Copyright © 2007 Prentice-Hall. All rights reserved 1 Long-Term Assets: Plant Assets and Intangibles Chapter 9
Copyright © 2007 Prentice-Hall. All rights reserved 2 Objective 1 Define and describe the life cycle of long-term assets
Copyright © 2007 Prentice-Hall. All rights reserved 3 Long-lived Assets PlantAssetsPlantAssetsNaturalResourcesNaturalResourcesIntangibleAssetsIntangibleAssets DepreciationDepreciationDepletionDepletionAmortizationAmortization
Copyright © 2007 Prentice-Hall. All rights reserved 4 Internal Controls All plant assets should be labeled Maintain a subsidiary ledger Reconcile the total balance of subsidiary accounts with the controlling account Physically inspect each asset at least once a year
Copyright © 2007 Prentice-Hall. All rights reserved 5 Objective 2 Calculate and record the cost to acquire plant assets
Copyright © 2007 Prentice-Hall. All rights reserved 6 Assets should be recorded at their historical cost Cost of an asset – all costs necessary to acquire the asset and get it ready for its intended use Cost Principle
Copyright © 2007 Prentice-Hall. All rights reserved 7 Land and Land Improvements Land Purchase price Legal fees Costs of grading and clearing Additional permanent improvements Not depreciated Land Improvements - Improvements with limited life Driveways and parking lots Sidewalks Fences Depreciated
Copyright © 2007 Prentice-Hall. All rights reserved 8 BuildingsBuildings Purchase price Legal fees Repairs and renovations If self-constructed –Architectural fees –Building permits –Material –Labor –Overhead –Some interest costs
Copyright © 2007 Prentice-Hall. All rights reserved 9 Machinery and Equipment Purchase price (less any discounts) Transportation charges Insurance while in transit Sales tax Installation costs Cost of testing before asset is used
Copyright © 2007 Prentice-Hall. All rights reserved 10 Furniture and Fixtures Purchase price (less any discounts) Shipping charges Costs to assemble
Copyright © 2007 Prentice-Hall. All rights reserved 11 E9-14E9-14 Land Purchase price$200,000 Property tax2,100 Title insurance2,500 Remove and level10,400 $215,000 Building Cost$800,000 Land improvements Fence$51,000 Signage15,000 Lighting6,000 $72,000 Building and Land Improvements are the assets to be depreciated
Copyright © 2007 Prentice-Hall. All rights reserved 12 Lump Sum Purchases Assign cost to individual assets based on relative sales values
Copyright © 2007 Prentice-Hall. All rights reserved 13 E9-16E9-16 BedAppraised Cost Percent of Value CostAllocated Cost 1$3,000X$10,000 25,000X10,000 34,000X10,000 $12,000 $2,500 4,170 3,330 $10,000 $3,000/$12, % $5,000/$12, % $4,000/$12, % 100%
Copyright © 2007 Prentice-Hall. All rights reserved 14 E9-16E9-16 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT Bed 12,500 Bed 24,170 Bed 33,330 Cash5,000 Note Payable5,000
Copyright © 2007 Prentice-Hall. All rights reserved 15 Does the expenditure increase capacity or efficiency or extend useful life? Does the expenditure increase capacity or efficiency or extend useful life? YES NO Capital Expenditure Debit asset account Capital Expenditure Debit asset account Expense Debit repairs and maintenance expense Expense Debit repairs and maintenance expense Capital Expenditures
Copyright © 2007 Prentice-Hall. All rights reserved 16 E9-16E9-16 Capital Expenditures –Purchase price –Lubrication before machine is placed in service –Major overhaul –Sales tax –Transportation and insurance –Installation –Training of personnel Expenses: –Ordinary recurring repairs –Periodic lubrication –Income tax Expenditure benefits more than one period. Debit an asset Expenditure that maintains the asset in its current working condition. Debit an expense
Copyright © 2007 Prentice-Hall. All rights reserved 17 Objective 3 Calculate and record depreciation of plant assets
Copyright © 2007 Prentice-Hall. All rights reserved 18 DepreciationDepreciation Process of allocating the cost of a plant asset to expense over its useful life in a rational and systematic way Matching Principle
Copyright © 2007 Prentice-Hall. All rights reserved 19 Depreciation – Adjusting Entry GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT Depreciation Expense Accumulated Depreciation Partial balance sheet: Building$120,000 Less Accumulated Depreciation(80,000) $40,000 Book Value
Copyright © 2007 Prentice-Hall. All rights reserved 20 Factors in Computing Depreciation 1.Cost 2.Estimated Residual Value Depreciable cost = Cost – Residual Value 3.Estimated Useful Life Physical wear and tear Obsolescence
Copyright © 2007 Prentice-Hall. All rights reserved 21 Depreciation Methods Straight-line Units-of-production Declining balance
Copyright © 2007 Prentice-Hall. All rights reserved 22 Straight-Line Method Cost - Residual Value Useful life in years Depreciation Expense per Year = Allocates an equal amount each year Depreciation is a function of time Appropriate for assets that generate revenues evenly over time, like building
Copyright © 2007 Prentice-Hall. All rights reserved 23 E9-19E9-19 Straight-line $30,000 – $6,000 / 4 years = $6,000 per yr Year Depr Exp for Year Total Accum Depr Year-End Book Value $6,000 6,00012,000 6,00018,000 6,00024,000 $24,000 18,000 12,000 6,000
Copyright © 2007 Prentice-Hall. All rights reserved 24 Cost - Residual Value Total Units of Production 1: Compute depreciation per unit: 2: Compute depreciation expense: Depreciation per unit × Number of units produced in the period Units-of-Production Method Depreciation is a function of use This is an appropriate method for an asset that depreciates due to wear and tear, like a vehicle
Copyright © 2007 Prentice-Hall. All rights reserved 25 E9-19E9-19 Units of Production ($30,000 - $6,000) / 1,000 operations = $24.00 per operation Year Depr Exp for Year Total Accum Depr Year-End Book Value $24 x 100 $2,400 $24 x 300 9,600 19,200 24,000 $27,600 18,000 10,800 6,000 9,600 4,800 $2,400 7,200
Copyright © 2007 Prentice-Hall. All rights reserved 26 Double-Declining Balance Method Accelerated method – writes off a greater amount of the cost of an asset in earlier years of asset’s useful life. Amount of depreciation expense recognized declines each year Depreciation is a function of time This method is appropriate for assets that produce more revenues in their early years (match higher depreciation expense with higher revenues)
Copyright © 2007 Prentice-Hall. All rights reserved 27 2: Multiply beginning book value by rate Depreciation expense = Double-declining- balance rate × Beginning period book value Double-Declining-Balance Method 1: Compute straight-line rate and multiply it by 2 Ignores residual value 1 Useful life in years X 2
Copyright © 2007 Prentice-Hall. All rights reserved 28 Switchover to Straight Line A method employed by some companies Change from double-declining balance to straight-line during the next-to-last year of asset’s life Eliminates the need to use a plug figure for depreciation expense in last year
Copyright © 2007 Prentice-Hall. All rights reserved 29 E9-19E9-19 Double declining Balance: Rate = 2/4 or 50% Year Depr Exp for Year Total Accum Depr Year-End Book Value 20x6 20x7 20x8 20x9 $30,000 x 50% $15,000 $15,00 x 50% 22,500 23,250 24,000 $15,000 7,500 6,750 6, $15,000 7,500 ($7,500 – 6,000)/2 Switch to Straight line
Copyright © 2007 Prentice-Hall. All rights reserved 30 Use of Depreciation Methods
Copyright © 2007 Prentice-Hall. All rights reserved 31 Partial Year Depreciation When plant asset is acquired during the year, compute full year’s depreciation and multiply that by the fraction of the year the asset is owned
Copyright © 2007 Prentice-Hall. All rights reserved 32 Revising Depreciation Depreciation is an estimate –Estimated residual value –Estimated useful life Remaining life in years Book valueNew residual value –
Copyright © 2007 Prentice-Hall. All rights reserved 33 E9-20E9-20 Cost$700,000 Residual value100,000 Depreciable base$600,000 /40 years Depreciation expense per year$15,000
Copyright © 2007 Prentice-Hall. All rights reserved 34 E9-20E9-20 Depreciation expense per year$15,000 X 15 years Accumulated depreciation after 15 years$225,000
Copyright © 2007 Prentice-Hall. All rights reserved 35 E9-20E9-20 Book value after 15 years Cost$700,000 Accumulated depreciation(225,000) Cost left to depreciate$475,000 Residual value(175,000) New depreciable base$300,000 Life (30 years – 15 years taken)/15 year New depreciation per year$20,000
Copyright © 2007 Prentice-Hall. All rights reserved 36 E9-20E9-20 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT Yr 15Depreciation Expense15,000 Accumulated Depreciation15,000 Yr16Depreciation Expense20,000 Accumulated Depreciation20,000
Copyright © 2007 Prentice-Hall. All rights reserved 37 Fully Depreciated Assets If still useful, a company will continue to use it Report book value on balance sheet Record no more depreciation
Copyright © 2007 Prentice-Hall. All rights reserved 38 Depreciation for Tax Reporting Modified Accelerated Cost Recovery System (MACRS) Assets are classified into categories by asset life Depreciation method is specified according to category
Copyright © 2007 Prentice-Hall. All rights reserved 39 Objective 4 Calculate and record the disposal of plant assets
Copyright © 2007 Prentice-Hall. All rights reserved 40 Disposing of a Plant Asset Sell Exchange Discard
Copyright © 2007 Prentice-Hall. All rights reserved 41 Disposing of a Plant Asset Bring depreciation up to date Compare assets received with book value of asset being disposed of to determine if there is a gain or loss –Gain increases net income – credit balance –Loss decreases net income – debit balance Record entry to remove asset from books
Copyright © 2007 Prentice-Hall. All rights reserved 42 E9-21E9-21 Depreciation for 2007: $10,000 / 5 = $2,000 Depreciation for 2008 (through Sept 30) ($10,000 / 5) x 9/12 = $1,500 Accumulated Depreciation 2,000 1,500 3,500 balance
Copyright © 2007 Prentice-Hall. All rights reserved 43 E9-21E9-21 Book Value of Fixtures: Cost$10,000 Accumulated Depreciation3,500$6,500 Cash Received(5,000) Loss on sale of fixtures$1,500 A loss is similar to an expense and appears on the income statement as an “Other revenues and expenses”
Copyright © 2007 Prentice-Hall. All rights reserved 44 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT Sep30Depreciation Expense1,500 Accumulated Depreciation1,500 30Cash5,000 Accumulated Depreciation3,500 Loss on Sale of Fixtures1,500 Fixtures10,000 E9-21E9-21
Copyright © 2007 Prentice-Hall. All rights reserved 45 Exchanging Plant Assets “Cost” of the new asset = Market value of new asset Book value of old asset + cash given >
Copyright © 2007 Prentice-Hall. All rights reserved 46 Exchanging Plant Assets “Cost” of the new asset = Market value of new asset Book value of old asset + cash given < Recognize a loss for the difference
Copyright © 2007 Prentice-Hall. All rights reserved 47 E9-23E9-23 Depreciation Rate: ($350,000 - $100,000) / 1,000,000 miles = $0.25 per mile Depreciation Expense: 2006: $0.25 x 80,000 miles = $20, : $0.25 x 120,000 miles =30, : $0.25 x 160,000 miles = 40, : $0.25 x 40,000 miles =10,000 Total accumulated depreciation$100,000
Copyright © 2007 Prentice-Hall. All rights reserved 48 E9-23E9-23 Book value of old truck: Cost$350,000 Accumulated depreciation(100,000) $250,000 Cash paid50,000 Cost of new truck$300,000
Copyright © 2007 Prentice-Hall. All rights reserved 49 Objective 5 Calculate and record depletion of natural resources
Copyright © 2007 Prentice-Hall. All rights reserved 50 Natural Resources Plant assets extracted from the natural environment Expensed through depletion using the units of production method Reported on balance sheet at cost less accumulated depletion
Copyright © 2007 Prentice-Hall. All rights reserved 51 DepletionDepletion Compute depletion rate per unit: Compute depletion expense: Estimated total units of natural resource Cost – Residual Value Depletion rate per unit Number of units extracted this period ×
Copyright © 2007 Prentice-Hall. All rights reserved 52 E9-24E9-24 Mine:$398,500 Filing fee500 License1,000 Survey60,000 Total cost$460,000 Divided by200,000 tons = $2.30 per ton Depletion: 40,000 $2.30/ton = $92,000
Copyright © 2007 Prentice-Hall. All rights reserved 53 E9-24E9-24 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT a)Mineral Asset398,500 Cash398,500 b)Mineral Asset1,500 Cash1,500 To record filing and license fees
Copyright © 2007 Prentice-Hall. All rights reserved 54 E9-24E9-24 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT b)Mineral Asset60,000 Cash60,000 Paid for geological survey c)Depletion Expense, Mineral Asset92,000 Accumulated Depletion, Mineral Asset92,000
Copyright © 2007 Prentice-Hall. All rights reserved 55 Objective 6 Account for intangible assets
Copyright © 2007 Prentice-Hall. All rights reserved 56 Intangible Assets Noncurrent assets with no physical form Provide exclusive rights or privileges Acquired to help generate revenues Expensed through amortization using the straight-line method over the asset’s useful life Written off the asset directly
Copyright © 2007 Prentice-Hall. All rights reserved 57 PatentsPatents Exclusive 20-year right to produce and sell an invention Granted by federal government
Copyright © 2007 Prentice-Hall. All rights reserved 58 CopyrightsCopyrights Exclusive right to reproduce and sell artistic works or intellectual property Issued by federal government Legal life – 70 years beyond life of the creator
Copyright © 2007 Prentice-Hall. All rights reserved 59 Represent distinctive identifications of a product or service Trademarks, Brand Names
Copyright © 2007 Prentice-Hall. All rights reserved 60 Franchises, Licenses Franchises - privileges granted by private business or government to sell goods or services Acquisition cost is capitalized and amortized
Copyright © 2007 Prentice-Hall. All rights reserved 61 E9-25E9-25 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT a)Patent1,000,000 Cash1,000,000 b)Amortization Expense, Patent125,000 Patent125,000 ($1,000,000 / 8 years)
Copyright © 2007 Prentice-Hall. All rights reserved 62 E9-25E9-25 GENERAL JOURNAL DATEDESCRIPTIONREFDEBITCREDIT Yr 5Amortization Expense, Patent250,000 Patent250,000 ($500,000 / 2 years) Cost$1,000,000 Less amortization for 4 years (125,000 x 4)500,000 Carrying value of patent$500,000
Copyright © 2007 Prentice-Hall. All rights reserved 63 GoodwillGoodwill Excess of purchase price of a company over market value of net assets acquired Only recorded in the purchase of another company Not amortized Measure value of each year –If value has increased – record nothing –If value has decreased – recognize loss and decrease carrying value
Copyright © 2007 Prentice-Hall. All rights reserved 64 E9-26E9-26 Goodwill Purchase price$11,000,000 Market value of net assets: Assets$15,000,000 Liabilities(10,000,000)5,000,000 Cost of goodwill purchased$6,000,000
Copyright © 2007 Prentice-Hall. All rights reserved 65 E9-26E9-26 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT (in millions) Other Assets15 Goodwill6 Liabilities10 Cash11
Copyright © 2007 Prentice-Hall. All rights reserved 66 Objective 7 Report long-term assets on the balance sheet
Copyright © 2007 Prentice-Hall. All rights reserved 67 Balance Sheet Presentation Total Current Assets$880,000 Property, Plant, and Equipment Land 120,000 Buildings$800,000 Equipment 160, ,000 Less: Accumulated Depreciation, Buildings and Equipment (410,000)550,000 Oil$380,000 Less: Accumulated Depletion, Oil (80,000) 300,000 Property, Plant, and Equipment, net 970,000 Goodwill 350,000
Copyright © 2007 Prentice-Hall. All rights reserved 68 End of Chapter 9