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FINANCIAL ACCOUNTING A USER PERSPECTIVE






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FINANCIAL ACCOUNTING A USER PERSPECTIVE. Hoskin • Fizzell • Davidson Second Canadian Edition. Capital Assets. Chapter Eight. Capital Asset Recognition. Capital assets Used to generate revenue over several periods in the future Used until replaced with a new asset
FINANCIAL ACCOUNTING A USER PERSPECTIVE

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Financial accounting a user perspective l.jpgSlide 1

FINANCIAL ACCOUNTINGA USER PERSPECTIVE

Hoskin • Fizzell • Davidson

Second Canadian Edition

Capital assets l.jpgSlide 2

Capital Assets

Chapter Eight

Capital asset recognition l.jpgSlide 3

Capital Asset Recognition

  • Capital assets

    • Used to generate revenue over several periods in the future

    • Used until replaced with a new asset

    • Can have residual (or resale) value

Capital asset valuation l.jpgSlide 4

Capital Asset Valuation

  • Historical cost

    • Original cost of the asset

    • Expensed (amortized) over the period used

Capital asset valuation5 l.jpgSlide 5

Capital Asset Valuation

  • Gain or loss on sale

    • Recognized only when sold

    • Difference between proceeds of the sale and the net book value

  • Net book value (or carrying value)

    • Original cost less amortization

Capital asset valuation6 l.jpgSlide 6

Capital Asset Valuation

  • Market value

    • Replacement cost

      • Amount that would be needed to acquire an equivalent asset

    • Net realizable value

      • Amount that could be received by converting the asset to cash

Capital asset valuation7 l.jpgSlide 7

Capital Asset Valuation

  • Canadian practice

    • Uses historical cost

    • Amortized over the period of use

      • Maximum of 40 years

    • Market value changes generally not recognized

Capitalizable costs l.jpgSlide 8

Capitalizable Costs

  • Costs to acquire and prepare the asset for use

    • Purchase price (less any discounts)

    • Installation costs

    • Transportation costs

    • Legal costs

    • Direct taxes

Basket purchases l.jpgSlide 9

Basket Purchases

  • Several assets acquires in one transaction

  • Price paid is divided between the assets on the basis of their relative fair values at the time of acquisition

Basket purchases10 l.jpgSlide 10

Basket Purchases

Timberland Example

Interest capitalization l.jpgSlide 11

Interest Capitalization

  • Companies often borrow money to finance a capital asset

  • Interest paid on borrowed money

    • Capitalized when it is included in the capital asset account rather than being expensed

Amortization or depreciation l.jpgSlide 12

Amortization (or Depreciation)

  • Method for allocating the cost of capital assets to the periods in which the benefits from the assets are received (the useful life)

  • Does not refer to the value of the asset

  • Follows the matching concept

Amortization methods l.jpgSlide 13

Amortization Methods

  • Straight-line method

  • Accelerated or diminishing balance method

  • Decelerated method

  • Unit of production method

Amortization methods14 l.jpgSlide 14

Amortization Methods

Asset Carrying Value

Dol

lars

Amortization methods15 l.jpgSlide 15

Amortization Methods

Amortization Expense

Do

l

lars

Straight line method l.jpgSlide 16

Straight-Line Method

  • Allocates the cost evenly over the life of the asset

  • Estimates needed for

    • Useful life

    • Residual value

Straight line method17 l.jpgSlide 17

Straight-Line Method

  • Assumptions:

    • Original Cost $10,000

    • Estimated

      • Residual Value $1,000

      • Useful Life 5 years

Straight line method18 l.jpgSlide 18

Straight-Line Method

-

Original Cost

Residual Value

Amortization Expense

=

Useful Life

-

$10,000

$1,000

=

5 years

=

$1,800 per year

Straight line method19 l.jpgSlide 19

Straight-Line Method

Amortization Schedule

Accelerated methods l.jpgSlide 20

Accelerated Methods

  • Amortization

    • Multiply the carrying value of the asset by a fixed percentage

  • Carrying value decreases each year

  • Amortization expenses decreases each year

Accelerated methods21 l.jpgSlide 21

Accelerated Methods

  • Percentage rates

    • Lower when asset has longer life

  • Double declining balance method

    • Percentage is double the straight-line rate

    • Residual value

      • Not used for computations

      • Serves as a constraint

Double declining balance method l.jpgSlide 22

Double Declining Balance Method

  • Assumptions:

    • Original Cost $10,000

    • Estimated

      • Residual Value $1,000

      • Useful Life 5 years

    • 200% Declining Balance Method

Double declining balance method23 l.jpgSlide 23

Double Declining Balance Method

  • Calculation:

    DB rate = DB% x SL rate

    = 200% x 1/n

    = 200% x 1/5

    = 40%

Double declining balance method24 l.jpgSlide 24

Double Declining Balance Method

Amortization Schedule

Production method l.jpgSlide 25

Production Method

  • Assumptions

    • Benefits derived are related to the output or use of an asset

  • Requires that the useful life can be expressed as units of output

Production method26 l.jpgSlide 26

Production Method

  • Assumptions:

    • Original Cost $10,000

    • Estimated Residual Value $1,000

    • Estimated Usage

Production method27 l.jpgSlide 27

Production Method

-

Cost

Residual Value

Amortization Expense per Unit

=

Estimated Total Units of Output

-

$10,000

$1,000

=

20,000 units

=

$0.45 per unit

Production methods l.jpgSlide 28

Production Methods

Amortization Schedule

Recording amortization expense l.jpgSlide 29

Recording Amortization Expense

  • All amortization methods:

    SE-Amortization expense XX

    XA-Accumulated amortization XX

Corporate income taxes l.jpgSlide 30

Corporate Income Taxes

  • Revenue Canada

    • Amortization expense is allowed to be deducted to calculate accounting income

    • Capital cost allowance (CCA) instead must be used to calculate taxable income

Corporate income taxes31 l.jpgSlide 31

Corporate Income Taxes

  • May result in a temporary difference betweenAccounting income and taxable income

  • Result is a future tax asset or liability (formerly referred to as deferred tax)

Capital cost allowance cca l.jpgSlide 32

Capital Cost Allowance (CCA)

  • Capital assets are grouped into classes and assigned a maximum rate

    • Vehicles: Class 10: rate 30%

    • Equipment: Class 8: rate 20%

Capital cost allowance cca33 l.jpgSlide 33

Capital Cost Allowance (CCA)

  • Companies may deduct any part of the undepreciated capital costs (UCC) in the class up to the stated maximum

  • Exception:

    • Year of acquisition: 50% of normal amount

Capital cost allowance cca34 l.jpgSlide 34

Capital Cost Allowance (CCA)

  • Central Corp. purchases new equipment (Class 8) at a cost of $20,000

  • CCA

    Year 1: 50% x $20,000 x 20% = $2,000

    Year 2: 20% x ($20,000-$2,000)= $3,600

    Year 3: 20% x ($20,000-$2,000-$3,600) = $2,880

Capital cost allowance cca35 l.jpgSlide 35

Capital Cost Allowance (CCA)

  • Journal entry:

    SE-Tax expense 11,460

    A-Future tax asset* 90

    L-Income taxes payable 11,550

    *(Future tax liability if a credit balance)

Changes in amortization estimates and methods l.jpgSlide 36

Changes in Amortization Estimates and Methods

  • Estimates of useful life and residual value may change over time

  • Amortization may change as a result

Changes in amortization estimates and methods37 l.jpgSlide 37

Changes in Amortization Estimates and Methods

  • Straight-Line Method Assumptions

    • Original Cost $10,000

    • Residual Value $1,000

    • Useful Life 5 years

  • Changes in Year 4 (Estimations)

    • Remaining Useful Life 3 years

    • Residual Value $ 400

Changes in amortization estimates and methods38 l.jpgSlide 38

Changes in Amortization Estimates and Methods

Remaining Book Value

-

Residual Value

Amortization Expense

=

Useful Life

-

$4,600

$400

=

3 years

=

$1,400 per year

Changes in amortization estimates and methods39 l.jpgSlide 39

Changes in Amortization Estimates and Methods

Amortization Schedule

Sale of capital assets l.jpgSlide 40

Sale of Capital Assets

  • Original cost and accumulated amortization removed from accounts

  • Gain or loss: difference between cash received and book value

    A-Cash 1,200

    XA-Accumulated amortization 9,000

    A-Property, plant and equipment 10,000

    SE-Gain on sale of PP&E 200

Disposal of capital assets l.jpgSlide 41

Disposal of Capital Assets

  • If assets are disposed of and no cash is received

    XA-Accumulated amortization 9,000

    SE-Loss on disposal of PP&E 1,000

    A-Property, plant and equipment 10,000

Writedown of capital assets l.jpgSlide 42

Writedown of Capital Assets

  • If future recoverable amount of a capital asset declines below its carrying value

    SE-Loss due to damage to asset 1,000

    XA-Accumulated amortization 1,000

Natural resources l.jpgSlide 43

Natural Resources

  • Capitalizing the costs implies that they have future value

  • Example: oil exploration

  • Exploration costs choices

    • Full costing method

    • Successful efforts method

Intangible assets l.jpgSlide 44

Intangible Assets

  • Intangible assets have probable future value but no physical form

  • Guidelines:

    • If developed internally, expense as incurred

    • If purchased, can be capitalized

Intangible assets45 l.jpgSlide 45

Intangible Assets

  • Estimate useful life and residual value (if any)

  • Use straight-line method to amortize

    SE-Amortization expense XX

    A-Patents XX

Intangible assets46 l.jpgSlide 46

Intangible Assets

  • Advertising

    • Generally expensed as incurred

  • Patents, Trademarks, Copyrights

    • Legal life is the maximum for amortizing

  • Goodwill

    • Capitalize and amortize if purchased

Slide47 l.jpgSlide 47

Return on Assets

Net income before interest

ROA

=

Average total assets

Net income + [Interest expense x (1-Tax rate)]

=

Average total assets


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