1. Copyright  2006 Pearson Education Canada Inc. 11-1

2. Copyright  2006 Pearson Education Canada Inc. 11-2 Outline  Property and Equipment  Depreciation  Illustration of Depreciation Methods  Amortization  Inventories  Inventory Valuation Methods  Physical Inventory Counts  Tax Considerations in Accounting for Inventories  Potential Sources of Errors in Inventory Valuation

3. Copyright  2006 Pearson Education Canada Inc. 11-3 Property and Equipment  Tangible Assets  Acquired for use in the ordinary operation of the business  Useful life more than one year

4. Copyright  2006 Pearson Education Canada Inc. 11-4 Property and Equipment Categories:  Land  Building  Leaseholds and Leasehold Improvements  Construction in Progress  Furniture and Equipment  China, Glassware, Silver, Linen, and Uniforms

5. Copyright  2006 Pearson Education Canada Inc. 11-5 Depreciation  Decline in the service potential of property and equipment during the accounting period  Recognition of expense for income statement and income tax purposes

6. Copyright  2006 Pearson Education Canada Inc. 11-6 Depreciation Depreciation Methods  Straight-Line  Accelerated Methods  Declining-Balance  Sum of Years’ Digits  Units of Output

7. Copyright  2006 Pearson Education Canada Inc. 11-7 Illustration of Depreciation Methods Example: A Tour Bus  Cost: $12,000  Salvage value: $2,000  Useful life: five years  Kilometers estimated to be travelled during lifetime: 200,000

8. Copyright  2006 Pearson Education Canada Inc. 11-8 STRAIGHT-LINE DEPRECIATION  Spreads the total depreciation equally over all periods of useful life of the property or equipment Depreciation = Cost – salvage value # of years of useful life 12,000-2,000 = $2,000 5 Higher Net Income Higher Asset Value

9. Copyright  2006 Pearson Education Canada Inc. 11-9 Double-Declining Balance Apply double the straight Line Rate to the Net book value of the property or equipment Straight Line Rate X 2 = 100 = 20% x 2 = 40% 5 years 40% x 12,000 = 4,800 Year 1 Depreciation Expense $4800 Accumulated Depreciation $4,800 Net Book value-end of Year 1 $7,200 40% x 7,200 = 2,880 Year 2 Depreciation Expense $2,880 Accumulated Depreciation $7,680 Net Book value-end of Year 2 $4,320

10. Copyright  2006 Pearson Education Canada Inc. 11-10 Units of Output Method Cost – Salvage Value X Annual units of output Estimated units of output over entire life 12,000 - 2,000 = $0.05 per kilometer depreciation 200,000 kilometers Year 1 Bus travels 40,000 kilometers Depreciation Expense $0.05 x 40,000 kms = $2,000 Accumulated Depreciation $2,000 Net Book Value $12,000-2,000 = $8,000 Year 2 Bus travels 20,000 kilometers Depreciation Expense $0.05 X 20,000 kms = $1,000 Accumulated Depreciation $3,000 Net Book value $9,000

11. Copyright  2006 Pearson Education Canada Inc. 11-11 Sum of Years’ Digits The depreciation rate each year is a fraction in which the sum of digits and the numerator is years in inverse order n (n+1) = 5 (6) = 15 Fractions year 1 5 2 2 15 2 4 15 Year 1 depreciation 5/15 X 10,000= $3,333 Year 2 depreciation 4/15 X 10,000= $2,667 ACCELERATED METHOD

12. Copyright  2006 Pearson Education Canada Inc. 11-12 Amortization  Write-off of the cost of an asset over its estimated useful life  Always calculated on the straight line basis  It is the type of depreciation used to record cost expiration of leasehold and leasehold improvements and other intangible assets

13. Copyright  2006 Pearson Education Canada Inc. 11-13 Inventories Inventories for sale  Food  Beverage  Inventories consumed by the business  Office Supplies  Housekeeping Supplies

14. Copyright  2006 Pearson Education Canada Inc. 11-14 Inventory valuation methods FIFO first in, first out  Oldest costs will flow through cost of sales  Inventory is based on most recent purchases LIFO last in, first out  Most recent costs will flow through cost of sales  Inventory is based on earliest purchases

15. Copyright  2006 Pearson Education Canada Inc. 11-15 Inventory Valuation Methods Specific Units Valuation Method Only practical for use with readily high-value items that can be associated with their actual cost. Weighted-Average Valuation Method Total cost of all units is divided by the total number of units on hand when the physical inventory is taken.

16. Copyright  2006 Pearson Education Canada Inc. 11-16 Inventory valuation methods Jan 10 100 units $1.00 $100 Feb 12 200 units $1.20 240 May 15 100 units $ 1.50 150 Nov 19 200 units $ 2.00 400 600 Total $890 Sold 120 units Dec 10 (average cost $1.48) Cost of Sales 100 units $1.00 $100 20 1.20 40 $140 Inventory $890-140= $750 Cost of sales 120 units $2.00 = $240. Inventory $890-240 = $650. AVERAGE Cost Cost of sales 120 x $1.48=$180 Inventory 480 x $1.48=$710

17. Copyright  2006 Pearson Education Canada Inc. 11-17 Physical Inventory Counts Perpetual Inventory System Purchases are debited and issues are credited to the inventory account as they occur during the accounting period. Periodic Inventory System A physical inventory count is used as a basis to record the proper amount of inventory and cost of sales at the end of the period. Issues are not recorded as they occur.

18. Copyright  2006 Pearson Education Canada Inc. 11-18 Tax Considerations in Accounting for Inventories  In times of inflation the LIFO method of inventory valuation tends to minimize net income.  In times of inflation the FIFO method usually maximizes net income.  The Weighted Average method brings results that fall between those of LIFO and FIFO.  For tax purposes, the LIFO method cannot be used in Canada.

19. Copyright  2006 Pearson Education Canada Inc. 11-19 Potential Sources of Errors in Inventory Valuation Errors in making the physical inventory count Errors in applying purchase costs according to the inventory valuation method selected Improper physical control of inventory, mathematical errors on value computation sheets, and errors in entering amounts using a computerized system Errors in entering receipts and issues