2Study ObjectivesDescribe how the cost principle applies to plant assets.Explain the concept of depreciation.Compute periodic depreciation using different methods.Describe the procedure for revising periodic depreciation.Distinguish between revenue and capital expenditures, and explain the entries for each.Explain how to account for the disposal of a plant asset.Compute periodic depletion of natural resources.Explain the basic issues related to accounting for intangible assets.Indicate how plant assets, natural resources, and intangible assets are reported.1. On the topic, “Challenges Facing Financial Accounting,” what did the AICPA Special Committee on Financial Reporting suggest should be included in future financial statements?Non-financial Measurements (customer satisfaction indexes, backlog information, and reject rates on goods purchases).Forward-looking InformationSoft Assets (a company’s know-how, market dominance, marketing setup, well-trained employees, and brand image).Timeliness (no real time financial information)
3Plant Assets, Natural Resources, and Intangible Assets Statement Presentation and AnalysisDetermining the cost of plant assetsDepreciationExpenditures during useful lifePlant asset disposalsDepletionAccounting for intangiblesResearch and development costsPresentationAnalysisService Cost - Actuaries compute service cost as the present value of the new benefits earned by employees during the year. Future salary levels considered in calculation.Interest on Liability - Interest accrues each year on the PBO just as it does on any discounted debt.Actual Return on Plan Assets - Increase in pension funds from interest, dividends, and realized and unrealized changes in the fair market value of the plan assets.Amortization of Unrecognized Prior Service Cost - The cost of providing retroactive benefits is allocated to pension expense in the future, specifically to the remaining service-years of the affected employees.Gain or Loss - Volatility in pension expense can be caused by sudden and large changes in the market value of plan assets and by changes in the projected benefit obligation. Two items comprise the gain or loss:difference between the actual return and the expected return on plan assets and,amortization of the unrecognized net gain or loss from previous periods
4Section 1 – Plant AssetsPlant assets include land, land improvements, buildings, and equipment (machinery, furniture, tools).Major characteristics include:“Used in operations” and not for resale.Long-term in nature and usually depreciated.Possess physical substance.Referred to as property, plant, and equipment; plant and equipment; and fixed assets.
5Determining the Cost of Plant Assets LandIncludes all costs to acquire land and ready it for use.Costs typically include:the purchase price;closing costs, such as title and attorney’s fees;real estate brokers’ commissions;costs of grading, filling, draining, and clearing;assumption of any liens, mortgages, or encumbrances on the property.SO 1 Describe how the cost principle applies to plant assets.
6Determining the Cost of Plant Assets Illustration: Assume that Hayes Manufacturing Company acquires real estate at a cash cost of $100,000. The property contains an old warehouse that is razed at a net cost of $6,000 ($7,500 in costs less $1,500 proceeds from salvaged materials). Additional expenditures are the attorney’s fee, $1,000, and the real estate broker’scommission, $8,000. The cost of the land is $115,000, computed as follows.Required: Determine amount to be reported as the cost of the land.SO 1 Describe how the cost principle applies to plant assets.
7Determining the Cost of Plant Assets Required: Determine amount to be reported as the cost of the land.LandCash price of property of $100,000$100,000Old warehouse razed at a cost of $6,0006,000Attorney's fees of $1,0001,000Real estate broker’s commission of $8,0008,000Cost of Land$115,000SO 1 Describe how the cost principle applies to plant assets.
8Determining the Cost of Plant Assets Land ImprovementsIncludes all expenditures necessary to make the improvements ready for their intended use.Examples are driveways, parking lots, fences, landscaping, and underground sprinklers.Limited useful lives.Expense (depreciate) the cost of land improvements over their useful lives.SO 1 Describe how the cost principle applies to plant assets.
9Determining the Cost of Plant Assets BuildingsIncludes all costs related directly to purchase or construction.Purchase costs:Purchase price, closing costs (attorney’s fees, title insurance, etc.) and real estate broker’s commission.Remodeling and replacing or repairing the roof, floors, electrical wiring, and plumbing.Construction costs:Contract price plus payments for architects’ fees, building permits, and excavation costs.SO 1 Describe how the cost principle applies to plant assets.
10Determining the Cost of Plant Assets EquipmentInclude all costs incurred in acquiring the equipment and preparing it for use.Costs typically include:purchase price,sales taxes,freight and handling charges,insurance on the equipment while in transit,assembling and installation costs, andcosts of conducting trial runs.SO 1 Describe how the cost principle applies to plant assets.
11Determining the Cost of Plant Assets Illustration: Assume Merten Company purchases factory machinery at a cash price of $50,000. Related expenditures are for sales taxes $3,000, insurance during shipping $500, and installation and testing $1,000. Determine amount to be reported as the cost of the machinery.MachineryCash price$50,000Sales taxes3,000Insurance during shipping500Installation and testing1,000Cost of Machinery$54,500SO 1 Describe how the cost principle applies to plant assets.
13DepreciationDepreciation is the process of allocating the cost of tangible assets to expense in a systematic and rational manner to those periods expected to benefit from the use of the asset.Process of cost allocation, not asset valuation.Applies to land improvements, buildings, and equipment, not land.Depreciable, because the revenue-producing ability of asset will decline over the asset’s useful life.SO 2 Explain the concept of depreciation.
14Depreciation Factors in Computing Depreciation Cost Useful Life Illustration 10-6CostUseful LifeSalvage ValueSO 2 Explain the concept of depreciation.
15Depreciation Depreciation Methods Objective is to select the method that best measures an asset’s contribution to revenue over its useful life. Examples include:Straight-line method.Units-of-Activity method.Declining-balance method.Illustration Use of depreciation methods in 600 large U.S. companiesSO 3 Compute periodic depreciation using different methods.
16DepreciationIllustration: Barb’s Florists purchased a small delivery truck on January 1, 2010.Illustration 10-7Required: Compute depreciation using the following.(a) Straight-Line.(b) Units-of-Activity.(c) Declining Balance.SO 3 Compute periodic depreciation using different methods.
17Depreciation Straight-Line Expense is same amount for each year. Depreciable cost is cost of the asset less its salvage value.Illustration 10-9SO 3 Compute periodic depreciation using different methods.
19Depreciation Units-of-Activity Companies estimate total units of activity to calculate depreciation cost per unit.Expense varies based on units of activity.Depreciable cost is cost less salvage value.Illustration 10-11SO 3 Compute periodic depreciation using different methods.
21Depreciation Declining-Balance Decreasing annual depreciation expense over the asset’s useful life.Declining-balance rate is double the straight-line rate.Rate applied to book value.Illustration 10-13SO 3 Compute periodic depreciation using different methods.
22Depreciation Illustration: (Declining-Balance Method) 2010 13,000 40% $ 5,200$ 5,200$ 7,80020127,800403,1208,3204,68020134,680401,87210,1922,80820142,808401,12311,3151,68520151,68540685*12,0001,000Journal EntryDepreciation expense 5,200Accumulated depreciation 5,200* Computation of $674 ($1,685 x 40%) is adjusted to $685.
23Comparison of Depreciation Methods Illustration 10-15Illustration 10-16SO 3 Compute periodic depreciation using different methods.
24Depreciation for Partial Year The following five slides are included to illustrate the calculation of partial-year depreciation expense.The amounts are consistent with the previous slides illustrating the calculation of depreciation expense.SO 3 Compute periodic depreciation using different methods.
25Depreciation for Partial Year Illustration: Barb’s Florists purchased a small delivery truck on October 1, 2010.Illustration 10-7Required: Compute depreciation using the following.(a) Straight-Line.(b) Units-of-Activity.(c) Declining Balance.SO 3 Compute periodic depreciation using different methods.
26Depreciation for Partial Year Illustration: (Straight-line Method)SO 3 Compute periodic depreciation using different methods.
27Depreciation for Partial Year Illustration: (Units-of-Activity Method)Illustration 10-12201015,000$ 0.12$ 1,800$ 1,800$ 11,200201130,0000.123,6005,4007,600201220,0000.122,4007,8005,200201325,0000.123,00010,8002,200201410,0000.121,20012,0001,000Journal EntryDepreciation expense 1,800Accumulated depreciation 1,800SO 3 Compute periodic depreciation using different methods.
28Depreciation for Partial Year Illustration: (Declining-Balance Method)SO 3 Compute periodic depreciation using different methods.
29Depreciation Depreciation and Income Taxes IRS does not require taxpayer to use the same depreciation method on the tax return that is used in preparing financial statements.IRS requires the straight-line method or a special accelerated-depreciation method called the Modified Accelerated Cost Recovery System (MACRS). MACRS is NOT acceptable under GAAP.SO 3 Compute periodic depreciation using different methods.
30Depreciation Revising Periodic Depreciation Accounted for in the period of change and future periods (Change in Estimate).Not handled retrospectively.Not considered error.SO 4 Describe the procedure for revising periodic depreciation.
31DepreciationIllustration: Assume that Barb’s Florists decides on January 1, 2013, to extend the useful life of the truck one year because of its excellent condition. The company hasused the straight-line method to depreciate the asset to date, and book value is $5,800 ($13,000 - $7,200).Questions:What is the journal entry to correct the prior years’ depreciation?Calculate the depreciation expense for 2013.No EntryRequiredSO 4 Describe the procedure for revising periodic depreciation.
32First, establish Book Value at the date of change in estimate. DepreciationBook value, 1/1/13 $5,800Salvage valueDepreciable costUseful life (revised) /Annual depreciationFirst, establish Book Value at the date of change in estimate.- 1,0004,8003 years$ 1,600Illustration 10-17Journal entry for 2013Depreciation expense 1,600Accumulated depreciation 1,600SO 4 Describe the procedure for revising periodic depreciation.
33Expenditures During Useful Life Ordinary Repairs - expenditures to maintain the operating efficiency and productive life of the unit.Debit - Repair (or Maintenance) Expense.Referred to as revenue expenditures.Additions and Improvements - costs incurred to increase the operating efficiency, productive capacity, or useful life of a plant asset.Debit - the plant asset affected.Referred to as capital expenditures.SO 5 Distinguish between revenue and capital expenditures, and explain the entries for each.
34Plant Asset DisposalsCompanies dispose of plant assets in three ways —Retirement, Sale, or Exchange (appendix).Illustration 10-18Record depreciation up to the date of disposal.Eliminate asset by (1) debiting Accumulated Depreciation, and (2) crediting the asset account.SO 6 Explain how to account for the disposal of a plant asset.
35Plant Asset Disposals - Retirement Illustration: Assume that Hobart Enterprises retiresits computer printers, which cost $32,000. The accumulated depreciation on these printers is $32,000. The journal entry to record this retirement is?Accumulated depreciation 32,000Printing equipment 32,000Question: What happens if a fully depreciated plant asset is still useful to the company?SO 6 Explain how to account for the disposal of a plant asset.
36Plant Asset Disposals - Retirement Illustration: Assume that Sunset Company discards delivery equipment that cost $18,000 and has accumulateddepreciation of $14,000. The journal entry is?Accumulated depreciation 14,000Loss on disposal 4,000Delivery equipment 18,000Companies report a loss on disposal in the “Other expenses and losses” section of the income statement.SO 6 Explain how to account for the disposal of a plant asset.
37Plant Asset Disposals Sale of Plant Assets Compare the book value of the asset with the proceeds received from the sale.If proceeds exceed the book value, a gain on disposal occurs.If proceeds are less than the book value, a loss on disposal occurs.SO 6 Explain how to account for the disposal of a plant asset.
38Plant Asset Disposals - Sale Illustration: Assume that on July 1, 2010, Wright Company sells office furniture for $16,000 cash. The office furniture originally cost $60,000. As of January 1, 2010, it had accumulated depreciation of $41,000. Depreciation for the first six months of 2010 is $8,000. Prepare the journal entry to record depreciation expense up to the date of sale.Depreciation expense 8,000Accumulated depreciation 8,000SO 6 Explain how to account for the disposal of a plant asset.
39Plant Asset Disposals - Sale Illustration 10-19Computation of gain ondisposalIllustration: Wright records the sale as follows.July 1Cash 16,000Accumulated depreciation 49,000Office equipment 60,000Gain on disposal 5,000SO 6 Explain how to account for the disposal of a plant asset.
40Section 2 – Natural Resources Natural resources consist of standing timber and underground deposits of oil, gas, and minerals.Distinguishing characteristics:Physically extracted in operations.Replaceable only by an act of nature.
41Section 2 – Natural Resources Cost - price needed to acquire the resource and prepare it for its intended use.Depletion - allocation of the cost to expense in a rational and systematic manner over the resource’s useful life.Depletion is to natural resources as depreciation is to plant assets.Companies generally use units-of-activity method.Depletion generally is a function of the units extracted.SO 7 Compute periodic depletion of natural resources.
42Section 2 – Natural Resources Illustration: Assume that Lane Coal Company invests $5 million in a mine estimated to have 10 million tons of coal and no salvage value. In the first year, Lane extracts and sells 800,000 tons of coal. Lane computes the depletion expense as follows:$5,000,000 ÷ 10,000,000 = $.50 depletion cost per ton$.50 x 800,000 = $400,000 depletion expenseJournal entry:Depletion expense 400,000Accumulated depreciation 400,000SO 7 Compute periodic depletion of natural resources.
43Section 2 – Natural Resources Illustration 10-22Statement presentation of accumulated depletionExtracted resources that have not been sold are reported as inventory in the current assets section.SO 7 Compute periodic depletion of natural resources.
44Section 3 – Intangible Assets Intangible assets are rights, privileges, and competitive advantages that do not possess physical substance.Intangible assets are categorized as having either a limited life or an indefinite life.Common types of intangibles:PatentsCopyrightsFranchises or licensesTrademarks or trade namesGoodwillSO 8 Explain the basic issues related to accounting for intangible assets.
45Accounting for Intangible Assets ValuationPurchased Intangibles:Recorded at cost.Includes all costs necessary to make the intangible asset ready for its intended use.Internally Created Intangibles:Generally expensed.Only capitalize direct costs incurred in perfecting title to the intangible, such as legal costs.SO 8 Explain the basic issues related to accounting for intangible assets.
46Accounting for Intangible Assets Amortization of IntangiblesLimited-Life Intangibles:Amortize to expense.Credit asset account or accumulated amortization.Indefinite-Life Intangibles:No foreseeable limit on time the asset is expected to provide cash flows.No amortization.SO 8 Explain the basic issues related to accounting for intangible assets.
47Accounting for Intangible Assets PatentsExclusive right to manufacture, sell, or otherwise control an invention for a period of 20 years from the date of the grant.Capitalize costs of purchasing a patent and amortize over its 20-year life or its useful life, whichever is shorter.Expense any R&D costs in developing a patent.Legal fees incurred successfully defending a patent are capitalized to Patent account.SO 8 Explain the basic issues related to accounting for intangible assets.
48Accounting for Intangible Assets Illustration: Assume that National Labs purchases a patent at a cost of $60,000. National estimates the useful life of the patent to be eight years. National records the annualamortization as follows.Amortization expense 7,500Patent 7,500SO 8 Explain the basic issues related to accounting for intangible assets.
49Accounting for Intangible Assets CopyrightsGive the owner the exclusive right to reproduce and sell an artistic or published work.plays, literary works, musical works, pictures, photographs, and video and audiovisual material.Copyright is granted for the life of the creator plus 70 years.Capitalize acquisition costs.Amortized to expense over useful life.SO 8 Explain the basic issues related to accounting for intangible assets.
50Accounting for Intangible Assets Trademarks and Trade NamesWord, phrase, jingle, or symbol that identifies a particular enterprise or product.Wheaties, Game Boy, Frappuccino, Kleenex, Windows, Coca-Cola, and Jeep.Trademark or trade name has legal protection for indefinite number of 20 year renewal periods.Capitalize acquisition costs.No amortization.SO 8 Explain the basic issues related to accounting for intangible assets.
51Accounting for Intangible Assets Franchises and LicensesContractual arrangement between a franchisor and a franchisee.Shell, Taco Bell, or Rent-A-Wreck are franchises.Franchise (or license) with a limited life should be amortized to expense over the life of the franchise.Franchise with an indefinite life should be carried at cost and not amortized.SO 8 Explain the basic issues related to accounting for intangible assets.
52Accounting for Intangible Assets GoodwillIncludes exceptional management, desirable location, good customer relations, skilled employees, high-quality products, etc.Only recorded when an entire business is purchased.Goodwill is recorded as the excess of ...purchase price over the FMV of the identifiable net assets acquired.Internally created goodwill should not be capitalized.SO 8 Explain the basic issues related to accounting for intangible assets.
54Research and Development Costs Frequently results in something that a company patents or copyrights such as:new product,process,idea,formula,composition, orliterary work.All R & D costs are expensed when incurred.SO 8 Explain the basic issues related to accounting for intangible assets.
55Statement Presentation and Analysis Illustration 10-24Companies usually include natural resources under “Property, plant, and equipment” and show intangibles separately.SO 9 Indicate how plant assets, natural resources, and intangible assets are reported.
56Statement Presentation and Analysis Illustration 10-25Each dollar invested in assets produced $0.56 in sales. If a company is using its assets efficiently, each dollar of assets will create a high amount of sales.SO 9 Indicate how plant assets, natural resources, and intangible assets are reported.
57Exchange of Plant Assets Ordinarily, companies record a gain or loss on the exchange of plant assets.The rationale for recognizing a gain or loss is that most exchanges have commercial substance.An exchange has commercial substance if the future cash flows change as a result of the exchange.SO 10 Explain how to account for the exchange of plant assets.
58Exchange of Plant Assets Illustration: Roland Co. exchanged old trucks (cost $64,000 less $22,000 accumulated depreciation) plus cash of $17,000 for a new semi-truck. The old trucks had a fair market value of $26,000.Illustration 10A-1 & 10A-2Cost of old trucks $64,000Less: Accumulated depreciation 22,000Book value 42,000Fair market value of old trucks 26,000Loss on disposal $16,000Fair market value of old trucks $26,000Cash paid 17,000Cost of new semi-truck $43,000SO 10 Explain how to account for the exchange of plant assets.
59Exchange of Plant Assets Illustration: Roland Co. exchanged old trucks (cost $64,000 less $22,000 accumulated depreciation) plus cash of $17,000 for a new semi-truck. The old trucks had a fair market value of $26,000.Prepare the entry to record the exchange of assets by Roland Co.Semi-truck ,000Accumulated depreciation 22,000Loss on disposal ,000Used trucks 64,000Cash ,000SO 10 Explain how to account for the exchange of plant assets.
60Exchange of Plant Assets Illustration: Mark Express Delivery trades its old delivery equipment (cost $40,000 less $28,000 accumulated depreciation) for new delivery equipment. The old equipment had a fair market value of $19,000. Mark also paid $3,000.Cost of old equipment $40,000Less: Accumulated depreciation 28,000Book value 12,000Fair market value of old equipment 19,000Gain on disposal $ 7,000Fair market value of old equipment $19,000Cash paid 3,000Cost of new equipment $22,000Illustration 10A-3 & 10A-4SO 10 Explain how to account for the exchange of plant assets.
61Exchange of Plant Assets Illustration: Mark Express Delivery trades its old delivery equipment (cost $40,000 less $28,000 accumulated depreciation) for new delivery equipment. The old equipment had a fair market value of $19,000. Mark also paid $3,000.Prepare the entry to record the exchange of assets by Mark Express.Delivery equipment (new) ,000Accumulated depreciation 28,000Delivery equipment (used) 40,000Gain on disposal 7,000Cash ,000SO 10 Explain how to account for the exchange of plant assets.