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Chapter 9 Fixed Assets and Intangible Assets Financial and Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud.

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Presentation on theme: "Chapter 9 Fixed Assets and Intangible Assets Financial and Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud."— Presentation transcript:

1 Chapter 9 Fixed Assets and Intangible Assets Financial and Managerial Accounting 8th Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2004 South-Western, a division of Thomson Learning. All rights reserved. Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.

2 Some of the action has been automated, so click the mouse when you see this lightning bolt in the lower right-hand corner of the screen. You can point and click anywhere on the screen.

3 1.Define fixed assets and describe the accounting for their cost. 2.Compute depreciation, using the following methods: straight-line method, units-of- production method, and declining-balance method. 3.Classify fixed asset costs as either capital expenditures or revenue expenditures. 4.Journalize entries for the disposal of fixed assets. 5.Define a lease and summarize the accounting rules related to the leasing of fixed assets. ObjectivesObjectives After studying this chapter, you should be able to:

4 6.Describe internal controls over fixed assets. 7.Compute depletion and journalize the entry for depletion. 8.Describe the accounting for intangible assets, such as patents, copyrights, and goodwill. 9.Describe how depreciation expense is reported in an income statement, and prepare a balance sheet that includes fixed assets and intangible assets. 10.Compute and interpret the ratio of fixed assets to long-term debt. ObjectivesObjectives

5 Nature of Fixed Assets Fixed assets are long term or relatively permanent assets Fixed assets are tangible assets because they exist physically. They are owned and used by the business and are not held for sale as part of normal operations.

6 Classifying Costs Is the purchased item long-lived? Yes Is the asset used in a productive purpose? No Expense Yes Fixed Assets No Investment

7

8 LandLand Purchase pricePurchase price Sales taxesSales taxes Permits from government agenciesPermits from government agencies Brokers commissionsBrokers commissions Title feesTitle fees Surveying feesSurveying fees Purchase pricePurchase price Sales taxesSales taxes Permits from government agenciesPermits from government agencies Brokers commissionsBrokers commissions Title feesTitle fees Surveying feesSurveying fees

9 LandLand Purchase pricePurchase price Sales taxesSales taxes Permits from government agenciesPermits from government agencies Brokers commissionsBrokers commissions Title feesTitle fees Surveying feesSurveying fees Purchase pricePurchase price Sales taxesSales taxes Permits from government agenciesPermits from government agencies Brokers commissionsBrokers commissions Title feesTitle fees Surveying feesSurveying fees Delinquent real estate taxesDelinquent real estate taxes Razing or removing unwanted buildings, less the salvageRazing or removing unwanted buildings, less the salvage Grading and levelingGrading and leveling Paving a public street bordering the landPaving a public street bordering the land Delinquent real estate taxesDelinquent real estate taxes Razing or removing unwanted buildings, less the salvageRazing or removing unwanted buildings, less the salvage Grading and levelingGrading and leveling Paving a public street bordering the landPaving a public street bordering the land

10 Architects fees Engineers fees Insurance costs incurred during construction Interest on money borrowed to finance construction Walkways to and around the building BuildingsBuildings

11 BuildingsBuildings Sales taxes Repairs (purchase of existing building) Reconditioning (purchase of an existing building) Modifying for use Permits from governmental agencies

12 Trees and shrubs Fences Parking areas Outdoor lighting Concrete sewers and drainage Paved parking areas Land Improvements

13 Machinery and Equipment Sales taxes Freight Installation Repairs (purchase of used equipment) Reconditioning (purchase of used equipment)

14 Machinery and Equipment Insurance while in transit Assembly Modifying for use Testing for use Permits from governmental agencies

15 Cost of Acquiring Fixed Assets Excludes: Vandalism Mistakes in installation Uninsured theft Damage during unpacking and installing Fines for not obtaining proper permits from government agencies

16 Nature of Depreciation All fixed assets except land lose their capacity to provide services. This loss of productive capacity is recognized as Depreciation Expense. All fixed assets except land lose their capacity to provide services. This loss of productive capacity is recognized as Depreciation Expense. Physical depreciation occurs from wear and tear while in use and from the action of the weather. Functional depreciation occurs when a fixed asset is longer able to provide services at the level for which it was intended, e.g., personal computer.

17 Depreciation Expense Factors Initial Cost Residual Value - = Depreciable Cost Useful Life 1 Periodic Depreciation Expense

18 83% 4% 8% 5% Straight-Line Declining- Balance Other Units-of-Production Source: Accounting Trends & Techniques, 56 th. ed., American Institute of Certified Public Accountants, New York, Use of Depreciation Methods

19 FactsFacts Original Cost.....………….. $24,000 Estimated Life in years…..5 years Estimated Life in hours….. 10,000 Estimated Residual Value...$2,000 Original Cost.....………….. $24,000 Estimated Life in years…..5 years Estimated Life in hours….. 10,000 Estimated Residual Value...$2,000

20 Straight-Line Method Cost – estimated residual value Estimated life = Annual depreciation

21 Straight-Line Method $24,000 – $2,000 5 years = $4,400 annual depreciation

22 Straight-Line Rate $24,000 – $2,000 5 years = $4,400 $4,400 $24,000 = 18.3%

23 Straight-Line Method The straight-line method is widely used by firms because it is simple and it provides a reasonable transfer of cost to periodic expenses if the asset is used about the same from period to period.

24 Accum. Depr.Book ValueDepr.Book Value at Beginningat BeginningExpenseat End YearCostof Yearof Year for Yearof Year 1$24,000$24,000$4,400$19, ,000$ 4,40019,6004,40015, ,0008,800 15,200 4,400 10, ,00013,200 10,800 4,400 6, ,00017,6006,4004,4002,000 Cost ($24,000) – Residual Value ($2,000) Estimated Useful Life (5 years) = Annual Depreciation Expense ($4,400) Straight-Line Method

25 Units-of-Production Method Cost – estimated residual value Estimated life in units, hours, etc. = Depreciation per unit, hour, etc.

26 $24,000 – $2,000 10,000 hours = Depreciation per unit, hour, etc. = $2.20 per hour Units-of-Production Method

27 The units-of-production method is more appropriate than the straight-line method when the amount of use of a fixed asset varies from year to year. Units-of-Production Method

28 Declining-Balance Method Step 1 Ignoring residual value, determine the straight-line rate = $4,800 $24,000 – $2,000 5 years $4,800 $24,000 = 20%

29 Theres a shortcut. Simply divide one by the number of years (1 ÷ 5 =.20). Declining-Balance Method

30 Double the straight-line rate. Step 2.20 x 2 =.40 For the first year, the cost of the asset is multiplied by 40 percent. After the first year, the declining book value of the asset is multiplied 40 percent. Declining-Balance Method

31 Build a table. Step 3 Declining-Balance Method

32 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600 Declining-Balance Method $24,000 x.40

33 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14,400 Declining-Balance Method

34 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,760 Declining-Balance Method $14,400 x.40

35 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 Declining-Balance Method

36 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 Declining-Balance Method

37 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 45,18440%2,07420,8903,110 Declining-Balance Method

38 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 45,18440% 2,07420,8903,110 53,11040%1,24422,1341,866 STOP! Declining-Balance Method

39 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 45,18440% 2,07420,8903,110 53,11040%1,24422,1341,866 Declining-Balance Method If we use this approach in Year 5, we will end the year with a book value of $1,866. Remember, the residual value at the end of Year 5 is expected to be $2,000, so we must modify our approach.

40 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 45,18440% 2,07420,8903,110 53, ,110 Declining-Balance Method $3,110 – $2,000

41 Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End 1$24,00040%$9,600$9,600$14, ,40040%5,76015,3608,640 38,64040%3,45618,8165,184 45,18440% 2,07420,8903,110 53, ,11022,0002,000 Desired ending book value Declining-Balance Method

42 Comparing Straight-Line With the Declining-Balance Method Straight-Line Method Depreciation ($) 5,000 4,000 3,000 2,000 1,000 0 Life (years) Declining-Balance Method Life (years)

43

44 Revising Depreciation Estimates A machine purchased for $130,000 was originally estimated to have a useful life of 30 years and a residual value of $10,000. The asset has been depreciated for ten years using the straight- line method. Annual Depreciation $130,000 – $10, years $4,000 per year

45 Equipment 130,000 Accumulated Depreciation 4,000 40,000 Before revising Book value = $90,000 Revising Depreciation Estimates

46 During the eleventh year, it is estimated that the remaining useful life is 25 years (rather than 20) and that the revised estimated residual value is $5,000. Book value – revised residual value Revised estimated remaining life Revising Depreciation Estimates $90,000 – $5, years $3,400 revised annual depreciation =

47 Expenditures made to acquire new plant assets are known as capital expenditures. Capital and Revenue Expenditures

48 Expenditures to repair or maintain plant assets that do not extend the life or enhance the value are known as revenue expenditures. Capital and Revenue Expenditures

49 EXPENDITURE Increases operating efficiency or adds to capacity? Capital Expenditure (Debit fixed asset account) Yes Capital and Revenue Expenditures Increases useful life (extraordinary repairs)? No Capital Expenditure (Debit accumulated depreciation account) Yes Revenue Expenditure (Debit expense account for ordinary maintenance and repairs) No

50 LIABILITIES OWNERS EQUITY REVENUES ASSETS EXPENSES CAPITAL EXPENDITURES 1. Initial cost 2. Additions 3. Betterments 4. Extraordinary repairs 1. Initial cost 2. Additions 3. Betterments 4. Extraordinary repairs net income Capital and Revenue Expenditures

51 LIABILITIES OWNERS EQUITY REVENUES ASSETS EXPENSES net income Normal and ordinary repairs and maintenance REVENUE EXPENDITURES Capital and Revenue Expenditures

52 Accounting for Fixed Asset Disposals When fixed assets lose their usefulness they may be disposed of in one of the following ways: 1. discarded, 2. sold, or 3. traded (exchanged) for similar assets. Required entries will vary with type of disposition and circumstances, but the following entries will always be necessary: An asset account must be credited to remove the asset from the ledger, and the related Accumulated Depreciation account must be debited to remove its balance from the ledger.

53 A piece of equipment acquired at a cost of $25,000 is fully depreciated. On February 14, the equipment is discarded. Discarding Fixed Assets

54 Feb.14Accumulated Depr.Equipment To write off fully depreciated equipment. Equipment

55 Equipment costing $6,000 is depreciated at an annual straight-line rate of 10%. After the adjusting entry, Accumulated Depreciation Equipment had a $4,750 balance. The equipment was discarded on March 24. Mar.24Depreciation Expense.Equipment To record current depreciation on equipment discarded. Accum. DepreciationEquipment Discarding Fixed Assets $600 x 3/12

56 Equipment costing $6,000 is depreciated at an annual straight-line rate of 10%. After the adjusting entry, Accumulated DepreciationEquipment had a $4,750 balance. The equipment was discarded on March 24. Mar.24Accumulated Depr.Equipment Loss on Disposal of Fixed Asset To write off equipment discarded. Equipment Discarding Fixed Assets

57 Gain or loss will be reported in the income statement as Other Income or Other Loss. When fixed assets are sold, the owner may break even, sustain a loss, or realize a gain. 1.If the sale price is equal to book value, there will be no gain or loss. 2.If the sale price is less than book value, there will be a loss equal to the difference. 3.If the sale price is more than book value, there will be a gain equal to the difference. Sale of Fixed Assets

58 Equipment costing $10,000 is depreciated at an annual straight-line rate of 10%. The equipment is sold for cash on October 12. Accumulated Depreciation (last adjusted December 31) has a balance of $7,000. Oct.12Depreciation ExpenseEquipment To record current depreciation on equipment sold. Accumulated Depr.Equipment $10,000 x ¾ x10%

59 Sale of Fixed Assets Assumption 1: The equipment is sold for $2,250, so there is no gain or loss. Oct.12Cash Sold equipment. Accumulated Depr.Equipment Equipment

60 Sale of Fixed Assets Assumption 2: The equipment is sold for $1,000, so there is a loss of $1,250. Oct.12Cash Sold equipment. Accumulated Depr.Equipment Equipment Loss on Disposal of Fixed Assets

61 Sale of Fixed Assets Assumption 2: The equipment is sold for $2,800, so there is a gain of $550. Sold equipment. Equipment Gain on Disposal of Fixed Assets Accumulated Depr.Equipment Oct.12Cash

62 Exchanges of Similar Fixed Assets Trade-in Allowance (TIA) – amount allowed for old equipment toward the purchase price of similar new assets. Boot – balance owed on new equipment after trade-in allowance has been deducted. TIA > Book Value = Gain on Trade TIA < Book Value = Loss on Trade Gains are never recognized (not recorded). Losses must be recognized (recorded).

63 CASE ONE (GAIN): Trade-in allowance, $1,100 Cash paid, $3,900 ($5,000 – $1,100) TIA > Book Value = Gain $1,100 – $800 = $300 Boot + Book = Cost of New Equipment $3,900 + $800 = $4,700 List price of new equipment acquired$5,000 Cost of old equipment traded in$4,000 Accum. depreciation at date of exchange 3,200 Book value at date of exchange$ 800 Exchanges of Similar Fixed Assets Gains are not recognized for financial reporting.

64 Exchanges of Similar Fixed Assets June19Accumulated Depr.Equipment Equipment (new equipment) Equipment (old equipment) Cash On June 19, equipment exchanged at a gain of $300.

65 CASE TWO (LOSS): Trade-in allowance, $2,000 Cash paid, $8,000 ($10,000 – $2,000) TIA

66 Exchanges of Similar Fixed Assets Sept. 7Accumulated Depr.Equipment Equipment (new equipment) Loss on Disposal of Fixed Assets On September 7, equipment exchanged at a loss of $400. Equipment (old equipment) Cash

67 Natural Resources and Depletion Depletion is the process of transferring the cost of natural resources to an expense account.

68 Natural Resources and Depletion A business paid $400,000 for the mining rights to a mineral deposit estimated at 1,000,000 tons of ore. The depletion rate is $0.40 per ton ($400,000 ÷ 1,000,000 tons).

69 Natural Resources and Depletion Adjusting Entry Accumulated Depletion During the current year, 90,000 tons are mined. The periodic depletion is $36,000 (90,000 tons x $0.40). Dec. 31Depletion Expense

70 DateDescriptionDebitCredit DateDescriptionDebitCredit Intangible Assets and Amortization Dec. 31Amortization Expense20,000 Patents20,000 Paid $100,000 for patent rights. The patent life is 11 years and was issued 6 years prior to purchase. Amortization is the periodic cost expiration of intangible assets which do not have physical attributes and are not held for sale (patents, copyrights, and goodwill). 11 years – 6 years = 5-year life ($100,000 / 5 years) = $20,000 per year

71 Alaska deposit$1,200,000$ 800,000$400,000 Wyoming deposit 750, , ,000 $1,950,000$1,000, ,000 Total property, plant, and equipment$1,629,000 Intangible assets: Patents$ 75,000 Goodwill 50,000 Total intangible assets$ 125,000 Discovery Mining Co. Partial Balance Sheet December 31, 2006 Accum.Book Property, plant, and equipment: CostDepr.Value Land$ 30,000$ 30,000 Buildings110,000$ 26,00084,000 Factory equipment650,000192,000458,000 Office equipment 120,000 13,000107,000 $910,000$231,000$ 679,000 Accum.Book Mineral deposits:CostDepr.Value 74

72 Ratio of Fixed Assets to Long-Term Liabilities (in millions) Procter & Gamble Fixed assets (net)$13,349$13,095 Long-term debt$11,201$9,792 Ratio of fixed assets to long-term liabilities Use:To indicate the margin of safety to long-term creditors

73 The End Chapter 9


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