CDA COLLEGE ACC101: INTRODUCTION TO ACCOUNTING Lecture 10 Lecture 10 Lecturer: Kleanthis Zisimos

Lecture Preview This Lecture focuses on long-term assets used in the operation of a company. These assets can be grouped into plant assets, natural resource assets, and intangible assets. We give emphasis to the tangible assets and their depreciation This Lecture focuses on long-term assets used in the operation of a company. These assets can be grouped into plant assets, natural resource assets, and intangible assets. We give emphasis to the tangible assets and their depreciation

Plant Assets Plant assets are tangible assets used in a company's operations that have a useful life of more than one accounting period. Plant assets are also called plant and equipment, property, and fixed assets Plant assets are tangible assets used in a company's operations that have a useful life of more than one accounting period. Plant assets are also called plant and equipment, property, and fixed assets Plant assets are set apart from other assets because they are used in operations and have useful lives extending over more than one accounting period. Plant assets are set apart from other assets because they are used in operations and have useful lives extending over more than one accounting period. Plant assets are recorder at cost when purchased. This is consistent with the cost principle. Cost includes all normal expenditure necessary to get the asset in place and ready for use Plant assets are recorder at cost when purchased. This is consistent with the cost principle. Cost includes all normal expenditure necessary to get the asset in place and ready for use

Plant Assets (continued) A plant asset’s cost includes the purchase cost plus freight, unpacking, assembling and installing A plant asset’s cost includes the purchase cost plus freight, unpacking, assembling and installing Repairing costs of assets are not added to the cost but are charged to an expense account called repairs Repairing costs of assets are not added to the cost but are charged to an expense account called repairs Land. When land is purchased for a building site, its cost includes the total amount paid for the land, including any real estate commissions, title insurance fees, legal fees and any accrued property taxes paid by the purchaser Land. When land is purchased for a building site, its cost includes the total amount paid for the land, including any real estate commissions, title insurance fees, legal fees and any accrued property taxes paid by the purchaser

Plant Assets (continued) Building. Building account is charged for the costs of purchasing or constructive a building that is used in operations. When purchased the cost includes purchase price, brokerage fees, taxes, title fees and attorney costs. When a company constructs a building its costs include materials and labour plus a reasonable amount of indirect overhead cost.Building. Building account is charged for the costs of purchasing or constructive a building that is used in operations. When purchased the cost includes purchase price, brokerage fees, taxes, title fees and attorney costs. When a company constructs a building its costs include materials and labour plus a reasonable amount of indirect overhead cost. Machinery and equipment. Cost includes purchase price taxes, transportation, installing, assembling and testing Machinery and equipment. Cost includes purchase price taxes, transportation, installing, assembling and testing

Plant Assets (continued) Example. What is the cost of a new machine which is purchased at a gross value of , taxes discount given after 21000, freight 3500, assembly costs 3000,foundation costs 2500 and maintenance 4200 Example. What is the cost of a new machine which is purchased at a gross value of , taxes discount given after 21000, freight 3500, assembly costs 3000,foundation costs 2500 and maintenance 4200 Answer Answer =737000

Capital Expenditures Capital Expenditures Capital expenditures, also called balance sheet expenditures, are additional costs of plant assets that provide benefits extending beyond the current period. They are debited to asset accounts and reported on the balance sheet. Capital expenditures increase or improve the type or amount of service an asset provides. Examples are roofing replacement, plant expansion, and major overhauls of machinery and equipment.Capital expenditures, also called balance sheet expenditures, are additional costs of plant assets that provide benefits extending beyond the current period. They are debited to asset accounts and reported on the balance sheet. Capital expenditures increase or improve the type or amount of service an asset provides. Examples are roofing replacement, plant expansion, and major overhauls of machinery and equipment.

Revenue Expenditures Revenue expenditures, also called income statement expenditures, are additional costs of plant assets that do not materially increase the asset's life or productive capabilities. They are recorded as expenses and deducted from revenues in the current period's income statement-Examples of revenue expenditures are cleaning, repainting, adjustments, and lubricantsRevenue expenditures, also called income statement expenditures, are additional costs of plant assets that do not materially increase the asset's life or productive capabilities. They are recorded as expenses and deducted from revenues in the current period's income statement-Examples of revenue expenditures are cleaning, repainting, adjustments, and lubricants

Natural resources and Intangible assets Natural recourses are assets that are physically consumed when used like mineral deposits, oil and gas field Natural recourses are assets that are physically consumed when used like mineral deposits, oil and gas field These assets represent soon-to-be inventories of raw materials that will be converted into one or more products. Until the conversion takes place, they are non current assets and are shown in the balance sheet These assets represent soon-to-be inventories of raw materials that will be converted into one or more products. Until the conversion takes place, they are non current assets and are shown in the balance sheet Intangible assets are long term rights, privileges or competitive advantages that belong to the owner of such non-physical assets used in operations. Intangible assets are long term rights, privileges or competitive advantages that belong to the owner of such non-physical assets used in operations. Examples are patents, copyrights, licences, leaseholds, goodwill and trademark Examples are patents, copyrights, licences, leaseholds, goodwill and trademark

Depreciation Depreciation is the process of allocating the cost of a plant asset to expense in the accounting periods benefiting from its use. Depreciation is the process of allocating the cost of a plant asset to expense in the accounting periods benefiting from its use. Depreciation is that part of the original cost of a plant asset that is consumed during its period of use by the business. Depreciation is that part of the original cost of a plant asset that is consumed during its period of use by the business.

Factors in computing Depreciation Cost. The cost of a plant asset consists of all necessary and reasonable expenditures to acquire it and to prepare it for its intended use. Cost. The cost of a plant asset consists of all necessary and reasonable expenditures to acquire it and to prepare it for its intended use. Residual Value / Salvage Value. It is an estimate the asset’s value at the end of its benefit period. The total amount of depreciation to be charged off over an asset’s benefit period equals the asset’s cost minus its residual value. Residual Value / Salvage Value. It is an estimate the asset’s value at the end of its benefit period. The total amount of depreciation to be charged off over an asset’s benefit period equals the asset’s cost minus its residual value. Useful life. Useful life of a plant asset is the length of time it is productively used in a company’s operation. Useful life. Useful life of a plant asset is the length of time it is productively used in a company’s operation.

Depreciation methods Depreciation methods are used to allocate a plant asset’s cost over the accounting periods in its useful life. Depreciation methods are used to allocate a plant asset’s cost over the accounting periods in its useful life. We have four methods of depreciation: We have four methods of depreciation: 1) The straight line method 2) The units of output method 3) The declining balance method 4) Sum of the years digit method

Depreciation methods 1) The straight line method. In this method, the number of years of use is estimated. The cost is then divided by the number of years. This gives the depreciation charge for each year. Ex. A van was bought for € 22,000 and we thought we would keep it for 4 years and then sell it for € 2,000. Cost (22,000) - Estimated disposal value (2,000) = 20,000 = 5000 Number of expected years of use (4) 4 Number of expected years of use (4) 4 € 5,000 is the depreciation each year for four years.

Depreciation methods Units of output method This method establishes the total expected units of output expected from the asset. Depreciation based on cost less salvage value, is then calculated for the period by taking that period's unit output as a proportion of the total expected output over the life of the asset. This method establishes the total expected units of output expected from the asset. Depreciation based on cost less salvage value, is then calculated for the period by taking that period's unit output as a proportion of the total expected output over the life of the asset. Ex. A machine is expected to be able to produce 10,000 units over its useful life. It has cost € 6,000 and has an expected salvage value of € 1,000. In year 1 a total of 1,500 units are produced, and in year 2 the production is 2,500 units. Ex. A machine is expected to be able to produce 10,000 units over its useful life. It has cost € 6,000 and has an expected salvage value of € 1,000. In year 1 a total of 1,500 units are produced, and in year 2 the production is 2,500 units. Depreciation=(Cost - salvage value) x period's production ( total expected production ) ( total expected production ) Year 1: €5,000 x 1500 /10000= € 750 Depreciation Year 2: € 5,000 x 2500 / 10000= € 1250 depreciation

Depreciation methods 3) The declining balance method In this method, a fixed percentage for depreciation is deducted from the cost in the first year. In the second and later years the same percentage is taken of the reduced balance (i.e. cost less depreciation already charged). Ex. A machine is bought for 10,000 and depreciation is to be charged at 20 per cent. Calculations for the first three years would be as follows: Cost First year: depreciation (20%) 2000 Second year: dep {20% of 8,000( )} 1600 Third year: depreciation {20% of 6,400( )} 1280

Depreciation methods Sum of the years digit method. Higher depreciation is charged early in the life of an asset. Sum of the years digit method. Higher depreciation is charged early in the life of an asset. Ex. F=Given an asset costing 3000 and useful life 5 years calculate the depreciation Ex. F=Given an asset costing 3000 and useful life 5 years calculate the depreciation From year 1 (purchase) the asset will last for 5 years From year 2 the asset will last for 4 years From year 3 the asset will last for 3 years From year 4 the asset will last for 2 years From year 5 the asset will last for 1 years Sum of these digits 15

Depreciation methods Sum of the years digit method (continued) Sum of the years digit method (continued) 1 st year 5/15 of €3000= € 1000 depreciation 2 d year 4/15 of €3000= € 800 depreciation 3 rt year 3/15 of €3000= € 600 depreciation 4 th year 2/15 of €3000= € 400 depreciation 5 th year 1/15 of €3000= € 200 depreciation

Depreciation methods Journal Entries for depreciation Dr Cr Dr Cr 1.Depreciation of asset X Accumulated Depreciation X Accumulated Depreciation X Journal Entries for closing the accounts 2. Income Statement X Depreciations of asset X Depreciations of asset X 3. Accumulated Depreciation X Balance sheet (subtracted from asset) X

Disposal Of Asset The general approach of accounting for the disposal of assets is the following The general approach of accounting for the disposal of assets is the following 1. Record depreciation up to the date of disposal 2. Remove account balances of the disposal assets ( open disposal account) 3. Record any cash received 4. Record any gain or loss from the disposal

Disposal Of Asset Example. On 31/3/2011 we sold for 7000( van bought 1/1/08 for euro). Accumulated depreciation on 31/12/2010 is euro. Record the journal entries using straight lime method Example. On 31/3/2011 we sold for 7000( van bought 1/1/08 for euro). Accumulated depreciation on 31/12/2010 is euro. Record the journal entries using straight lime method Dr Cr Dr Cr 1.Depreciation of Van (4000*3/12) 1000 Accumulated Depreciation 1000 Accumulated Depreciation Van Disposal Account Van Van Accumulated Depreciation Van Disposal Account Van Disposal Account Cash 7000 Van Disposal Account 7000 Van Disposal Account Van Disposal Account 4000 Profit on Disposal 4000 Profit on Disposal 4000

Exercises to be solved in the class Case study exercises page Case study exercises page Book “Fundamental accounting principles” Book “Fundamental accounting principles”