8-1 Acquiring Plant Assets  Long-term operational assets  Assets that last for more than one accounting period  Used to help a business generate revenue  Types of long-lived assets  Tangible assets  Property, plant, and equipment  Intangible assets  Trademarks, patents, copyrights, etc.

8-2 Acquisition Costs  Historical cost principle requires assets to be recorded at their cost  Plus cost of getting asset in place and ready for use

8-3 Basket Purchase Allocation  Purchase of two or more assets for one price  Cost allocated to each asset based on their relative fair market values  Percent of total FMV of the assets

8-4 Basket Purchase Example  On July 1, Valdez Environmental purchased a tug boat and oil cleaning equipment for $7M  FMV of tug boat is $4M  FMV of oil cleaning equipment is $6M  How much of the $7M will be allocated to the tug boat and to the oil cleaning equipment?

8-5 Depreciation and Depletion  Purchase of long-term tangible assets are capitalized (recorded as assets)  L-T tangible assets expensed by depreciating (or depleting) them  Depreciation allocates the COST of an asset to the periods that benefit from the use of the asset

8-6 Depreciation and Depletion  Depreciation terminology  Acquisition cost (cost)  Estimated useful life Estimated useful life  Salvage value (residual value)  Estimated value of an asset at the end of its useful life  Depreciable base = cost - salvage value  Book value (carrying value) Book value (carrying value)

8-7 Depreciation and Depletion Depreciation and Depletion  Depreciation methods  Straight-line Straight-line  Activity (units of production) Activity (units of production)  Declining balance Declining balance  Depletion Depletion

8-8 Straight line Depreciation  Equal amount of an asset are expensed each year  Depreciable base is constant (cost-SV)  Depreciation rate is constant (1/UL) Depreciable cost (cost - SV) Useful life (in years)

8-9 Activity (Units of Production) Depreciation  Amount of asset expensed each year depends on asset’s usage  Depreciable base is constant (cost-SV)  Depreciation rate is constant (1/UL) Depreciable cost (cost - SV) Useful life in units  Annual depreciation expense  depr rate x actual level of activity for year Depr Rate =

8-10 Declining Balance Depreciation  Accelerated depreciation method  Annual depreciation expense declines over asset’s useful life  Depreciable base changes (beg book value)  Depreciation rate is constant (X/UL)  X = Depreciation rate  Most common rate is 200% Also called double-declining balance (DDB)  Never depreciate below salvage value

8-11 Depreciation Example  Photocopier purchased on 1/1/08  Acquisition cost $14,000  Useful life  5 years or  300,000 copies  Estimated salvage value $2,000

8-12 Depreciation Example  Straight-line method $14,000 - $2,000 5 years  Activity method  Assume 40,000 copies were made $14,000 - $2, ,000 copies =$2,400/year x 40,000 =$1,600

8-13 Depreciation Example  Double-declining balance method  Year 1  Year 2 2 _ 5 yrs x $14,000 = $5,600 2 _ 5 yrs x ($14,000 - $5,600) = $3,360

8-14 Depletion  Used to expense natural resources as they are used up  Same computation to activity depreciation with zero salvage value Cost _ Useful life in units  Annual depletion expense  depl rate x actual level of activity for year Depl rate =

8-15 Using Intangible Assets: Amortization  Rights, privileges, or benefits that have long-term value to the firm  Recorded at cost  Amortization  Same method of expensing as straight-line depreciation with zero salvage value  Accumulated amortization calculated for each intangible asset

8-16 Using Intangible Assets: Amortization  Copyright  Provides U.S. legal protection for authors of original work  Amortized over shorter of legal or useful life  Patent  A property right on inventions  Amortized over shorter of legal life (20 years) or useful life (often around 10 years)

8-17 Using Intangible Assets: Amortization  Trademarks  10 years of protection; renewable  Franchise  Agreement that authorizes someone to sell or distribute a company’s goods or services in a certain area  Goodwill  Research and development costs  Immediately expensed.

8-18 Changes After an Asset Purchase  Asset impairment  Permanent reduction in market value below book value  Similar to LCM method for inventory  Capital expenditures to improve or extend an asset’s useful life  Capitalize and depreciate  Revising estimates of useful life and salvage value  Depreciate remaining depreciable cost over remaining useful life

8-19 Revising an Estimate Example  Facts  Asset cost: $30,000  Original useful life: 5 years  Original salvage value: $8,000  In the beginning of year 3, the asset is determined to have 4 years of useful life remaining and a salvage value of $6,000

8-20 Revising an Estimate Example  Depreciation expense for yr 1 & 2  ($30,000 - $8,000)/5 = $4,400/yr  Book value at beginning of year 3  ($30,000 - $8,800) = $21,200  Depreciation expense yr 3-6  ($21,200 - $6000)/4 = $3,800/yr  4 =remaining years of useful life

8-21 Selling Long-term Assets  Cash proceeds > BV = gain  Cash proceeds < BV = loss  Cash proceeds = BV = no gain/loss  Journal entry  Increase cash (debit)  Remove asset (credit)  Remove A/D (debit)  Record gain (credit) or loss (debit)

8-22 Financial Statement Analysis  Return on assets (ROA)  Measures how well a company is using its assets to generate revenue  Answers the following  Did the company invest wisely in its assets? Net Income + Interest Expense Average Total Assets  Avg total assets = (Beg TA + End TA)/2

8-23 Financial Statement Analysis  Asset Turnover Ratio  Measures how efficiently a company uses its assets to generate sales Net Sales _ Average Total Assets  Explain how a company can have a high asset turnover and a low ROA

8-24 Business Risk, Control, and Ethics  Risks associated with long-term assets  Theft, vandalism, natural disasters, terrorist attacks, etc.  Controls used to safeguard assets  Physical controls  Complete and reliable record keeping

8-25 Business Risk, Control, and Ethics  Controls used to safeguard assets (continued)  Monitoring  Make sure that physical controls, separation of duties, and other policies and procedures related to protecting assets are operating properly  Who is responsible for monitoring function?

8-26 Assign #1: pg E8-1A, E8-2A, E8-18A - (due 4/2) Assign #2: pg P8-1A, P8-2A - (due 4/4)