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Chapter 9

Chapter 9. REPORTING AND ANALYZING LONG-LIVED ASSETS. Operating Assets. Long-term, or non-current, assets acquired for use in a business rather than for resale. Examples include. Property, Plant, and Equipment Intangible Assets Natural Resources. Nature of Operating Assets.

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Chapter 9

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  1. Chapter 9 REPORTING AND ANALYZING LONG-LIVED ASSETS

  2. Operating Assets Long-term, or non-current, assets acquired for use in a business rather than for resale. Examples include Property, Plant, and Equipment Intangible Assets Natural Resources

  3. Nature of Operating Assets Property, Plant, and Equipment--Tangible, long-lived assets acquired for business operations. Depreciation is the process of allocating the costs of these assets over their estimated useful lives.

  4. Nature of Operating Assets • Property, Plant, and Equipment • Intangible Assets--Intangible long-lived assets without physical substance that are used in business. Amortization is the process of allocating the costs of these assets over their estimated useful lives.

  5. Nature of Operating Assets • Property, Plant, and Equipment • Intangible Assets • Natural Resources--Assets that are physically consumed or waste away in the course of business. Depletion is the process of allocating costs of natural resources as they are mined or extracted.

  6. Accounting for Property, Plant, and Equipment Recording asset acquisition. Allocating the cost of an asset over its useful life, or depreciation. Accounting for maintenance, repairs, and improvements made to the asset. Accounting for sale or disposal of the asset.

  7. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he paid cash for the truck?

  8. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he paid cash for the truck? Delivery Truck................................ 50,000 Cash........................................ 50,000 Purchased a delivery truck for $50,000.

  9. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he purchased the truck with $10,000 cash and then borrowed the remaining $40,000?

  10. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he purchased the truck with $10,000 cash and then borrowed the remaining $40,000? Delivery Truck................................ 50,000 Cash........................................ 10,000 Notes Payable.......................... 40,000 Purchased a delivery truck for $50,000.

  11. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he traded a piece of land worth $50,000 for the truck?

  12. Assets Acquired by Purchase John Doe purchased a delivery truck to use in his business. The cost of the truck was $50,000. What entry will John make if he traded a piece of land worth $50,000 for the truck? Delivery Truck................................ 50,000 Land......................................... 50,000 Purchased a delivery truck for $50,000.

  13. Plant Assets Cost is measured by • the cash paid in a cash transaction, or • the cash equivalent price paid when noncash assets are used in payment. The cash equivalent price is equal to • the fair market value of the asset given up, or • the fair market value of the asset received, whichever is more clearly determinable.

  14. Buildings • If a building is purchased, but needs to be readied for its intended use, cost includes • expenditures for remodeling rooms or offices • replacing or repairing • roof • floors • electrical wiring • plumbing

  15. Buildings • All necessary expenditures relating to the purchase or construction of a building. • When a building is purchased such costs include the • purchase price • closing costs (attorney's fees title insurance) • real estate broker's commissions

  16. Plant AssetsLand Cost of land includes • Cash price, closing costs, brokers’ commissions, accrued property taxes, etc. • Can also include costs to raze a building, drain and fill the land • Proceeds from sale of salvaged materials are deducted from the cost

  17. Cost ofLand Improvements • All expenditures necessary to make the improvements ready for their intended use • Drive ways • Parking lots • Fences • Underground sprinklers

  18. Assets Acquired by Purchase Basket Purchase--The purchase of two or more assets acquired together at a single price. Relative Fair Market Value Method--A way of allocating a basket purchase price to the individual assets acquired based on their respective market values.

  19. Basket Purchase When two or more assets are acquired at a single price. The prices are allocated on a “relative fair market value method.” In the example below, on Oct 31 we purchased land and building for a total of $360,000.

  20. Basket Purchase When two or more assets are acquired at a single price. The prices are allocated on a “relative fair market value method.” In the example below, we purchased land and building for a total of $360,000. Asset FMV Total Value Cost ` Land $100,000 25% .25 x 360,000 = $ 90,000 Building $300,000 75% .75 x 360,000 = $ 270,000 $400,000 100% $ 360,000

  21. Basket Purchase When two or more assets are acquired at a single price. The prices are allocated on a “relative fair market value method.” In the example below, we purchased land and building for a total of $360,000. Asset FMV Total Value Cost ` Land $100,000 25% .25 x 360,000 = $ 90,000 Building $300,000 75% .75 x 360,000 = $ 270,000 $400,000 100% $ 360,000 Journal Entry: Land............. 90,000 Building........ 270,000 Cash..... 360,000

  22. Basket Purchase Unless, of course, the intent of purchasing the building was to demolish it and build a new one. In which case, the whole cost, plus the demolition cost, is the cost of the land.

  23. CASH Allocating The Costs of Plant and Equipment to Expense Depreciation--A systematic write-off each period of the original cost assigned to the asset. Useful Life--The length of time a company expects to use an asset. Salvage or Residual Value--What the asset will be worth at the end of its useful life (net of disposal costs).

  24. Other Terms Accumulated Depreciation--The total depreciation recorded on an asset since its acquisition. It is a contra-asset account that is offset against the cost of the asset on the balance sheet. Book Value--Equal to the original cost of the asset less accumulated depreciation.

  25. Calculating Depreciation Expense In order to calculate depreciation expense, the following information is needed: The original cost. The estimated useful life. The salvage or residual value.

  26. Depreciation Expense $24,000 Allocate the expenses (cost) of the asset – – to the periods it contributes to revenue

  27. Straight-Line Method The depreciation method in which the cost of an asset is allocated equally over each period of the asset’s estimated useful life. The asset is assumed to benefit all periods equally.

  28. Time-Factor Depreciation Formulas Straight-Line--Recognizes equal periodic depreciation charges of the asset’s useful life. The formula for Straight-Line is:

  29. Time-Factor Depreciation Formulas Straight-Line--Recognizes equal periodic depreciation charges of the asset’s useful life. The formula for Straight-Line is: Depreciation = Cost - Salvage Value Expense Useful Life (years)

  30. Example: Depreciation • The following information will be used to provide an example of calculating depreciation: • Acquisition Cost $24,000 • Estimated Residual Value $ 2,000 • Estimated Useful Life 4 years • This is the second year the asset has been in use.

  31. Example: Depreciation Depreciation = Cost - Salvage Value Expense Useful Life (years)

  32. Example: Depreciation Depreciation = Cost - Salvage Value Expense Useful Life (years) Depreciation = $24,000 - $2,000 Expense 4 Depreciation = $5,500 per year Expense

  33. Example: Depreciation The journal entry to record depreciation for 2005 would be: Depreciation Expense..................... 5,500 Accumulated Depreciation........ 5,500 To record depreciation expense for the asset.

  34. Straight-Line Depreciation

  35. Depreciation Methods • Straight Line • Units-of-production • Sum-of-the-years’ digits • Declining Balance

  36. Units-of-Production Method

  37. Declining-Balance Method

  38. Sum-of-the-Years’ Digits

  39. Comparison of Methods Depreciation Expense

  40. Partial-Year Depreciation If the asset was not purchased at the beginning or end of the year, then depreciation should only be recorded for the months the asset was in use. To simplify the process, some companies take a full year depreciation in the year of purchase, but take no depreciation expense in the year the asset is sold.

  41. Example: Depreciation • The following information will be used to provide an example of calculating depreciation: • Acquisition Cost $24,000 • Estimated Residual Value $ 2,000 • Estimated Useful Life 4 years • This is the first year the asset has been in use

  42. Example: Depreciation Depreciation = Cost - Salvage Value Expense Useful Life (years)

  43. Example: Depreciation Depreciation = Cost - Salvage Value Expense Useful Life (years) = $24,000 - $2,000 = $5,500 4 Depreciation = $5,500 x .5 = $2,750 Expense 1st yr

  44. Example: Depreciation The journal entry to record depreciation for 2005 would be: Depreciation Expense..................... 2,750 Accumulated Depreciation........ 2,750 To record depreciation expense for the asset.

  45. Depreciation for Income Taxes Depreciation for tax purposes must be computed in accordance with federal income tax law. Modified Accelerated Cost Recovery System (MACRS). Due to MACRS depreciation calculations, the depreciation expense for federal income tax will differ from the depreciation computed for financial reporting purposes.

  46. Expenditures for Plant and Equipment • Ordinary Expenditures--Expenditures for repairs, maintenance, and minor improvements which benefit the period in which they are made. • Capital Expenditure--Expenditures that lengthen an asset’s useful life, increases its capacity, or changes its use.

  47. Capital Expenditures In order to classify as a capital expenditure, three criteria should be met: • The amount must be significant. • It should benefit the company for several periods. • It should increase the productive life or capacity of the asset.

  48. Example: Ordinary Expenditure Tool Time paid $3,000 during the year to maintain the company truck. What entry needs to be made?

  49. Example: Ordinary Expenditure Tool Time paid $3,000 during the year to maintain the company truck. What entry needs to be made? Maintenance Expense........... 3,000 Cash................................ 3,000 Spent $3,000 to maintain truck.

  50. Example: Capital Expenditure Tool Time paid $10,000 to rebuild the engine in the company truck. It is expected that the new engine will add 2 years to the useful life of the truck.

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