principle of accounting.ppt

7/27/2019 principle of accounting.ppt

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Chapter 9Plant Assets,

Natural Resources, and

Intangible AssetsFinancial Accounting, IFRS Edition

Weygandt Kimmel Kieso


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1. Describe how the cost principle applies to plant assets.2. Explain the concept of depreciation.

3. Compute periodic depreciation using different methods.

4. Describe the procedure for revising periodic depreciation.

5. Distinguish between revenue and capital expenditures, andexplain the entries for each.

6. Explain how to account for the disposal of a plant asset.

7. Compute periodic depletion of extractable natural resources.

8. Explain the basic issues related to accounting for intangibleassets.

9. Indicate how plant assets, natural resources, and intangibleassets are reported.

Study Object ives


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Plant Assets

Determining thecost of plantassets

Depreciation

Revaluation ofplant assets

Expendituresduring useful life

Plant assetdisposals

Natural

Resources

Intangible

Assets

Statement

Presentation and

Analysis

Presentation

Analysis

Accounting forintangibles

Types ofintangibles

Research anddevelopmentcosts

Plant Assets, Natural Resources, and IntangibleAssets

Accounting forextractablenatural resources

Financialstatementpresentation


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Used in operations and not for resale.

Long-term in nature and usually depreciated.

Possess physical substance.

Plant assets include land, land improvements, buildings,and equipment (machinery, furniture, tools).

Major characteristics include:

Sect ion 1 Plant A ssets

Referred to as property, plant, and equipment; plant and

equipment; and fixed assets.


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Sect ion 1 Plant A ssets

Illustration 9-1Percentages of plant assetsin relation to total assets


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Includes all costs to acquire land and ready it for use.

Costs typically include:

Land

Determ ining the Cos t of Plant Assets

(1) purchase price;

(2) closing costs, such as title and attorneys fees;

(3) real estate brokers commissions;

(4) costs of grading, filling, draining, and clearing;

(5) assumption of any liens, mortgages, or encumbrances

on the property.

SO 1 Descr ibe how the cost pr inc ip le appl ies to plant assets.


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Illustration: Assume that Hayes Manufacturing Companyacquires 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 attorneys fee, $1,000, and the

real estate brokers commission, $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.




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Land

Required: Determine amount to be reported as the cost of theland.



Cash price of property of $100,000

Net removal cost of warehouse of $6,000Attorney's fees of $1,000 1,000

6,000

$100,000

$115,000Cost of Land

Real estate brokers commission of $8,000 8,000

Land 115,000

Cash 115,000

Journal Entry


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All expenditures necessary to make the improvements

ready for their intended use.

Land Improvements


Driveways, parking lots, fences, landscaping, andunderground sprinklers.

Limited useful lives.

Expense (depreciate) the cost of land improvementsover their useful lives.



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All costs related directly to purchase or construction.

Buildings

Purchase costs:

Purchase price, closing costs and real estate brokerscommission.

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.




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All costs incurred in acquiring the equipment and

preparing it for use.

Costs typically include:

Equipment

purchase price,

sales taxes,

freight and handling charges,

insurance on the equipment while in transit,

assembling and installation costs, and

costs of conducting trial runs.




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Illustration: Assume Merten Company purchases factorymachinery 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.



Machinery

Cash price

Sales taxes

Insurance during shipping 500

3,000

$50,000

$54,500Cost of Machinery

Installation and testing 1,000


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Answer on notes page


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Process ofcost 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 assets useful life.

Depreciation is the process of allocating the cost oftangible assets to expense in a systematic and rational

manner to those periods expected to benefit from the use

of the asset.

Depreciat ion

SO 2 Expla in the con cept of d epreciat ion.


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Factors in Computing Depreciation

Cost

Depreciat ion

SO 2 Expla in the con cept of d epreciat ion.

Useful Life Residual Value

Illustration 9-6


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Objective is to select the method that best measures an

assets contribution to revenue over its useful life.

Examples include:

Depreciation Methods

(1) Straight-line method.

(2) Units-of-Activity method.

(3) Declining-balance method.

Depreciat ion

SO 3 Comp ute per iodic depreciat ion using di f ferent methods .


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Illustration: Barbs Florists purchased a small delivery truck onJanuary 1, 2011.

Required: Compute depreciation using the following.

(a) Straight-Line (b) Units-of-Activity (c) Declining Balance.

Depreciat ion


Illustration 9-7


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Straight-Line

Depreciat ion


Expense is same amount for each year.

Depreciable cost - cost of the asset less its residual

value. Illustration 9-8


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Depreciable Annual Accum. Book

Year Cost x Rate = Expense Deprec. Value

Depreciat ion


Illustration: (Straight-Line Method)

2011 $ 12,000 20% $ 2,400 $ 2,400 $ 10,600

2012 12,000 20 2,400 4,800 8,200

2013 12,000 20 2,400 7,200 5,800

2014 12,000 20 2,400 9,600 3,400

2015 12,000 20 2,400 12,000 1,000

2011JournalEntry

Depreciation expense 2,400

Accumulated depreciation 2,400

Illustration 9-9


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Companies estimate total units of activity to calculate

depreciation cost per unit.

Expense varies based on units of activity.Depreciable cost is

cost less residual

value.

Units-of-Activity

Depreciat ion


Illustration 9-10


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Units Annual

of Cost / Depreciation Accumulated Book

Year Activity x Unit = Expense Depreciation Value

Depreciat ion

Illustration: (Units-of-Activity Method)

2011 15,000 $ 0.12 $ 1,800 $ 1,800 $ 11,2002012 30,000 0.12 3,600 5,400 7,600

2013 20,000 0.12 2,400 7,800 5,200

2014 25,000 0.12 3,000 10,800 2,200

2015 10,000 0.12 1,200 12,000 1,000



2011JournalEntry

Illustration 9-11



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Decreasing annual depreciation expense over the assets

useful life.

Declining-balance rate is double the straight-line rate.

Rate applied to book value.

Declining-Balance

Depreciat ion


Illustration 9-12


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Declining Annual

Beginning Balance Deprec. Accum. Book

Year Book value x Rate = Expense Deprec. Value

Depreciat ion

Illustration: (Declining-Balance Method)

2011 13,000 40% $ 5,200 $ 5,200 $ 7,800

2012 7,800 40 3,120 8,320 4,680

2013 4,680 40 1,872 10,192 2,808

2014 2,808 40 1,123 11,315 1,685

2015 1,685 40 685* 12,000 1,000

* Computation of $674 ($1,685 x 40%) is adjusted to $685.



2011JournalEntry

Illustration 9-13


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Comparison of Methods

Depreciat ion

Illustration 9-14

Illustration 9-15


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Depreciation is a process of:

a. valuation.

b. cost allocation.

c. cash accumulation.

d. appraisal.

Review Question

Depreciat ion

SO 3 Compute periodic depreciation using different methods.


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The following four 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.

Deprec iat ion fo r Part ial Year



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Illustration: Barbs Florists purchased a small delivery truck onOctober 1, 2011.



Required: Compute depreciation using the following.

(a) Straight-Line (b) Units-of-Activity (c) Declining Balance.

Illustration 9-7


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Current

Depreciable Annual Partial Year Accum.

Year Cost Rate Expense Year Expense Deprec.

2011 12,000$ x 20% = 2,400$ x 3/12 = 600$ 600$

2012 12,000 x 20% = 2,400 2,400 3,000

2013 12,000 x 20% = 2,400 2,400 5,400

2014 12,000 x 20% = 2,400 2,400 7,800

2015 12,000 x 20% = 2,400 2,400 10,200

2016 12,000 x 20% = 2,400 x 9/12 = 1,800 12,000

12,000$

Journal entry:

2011 Depreciation expense 600

Accumultated depreciation 600



Illustration: (Straight-line Method)


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Hours Cost / Annual Accum. Book

Year Used x Unit = Expense Deprec. Value

Illustration: (Units-of-Activity Method)

2011 15,000 $ 0.12 $ 1,800 $ 1,800 $ 11,200

2012 30,000 0.12 3,600 5,400 7,600

2013 20,000 0.12 2,400 7,800 5,200

2014 25,000 0.12 3,000 10,800 2,200

2015 10,000 0.12 1,200 12,000 1,000



2011JournalEntry

Illustration 9-12




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Illustration: (Declining-Balance Method)Declining Current

Beginning Balance Annual Partial Year Accum.

Year Book Value Rate Expense Year Expense Deprec.

2011 13,000$ x 40% = 5,200$ x 3/12 = 1,300$ 1,300$

2012 11,700 x 40% = 4,680 4,680 5,980

2013 7,020 x 40% = 2,808 2,808 8,788

2014 4,212 x 40% = 1,685 1,685 10,473

2015 2,527 x 40% = 1,011 1,011 11,484

2016 1,516 x 40% = 607 Plug 516 12,000

12,000$

Journal entry:

2011 Depreciation expense 1,300

Accumultated depreciation 1,300




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Tax laws often do not require the taxpayer to use the

same depreciation method on the tax return that is used

in preparing financial statements.

Many corporations use straight-line in their financial

statements to maximize net income. At the same time,

they use an accelerated-depreciation method on theirtax returns to minimize their income taxes.

Depreciation and Income Taxes

Depreciat ion



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Revising Periodic Depreciation

Accounted for in the period of change and future

periods (Change in Estimate).

Not handled retrospectively.

Not considered error.

Depreciat ion

SO 4 Descr ibe the procedure for revis ing p er iodic depreciat ion.


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Illustration:Assume that Barbs Florists decides on January 1,2014, to extend the useful life of the truck one year because of

its excellent condition. The company has used the straight-line

method to depreciate the asset to date, and book value is

$5,800 ($13,000 - $7,200).

Questions:

1. What is the journal entry to correct

the prior years depreciation?

2. Calculate the depreciation expense

for 2014.

No EntryRequired

Depreciat ion



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Depreciat ion



Journal entry for 2014


Book value, 1/1/14 $5,800Residual value

Depreciable cost

Useful life (revised) /

Annual depreciation

First,establish

Book Value atthe date ofchange in

estimate.

- 1,000

4,800

3 years

$ 1,600

Illustration 9-17


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When there is a change in estimated depreciation:

a. previous depreciation should be corrected.

b. current and future years depreciation should be

revised.

c. only future years depreciation should be revised.

d. None of the above.

Review Question

Depreciat ion



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IFRS allows revaluation of plant assets to fair value

If revaluation is used, it must be applied to all assets in

a class of assets.

Assets that are experiencing rapid price changes must

be revalued on an annual basis, otherwise less

frequent revaluation is acceptable.

Revaluation of Plant Assets



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Illustration: Pernice Company applies revaluation to plantassets with a carrying value of $1,000,000, a useful life of 5

years, and no residual value. Pernice makes the following

journal entries in year 1, assuming straight-line depreciation.





After this entry, Pernices plant assets have a carrying amount

of $800,000 ($1,000,000 - $200,000).


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Illustration: At the end of year 1, independent appraisersdetermine that the asset has a fair value of $850,000. To report

the plant assets at fair value, Pernice makes the following entry.


Plant assets 150,000



Revaluation surplus is an example of an item reported as other

comprehensive income, as discussed in Chapter 5.

Revaluation surplus 50,000


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Pernice now reports the following information in its statement offinancial position at the end of year 1.



$850,000 is the new basis of the asset. Pernice reports depreciationexpense of $200,000 in the income statement and $50,000 in other

comprehensive income. Depreciation in year 2 will be $212,500

($850,000 / 4).

Illustration 9-18


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Ordinary Repairs- expenditures to maintain the operatingefficiency and productive life of the unit.

Debit - Repair (or Maintenance) Expense.

Referred to as revenue expenditures.

Expendi tures Du r ing Useful L i fe

SO 5 Dist inguish b etween revenue and capi ta l expendi tures,and explain the entr ies for each.

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.


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Companies dispose of plant assets in three ways Retirement, Sale, or Exchange (appendix).

Plant Asset Disposals

SO 6 Expla in how to accou nt for the disposal of a plant asset .

Illustration 9-19

Record depreciation up to the date of disposal.

Eliminate asset by (1) debiting Accumulated Depreciation, and(2) crediting the asset account.


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Illustration: Assume that Hobart Enterprises retires

its computer printers, which cost $32,000. The accumulated

depreciation on these printers is $32,000. The journal entry to

record this retirement is:

Plant Asset Dispo sals - Ret i rement



Printing equipment 32,000

Question: What happens if a fully depreciated plant asset is still useful

to the company?

Retirement of Plant Assets


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Illustration: Assume that Sunset Company discards deliveryequipment that cost $18,000 and has accumulated

depreciation of $14,000. The journal entry is:

Plant Asset Dispo sals - Ret i rement



Loss on disposal 4,000

Companies report a loss on disposal in the Other income and

expense section of the income statement.

Delivery equipment 18,000


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Sale of Plant AssetsCompare the book value of the asset with the proceeds

received from the sale.

If proceeds exceed the book value, a gain on disposaloccurs.

If proceeds are less than the book value, a loss on

disposal occurs.

Plant Asset Disposals



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Illustration: Assume that on July 1, 2011, Wright Company sells

office furniture for $16,000 cash. The office furniture originally

cost $60,000. As of January 1, 2011, it had accumulated

depreciation of $41,000. Depreciation for the first six months of

2011 is $8,000. Prepare the journal entry to record depreciation

expense up to the date of sale.


Plan t Asset Dispo sals - Sale



Gain on Disposal


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Illustration: Wright records the sale as follows.



Cash 16,000


Illustration 9-20Computation of gain ondisposal

Office equipment 60,000

Gain on disposal 5,000

July 1


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Illustration: Assume

that instead of selling

the office furniture for

$16,000, Wright sells it

for $9,000.



Loss on Disposal

Cash 9,000


Office equipment 60,000


July 1

Illustration 9-21Computation of loss on disposal


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Natural resourcesconsist of standing timber andresources extracted from the ground, such as oil, gas,

and minerals.

Standing timber is considered a biological asset underIFRS.

In the years before they are harvested, the recorded

value of biological assets is adjusted to fair value each

period.

Sect ion 2 Natural Resou rces

SO 7 Comp ute per iodic deplet ion of extractable natural resou rces.


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Depletionis to natural resources as depreciationis to plant

assets.

Companies generally use units-of-activity method.

Depletion generally is a function of the units extracted.

IFRS defines extractive industries as those businessesinvolved in finding and removing natural resources located inor near the earths crust.

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 resources useful life.




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Illustration: Assume that Lane Coal Company invests $5million 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 expense

Depletion expense 400,000

Accumulated depletion 400,000

Journal entry:



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Financ ial Statement Presentat ion

Illustration 9-23Statement presentation of accumulated depletion

Extracted resources that have not been sold are reported as

inventory in the current assets section.



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Intangible assetsare rights, privileges, and competitiveadvantages that do not possess physical substance.

Sect ion 3 Intang ible Assets

Patents

CopyrightsFranchises or licenses

Intangible assets are categorized as having either alimited life or an indefinite life.

Common types of intangibles:

SO 8 Expla in the basic issues related to acco unt ing fo r intangib le assets.

Trademarks and trade

namesGoodwill

IFRS permits revaluation of intangible assets to fair value, except for goodwill.


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PatentsExclusive right to manufacture, sell, or otherwise control

an invention for a specified number of years from the

date of the grant.

Legal life in many countries is 20 years.

Capitalize costs of purchasing a patent and amortize

over its legal life or its useful life, whichever is shorter.

Legal fees incurred successfully defending a patent are

capitalized to Patent account.

Types of Intang ible Assets



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Intangible assets are typically amortized on a straight-linebasis.

Illustration: Assume that National Labs purchases a patent at

a cost of $60,000. National estimates the useful life of thepatent to be eight years. National records the annual

amortization as follows.

Accoun t ing for Intangib le Assets


Amortization expense 7,500Patent 7,500


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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.

Granted for the life of the creator plus a specified number

of years, which can vary by country but is commonly 70

years.

Capitalize costs of acquiring and defending it.

Amortized to expense over useful life.




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Trademarks and Trade NamesWord, phrase, jingle, or symbol that identifies a particular

enterprise or product.

Wheaties, Game Boy, Frappuccino, Kleenex, Windows,

Coca-Cola, and Jetta.

Registration provides a specified number of years of

protection, which can vary by country, but is commonly 20

years.

Capitalize acquisition costs.

Renewed indefinitely, no amortization.




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Franchises and LicensesContractual arrangement between a franchisor and a

franchisee.

BP (GBR), Taco Bell (USA), or Rent-A-Wreck (USA)are franchises.

Franchise (orlicense) 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.




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GoodwillIncludes exceptional management, desirable location, goodcustomer relations, skilled employees, high-quality products,etc.

Only recorded when an entire business is purchased.

Goodwill is recorded as the excess of ...

purchase price overthe fair value of the identifiable net

assets acquired.

Internally created goodwill should not be capitalized.




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Slide9-60 Answer on notes page


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Research and Development Cos ts

Frequently results in something that a company patentsor copyrights such as:

new product,

process,idea,

formula,

composition, orliterary work.

Costs in the research phase are always expensed as

incurred.

Costs in the development phase are expensed until

specific criteria are met, primarily that technological

feasibility is achieved.



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Presentation

Statement Presentation and Analysis

SO 9 Indicate how p lant assets , natural resourc es,

and intangib le assets are reported.

Illustration 9-24


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Analysis

Each dollar invested in assets produced in sales. If a

company is using its assets efficiently, each investment in

assets will create a high amount of sales.

Statement Presentation and Analysis

SO 9 Indicate how p lant assets , natural resourc es,

and intangib le assets are reported.

Illustration 9-25


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As in IFRS, under GAAP, the costs associated with research

and development are segregated into the two components.

Costs in the research phase are always expensed under

both IFRS and GAAP. Under GAAP, however, costs in thedevelopment phase are also always expensed. As shown in

this chapter, under IFRS, development costs can be

capitalized once technological feasibility is achieved.

IFRS permits revaluation of intangible assets (except for

goodwill). GAAP prohibits revaluations of intangible assets.

GAAP does not require component depreciation.

Understanding U.S. GAAP

Key Differences

Plant Assets, Natural Resources,

and Intangible Assets


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GAAP does not permit the use of revaluation accounting for

property, plant, and equipment, which is allowed under IFRS.

Under both GAAP and IFRS, changes in the depreciation

method used and changes in useful life are handled in

current and future periods. Prior periods are not affected.

GAAP recently conformed to IFRS in the accounting for

changes in depreciation methods.


Key Differences




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IFRS allows reversal of impairment losses when there has

been a change in economic conditions or in the expected

use of the asset. Under GAAP, impairment losses cannot be

reversed for assets to be held and used; the impairment lossresults in a new cost basis for the asset. IFRS and GAAP are

similar in the accounting for impairments of assets held for

disposal.

The accounting for exchanges of non-monetary assets has

recently converged between IFRS and GAAP.


Key Differences




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Looking to the Future


It is too early to say whether a converged conceptual framework

will recommend fair value measurement (and revaluation

accounting) for plant assets and intangibles. However, this is likely

to be one of the more contentious issues, given the long-standinguse of historical cost as a measurement basis in GAAP. The IASB

and FASB have identified a project that would consider expanded

recognition of internally generated intangible assets. IFRS permits

more recognition of intangibles compared to GAAP. Thus, it will be

challenging to develop converged standards for intangible assets,given the long-standing prohibition on capitalizing internally

generated intangible assets and research and development in

GAAP.




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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.

Exchange of Plant Assets

SO 10 Expla in how to accou nt for the exch ange of plant assets.

Appendix


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Cost of old trucks $64,000Less: Accumulated depreciation 22,000

Book value 42,000

Fair value of old trucks 26,000

Loss on disposal $16,000

Fair value of old trucks $26,000

Cash paid 17,000

Cost of new semi-truck $43,000

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 value of

$26,000.



Loss

Treatment


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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 RolandCo.



Semi-truck 43,000



Used trucks 64,000

Cash 17,000


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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 value of $19,000. Mark also paid $3,000.



Cost of old equipment $40,000Less: Accumulated depreciation 28,000

Book value 12,000

Fair value of old equipment 19,000

Gain on disposal $ 7,000

Fair value of old equipment $19,000

Cash paid 3,000

Cost of new equipment $22,000

Gain

Treatment


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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 value of $19,000. Mark also paid $3,000.

Prepare the entry to record the exchange of assets by MarkExpress.



Delivery equipment (new) 22,000


Delivery equipment (used) 40,000

Gain on disposal 7,000

Cash 3,000


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In exchanges of assets in which the exchange has

commercial substance:

a. neither gains nor losses are recognized immediately.

b. gains, but not losses, are recognized immediately.

c. losses, but not gains, are recognized immediately.

d. both gains and losses are recognized immediately.

Review Question




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principle of accounting.ppt