1. Copyright © 2007 Prentice-Hall. All rights reserved 1 Plant Assets & Intangibles Chapter 9

2. Copyright © 2007 Prentice-Hall. All rights reserved 2 Long-lived Assets PlantAssetsPlantAssetsNaturalResourcesNaturalResourcesIntangibleAssetsIntangibleAssets DepreciationDepreciationDepletionDepletionAmortizationAmortization

3. Copyright © 2007 Prentice-Hall. All rights reserved 3 Objective 1 Measure the cost of a plant asset

4. Copyright © 2007 Prentice-Hall. All rights reserved 4 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

5. Copyright © 2007 Prentice-Hall. All rights reserved 5 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

6. Copyright © 2007 Prentice-Hall. All rights reserved 6 BuildingsBuildings Purchase price Legal fees Repairs and renovations If self-constructed –Architectural fees –Building permits –Material –Labor –Overhead –Some interest costs

7. Copyright © 2007 Prentice-Hall. All rights reserved 7 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

8. Copyright © 2007 Prentice-Hall. All rights reserved 8 Furniture and Fixtures Purchase price (less any discounts) Shipping charges Costs to assemble

9. Copyright © 2007 Prentice-Hall. All rights reserved 9 E9-14E9-14 Land Purchase price$380,000 Property tax2,000 Title insurance3,000 Remove and level5,000 $390,000 Building Cost$500,000 Land improvements Fence$50,000 Signage10,000 Lighting6,000 $66,000 Building and Land Improvements are the assets to be depreciated

10. Copyright © 2007 Prentice-Hall. All rights reserved 10 Lump Sum Purchases Assign cost to individual assets based on relative sales values

11. Copyright © 2007 Prentice-Hall. All rights reserved 11 E9-15E9-15 LotAppraised Cost Percent of Value CostAllocated Cost 1$50,000X$150,000 260,000X150,000 370,000X150,000 $180,000 $41,700 49,950 58,350 $150,000 $50,000/$180,000 27.8% $60,000/$180,000 33.3% $70,000/$180,000 38.9% 100%

12. Copyright © 2007 Prentice-Hall. All rights reserved 12 Exercise 9-15 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Land, Lot 141,700 Land, Lot 249,950 Land, Lot 358,350 Cash150,000

13. Copyright © 2007 Prentice-Hall. All rights reserved 13 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

14. Copyright © 2007 Prentice-Hall. All rights reserved 14 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

15. Copyright © 2007 Prentice-Hall. All rights reserved 15 Objective 2 Account for depreciation

16. Copyright © 2007 Prentice-Hall. All rights reserved 16 DepreciationDepreciation Process of allocating the cost of a plant asset to expense over its useful life in a rational and systematic way Matching Principle

17. Copyright © 2007 Prentice-Hall. All rights reserved 17 Depreciation – Adjusting Entry GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Depreciation Expense Accumulated Depreciation Partial balance sheet: Building$120,000 Less Accumulated Depreciation(80,000) $40,000 Book Value

18. Copyright © 2007 Prentice-Hall. All rights reserved 18 Factors in Computing Depreciation 1.Cost 2.Estimated Residual Value Depreciable cost = Cost – Residual Value 3.Estimated Useful Life Physical wear and tear Obsolescence

19. Copyright © 2007 Prentice-Hall. All rights reserved 19 Depreciation Methods Straight-line Units-of-production Declining balance

20. Copyright © 2007 Prentice-Hall. All rights reserved 20 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

21. Copyright © 2007 Prentice-Hall. All rights reserved 21 E9-19E9-19 Straight-line $15,000 – $3,000 / 4 years = $3,000 per yr Year Depr Exp for Year Total Accum Depr Year-End Book Value 2006 2007 2008 2009 $3,000 3,0006,000 3,0009,000 3,00012,000 $12,000 9,000 6,000 3,000

22. Copyright © 2007 Prentice-Hall. All rights reserved 22 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

23. Copyright © 2007 Prentice-Hall. All rights reserved 23 E9-19E9-19 Units of Production ($15,000 - $3,000) / 3,000 jobs = $4.00 per job Year Depr Exp for Year Total Accum Depr Year-End Book Value 2006 2007 2008 2009 $4 x 300= $1,200 $4 x 900= 3,600 4,800 9,600 12,000 $13,800 9,000 5,400 3,000 4,800 2,400 $1,200 3,600

24. Copyright © 2007 Prentice-Hall. All rights reserved 24 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)

25. Copyright © 2007 Prentice-Hall. All rights reserved 25 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

26. Copyright © 2007 Prentice-Hall. All rights reserved 26 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

27. Copyright © 2007 Prentice-Hall. All rights reserved 27 E9-19E9-19 Double declining Balance Rate = 2/4 or 50% Year Depr Exp for Year Total Accum Depr Year-End Book Value 2006 2007 2008 2009 $15,000 x 50% $7,500 $7,500 x 50% 11,250 11,625 12,000 $7,500 3,750 3,375 3,000 375 $7,500 3,750 ($3,750 – 3,000)/2 Switch to Straight line. $3,750 – 3,000 / 2 years

28. Copyright © 2007 Prentice-Hall. All rights reserved 28 E9-19E9-19 The units-of-production method tracks the wear and tear on the equipment most closely

29. Copyright © 2007 Prentice-Hall. All rights reserved 29 Use of Depreciation Methods

30. Copyright © 2007 Prentice-Hall. All rights reserved 30 Objective 3 Select the best depreciation method for tax purposes

31. Copyright © 2007 Prentice-Hall. All rights reserved 31 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

32. Copyright © 2007 Prentice-Hall. All rights reserved 32 E9-20E9-20 Double-declining balance Year 1:($140,000 x 2/10)$28,000 Year 2:($140,000–28,000) x 2/1022,400 $50,400 Straight-line Year 1: ($140,000 – 40,000)/10$10,000 Year 2:10,000 20,000 $30,400

33. Copyright © 2007 Prentice-Hall. All rights reserved 33 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

34. Copyright © 2007 Prentice-Hall. All rights reserved 34 Revising Depreciation Depreciation is an estimate –Estimated residual value –Estimated useful life Remaining life in years Book valueNew residual value –

35. Copyright © 2007 Prentice-Hall. All rights reserved 35 E9-21E9-21 Cost$500,000 Residual value100,000 Depreciable base$400,000 /40 years Depreciation expense per year$10,000

36. Copyright © 2007 Prentice-Hall. All rights reserved 36 E9-21E9-21 Depreciation expense per year$10,000 X 15 years Accumulated depreciation after 15 years$150,000

37. Copyright © 2007 Prentice-Hall. All rights reserved 37 Exercise 9-8 Book value after 15 years Cost$500,000 Accumulated depreciation(150,000) Cost left to depreciate$350,000 Residual value(100,000) New depreciable base$250,000 Life (25 years – 15 years taken)/10 year New depreciation per year$25,000

38. Copyright © 2007 Prentice-Hall. All rights reserved 38 Exercise 9-8 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Yr 15Depreciation Expense10,000 Accumulated Depreciation10,000 Yr16Depreciation Expense25,000 Accumulated Depreciation25,000

39. Copyright © 2007 Prentice-Hall. All rights reserved 39 Fully Depreciated Assets If still useful, a company will continue to use it Report book value on balance sheet Record no more depreciation

40. Copyright © 2007 Prentice-Hall. All rights reserved 40 Objective 4 Account for the disposal of a plant asset

41. Copyright © 2007 Prentice-Hall. All rights reserved 41 Disposing of a Plant Asset Sell Exchange Discard

42. Copyright © 2007 Prentice-Hall. All rights reserved 42 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

43. Copyright © 2007 Prentice-Hall. All rights reserved 43 E9-22E9-22 Depreciation for 2006: 10,000 x 2/5 = $4,000 Depreciation for 2007 (through Sept 30) (10,000 – 4,000) x 2/5 x 9/12 = $1,800 Accumulated Depreciation 4,000 1,800 5,800 balance

44. Copyright © 2007 Prentice-Hall. All rights reserved 44 E9-22E9-22 Cash Received$6,200 Book Value of Fixtures: Cost$10,000 Accumulated Depreciation5,8004,200 Gain on Sale$2,000 A gain is similar to a revenue and appears on the income statement as an “Other revenues and expenses”

45. Copyright © 2007 Prentice-Hall. All rights reserved 45 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Sep30Depreciation Expense1,800 Accumulated Depreciation1,800 30Cash6,200 Accumulated Depreciation5,800 Fixtures10,000 Gain on Sale of Assets2,000 E9-22E9-22

46. 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 >

47. Copyright © 2007 Prentice-Hall. All rights reserved 47 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

48. Copyright © 2007 Prentice-Hall. All rights reserved 48 E9-23E9-23 Old fixtures: Cost$90,000 Accumulated depreciation(75,000) Book value$15,000 Cash paid100,000 Cost of new fixtures$115,000

49. Copyright © 2007 Prentice-Hall. All rights reserved 49 E9-23E9-23 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT 1.Fixtures (new)115,000 Accumulated Depreciation, Fixtures75,000 Fixtures (old)90,000 Cash100,000

50. Copyright © 2007 Prentice-Hall. All rights reserved 50 E9-23E9-23 Old fixtures: Cost$90,000 Accumulated depreciation(75,000) Book value$15,000 Cash paid100,000 Cost of assets given up$115,000 Market value of new fixtures110,000 Loss$5,000

51. Copyright © 2007 Prentice-Hall. All rights reserved 51 E9-23E9-23 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT 1.Fixtures (new)110,000 Accumulated Depreciation, Fixtures75,000 Loss on Exchange of Assets5,000 Fixtures (old)90,000 Cash100,000

52. Copyright © 2007 Prentice-Hall. All rights reserved 52 Objective 5 Account for natural resources

53. Copyright © 2007 Prentice-Hall. All rights reserved 53 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

54. Copyright © 2007 Prentice-Hall. All rights reserved 54 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 ×

55. Copyright © 2007 Prentice-Hall. All rights reserved 55 E9-25E9-25 Mine:$428,500 Filing fee500 License1,000 Survey70,000 Total cost$500,000 Divided by200,000 tons = $2.50 per ton Depletion: 30,000 tons @ $2.50/ton = $75,000

56. Copyright © 2007 Prentice-Hall. All rights reserved 56 E9-25E9-25 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT a)Mineral Asset428,000 Cash428,000 b)Mineral Asset1,500 Cash1,500 To record filing and license fees

57. Copyright © 2007 Prentice-Hall. All rights reserved 57 E9-25E9-25 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT b)Mineral Asset70,000 Cash70,000 Paid for geological survey c)Depletion Expense, Mineral Asset75,000 Accumulated Depletion, Mineral Asset75,000

58. Copyright © 2007 Prentice-Hall. All rights reserved 58 Objective 6 Account for intangible assets

59. Copyright © 2007 Prentice-Hall. All rights reserved 59 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 Written off the asset directly

60. Copyright © 2007 Prentice-Hall. All rights reserved 60 PatentsPatents Exclusive 20-year right to produce and sell an invention Granted by federal government

61. Copyright © 2007 Prentice-Hall. All rights reserved 61 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

62. Copyright © 2007 Prentice-Hall. All rights reserved 62 Represent distinctive identifications of a product or service Trademarks, Brand Names

63. Copyright © 2007 Prentice-Hall. All rights reserved 63 Franchises, Licenses Franchises - privileges granted by private business or government to sell goods or services Acquisition cost is capitalized and amortized

64. Copyright © 2007 Prentice-Hall. All rights reserved 64 E9-26E9-26 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT a)Patent600,000 Cash600,000 b)Amortization Expense, Patent75,000 Patent75,000 ($600,000 / 8 years)

65. Copyright © 2007 Prentice-Hall. All rights reserved 65 E9-26E9-26 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Yr 5Amortization Expense, Patent150,000 Patent150,000 ($300,000 / 2 years) Cost$600,000 Less amortization for 4 years (75,000 x 4)300,000 Carrying value of patent$300,000

66. Copyright © 2007 Prentice-Hall. All rights reserved 66 GoodwillGoodwill Goodwill - excess of purchase price of a company over the market value of the net assets acquired Goodwill can only be recorded in the purchase of another company Goodwill is not amortized Measure value of goodwill each year –If value has increased – record nothing –If value has decreased – recognize loss and decrease carrying value of goodwill

67. Copyright © 2007 Prentice-Hall. All rights reserved 67 E9-27E9-27 Goodwill Purchase price$8,000,000 Market value of net assets: Assets$12,000,000 Liabilities(10,000,000)2,000,000 Cost of goodwill purchased$6,000,000

68. Copyright © 2007 Prentice-Hall. All rights reserved 68 E9-27E9-27 GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT (in millions) Other Assets12 Goodwill6 Liabilities10 Cash8

69. Copyright © 2007 Prentice-Hall. All rights reserved 69 Research & Development Costs Expense them as they are incurred

70. Copyright © 2007 Prentice-Hall. All rights reserved 70 End of Chapter 9