©2008 Pearson Prentice Hall. All rights reserved. 7-1 Plant Assets and Intangibles Chapter 7.

©2008 Pearson Prentice Hall. All rights reserved.

7-1

Plant Assets and Intangibles

Chapter 7


7-2

Categories of Long-Lived Assets

• Plant assets Tangible Include land, buildings and equipment

• Intangible assets Carry special rights without physical

substance Include patents, copyrights and trademarks


7-3

Asset AccountsRelated Expense Account

(Balance Sheet) (Income Statement)

Plant Assets

Land None

Buildings & Equipment Depreciation

Furniture & Fixtures Depreciation

Land Improvements Depreciation

Natural Resources Depletion

Intangibles Amortization

Plant Asset Terminology


7-4

Learning Objective 1

Determine the cost of a plant asset


7-5

Cost of a Plant Asset

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

LandPurchase price,

commissions, survey & legal costs, removal

of old buildings

Buildings Purchase price,

commissions, sales & other taxes, repairs &

renovation for intended use

Land ImprovementsFencing, paving,security systems,

lighting

Machinery & Equipment Purchase price,

Insurance in transit, sales taxes, installation


7-6

Lump-Sum Purchases

• Companies purchase several assets in a group for one price

• Cost is allocated to individual assets by on their market values


7-7

Capital Expenditure vs. Immediate Expense

Capital Expenditure• Increase capacity or

extend life• Examples:

Major overhaul Building additions

Immediate Expense• Maintain or restore to

working order• Examples:

Minor repairs Painting

NOTE: Most companies set a dollar amount to decide if an expenditure should be capitalized or expensed


7-8

Measuring Depreciation on Plant Assets

• Plant assets wear out or grow obsolete over time

• The cost of a plant asset is allocated to an expense over its life

• Matches expense of using the asset to the revenues the asset helped produce Land has an unlimited life and is the only

plant asset not depreciation


7-9

Depreciation

Depreciation is NOT:• a process of valuation

based on market value decline

• a method of setting aside cash to replace assets


7-10

How to Measure Depreciation

• Three items needed Cost of the plant asset Estimated useful life

• How long the company expects to use the asset

Estimated residual value• Expected cash value of asset at the end of its life• Can be zero

Depreciable Cost = Asset’s cost – Estimated residual value


7-11


Account for depreciation


7-12

Depreciation Methods

• Straight-line (S/L)

• Units-of-production (UOP)

• Double-declining-balance (DDB)


7-13

Straight-Line Depreciation

An equal amount of depreciation assigned to each period

Cost – residual Useful life in years

= Depreciation expense

JOURNAL

Date Accounts Debit Credit

12-31 Depreciation Expense $$,$$$

Accumulated Depreciation $$,$$$

Contra-asset


7-14

Impact of Depreciation

• Each year: Accumulated Depreciation increases Book value decreases

• At the end of the asset’s life:

Book value = Cost minus accumulated depreciation

Book value = residual value


7-15

Units-of-Production

• Depreciation per unit is computed

• Depreciation per unit is multiplied by production for the period

Cost – residual

Useful life, in units= Depreciation expense per unit

Depreciation expense per unit x

units produced during the period


7-16

Double-Declining-Balance

• An accelerated method Larger expense amounts early in asset’s life

2

Useful life x Book value = Depreciation expense

DDB rate (%)

x (Cost – Accumulated Depreciation)

Accumulated Depreciation increases each year

Book value decreases each year


7-17

E7-19

Straight-Line

Cost – residual

Useful life in years= Depreciation expense

$15,000 - $3,000

4 years

= $3,000 annual depreciation expense


7-18

E7-19

Units-of-Production

Cost – residual

Useful life, in miles= Depreciation expense per mile

$15,000 - $3,000

100,000 miles= $0.12 depreciation per mile

Year Miles Depreciation

1 34,000 $0.12 $ 4,080

2 28,000 $0.12 $ 3,360

3 18,000 $0.12 $ 2,160


7-19

E7-19

Double-Declining-Balance

Yr

Beginning Book Value

DDB rate

Depr. Exp.

Accum. Depr.

Ending Book Value

1 $ 15,000 50% $ 7,500 $ 7,500 $ 7,500

2 $ 7,500 50% $ 3,750 $ 11,250 $ 3,750

3 $ 3,750 ** $ 750 $ 12,000 $ 3,000

How is the DDB rate computed?

Why wasn’t the DDB rate used in year three? How was the $750 computed?


7-20

E7-19

Yr S/L UOP DDB

1 $3,000 $4,080 $7,500

2 $3,000 $3,360 $3,750

3 $3,000 $2,160 $ 750

Which method would provide larger expense amounts in year one?

Which method reflects usageof the asset?

Which method would be easiest for

companies to use?


7-21

E7-19

0

1000

2000

3000

4000

5000

6000

7000

8000

Year 1 Year 2 Year 3

S/L

UOP

DDB


7-22©2009 Prentice Hall

5-22


Select the best depreciation method


7-23

Depreciation for Tax Purposes

• Most companies use straight-line for external reporting

• Most companies use accelerated depreciation for tax purposes Modified Accelerated Cost Recovery System

(MACRS) Larger deductions early in assets’ lives helps

reduce taxes and increase cash flow


7-24

Partial Year Depreciation

• Companies purchase plant assets when needed–not just at beginning of year

• To compute depreciation for a partial year1. Compute depreciation for a full year

2. Multiply by fraction of the year the asset is owned

• Not applicable to units-of-production Life is not based on years

If an asset was purchased May 1, what fraction would be used?


7-25

Changing Useful Life of Asset

• A company may change useful based on new information or experience

• Called a change in estimate

• Depreciation formula needs to be revised

Book value at time of change

Remaining useful life


7-26


Analyze the effect of a plant asset disposal


7-27

Disposal of Plant Assets

• When a company is finished using an asset, the asset can be: Discarded Sold Exchanged

• Before accounting for the disposal: Depreciation is updated Final book value is determined


7-28

Discarding Plant Asset

• Accumulated depreciation and cost of asset removed from records

• Loss recorded (unless asset is fully depreciated and no residual value)

JOURNAL


Accumulated depreciation

Loss on disposal of plant asset

Plant asset (equipment, bldg)


7-29

Selling a Plant AssetIf cash received > Book value GAIN

If cash received < Book value LOSS

Book value = _________________________

Income Statement accountSimilar to revenue; increases

net income

Income Statement accountSimilar to an expense; decreases

net incomeHow is book value

computed?


7-30

JOURNAL


Cash

Accumulated Depreciation

Loss on sale of equipment

Equipment

Record loss on sale of equipment

Cash

Accumulated Depreciation

Equipment

Gain on sale of equipment

Record gain on sale of equipment


7-31

E7-23

Book value at time of sale:

Cost $ 8,700

Accumulated depreciation

2004 ($8,700 x 2/5) $ 3,480

2005 ($8700 - 3480) x 2/5 $ 2,088

January - September x 9 /12 $1,566 $5,046

Book value September 30 $3,654

Cash received $2,500

Loss on sale $1,154


7-32

JOURNAL


Cash $2,500

Accumulated Depreciation $5,046

Loss on sale of equipment $1,154

Equipment $8,700

Record loss on sale of equipment

E7-23


7-33


Account for natural resources and depletion


7-34

Natural Resources• Come from the earth

Oil, minerals, coal and timber

• Depletion records the expense related to extracting the natural resource Similar to units-of-production depreciation

JOURNAL


12-31 Depletion Expense $$,$$$

Accumulated Depletion $$,$$$


7-35


Account for intangible assets and amortization


7-36

Intangible Assets

• Represent special rights and benefits Have no physical form Very valuable in today’s information-driven

society Examples include patents and copyrights


7-37

Categories of Intangibles

• Finite lives that can be measured Amortized using the straight-line method Intangible asset is reduced by amortization

• No Accumulated Amortization account

• Indefinite Lives Not amortized Tested annually for loss in value


7-38

Specific Intangibles

PatentsFederal grants that giveholder exclusive right to produce and sell an invention for 20 years

Trademarks & Trade Names

Distinctive identification ofproduct or service; a logo

or catch phrase

CopyrightsExclusive right to sell a

book, music, file or other work of art; lasts for the life

of the author + 70 years

Franchises & LicensesRight to sell a product or

service with specific Conditions, such as chain

restaurants


7-39

Goodwill

• Very specific meaning in accounting

• Only recorded when an entire business is purchased Purchase price exceeds fair value of net

assets of business

• Represents earning power of purchased business

• Not amortized


7-40

E7-27

Purchase price of MySpace $18

Fair value of net assets

Current assets $10

Long-term assets $15

Total liabilities ($24) $1

Goodwill $17


7-41

E7-27

JOURNAL


Current assets $10

Long-term assets $15

Goodwill $17

Total liabilities $24

Cash $18


7-42

Research & Development Costs

• Not an intangible asset

• Required to be expensed as incurred No guarantee expenditures will result in a

successful project


7-43


Report plant asset transactions on the statement of cash flows


7-44

Plant Assets and Cash Flow Statement

• Operating section Depreciation, amortization and depletion are

noncash expense Added back to net income to determine

operating cash flows

• Investing section Purchases of plant assets and intangibles

result in an outflow of cash Sales results in inflow of cash

©2008 Pearson Prentice Hall. All rights reserved. 7-1 Plant Assets and Intangibles Chapter 7.

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Transcript of ©2008 Pearson Prentice Hall. All rights reserved. 7-1 Plant Assets and Intangibles Chapter 7.