8-1 powerpoint authors: susan coomer galbreath, ph.d., cpa charles w. caldwell, d.b.a., cma jon a....
TRANSCRIPT
8-1
PowerPoint Authors:Susan Coomer Galbreath, Ph.D., CPACharles W. Caldwell, D.B.A., CMAJon A. Booker, Ph.D., CPA, CIACynthia J. Rooney, Ph.D., CPA
Reporting and InterpretingProperty, Plant, and Equipment;
Natural Resources;and Intangibles
Chapter 08
McGraw-Hill/Irwin Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.
8-2
Understanding The Business
How much is enough?
Insufficient capacity results
in lost sales.
Costly excesscapacity reduces
profits.
8-3
Tangible
PhysicalSubstance
Intangible
No PhysicalSubstance
Expected to Benefit Future Periods
Classifying Long-Lived Assets
8-4
Tangible
PhysicalSubstance
Intangible
No PhysicalSubstance
Classifying Long-Lived Assets
Land Assets subject to depreciation
Buildings and equipment Furniture and fixtures
Natural resource assets subject to depletion
Mineral deposits and timber
Definite life Patents Copyrights Franchises
Indefinite life Trademarks Goodwill
8-5
Fixed Asset TurnoverFixedAsset
Turnover
Net Sales Revenue
Average Net Fixed Assets=
This ratio measures a company’s ability to generateThis ratio measures a company’s ability to generatesales given an investment in fixed assets.sales given an investment in fixed assets.
This ratio measures a company’s ability to generateThis ratio measures a company’s ability to generatesales given an investment in fixed assets.sales given an investment in fixed assets.
During 2009, Southwest Airlines had $10,350 of revenue. End-of-year fixed assets were $10,634 and beginning-of-year fixed
assets were $11,040. (All numbers in millions.)
During 2009, Southwest Airlines had $10,350 of revenue. End-of-year fixed assets were $10,634 and beginning-of-year fixed
assets were $11,040. (All numbers in millions.)
FixedAsset
Turnover
$10,350
($10,634 + $11,040) ÷ 2= = 0.96
Southwest Delta United1.01 1.40 1.86
2008 Fixed Asset Turnover Comparisons
8-6
Measuring and Recording Acquisition Cost
Acquisition cost includes the purchase price and all expenditures needed to prepare the asset for its intended use.
Acquisition cost does not includefinancing charges and cash discounts.
Acquisition cost includes the purchase price and all expenditures needed to prepare the asset for its intended use.
Acquisition cost does not includefinancing charges and cash discounts.
Buildings• Purchase price• Renovation and repair costs• Legal and realty fees• Title fees
Buildings• Purchase price• Renovation and repair costs• Legal and realty fees• Title fees
8-7
Measuring and RecordingAcquisition Cost
Equipment
• Purchase price
• Installation costs
• Modification to buildingnecessary to install equipment
• Transportation costs
Equipment
• Purchase price
• Installation costs
• Modification to buildingnecessary to install equipment
• Transportation costs
Land• Purchase price• Real estate commissions• Title insurance premiums• Delinquent taxes• Surveying fees• Title search and transfer fees
Land• Purchase price• Real estate commissions• Title insurance premiums• Delinquent taxes• Surveying fees• Title search and transfer fees
Land is not depreciatedLand is not depreciated
8-8
On January 1, Southwest Air Linespurchased aircraft for $75,000,000 cash.
GENERAL JOURNAL Page 8
Date Description Debit Credit
Jan. 1 Flight equipment (+A) 75,000,000
Cash (-A) 75,000,000
Measuring and Recording Acquisition Cost
Acquisitionfor Cash
On January 14, Southwest Air Linespurchased aircraft for $1,000,000 cash
and a $74,000,000 note payable.
Acquisition for Debt
GENERAL JOURNAL Page 9
Date Description Debit Credit
Jan. 14 Flight equipment (+A) 75,000,000
Cash (-A) 1,000,000
Note payable (+L) 74,000,000
8-9
Acquisition for Noncash Consideration Record at the current market value of the consideration given, or the current market value of the asset acquired,
whichever is more clearly evident.
Record at the current market value of the consideration given, or the current market value of the asset acquired,
whichever is more clearly evident.
On July 7, Southwest gave Boeing 1,000,000 shares of $1.00 par value common stock with a market value of
$50 per share plus $25,000,000 in cash for aircraft.
On July 7, Southwest gave Boeing 1,000,000 shares of $1.00 par value common stock with a market value of
$50 per share plus $25,000,000 in cash for aircraft.
GENERAL JOURNAL Page 10
Date Description Debit Credit
July 7 Flight Equipment (+A) 75,000,000
Common Stock (+SE) 1,000,000
Additional Paid-in Capital (+SE) 49,000,000
Cash (-A) 25,000,000
8-10
Acquisition by Construction
Asset cost includes:Asset cost includes:
All materials andlabor traceable tothe construction.
A reasonableamount ofoverhead.
Interest on debtincurred during
the construction.
8-11
Repairs, Maintenance, and Additions
Type of Capital orExpenditure Revenue Identifying Characteristics
Ordinary Revenue 1. Maintains normal operating conditionrepairs and 2. Does not increase productivity
maintenance 3. Does not extend life beyond original estimate4. Recurring in nature and involve small amounts of money at each occurence
Additions and Capital 1. Major overhauls or partialImprovements replacements
2. Usually occur infrequently3. Increases efficiency4. May extend useful life5. Involve large amounts of money
8-12
Financial Statement Effect
Current Current Treatment Statement Expense Income Taxes
Capital Balance sheetExpenditure account debited Deferred Higher Higher
Revenue Income statement CurrentlyExpenditure account debited recognized Lower Lower
Repairs, Maintenance, and Additions
To solve this problem, many companies have policies regarding the expensing of all expenditures below a
certain amount according to the materiality constraint.
8-13
Depreciation is a cost allocation process that systematically and rationally matches acquisition costs
of operational assets with periods benefited by their use.
Depreciation is a cost allocation process that systematically and rationally matches acquisition costs
of operational assets with periods benefited by their use.
Cost
Allocation(Unused)
Balance Sheet
(Used)
Income Statement
Expense
Depreciation Concepts
AcquisitionCost
DepreciationExpense
IncomeStatement
BalanceSheet
AccumulatedDepreciation
Depreciation for
the current year
Total of depreciation
to date on an asset
8-14
Depreciation Concepts
The calculation of depreciation requiresthree amounts for each asset: Acquisition cost. Estimated useful life. Estimated residual value.
The calculation of depreciation requiresthree amounts for each asset: Acquisition cost. Estimated useful life. Estimated residual value.
Alternative depreciation methods: Straight-line Units-of-production Accelerated Method: Declining balance
Alternative depreciation methods: Straight-line Units-of-production Accelerated Method: Declining balance
8-15
Straight-Line Method
Cost - Residual Value
Useful Life in Years
Cost - Residual Value
Useful Life in Years
Depreciation
Expense per Year
Depreciation
Expense per Year==
At the beginning of the year, Southwest purchased ground equipment for $62,500 cash. The equipment has an estimated useful life of 3 years and an estimated residual value of $2,500.
Depreciation
Expense per Year=
Depreciation
Expense per Year= $20,000
$62,500 - $2,500
3 years
8-16
Depreciation Accumulated Accumulated UndepreciatedExpense Depreciation Depreciation Balance
Year (debit) (credit) Balance (book value)62,500$
1 20,000$ 20,000$ 20,000$ 42,500 2 20,000 20,000 40,000 22,500 3 20,000 20,000 60,000 2,500
60,000$ 60,000$
Residual Value
SL More companies use the straight-line method of depreciation in their financial
reports than all other methods combined.
Straight-Line Method
8-17
Units-of-Production Method
Depreciation Rate
= Cost - Residual Value Life in Units of Production
Step 1:
Step 2:
Depreciation Expense =
Depreciation Rate
×Number of
Units Producedfor the Year
At the beginning of the year, Southwest purchased ground equipment for $62,500 cash. The equipment has a 100,000 mile useful life and an estimated residual value of $2,500.
If the equipment is used 30,000 miles in the first year, what is the amount of depreciation expense?
8-18
Units-of-Production Method
$62,500 - $2,500 100,000 miles
= $.60 per mileDepreciation Rate
=
Step 1:
Step 2:
$.60 per mile × 30,000 miles = $18,000
Depreciation Expense =
Accumulated UndepreciatedDepreciation Depreciation Balance
Year Miles Expense Balance (book value)62,500$
1 30,000 18,000$ 18,000$ 44,500 2 50,000 30,000 48,000 14,500 3 20,000 12,000 60,000 2,500
100,000 60,000$ Residual Value
8-19
Accelerated Depreciation
DepreciationDepreciation RepairRepairExpenseExpense ExpenseExpense
Early YearsEarly Years HighHigh LowLow
Later YearsLater Years LowLow HighHigh
Accelerated depreciation matches higher depreciation expense with higher revenuesin the early years of an asset’s useful life
when the asset is more efficient.
8-20
Declining-Balance Method
AnnualDepreciation
expense
NetBookValue
( )Useful Life in Years 2
= ×
Cost – Accumulated Depreciation
Declining balance rateof 2 is double-declining-
balance (DDB) rate.
Annual computation ignores residual value.Annual computation ignores residual value.
At the beginning of the year, Southwest purchased equipment for $62,500 cash. The equipment has an estimated useful life of 3 years and an estimated residual value of $2,500.
Calculate the depreciation expense for the first two years.
8-21
AnnualDepreciation
expense
NetBookValue
( )Useful Life in Years 2
= ×
( ) $62,500 × 3 years 2
= $41,667
( ) ($62,500 – $41,667) ×
3 years 2
= $13,889
Declining-Balance Method
Year 1 Depreciation:
Year 2 Depreciation:
8-22
Depreciation Accumulated UndepreciatedExpense Depreciation Balance
Year (debit) Balance (book value)62,500$
1 41,667$ 41,667$ 20,833 2 13,889 55,556 6,944 3 4,629 60,185 2,315
60,185$
( ) ($62,500 – $55,556) × 3 years 2
= $4,629
Below residual value
Declining-Balance Method
8-23
Depreciation expense is limited to the amount thatreduces book value to the estimated residual value.
Depreciation Accumulated UndepreciatedExpense Depreciation Balance
Year (debit) Balance (book value)62,500$
1 41,667$ 41,667$ 20,833 2 13,889 55,556 6,944 3 4,444 60,000 2,500
60,000$
Declining-Balance Method
8-24
International Perspective—IFRSMeasurement Basis for Property, Plantand Equipment
IFRS permit companies to value property, plant, and
equipment at historical cost or to revalue them to their fair value as of the balance
sheet date.
Under GAAP, revaluation of property, plant, and
equipment to fair value is prohibited.
US GAAP and IFRS differ with respect to the measurement basis for property, plant and equipment on the balance sheet.
8-25
Measuring Asset ImpairmentImpairment is the loss of a significant portion
of the utility of an asset through . . .• Casualty.• Obsolescence.• Lack of demand for the asset’s services.
Recognize aloss whenan assetsuffers a
permanentimpairment.
8-26
Journalize disposal by:
Writing off accumulateddepreciation (debit).
Writing off the asset cost (credit).
Recording cashreceived (debit)or paid (credit).
Recording again (credit)
or loss (debit).
Update depreciation to the date of disposal.
Disposal of Property, Plantand Equipment
8-27
Disposal of Property, Plantand Equipment
Southwest Airlines sold flight equipmentfor $11,000,000 cash at the end of its
17th year of use. The flight equipment originally cost $30,000,000, and was depreciated using the
straight-line method with zero residual valueand a useful life of 25 years.
Let’s answer the following questions.
Southwest Airlines sold flight equipmentfor $11,000,000 cash at the end of its
17th year of use. The flight equipment originally cost $30,000,000, and was depreciated using the
straight-line method with zero residual valueand a useful life of 25 years.
Let’s answer the following questions.
8-28
The amount of depreciation expense recorded at the end of the 17th year to
bring depreciation up to date is:
a. $0.
b. $1,200,000.
c. $1,500,000.
d. $2,000,000.
The amount of depreciation expense recorded at the end of the 17th year to
bring depreciation up to date is:
a. $0.
b. $1,200,000.
c. $1,500,000.
d. $2,000,000.
Annual Depreciation: ($30,000,000 – $0) ÷ 25 Years. = $1,200,000
Disposal of Property, Plantand Equipment
8-29
After updating the depreciation,the equipment’s book value at the end of
the 17th year is:
a. $9,600,000.
b. $20,400,000.
c. $12,800,000.
d. $6,600,000.
After updating the depreciation,the equipment’s book value at the end of
the 17th year is:
a. $9,600,000.
b. $20,400,000.
c. $12,800,000.
d. $6,600,000.
Accumulated Depreciation =
(17yrs. × $1,200,000) = $20,400,000
BV = Cost – Accumulated Depreciation
BV = $30,000,000 – $20,400,000 = $9,600,000
Disposal of Property, Plantand Equipment
8-30
The equipment’s sale resulted in:
a. a gain of $1,400,000.
b. a gain of $6,200,000.
c. a gain of $3,800,000.
d. a loss of $1,700,000.
The equipment’s sale resulted in:
a. a gain of $1,400,000.
b. a gain of $6,200,000.
c. a gain of $3,800,000.
d. a loss of $1,700,000.
Gain = Cash Received – Book ValueGain = $11,000,000 – $9,600,000 = $1,400,000
Disposal of Property, Plantand Equipment
8-31
Prepare the journal entry to record Southwest’s sale of the equipment at the end of the 17th year.
GENERAL JOURNAL Page 8
Date Description Debit Credit
Cash (+A) 11,000,000
Accumulated Depreciation (+XA) 20,400,000
Gain on Sale (+Gain, +SE) 1,400,000
Flight Equipment (-A) 30,000,000
Disposal of Property, Plantand Equipment
8-32
Acquisition and Depletion of Natural Resources
Examples: oil, coal, goldExamples: oil, coal, gold
Extracted fromthe natural
environment.
A noncurrentasset presented
at cost lessaccumulated
depletion.
Total cost of asset is the cost
of acquisition, exploration,
and development.
Total cost isallocated over
periods benefitedby means of
depletion.
Depletion is like units-of-production depreciation.
8-33
The unit depletion rate is calculated as follows:
Estimated Recoverable Units
Acquisition and ResidualDevelopment Cost Value–
Depletioncost
Inventoryfor sale Unsold
Inventory
Cost ofgoods sold
Depletion cost for a period is:
UNIT DEPLETIONRATE
NUMBER OF UNITSEXTRACTED IN PERIOD×
Acquisition and Depletion of Natural Resources
8-34
Acquisition and Amortization of Intangible Assets
Noncurrent assetswithout physical
substance.
Noncurrent assetswithout physical
substance.
Useful life isoften difficultto determine.
Useful life isoften difficultto determine.
Usually acquired for operational
use.
Usually acquired for operational
use.
Often provideexclusive rights
or privileges.
Often provideexclusive rights
or privileges.Intangible
Assets
Record at current cash equivalent cost, including purchase price, legal fees, and filing fees.
8-35
Acquisition and Amortization of Intangible Assets
Definite Life
• Amortize over shorter of economic life or legal life, subject to rules specified by GAAP.
• Use straight-line method.
Definite Life
• Amortize over shorter of economic life or legal life, subject to rules specified by GAAP.
• Use straight-line method.
Indefinite Life
• Not amortized.
• Tested at least annually for possible impairment, and book value is reduced to fair value if impaired.
Indefinite Life
• Not amortized.
• Tested at least annually for possible impairment, and book value is reduced to fair value if impaired.
Amortization is a cost allocation process similar to depreciation and depletion.
Amortization is a cost allocation process similar to depreciation and depletion.
8-36
Occurs when onecompany buys
another company.
The amount by which the purchase price exceedsthe fair market value of net assets acquired.
Only purchased goodwill is an
intangible asset.
Goodwill
Acquisition and Amortization of Intangible Assets
Goodwill is not amortized. Its value must be reviewedat least annually for possible impairment, and the
book value is reduced to fair value if impaired.
Goodwill is not amortized. Its value must be reviewedat least annually for possible impairment, and the
book value is reduced to fair value if impaired.
8-37
Arpec Company paid $2,000,000 to purchaseall of Utek Company’s assets and assumed liabilities of $400,000. The acquired assets were appraised at a fair value of $1,800,000.
What amount of goodwill should be recorded on Arpec Company books?
a. $200,000
b. $400,000
c. $600,000
d. $800,000
What amount of goodwill should be recorded on Arpec Company books?
a. $200,000
b. $400,000
c. $600,000
d. $800,000
FMV of Assets 1,800,000$ Debt Assumed 400,000
FMV of Net Assets 1,400,000 Purchase Price 2,000,000
Goodwill 600,000$
Acquisition and Amortization of Intangible Assets
8-38
Acquisition and Amortization of Intangible AssetsTrademarks
• A symbol, design, orlogo associated witha business.
• An exclusive legal rightto use a name, imageor slogan.
• Purchased trademarksare recorded at cost.
Trademarks
• A symbol, design, orlogo associated witha business.
• An exclusive legal rightto use a name, imageor slogan.
• Purchased trademarksare recorded at cost.
Copyrights
• The exclusive right to publish, use, and sell a literary, musical, or artistic work.
• Legal life is life of creator plus 70 years.
• Amortize cost over the period benefited.
Copyrights
• The exclusive right to publish, use, and sell a literary, musical, or artistic work.
• Legal life is life of creator plus 70 years.
• Amortize cost over the period benefited.
8-39
Acquisition and Amortization of Intangible Assets
Patents
• Exclusive right granted by the federal government to sell or manufacture an invention.
• Cost is purchase price plus legal cost to defend.
• Amortize cost over the shorter of useful life or 20 years.
• Research and development costs that might result in a patent are normally expensed as incurred.
Patents
• Exclusive right granted by the federal government to sell or manufacture an invention.
• Cost is purchase price plus legal cost to defend.
• Amortize cost over the shorter of useful life or 20 years.
• Research and development costs that might result in a patent are normally expensed as incurred.
Technology
• A category of intangible assets that includes a company’s website and any computer programs written by its employees.
Technology
• A category of intangible assets that includes a company’s website and any computer programs written by its employees.
8-40
Franchises
• Legally protected right purchased by a franchisee to sell products or provide services for a specified period and purpose.
• Purchase price is an intangible asset that is amortized.
Franchises
• Legally protected right purchased by a franchisee to sell products or provide services for a specified period and purpose.
• Purchase price is an intangible asset that is amortized.
Acquisition and Amortization of Intangible Assets
Licenses and Operating Rights
• Limited permissions to use a product or service according to specific terms and conditions.
• You may be using computer software that is made available to you through a campus licensing agreement.
Licenses and Operating Rights
• Limited permissions to use a product or service according to specific terms and conditions.
• You may be using computer software that is made available to you through a campus licensing agreement.
8-41
International Perspective—IFRSMeasurement Basis for Property, Plantand Equipment
IFRS require that research expenditures be reported
as an expense, but development costs be
capitalized as an asset after technical and commercial feasibility of the resulting product or service have
been established.
Under GAAP, all research and development costs must be reported as an
expense.
US GAAP and IFRS differ with respect to the treatment of development costs.
8-42
Focus on Cash Flows
8-43
Chapter Supplement A – Changes in Depreciation Estimates
Depreciation Expense is based on . . .
ESTIMATED useful life
ESTIMATED useful life
ESTIMATED residual valueESTIMATED residual value
If the estimates change, the book value less any residual value at the date of change is depreciated
over the remaining useful life.
If the estimates change, the book value less any residual value at the date of change is depreciated
over the remaining useful life.
Southwest purchased an aircraft for $60,000,000. The aircraft is depreciated using the straight-line method with a useful life of 20 years and an estimated residual value of $3,000,000. In year 5,
Southwest changed the estimated useful life to 25 years and lowered the residual value to $2,400,000. Calculate depreciation
expense for the fifth year using the straight-line method.
Southwest purchased an aircraft for $60,000,000. The aircraft is depreciated using the straight-line method with a useful life of 20 years and an estimated residual value of $3,000,000. In year 5,
Southwest changed the estimated useful life to 25 years and lowered the residual value to $2,400,000. Calculate depreciation
expense for the fifth year using the straight-line method.
8-44
Chapter Supplement A – Changes in Depreciation Estimates
Acquisition cost 60,000,000$ Accumulated depreciation (years 1-5) ($2,850,000 per year × 4 years) 11,400,000 Remaining book value 48,600,000 Less: New residual value 2,400,000 New depreciable amount 46,200,000 Divide by remaining life ÷ 21Revised annual depreciation 2,200,000$
8-45
End of Chapter 08