© The McGraw-Hill Companies, Inc., 2002 Slide 11-1 McGraw-Hill/Irwin 11 Plant Assets, Natural Resources, and Intangibles

© The McGraw-Hill Companies, Inc., 2002

Slide 11-1

McGraw-Hill/Irwin

11 Plant Assets, Natural Resources, and Intangibles


Slide 11-2

McGraw-Hill/Irwin

Tangible

Expected to Benefit Future Periods

Actively Used in Operations

Property, Plant, and Equipment

Plant Assets


Slide 11-3

McGraw-Hill/Irwin

Exh. 11.1

Plant Assets of Selected Companies

78%

63%

47%

29%

0% 20% 40% 60% 80%

McDonald's

Anheuser-Busch

Wal-Mart

e-Bay

As a percent of total assets

$44 million

$32,839 million

$7,965 million

$16,325 million


Slide 11-4

McGraw-Hill/Irwin

Acquisition1. Compute cost.

Decline in asset value over its useful life

Use2. Allocate cost to periods benefited.3. Account for subsequent expenditures.

Disposal 4. Record disposal

Exh. 11.2

Issues in Accountingfor Plant Assets


Slide 11-5

McGraw-Hill/Irwin

Acquisitioncost

Acquisition cost excludes financing charges and

cash discounts.

All expenditures

needed to prepare the asset for its intended use

Purchaseprice

Cost of Plant Assets


Slide 11-6

McGraw-Hill/Irwin

Land is not depreciable.

Purchaseprice

Real estatecommissions

Title insurance premiums

Delinquenttaxes

Surveyingfees

Title search and transfer fees

Land


Slide 11-7

McGraw-Hill/Irwin

Purchaseprice

Architecturalfees

Cost ofpermits

Excavation andconstruction costs

Installationcosts

Transportationcosts

Buildings and Equipment


Slide 11-8

McGraw-Hill/Irwin

Land Improvements

Parking lots, driveways, fences, walks, etc.

Depreciate over

useful life


Slide 11-9

McGraw-Hill/Irwin

On January 1, UpCo purchased land and building for $200,000 cash. The appraised values are

building, $162,500, and land, $87,500.

How much of the $200,000 purchase price will be charged to the building and land accounts?

Lump-Sum Asset Purchase

The total cost of a combined purchase of land and building is separated on the basis of their relative market values.


Slide 11-10

McGraw-Hill/Irwin

Appraised % of Purchase ApportionedAsset Value Value Price Cost

a b* c b × c

Land 87,500$ 35% × 200,000$ = 70,000$ Building 162,500 65% × 200,000 = 130,000 Total 250,000$ 100% 200,000$

* $87,500 ÷ $250,000 = 35%

$162,500 ÷ $250,000 = 65%

Lump-Sum Asset Purchase


Slide 11-11

McGraw-Hill/Irwin

Depreciation is a cost allocation process that systematically and rationally matches

acquisition costs of plant assets with periods benefited by their use.

Cost

AllocationAcquisition

Cost

(Unused)

Balance Sheet

(Used)

Income Statement

Expense

Depreciation


Slide 11-12

McGraw-Hill/Irwin

Income

StatementDepreciation

ExpenseDepreciation for

the current year

Balance

SheetAccumulatedDepreciation

Total depreciation to

date of balance sheet

Depreciation


Slide 11-13

McGraw-Hill/Irwin

The calculation of depreciation requires three amounts for each asset:

Cost.

Salvage Value.

Useful Life.

Factors in Computing Depreciation


Slide 11-14

McGraw-Hill/Irwin

Straight-line

Units-of-production

Declining balance

Depreciation Methods


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McGraw-Hill/Irwin

On December 31, 2001, equipment was purchased for $50,000 cash. The

equipment has an estimated useful life of 5 years and an estimated residual

value of $5,000.SL

Cost - Salvage Value

Useful life in years

Depreciation

Expense per Year=

Straight-Line Method


Slide 11-16

McGraw-Hill/Irwin

Depreciation

Expense per Year=

Depreciation

Expense per Year= $9,000

$50,000 - $5,000

5 years


Cost - Salvage Value

Useful life in years

Depreciation

Expense per Year=

SL


Slide 11-17

McGraw-Hill/Irwin

Depreciation Accumulated Accumulated UndepreciatedExpense Depreciation Depreciation Balance

Year (debit) (credit) Balance (book value)2001 50,000$ 2002 9,000$ 9,000$ 9,000$ 41,000 2003 9,000 9,000 18,000 32,000 2004 9,000 9,000 27,000 23,000 2005 9,000 9,000 36,000 14,000 2006 9,000 9,000 45,000 5,000

45,000$ 45,000$

Salvage Value


SL


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McGraw-Hill/Irwin

Dep

reci

atio

n

Exp

ense Depreciation Expense is reported on the Income

Statement.

Book Value is reported on the Balance Sheet.

SL


Slide 11-19

McGraw-Hill/Irwin

DepreciationPer Unit

= Cost - Salvage Value Total Units of Production

Step 1:

Step 2:

Depreciation Expense =

DepreciationPer Unit

×Number of

Units Producedin the Period

Units-of-Production MethodExh. 11.9


Slide 11-20

McGraw-Hill/Irwin

On December 31, 2001, equipment was purchased for $50,000 cash. The equipment is expected to produce

100,000 units during its useful life and has an estimated salvage value of $5,000.

If 22,000 units were produced in 2002, what is the amount of depreciation expense?

Units-of-Production Method


Slide 11-21

McGraw-Hill/Irwin

Step 2:Depreciation Expense = $.45 per unit × 22,000 units = $9,900

Step 1:Depreciation

Per Unit= $50,000 - $5,000

100,000 units = $.45 per unit



Slide 11-22

McGraw-Hill/Irwin

Accumulated UndepreciatedDepreciation Depreciation Balance

Year Units Expense Balance (book value)2001 50,000$ 2002 22,000 9,900$ 9,900$ 40,100 2003 28,000 12,600 22,500 27,500 2004 - - 22,500 27,500 2005 32,000 14,400 36,900 13,100 2006 18,000 8,100 45,000 5,000

100,000 45,000$

No depreciation expense if the equipment is idle.

Salvage Value



Slide 11-23

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Depreciation RepairExpense Expense

Early Years High Low

Later Years Low High

Early years’ total expense approximates later years’ total expense.

Declining Balance Method


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Step 2:Double-declining-

balance rate= 2 ×

Straight-linedepreciation

rate

Exh. 11.11

Step 3:Depreciation

expense=

Double-declining-balance rate

×Beginning period

book value

Double-Declining-Balance MethodStep 1:

Straight-linedepreciation rate

= 100 % Useful life in periods

Ignores salvage value


Slide 11-25

McGraw-Hill/Irwin

On December 31, 2001, equipment was purchased for $50,000 cash. The

equipment has an estimated useful life of 5 years and an estimated residual

value of $5,000.

Calculate the depreciation expense for 2002 and 2003.

Double-Declining-Balance Method


Slide 11-26

McGraw-Hill/Irwin

Step 1:

Step 2:Double-declining-

balance rate= 2 × 20% = 40%

Step 3:Depreciation

expense= 40% × $50,000 = $20,000 (2002)

Straight-linedepreciation rate

= 100 % 5 years

= 20%



Slide 11-27

McGraw-Hill/Irwin

2002 Depreciation: 40% × $50,000 = $20,000

2003 Depreciation: 40% × ($50,000 - $20,000) = $12,000



Slide 11-28

McGraw-Hill/Irwin

Depreciation Accumulated UndepreciatedExpense Depreciation Balance

Year (debit) Balance (book value)2001 50,000$ 2002 20,000$ 20,000$ 30,000 2003 12000 32,000 18,000 2004 7,200 39,200 10,800 2005 4,320 43,520 6,480 2006 2,592 46,112 3,888

46,112$

($50,000 – $43,520) × 40% = $2,592

Below salvage value



Slide 11-29

McGraw-Hill/Irwin

Depreciation Accumulated UndepreciatedExpense Depreciation Balance

Year (debit) Balance (book value)2001 50,000$ 2002 20,000$ 20,000$ 30,000 2003 12000 32,000 18,000 2004 7,200 39,200 10,800 2005 4,320 43,520 6,480 2006 1,480 45,000 5,000

45,000$

We usually have to force depreciation expense in thelatter years to an amount that brings BV to salvage value.



Slide 11-30

McGraw-Hill/Irwin

Life in Years

$0

$2,000

$4,000

$6,000

$8,000

$10,000

1 2 3 4 5

An

nu

alD

epre

ciat

ion

Straight-Line

$0

$2,000

$4,000

$6,000

$8,000

$10,000

$12,000

$14,000

$16,000

1 2 3 4 5Life in Years

An

nu

alD

epre

ciat

ion

Units-of-Production

Life in Years

An

nu

alD

epre

ciat

ion

$0

$5,000

$10,000

$15,000

$20,000

1 2 3 4 5

Double-Declining-Balance

Comparing Depreciation Methods


Slide 11-31

McGraw-Hill/Irwin

Exh. 11.13

Comparing Depreciation Method

Trends in Depreciation

Straight-line 80%

Accelerated & Other 9%

Declining-balance 4%

Units-of-production 7%


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McGraw-Hill/Irwin

Most corporations use the Modified Accelerated Cost Recovery System

(MACRS) for tax purposes.

MACRS depreciation provides for rapid write-off of an asset’s cost in order to

stimulate new investment.

Depreciation for Tax Reporting


Slide 11-33

McGraw-Hill/Irwin

When a plant asset is acquiredduring the year, depreciation

is calculated for the fraction ofthe year the asset is owned.

When a plant asset is acquiredduring the year, depreciation

is calculated for the fraction ofthe year the asset is owned.

June 30

Partial Year Depreciation


Slide 11-34

McGraw-Hill/Irwin

Calculate the straight-line depreciation on December 31, 2003, for equipment purchased

on June 30, 2003. The equipment cost $75,000, has a useful life of 10 years and an

estimated salvage value of $5,000.

Depreciation = ($75,000 - $5,000) ÷ 10

= $7,000 for a full year

Depreciation = $7,000 × 6/12 = $3,500

Depreciation = ($75,000 - $5,000) ÷ 10

= $7,000 for a full year

Depreciation = $7,000 × 6/12 = $3,500

Partial Year Depreciation


Slide 11-35

McGraw-Hill/Irwin

So depreciationis an estimate.

Predicted salvage value

Predicteduseful life

Over the life of an asset, new information may come to light that indicates the

original estimates were inaccurate.

Over the life of an asset, new information may come to light that indicates the

original estimates were inaccurate.

Revising Depreciation Rates


Slide 11-36

McGraw-Hill/Irwin

On January 1, 2000, equipment was purchased that cost $30,000, has a useful life of 10 years and no salvage value. During 2003, the useful life was

revised to 8 years total (5 years remaining).

Calculate depreciation expense for the yearended December 31, 2003, using the

straight-line method.


Book value at date of change

Salvage value at date of change

Remaining useful life at date of change

–


Slide 11-37

McGraw-Hill/Irwin


Asset cost 30,000$ Accumulated depreciation, 12/31/2002 ($3,000 per year × 3 years) 9,000 Remaining book value 21,000$ Divide by remaining life ÷ 5Revised annual depreciation 4,200$


Slide 11-38

McGraw-Hill/Irwin

Net property, plant, and equipment is the undepreciated cost (book value) of the plant assets.

Book value Market value

Reporting DepreciationProperty, plant, and equipment: Land and buildings 150,000$ Machinery and equipment 200,000 Office furniture and equipment 175,000 Land improvements 50,000 Total 575,000$ Less Accumulated depreciation (122,000) Net property, plant, and equipment 453,000$


Slide 11-39

McGraw-Hill/Irwin

If the amounts involved are not material, most companies expense the item.

If the amounts involved are not material, most companies expense the item.

Revenue and Capital Expenditures

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


Slide 11-40

McGraw-Hill/Irwin

Revenue and Capital Expenditures

Type of Capital orExpenditure Revenue Identifying Characteristics

Ordinary Revenue 1. Maintains normal operating condition.repairs and 2. Does not increase productivity.

maintenance 3. Does not extend life beyond original estimate.

Extraordinary Capital 1. Major overhauls or partialrepairs replacements.

2. Extends life beyond original estimate.Betterments Capital 1. Increases productivity.

2. May extend useful life.3. Improvements or expansions.


Slide 11-41

McGraw-Hill/Irwin

Recording cashreceived (debit)or paid (credit).

Removing accumulateddepreciation (debit).

Update depreciation to the date of disposal.

Journalize disposal by:

Removing the asset cost (credit).

Recording again (credit)

or loss (debit).

Discarding Plant Assets


Slide 11-42

McGraw-Hill/Irwin

Update depreciation to the date of disposal.

Journalize disposal by:

If Cash > BV, record a gain (credit).

If Cash < BV, record a loss (debit).

If Cash = BV, no gain or loss.

Discarding Plant Assets

Recording cashreceived (debit)or paid (credit).

Removing accumulateddepreciation (debit).

Removing the asset cost (credit).

Recording again (credit)

or loss (debit).


Slide 11-43

McGraw-Hill/Irwin

On September 30, 2001, Evans Company sells a machine that originally cost

$100,000 for $60,000 cash. The machine was placed in service on January 1, 1996. It was depreciated using the straight-line method with an estimated salvage value of $20,000 and a useful life of 10 years.

Let’s answer the following questions.

Selling Plant Assets


Slide 11-44

McGraw-Hill/Irwin

The amount of depreciation recorded on September 30, 2001,

to bring depreciation up to date is:

a. $8,000.

b. $6,000.

c. $4,000.

d. $2,000.



a. $8,000.

b. $6,000.

c. $4,000.

d. $2,000.



Slide 11-45

McGraw-Hill/Irwin



a. $8,000.

b. $6,000.

c. $4,000.

d. $2,000.



a. $8,000.

b. $6,000.

c. $4,000.

d. $2,000.

Annual Depreciation:($100,000 - $20,000) ÷ 10 Yrs. = $8,000

Depreciation to Sept. 30:9/12 × $8,000 = $6,000



Slide 11-46

McGraw-Hill/Irwin

After updating the depreciation, the machine’s book value on September 30, 2001, is:

a. $54,000.

b. $46,000.

c. $40,000.

d. $60,000.


a. $54,000.

b. $46,000.

c. $40,000.

d. $60,000.



Slide 11-47

McGraw-Hill/Irwin


a. $54,000.

b. $46,000.

c. $40,000.

d. $60,000.


a. $54,000.

b. $46,000.

c. $40,000.

d. $60,000.

Cost 100,000$ Accumulated Depreciation: (5 yrs. × $8,000) + $6,000 = 46,000

Book Value 54,000$



Slide 11-48

McGraw-Hill/Irwin

The machine’s sale resulted in:

a. a gain of $6,000.

b. a gain of $4,000.

c. a loss of $6,000.

d. a loss of $4,000.








Slide 11-49

McGraw-Hill/Irwin











Cost 100,000$ Accum. Depr. 46,000

Book Value 54,000 Cash Received 60,000

Gain 6,000$


Now, you are ready to prepare the journal entry to record the sale of the asset.


Slide 11-50

McGraw-Hill/Irwin

GENERAL JOURNAL Page 25

Date DescriptionPost. Ref. Debit Credit

Sept 30 Cash 60,000

Accumulated Depreciation 46,000

Gain on Sale 6,000

Machine 100,000



Slide 11-51

McGraw-Hill/Irwin

Accounting for exchanges of similar assets depends on

whether the book value of the asset(s) given up is less or

more than the market value of the asset(s) received.

Accounting for exchanges of similar assets depends on

whether the book value of the asset(s) given up is less or

more than the market value of the asset(s) received.

Exchanging Plant Assets

SIMILAR


Slide 11-52

McGraw-Hill/Irwin


Accounting for exchanges of similar assets depends on whether the book value of the asset(s) given up is less or more than the market value of

the asset(s) received.

A loss is recognized when the book value given up is less than

the market value received.

A gain is not recognized when the

book value given up is more than the market

value received.

SIMILAR


Slide 11-53

McGraw-Hill/Irwin

On May 30, 2001, Essex Company exchanged a used airplane and $35,000

cash for a new airplane. The old airplane originally cost $40,000, had up-to-date

accumulated depreciation of $30,000, and a fair value of $4,000.


SIMILAR


Slide 11-54

McGraw-Hill/Irwin

The exchange resulted in a:

a. gain of $6,000.

b. loss of $6,000.

c. loss of $4,000.

d. gain of $4,000.


a. gain of $6,000.

b. loss of $6,000.

c. loss of $4,000.

d. gain of $4,000.



Slide 11-55

McGraw-Hill/Irwin


a. gain of $6,000.

b. loss of $6,000.

c. loss of $4,000.

d. gain of $4,000.


a. gain of $6,000.

b. loss of $6,000.

c. loss of $4,000.

d. gain of $4,000.

Cost 40,000$ Accum. Depr. 30,000

Book Value 10,000$ Fair Value 4,000

Loss 6,000$


Let’s prepare the journal entry for this exchange.


Slide 11-56

McGraw-Hill/Irwin



May 30 Airplane (new) 39,000


Loss on Exchange 6,000

Airplane (old) 40,000

Cash 35,000


Remember that losses are always recorded immediately.


Slide 11-57

McGraw-Hill/Irwin

On May 30, 2001, Essex Company exchanged a used airplane and $35,000

cash for a new airplane. The old airplane originally cost $40,000, had up-to-date

accumulated depreciation of $30,000, and a fair value of $14,000.


SIMILAR


Slide 11-58

McGraw-Hill/Irwin

Computing Gain or Loss on Similar Asset ExchangePrevious Example Current Example

Loss GainAirplane Fair Value 4,000$ 14,000$ Cost of Airplane 40,000$ 40,000$ Accum. Depr. 30,000 30,000 Book Value 10,000 10,000 Gain (Loss) (6,000)$ 4,000$

The $4,000 gain is not recognized.



Slide 11-59

McGraw-Hill/Irwin



May 30 Airplane (new) 45,000


Airplane (old) 40,000

Cash 35,000

Book value of old asset + cash paid$10,000 + $35,000 = $45,000



Slide 11-60

McGraw-Hill/Irwin

Let’s change the subject!Let’s Change the Subject!Let’s Change the Subject!


Slide 11-61

McGraw-Hill/Irwin

Total cost,including

exploration anddevelopment,is charged to

depletion expenseover periods

benefited.

Examples: oil, coal, gold

Extracted fromthe natural

environmentand reportedat cost less

accumulateddepletion.

Natural Resources


Slide 11-62

McGraw-Hill/Irwin

Depletion is calculated using theunits-of-production method.

Unit depletion rate is calculated as follows:

Total Units of Capacity

Cost – Salvage Value

Depletion of Natural Resources


Slide 11-63

McGraw-Hill/Irwin

Total depletion cost for a period is:

Unit Depletion

Rate

Number of Units

Extracted in Period×

Totaldepletion

cost

Inventoryfor sale

UnsoldInventory

Cost ofgoods sold



Slide 11-64

McGraw-Hill/Irwin

ABC Mining acquired a tract of land containing ore deposits. Total costs of

acquisition and development were $1,000,000 and ABC estimated the land

contained 40,000 tons of ore.



Slide 11-65

McGraw-Hill/Irwin

What is ABC’s depletion rate?

a. $40 per ton

b. $50 per ton

c. $25 per ton

d. $20 per ton


a. $40 per ton

b. $50 per ton

c. $25 per ton

d. $20 per ton



Slide 11-66

McGraw-Hill/Irwin


a. $40 per ton

b. $50 per ton

c. $25 per ton

d. $20 per ton


a. $40 per ton

b. $50 per ton

c. $25 per ton

d. $20 per ton

Cost ÷ Units

$1,000,000 ÷ 40,000 Tons

= $25 Per Ton



Slide 11-67

McGraw-Hill/Irwin

For the year ABC mined and sold 13,000 tons. What is the total depletion cost for

the year?

a. $300,000

b. $325,000

c. $225,000

d. $275,000


the year?

a. $300,000

b. $325,000

c. $225,000

d. $275,000



Slide 11-68

McGraw-Hill/Irwin


the year?

a. $300,000

b. $325,000

c. $225,000

d. $275,000


the year?

a. $300,000

b. $325,000

c. $225,000

d. $275,000

Depletion cost = 13,000 x $25

= $325,000



Slide 11-69

McGraw-Hill/Irwin

Plant Assets Used in Extracting Natural Resources

Specialized plant assets may be required to extract the natural resource.

These assets are recorded in a separate account and depreciated.


Slide 11-70

McGraw-Hill/Irwin

Let’s change the subject!Let’s Change the Subject Again!Let’s Change the Subject Again!


Slide 11-71

McGraw-Hill/Irwin

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.

IntangibleAssets

Often provideexclusive rights

or privileges.

Often provideexclusive rights

or privileges.

Intangible Assets


Slide 11-72

McGraw-Hill/Irwin

Patents Copyrights Leaseholds Leasehold

Improvements Franchises and

Licenses Goodwill Trademarks and

Trade Names

Record at current cash equivalent cost, including purchase price, legal fees, and

filing fees.

Accounting for Intangible Assets


Slide 11-73

McGraw-Hill/Irwin

Amortize over shorter of economic life or legal life, subject to a maximum of 40 years.

Use straight-line method.

Research and development costs are normally expensed as incurred.

Accounting for Intangible Assets


Slide 11-74

McGraw-Hill/Irwin

Occurs when onecompany buys

another company.

The amount by which thepurchase price exceeds the fair

market value of net assets acquired.

Goodwill

Only purchased goodwill is an

intangible asset.

Goodwill


Slide 11-75

McGraw-Hill/Irwin

Eddy Company paid $1,000,000 to purchase all of James Company’s assets and assumed liabilities of $200,000. The acquired assets were appraised at a fair value of $900,000.

Goodwill


Slide 11-76

McGraw-Hill/Irwin

What amount of goodwill should be recorded on Eddy Company books?

a. $100,000

b. $200,000

c. $300,000

d. $400,000


a. $100,000

b. $200,000

c. $300,000

d. $400,000

Goodwill


Slide 11-77

McGraw-Hill/Irwin


a. $100,000

b. $200,000

c. $300,000

d. $400,000


a. $100,000

b. $200,000

c. $300,000

d. $400,000

FMV of Assets 900,000$ Debt Assumed 200,000

FMV of Net Assets 700,000$ Purchase Price 1,000,000

Goodwill 300,000$

Goodwill


Slide 11-78

McGraw-Hill/Irwin

Exh. 11.21

Goodwill Amortization Period

40 years, 39%

Other, 22%

Legal/Estimated life, 10%

10-15 years, 4%

20-30 years, 6%

Not exceeding 40 years, 19%


Slide 11-79

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Cash Flow Impacts ofLong-Term Assets

Investing Cash Inflow: Sale of Long-term Assets

Investing Cash Outflow: Purchase of Long-term Assets


Slide 11-80

McGraw-Hill/Irwin

Provides information about a company’s efficiency in using its assets.

Provides information about a company’s efficiency in using its assets.

Total AssetTurnover =

Net SalesAverage Total Assets

Total Asset Turnover


Slide 11-81

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End of Chapter 11

Documents

© The McGraw-Hill Companies, Inc., 2002 Slide 11-1 McGraw-Hill/Irwin 11 Plant Assets, Natural Resources, and Intangibles