × 3 = $750 $20,000 + $750 = $20,750

Disposing by Discarding Example November 30, 20xx Accumulated Depreciation 20,750 Loss on disposal 15,250 Equipment 36,000 To record discarding of equipment

Selling a Plant Asset Example Assume the equipment is sold for $10,000. What is the gain or loss on disposal? Cash 10,000 Accumulated Depreciation 20,750 Loss on Sale of Equipment 5,250 Equipment 36,000 To record sale of equipment for $10,000

Selling a Plant Asset Example Equipment is sold for $20,000. What is the gain or loss on disposal? Cash 20,000 Accumulated Depreciation 20,750 Gain on Sale of Equipment 4,750 Equipment 36,000 To record sale of equipment for $20,000

Exchanging Plant Assets Assume equipment with a cost of $36,000 and a book value of $15,250 is exchanged for new, similar equipment having a cost of $42,000 with a trade-in of $18,000 allowed. Cash payment is $24,000. What is the cost of the new asset? $24,000 + $15,250 = $39,250

Exchanging Plant Assets Equipment (new) $39,250 Accumulated Depreciation (old) $20,750 Equipment (old) $36,000 Cash $24,000

Account for natural resources Objective 5 Account for natural resources

Accounting for Natural Resources Natural gas and oil Precious metals and gems Timber, coal, and iron ore Cost – Residual value) ÷ Estimated units of natural resources = Depletion per unit

Account for intangible assets Objective 6 Account for intangible assets

Intangible Assets Not physical in nature Patents Copyrights Trademarks Franchises Leaseholds Goodwill

Intangible Assets: Patents Patents are federal government grants. They give the holder the right to produce and sell an invention. Suppose a company pays $170,000 to acquire a patent on January 1. The company believes that its expected useful life is 5 years. What are the entries?

Intangible Assets: Patents Jan. 1 Patents 170,000 Cash 170,000 To acquire a patent Dec. 31 Amortization Expense 34,000 Patents 34,000 To amortize the cost of a patent

Intangible Assets: Copyrights Literary compositions (novels) Musical compositions Films (movies) Software Other works of art

Intangible Assets: Trademarks Trademarks, Trade Names, or Brand Names are assets that represent distinctive identifications of a product or service.

Intangible Assets: Franchises Franchises are privileges granted by private business or government to sell a product or service.

Intangible Assets: Goodwill Goodwill is defined as the excess of purchase price over the fair value of the net assets acquired. Goodwill can only be recorded in the purchase of another company. Goodwill is no longer amortized Goodwill is now subject to an “impairment” test.

Intangible Assets: Goodwill Goodwill Example Purchase price paid for Mexana Company $10 million Assets at market value 9 million Less Mexana’s liabilities 1 million Market value of Mexana’s net assets 8 million Goodwill $ 2 million

Special Issues International accounting for goodwill Research and development Capitalize or expense a cost

End of Chapter 10