Plant Assets, Natural Resources, & Intangibles

Copyright ©2012 Pearson Education Inc. Publishing as Prentice Hall.

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Plant Assets, Natural Resources, & IntangiblesChapter 7


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Plant Asset Terminology

Asset Account (Balance Sheet)

Related Expense Account

(Income Statement)

Plant assets

Land None

Buildings, Machinery, & Equipment

Depreciation

Furniture & Fixtures Depreciation

Land Improvements Depreciation

Natural Resources Depletion

Intangibles Amortization


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Measure and account for the cost of plant assets


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Measuring the Cost of a Plant Asset

Sum of all costs incurred to bring the asset to its intended

use


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Land

•Purchase price•Commissions•Survey & legal fees •Back property taxes paid•Grading and removing unwanted

buildings


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Buildings

•Constructed▫Architectural fees, building permits, and

contractors’ charges▫Materials, labor, and overhead ▫Interest on funds borrowed

•Purchased▫Purchase price▫Broker’s commission▫Taxes paid▫Costs to repair and renovate


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Equipment

•Purchase price (after discounts)•Transportation •Insurance in transit •Sales and other taxes•Purchase commission•Installation and testing


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Land Improvements Leasehold Improvements

•Parking lots•Driveways•Signs•Fences•Sprinkler systems

•Improvements to lease property

•Depreciated or amortized over lease term


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Lump-Sum (Basket) Purchases

•Several assets purchased in a group at one price

•Total cost is allocated based on their market values

AssetMarket value

Total market value

% of total

market value

Total cost

Cost of each asset

Land $100,000 $500,000 20% $450,000 $90,000

Building $400,000 $500,000 80% $450,000 $360,000

$500,000 100% $450,000

==


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Distinguish a capital expenditure from an immediate expense


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CAPITAL EXPENDITURES EXPENSES

• Increase capacity or extend useful life

• Cost is added to an asset account

• Do not extend capacity or useful life

• Maintain or restore working order

• Cost is recorded as an expense

Distinction between the two requires judgment

Distinction between the two requires judgment


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Measure and record depreciation on plant assets


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Depreciation

•Allocation of plant asset’s cost to expense over its life

•Supports matching principle•Causes:

▫Physical wear and tear▫Obsolescence

•Land is NOT depreciated▫Unlimited useful life


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Depreciation is NOT:

A fund to replace assets

Valuation process


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Amounts Needed for Depreciation


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Depreciation Methods


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Straight-Line (SL)

Cost – Residual value


Useful life, in yearsUseful life, in years

Annual Depreciation expense


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Asset’s final book value = Residual value


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Units-of-Production (UOP)

Cost – Residual valueCost – Residual value

Useful life in unitsUseful life in units

Depreciation per unit




Activity for period (units)

Activity for period (units)

Depreciation Expense

Depreciation Expense


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Double-Declining-Balance (DDB)

DDB rateBook value

Straight-line rate x 2 (or

2/life in years)

Cost minus accumulated depreciation


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Residual Value: DDB

Ignored until final yearIgnored until final year

Final year depreciation

Book value at the beginning final

year

Residual value


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DDB Differences with other methods•First-year depreciation is based on asset’s

full cost•Final year depreciation is a “plug”

amount needed to reduce book value to residual value


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Comparing Depreciation Methods


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$-

$5,000

$10,000

$15,000

$20,000

$25,000

1 2 3 4 5

Depreciation Methods

S/L

UOP

DDB


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Depreciation Methods Used


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Exercise 7-19A Straight-line

Useful life, in years

Useful life, in years

$18,600 - $2,500

$18,600 - $2,500

4 years4 years

$4,025 depreciation expense per

year

$4,025 depreciation expense per

year

Cost – Residual valueCost – Residual value


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Exercise 7-19A

Useful life in unitsUseful life in units



Units-of-production

$18,600 - $2,500

$18,600 - $2,500

35,000 miles35,000 miles

$0.46 per mile

$0.46 per mile




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Activity for period (units, miles)

Activity for period (units, miles)

Exercise 7-19A Units-of-production

$0.46 per mile

$0.46 per mile

MilesDepreciation

expense

13,500 $6,210

12,000 $5,520

3,500 $1,610

6,000 $2,760


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Exercise 7-19A

DDB rate2/Life in

years2/Life in

years

2/4 years2/4 years50%

Year BeginningBook value

Depr. Exp. Accum. Depr.

EndingBook value

1 18,600 9,300 9,300 9,300

2 9,300 4,650 13,950 4,650

34,650 2,32516,27

52,325

Less than residual value

2,5002,150 16,100

Double-declining-balance


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Plant Asset Issues


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Depreciation for Tax Purposes


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Partial Year Depreciation

Annual depreciatio

n

Annual depreciatio

n

Months from date of purchase to end of

year

Months from date of purchase to end of

year

1212


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Changing Useful Life

Remaining depreciable book value

Remaining depreciable book value

(New) Estimated remaining useful

life

(New) Estimated remaining useful

life

(New) Annual Depreciation(New) Annual Depreciation


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Analyze the effect of a plant asset disposal


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Disposal of Plant Assets

•Bring depreciation up to date to:▫Measure asset’s final book value▫Record expense up to date of sale

•Remove asset and related accumulated depreciation account from books


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Disposing of Asset for No Proceeds

JOURNAL

Date Accounts and explanation Debit Credit

Accumulated depreciation

Equipment

Disposed of fully depreciated asset


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Selling a Plant Asset

If cash received is

greater than book value

GAIN

If cash received is less than

book value

LOSS


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Exercise 7-22A

Year BeginningBook value

Depr. Exp. Accum. Depr.

EndingBook value

2012 8,700 3,480 3,480 5,220

2013 5,220 1,566 5,046 3,654

2/5-year life = 40% DDB

Rate

2/5-year life = 40% DDB

Rate

$5,220 x 40% x 9/12$5,220 x 40% x 9/12

Cash received: $2,600

Book value: $3,654<

Loss =

$1,054

Loss =

$1,054


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Exercise 7-22A

JOURNAL

Date Accounts Debit Credit

Sep 30

Depreciation expense 1,566

Accumulated depreciation 1,566

Sep 30

Cash 2,600

Accumulated depreciation 5,046

Loss on sale of plant assets 1,054

Fixtures 8,700


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Exchanging Plant Assets

•Old assets traded in for new assets▫Nonmonetary exchange

•Cost of plant asset received is equal to the fair values of assets given up▫Old asset and any cash paid

•Difference between fair value of old asset and its book value is a gain or loss


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Apply GAAP for natural resources and intangible assets


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Natural Resources

•Include iron ore, oil, and timber•Assets are physically used – depletion

▫Distinct from depreciation▫Computed like units-of-production

•If all of extracted resource is sold▫Amount depleted is recorded as an expense

•If portion of extracted resource is not immediately sold▫Amount becomes inventory


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Accounting for Depletion

JOURNAL

Accounts Debit Credit

Oil Reserve X,XXX

Cash X,XXX

Oil Inventory X,XXX

Oil Reserve X,XXX

Cost of Oil Sold X,XXX

Oil Inventory X,XXX


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Intangible Assets

•No physical form▫Carry special rights▫Include patents, copyrights, and franchises

•Two categories▫Finite lives

Amortization recorded Straight-line method Intangible asset reduced directly

▫Indefinite lives Tested for loss in value (impairment)


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Accounting for Specific Intangibles


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Patents

•Granted by federal government•Give holder exclusive right to produce

and sell an invention•Last 20 years


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Copyrights

•Granted by the federal government•Give holder exclusive rights to reproduce

and sell a book, musical composition, film, or other work of art

•Extend 70 years after creator’s life▫Useful life is usually very short

©


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Trademarks and Trade Names

•Distinctive identification of a product or service▫Also include advertising slogans

•Useful life may be set by contract▫Or indefinite life

•Indicated by TM or ®


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Franchises and Licenses

•Granted by private business or government

•Give purchase right to sell a product or service with specified conditions

•Include restaurant chains and sports organizations

•Have indefinite life


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Goodwill

•Only recorded when an entire company is purchased

•Defined as the excess of the purchase price of the company over the market value of its net assets

•Represents earning power of company purchased

•Not amortized


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Explain the effect of an asset impairment on the financial statements


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Asset Impairment

•Both tangible and intangible assets must be tested yearly for impairment

•Occurs when expected future cash flows less than asset’s book value

•Carrying value adjusted to fair value


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Impairment Steps

1.

Impairment loss

>Estimated future

cash flows

2.

If yes, asset is impaired and proceed to step 2

If yes, asset is impaired and proceed to step 2

Net book value

Fair value

Net book value


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Recording Impairment Loss

JOURNAL

Date Account Debit Credit

Impairment Loss on Long-term asset X,XXX

Long-term asset X,XXX


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Analyze rate of return on assets


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Return on Assets (ROA)

Net income

Average total assets

(Beginning total assets + Ending total assets)/2

(Beginning total assets + Ending total assets)/2


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DuPont Analysis

Net profit margin

Net profit margin

Net salesNet sales

Net incomeNet income

Total asset turnover


Net salesNet sales




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ROA Using DuPont Analysis

Net profit margin

Net profit margin



Return on assets

Return on assets


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Analyze the cash flow impact of long-lived asset transactions


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Long-Lived Asset Transactions on the Cash Flow Statement

Item Section Description

Depreciation Operating Added to net income as a reconciling item

Sales of long-lived assets

Investing Cash proceeds from sales of plant assets (inflow)

Purchase of long-lived assets

Investing Cash purchases (outflow)


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6363

Business

Plant Assets, Natural Resources, & Intangibles