1. COPYRIGHT © 2011 South-Western/Cengage Learning 8 PowerPoint Author: Catherine Lumbattis Operating Assets Property, Plant, and Equipment, and Intangibles 7/e Introduction to Using Financial Accounting Information, 7/e

2. Acquisition Cost of P,P&E  All costs necessary to acquire asset and prepare for intended use Purchase Price + Taxes LO 2 Examples: Purchase price Taxes paid at time of purchase Transportation charges Installation Costs

3. Group Asset Purchases Allocate cost of lump-sum purchase based on fair market values $75,000 $25,000 Allocated Cost Land = $30,000 Building = $90,000 Fair Market Value 75% X 25% X % of Market Value LO 3 Cost $100,000 =

4. 4 Capitalization of Interest  Interest can be included as part of the cost of an asset if: company constructs asset over time, and borrows money to finance construction

5. 5 Land Improvements  Land improvements with a limited life should be kept separate from the land since: Land improvements that have a limited life would be subject to depreciation over the useful life of the improvement Land has an unlimited life and therefore is not subject to depreciation

6. Depreciation of P,P & E Straight-Line Units of Production Accelerated Methods via LO 5 With periods benefited Match costs of assets

7. $9,000 3-year life Straight-Line Method  Allocates cost of asset evenly over its useful life $3,000 Year 1 $3,000 Year 2 $3,000 Year 3

8. Units-of-Production Method  Allocate asset cost based on number of units produced over its useful life Depreciation = $ per unit

9. Double-Declining-Balance Method  Double the straight-line rate on a declining balance (book value)  Accelerated method - higher amount of depreciation in early years Straight-line Rate

10. Depreciation Example Calculate ExerCo’s depreciation of the machine for 2010 - 2014 using the straight-line, units-of production and double-declining-balance depreciation methods. $20,000 cost - $2,000 residual value = $18,000 to be depreciated

11. Straight-Line Depreciation Depreciation = Cost - Residual Value Life = $20,000 - $2,000 5 years = $3,600/year $18,000 5-year life $3,600 2010 $3,600 2011 $3,600 2012 $3,600 2013 $3,600 2014

12. Units-of-Production Depreciation Depreciation = Cost - Residual Value per unit Life in Units = $20,000 - $2,000 18,000 = $ 1.00 per unit

13.  ExerCo’s depreciation in 2010: 4,000 units x $1/unit = $ 4,000 Units-of-Production Depreciation

14. Double-Declining-Balance Depreciation DDB rate = (100% / useful life) x 2 = (100% / 5 years) x 2 = 40% Initially ignore residual value

15. Double-Declining-Balance Depreciation 2010 Depreciation = Beginning book value x rate = $20,000 x 40% = $8,000 Beginning Ending YearRateBook Value Depreciation Book Value 201040% $20,000 $8,000 $12,000

16. Double-Declining-Balance Depreciation 2008 Depreciation = Beginning Book Value × Rate = $12,000 × 40% = $4,800 Beginning Ending Year Rate Book Value Depreciation Book Value 2008 40% $20,000 $8,000 $12,000 2009 40% $12,000 $4,800 $ 7,200

17. Reasons for Choosing Straight-Line Depreciation Simplicity Reporting to stockholders Comparability Bonus plans

18. Reasons for Choosing Accelerated Methods  Technological rate of change and competitiveness  Minimize taxable income  Comparability

19. Changes in Depreciation Estimates  Recompute depreciation schedule using new estimates  Record prospectively (i.e. change should affect current and future years only) LO 6

20. Depreciation Change in Estimate $20,000 machine originally expected to be depreciated over 5 years. After 2 years, useful life is increased to 7 years. $3,600 planned $3,600 200820092010 revise estimate 20112012

21. Depreciation Change in Estimate  $10,800 ($12,800 remaining book value - $2,000 salvage) allocated over remaining life 2008200920102011 revise estimate $2,160 $3,600 Example: $2,160 2012 20132014

22. Capital vs. Revenue Expenditures Income Statement  Revenue Expenditure Expense immediately Balance Sheet  Capital Expenditure Treat as asset addition to be depreciated over a period of time LO 7

23. 23 Capital vs. Revenue Expenditures Category Example Asset or Expense Normal maintenance Repainting Expense Minor repair Replace spark plugs Expense Major repair Replace a vehicle’s engine Asset* Addition Add a wing to a building Asset *if life or productivity is enhanced

24. Capital Expenditures  $12,800 remaining book value + $3,000 capital expenditure depreciated prospectively over remaining life replace engine Example: 2008200920102011 $2,300 $3,600 $2,300 2012 20132014

25. Disposal of Property, Plant, and Equipment  Record depreciation up to date of disposal  Compute gain or loss on disposal Proceeds > Book Value = Gain Proceeds < Book Value = Loss LO 8

26. Disposal of Property  Sell truck (cost $20,000; accumulated depreciation $9,000) for $12,400 Sale price $ 12,400 Less book value: Asset cost $20,000 Less: accumulated depreciation 9,000 ( 11,000) Gain on sale $ 1,400

27. Disposal of Property  Sell truck (cost $20,000; accumulated depreciation $9,000) for $10,000 Sale price $ 10,000 Less book value: Asset cost $20,000 Less: accumulated depreciation 9,000 ( 11,000) Loss on sale $ 1,000

28. Gain/Loss on Sale of Plant, Property and Equipment  Gain or Loss on Sale of Operating Asset appears on the Income Statement  Gain or Loss on Sale of Operating Asset is reported as Other Income/Expense since it does not constitute the company’s ongoing or central activity

29. IFRS and Property, Plant, and Equipment There are two important differences between U.S. GAAP and International Accounting Standards(IFRS):  IFRS requires estimates of residual value and the life of the asset be reviewed at least annually. FASB standards does not require the annual review  International Standards allow (but do not require) companies to revalue these assets to reflect their fair market values. FASB does not allow this revaluing to fair market value.

30. Patents Intangible Assets  Long-term assets with no physical properties Goodwill Trademarks Copyrights LO 9

31. Intangible Assets  Includes cost to acquire and prepare for intended use + Purchase Price + Acquisition Cost (ie. legal fees, registration fees, etc.)

32. Research & Development  Must be expensed in period incurred  Difficult to identify future benefits

33. Amortization of Intangibles  Normally recorded using straight-line method  Reported net of accumulated amortization  Amortized over legal or useful life, whichever is shorter LO 10

34. Amortization of Intangibles-Finite Life Patent approval costs $10,000 Divided by: Lesser of legal or useful life 5 years Annual amortization$ 2,000

35. Intangibles with Indefinite Life  Amortization is not recognized on an asset with an indefinite life eg. Trademarks, goodwill and broadcast licenses  For intangibles with indefinite lives, impairment of these assets must be considered.  If an impairment has occurred, a loss should be recognized

36. IFRS and Intangible Assets  International Standards are more flexible in allowing the use of market values for intangible assets for those assets with an “active market”  FASB requires all research and development costs be treated as an expense while International Standards require research cost be expensed and development costs can be capitalized if certain criteria are met

37. Long-term Assets and the Statement of Cash Flows Operating Activities Net income xxx Depreciation and amortization + Gain on sale of asset - Loss on sale of asset + Investing Activities Purchase of asset - Sale of asset + Financing Activities LO 11

38. Analyzing Long-term Assets Average Life = Property, Plant & Equipment Depreciation Expense What is the average depreciable period (or life) of the company’s assets? LO 12

39. Analyzing Long-term Assets Average Age = Accumulated Depreciation Depreciation Expense Are assets old or new?

40. Analyzing Long-term Assets Asset Turnover = Net Sales Average Total Assets How productive are the company’s assets?

41. End of Chapter 8