10 1 Fixed Assets and Intangible Assets CHAPTER E – 3, 4, 13, 18, 19, 20, 23, 26; P - 2A...

10

1

Fixed Assets and Intangible Assets

CHAPTER E – 3, 4, 13, 18, 19, 20, 23, 26; P - 2A

PRINCIPLES OF ACCOUNTING II

10

2

1Describe, classify, and account for the cost of fixed

assets.

Learning Objective Number

10 Nature of Fixed Assets

Fixed assets are long-term or relatively permanent assets, such as equipment, machinery, buildings, and land. Other descriptive titles for fixed assets are plant and equipment.

10

Fixed assets have the following characteristics:1. They exist physically and, thus, are

tangible assets.2. They are owned and used by the

company in its normal operations.3. They are not offered for sale as part of

normal operations.

Nature of Fixed Assets

10

Classifying Costs


10 Building a Restaurant

What do you need?

1.Land2.Building3.Equipment4.Fixtures5.Land

Improvements

Most importantRent, lease, buy, or

build

Location


Costs of Acquiring Fixed Assets

10



10

Cost of Acquiring Fixed Assets Excludes:

1. Vandalism

These costs are expenses.

2. Mistakes in installation

4. Damage during unpacking and installing

3. Uninsured theft

5. Fines for not obtaining proper permits from government agencies


10

Initial cost of land ($30,000 + $270,000) ........................... $300,000 Plus: Legal fees .............................................. $ 1,425 Delinquent taxes.................................... 12,000 Demolition of building .......................... 18,500 31,925 $331,925 Less: Salvage of materials ......................................... 4,500 Cost of land ................................................................. $327,425

Exercise 10-3

10

• Expenditures that benefit only the current period are called revenue expenditures.

Capital and Revenue Expenditures

• Expenditures that improve the asset or extend its useful life are capital expenditures.

10

Normal and ordinary repairs and maintenance

REVENUE EXPENDITURES

CAPITAL EXPENDITURES

Additions, improvements, and extraordinary repairs

Capital and Revenue Expenditures

10 Ordinary Maintenance and

Repairs

On April 9, the firm paid $300 for a tune-up of a delivery truck.

This is a revenue expenditure.

10 Asset Improvements

On May 4, a $5,500 hydraulic lift was installed on the delivery truck to allow for easier and quicker loading of heavy cargo.

This is a capital expenditure.

10 Extraordinary Repairs

The engine of a forklift that is near the end of its useful life is overhauled at a cost of $4,500, which extends its useful life eight years. Work on the forklift was completed on October 14.

This is a capital expenditure.

10 Capital and Revenue

ExpendituresUsed in normal operations

10

Expenditure Capital Revenue1 X2 X3 X4 X5 X6 X7 X8 X9 X

10 X

Exercise 10-4

10

Internal Revenue Service STORY

The following is a true story, the names have been changed

to protect the innocent

The Real World

10

Jones and Sons Blacktopping

15 Cherry Street Wilkes- Barre, PA 18701 Phone 570-555-0190 Fax 570-555-0191

INVOICE

INVOICE #1897 DATE: JUNE 15, 2006

TO: Fred

FOR: Mountaintop Property

DESCRIPTION AMOUNT

Paving work in Mountaintop, PA $ 3,000.00

The Real World

10 Leasing Fixed Assets

A capital lease is accounted for as if the lessee has, in fact, purchased the asset. The asset is then amortized over the life of the capital lease.

10

A lease that is not classified as a capital lease for accounting purposes is classified as an operating lease (an operating lease is treated as an expense).

Leasing Fixed Assets

10

24

2Compute

depreciation, using the following methods:

straight-line method, units-of-

production method, and

double-declining balance method.


10

Over time, fixed assets such as equipment, buildings, and land improvements lose their ability to provide services. The periodic recording of the cost of fixed assets to expense is called depreciation.

Depreciation

10

1. Physical depreciation factors include wear and tear during use or from exposure to the weather.

2. Functional depreciation factors include obsolescence and changes in customer needs that cause the asset to no longer provide services for which it was intended.

Depreciation

10

Factors in Computing

Depreciation1. The asset’s initial cost.

2. The asset’s expected useful life.

3. The asset’s estimated residual value.

Depreciation

10

The expected useful life of a fixed asset is estimated at the time the asset is placed into service. The residual value of a fixed asset at the end of its useful life is estimated at the time the asset is placed into service.

Residual Value

Depreciation

10

Depreciation Expense Factors

Depreciation

10

Use of Depreciation Methods

Depreciation

10

The straight-line method provides for the same amount of depreciation expense for each year of the asset’s useful life.

Annual depreciation

Cost – Estimated residual valueEstimated life

=

Straight-Line Method

10

A depreciable asset cost $24,000. Its estimated residual value is $2,000 and its estimated useful life is five years.

Annual depreciation

Cost – Estimated residual valueEstimated life

=

Annual depreciation

$24,000 – $2,000 5 years expected useful life

=

Annual depreciation

= $4,400


10

If the preceding equipment was purchased and placed into service on October 1, the depreciation would be $1,100, computed as follows:

$4,400 × 3/12 = $1,100


Jan

Feb

Mar

Apr

May

Jun Jul Aug

Sep

Oct Nov DecJan

Feb

Mar

Apr

May

Jun Jul Aug

Sep

Oct Nov Dec

366

367

367

10

The units-of-production method provides for the same amount of depreciation expense for each unit produced or each unit of capacity used by the asset.

Depreciation

per unitCost – Residual Value

Total Units of Production=

Units-of-Production Method

10

A depreciable asset cost $24,000. Its estimated residual value is $2,000 and it is expected to have an estimated life of 10,000 operating hours.

Depreciation

per unitCost – Residual Value

Total units of production=

Depreciation

per unit$24,000 – $2,000

10,000 hours expected useful life

=

Depreciation per unit = $2.20 per hour


10

A depreciable asset cost $24,000. Its estimated residual value is $2,000 and it is expected to have an estimated life of 10,000 operating hours. During the year the asset was operated 2,100 hours.

DepreciationDepreciation per Unit × Total

Units of Production Used=

Depreciation ($2.20 per hour) × (2,100 hours)

=

Depreciation

$4,620=


10

The double-declining-balance method provides for a declining periodic expense over the estimated useful life of the asset.

Double-Declining-Balance Method

10

A double-declining balance rate is determined by doubling the straight-line rate.

A shortcut to determining the straight-line rate is to divide one by the number of years (1/5 = .20).

Hence, using the double-declining- balance method, a five-year life results in a 40 percent rate (.20 × 2).

(continued)


10

For the first year, the cost of the asset is multiplied by 40 percent. After the first year, the declining book value of the asset is multiplied 40 percent.

Continuing with the example where the fixed asset cost $24,000 and has an expected residual value of $2,000, a table can be built.


10

$24,000 × .40

1 $24,000 40% $9,600


Book Value Accum. Beginning Annual Deprec. Book Value Year of Year Rate Deprec. Year-End Year-End

Fixed asset cost $24,000 and has an expected residual value of $2,000.

10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760

$14,400 × .40




10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760 15,360 8,640




10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760 15,360 8,640

3 8,640 40% 3,456 18,816 5,184




10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760 15,360 8,640

3 8,640 40% 3,456 18,816 5,184

4 5,184 40% 2,074 20,890 3,110




10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760 15,360 8,640

3 8,640 40% 3,456 18,816 5,184

4 5,184 40% 2,074 20,890 3,110

5 3,110 40% 1,244 22,134 1,866

Depreciation stops when book value equals residual value!STOP




10

1 $24,000 40% $9,600 $9,600 $14,400

2 14,400 40% 5,760 15,360 8,640

3 8,640 40% 3,456 18,816 5,184

4 5,184 40% 2,074 20,890 3,110

5 3,110 – $2,000 1,110 22,000 2,000

Desired ending book

value“Forced” annual

depreciation




10

If the preceding equipment was purchased and placed into service on October 1, depreciation for the year ending December 31 would be $2,400, computed as follows:

$9,600 × 3/12 = $2,400



1 $24,00040% $2,400 $2,400 $ 21,600

10

The depreciation for the second year would then be $8,640, computed as follows:

$8,640 = [40% × ($24,000 – $2,400)]



1 $24,00040% $2,400 $2,400 $ 21,600

2

1 $24,00040% $2,400 $2,400 $ 21,600

2 21,60040% 8,640 11,040 12,960

10 Summary of Depreciation

Methods

10 Comparing Depreciation

Methods

10

Straight-line method:

( $172,000 - $20,000 ) ÷ 8 = $19,000

Declining-balance method:

Year 1 $172,000 x 25% = $43,000

Year 2 ( $172,000 - $43,000 ) x 25% = $32,250

per year

Exercise 10-13

10

Straight-line method:Cost of asset 380,000

Residual value 36,000

Depreciable cost 344,000

( 380,000 - 36,000 ) ÷ 4 = $86,000 per year

Problem 10-2A

10

Units-of-production method:Cost of asset 380,000


Hours 8,000

( 380,000 - 36,000 ) ÷ 8,000 = $43

2009 3,000 @ $43 = $129,000*

2010 2,500 @ $43 = $107,500*

2011 1,400 @ $43 = $60,200*

2012 1,100 @ $43 = $47,300

per hour

Problem 10-2A

10

Declining-balance method:Cost of asset 380,000


Depreciable cost 344,000

2009 ( 380,000 x $0 ) x 50% = $190,000

2010 ( 380,000 - $190,000 ) x 50% = $95,000

2011 ( 380,000 - $285,000 ) x 50% = $47,500

2012 ( 380,000 - $332,500 ) x * = $11,500

$344,000* Book value should not be reduced below the residual

value of $36,000.

Problem 10-2A

10

Depreciation Expense a. Straight- b. Units-of- c. Double- Line Production Declining-Balance Year Method Method Method

2009 $ 86,000 $129,000 $190,000 2010 86,000 107,500 95,000 2011 86,000 60,200 47,500 2012 86,000 47,300 11,500* Total $344,000 $344,000 $344,000

Problem 10-2A

10 Depreciation for Federal Income

Tax

The Internal Revenue Code specifies the Modified Accelerated Cost Recovery System (MACRS) for use by businesses in computing depreciation for tax purposes.

10

MACRS specifies eight classes of useful life and depreciation rates for each of the eight classes. The two most common classes are the 5-year class (includes automobiles and light duty trucks) and the 7-year class (includes most machinery and equipment).

Depreciation for Federal Income Tax

10

For the five-year-class assets, depreciation is spread over six years, as shown below.

Depreciation for Federal Income Tax

10

A machine purchased on January 1, 2009, for $140,000 was originally estimated to have a useful life of five years and a residual value of $10,000. The asset has been depreciated for two years using the straight-line method.

Revising Depreciation Estimates

$140,000 – $10,000

5 years

Annual Depreciation

(S/L)=

$26,000 per year

Annual Depreciation

(S/L)=

(continued)

10

At the end of 2011, the asset’s book value is $88,000, determined as follows:

Asset cost $140,000Less accumulated depreciation

($26,000 per year × 2 years) 52,000 Book value, end of second year $ 88,000

(continued)


10

During 2012, the company estimates that the remaining useful life is eight years (instead of three) and that the residual value is $8,000 (instead of $10,000). Depreciation expense for each of the remaining eight years is determined as follows:

Book value, end of second year$88,000

Less revised estimated residual value 8,000

Revised remaining depreciation cost$80,000

Revised annual depreciation expense[($88,000 – $8,000) ÷ 8 years] $10,000


10

Book Value of Asset with Change in Estimate

10

63

3Journalize entries for the disposal of

fixed assets.


10 Discarding Fixed Assets

A piece of equipment acquired at a cost of $25,000 is fully depreciation at December 31, 2009. On February 14, 2010, the equipment is discarded.

10

Equipment costing $6,000, with no residual value, is depreciated at an annual straight-line rate of 10%. After the December 31, 2009, adjusting entry, Accumulated Depreciation—Equipment has a $4,750 balance. On March 24, 2010, the asset is removed from service and discarded.

$600 × 3/12

Discarding Fixed Assets

10

The discarding of the equipment is then recorded as follows (note that this is the second of two entries on March 24):

Discarding Fixed Assets

10 Selling Fixed Assets

Equipment was purchased at a cost of $10,000. It had no estimated residual value and was depreciated at a straight-line rate of 10%. The equipment is sold for cash on October 12 of the eighth year of its use. The balance of the accumulated depreciation account as of the preceding December 31 is $7,000.

10

The entry to update the depreciation for the nine months of the current year is as follows:

Selling Fixed Assets

10

The equipment is sold on October 12 for $2,250. No gain or loss.

Assumption 1


10

Assumption 2The equipment is sold on October 12 for

$1,000; a loss of $1,250.


10

Assumption 3The equipment is sold on October 12 for

$2,800; a gain of $550.


10

c. Cash ................................................................................ 168,500 Accumulated Depreciation—Equipment ...................... 87,750 Loss on Disposal of Fixed Assets ................................ 9,250 Equipment ................................................................. 265,500

d. Cash ................................................................................ 180,000 Accumulated Depreciation—Equipment ...................... 87,750 Equipment ................................................................. 265,500 Gain on Sale of Equipment ...................................... 2,250

Straight-line method:( $265,500 - $31,500 ) ÷ 8 = $29,250 2007

( $265,500 - $31,500 ) ÷ 8 = $29,250 2008

( $265,500 - $31,500 ) ÷ 8 = $29,250 2009

$265,500 $87,750 $177,750

Exercise 10-18

10

73

4Compute

depletion and journalize the

entry for depletion.


10

The process of transferring the cost of natural resources to an expense account is called depletion.

Natural Resources

10

A business paid $400,000 for the mining rights to a mineral deposit estimated at 1,000,000 tons of ore.

Step 1: Determine the depletion rate per ton.

Cost of ResourcesEstimated Total Units

of Resources

Depletion Rate =

Natural Resources

10

$400,0001,000,000

$.40 per ton =


Step 1: Determine the depletion rate per ton.

Natural Resources

10


Step 2: Multiply the depletion rate by the quantity extracted during period.

$0.40 per ton × $90,000 tons = $36,000

Natural Resources

10

The adjusting entry to record the depletion is shown below.

Natural Resources

10

Cost Est Total Units16,200,000 / 90,000,000 = 0.18 Depletion Rate

13,750,000 Quantity Mined2,475,000 Deleption Expense

Exercise 10-19

Depletion Expense ................................................ 2,475,000 Accumulated Depletion ............................................ 2,475,000 Depletion of mineral deposit.

10

80

5Describe the

accounting for intangible assets, such as patents, copyrights, and

goodwill.


10

Patents, copyrights, trademarks, and goodwill are long-lived assets that are useful in the operations of a business and not held for sale. These assets are called intangible assets because they do not exist physically.

Intangible Assets

10

The exclusive right granted by the federal government to manufacturers to produce and sell goods with one or more unique features is a patent. These rights continue in effect for 20 years.

Scotch Tape and Dollar Store

Patent

10

At the beginning of its fiscal year, a business acquires a patent right for $100,000. Its remaining useful life is estimated at 5 years.

Amortizing a Patent

10

Because a patent (and other intangible assets) does not exist physically, it is acceptable to credit the asset. This approach is different from physical fixed assets that require the use of a contra asset account.

Amortizing a Patent

10

The exclusive right granted by the federal government to publish and sell a literary, artistic, or musical composition is a copyright. A copyright extends for 70 years beyond the author’s death.

Copyright

10

A trademark is a unique name, term, or symbol used to identify a business and its products. Most businesses identify their trademarks with ® in their advertisements and on their products. Trademarks can be registered for 10 years and can be renewed every 10-year period thereafter.

Trademark

10

In business, goodwill refers to an intangible asset of a business that is created from such favorable factors as location, product quality, reputation, and managerial skill.

Goodwill

10

Generally accepted accounting principles permit goodwill to be recorded in the accounts only if it is objectively determined by a transaction.

Goodwill

10

A loss should be recorded if the business prospects of the acquired firm (and the acquired goodwill) become significantly impaired.

Impaired Goodwill

10

Disclosures for 600 FirmsExhibit 9

Frequency of Intangible Asset

10 Comparison of Intangible Assets

Exhibit 10

10

Cost Useful Life750,000 / 15 = 50,000 Amortization

90,000 / 12 = 7,500 Amortization57,500 Total Amortization

Exercise 10-20

Amortization Expense—Patents............................... 57,500 Patents ....................................................................... 57,500 Amortized patent rights ($50,000 + $7,500).

10

93

6Describe how depreciation expense is

reported in an income statement

and prepare a balance sheet


10

• The cost and related accumulated depletion of mineral rights are normally shown as part of the Fixed Assets section of the balance sheet.

• Intangible assets are usually reported in the balance sheet, supported by a note with a separate listing.

• The balance in each class of intangible assets should be disclosed net of any amortization.

Balance Sheet

10 Fixed Asset Turnover Ratio

One measure of the revenue-generating efficiency of fixed assets is the fixed asset turnover ratio. It measures the number of dollars of revenue earned per dollar of fixed assets and is computed as follows:

Fixed Asset Turnover Ratio

Revenue

Average Book Value of Fixed

Assets

=

10 For Marriott International, Inc.

(in millions)


Revenue

Average Book Value of Fixed Assets

=


$12,160

($1,238 + 2,341)/2 =

Fixed Asset Turnover Ratio = 6.79

10

98

A1Sum-of-the-Years-

Digits Depreciation


10

An asset costs $24,000, has a five-year life, and an estimated salvage value of $2,000. Annual depreciation using sum-of-the-years-digits method is shown in the column shaded in yellow.

Sum-of-the-Years-Digits Method

10

Sum of Years of Useful Life = 2

1) + N(N =

2

1) + 20(20 = 210

First year: 20/210 × $75,000 = $7,143

Second year: 19/210 × $75,000 = $6,786

Exercise 10-23

10

101

A2Exchanging

Similar Fixed Assets


10 Exchanging Similar Fixed Assets


Per footnote, different according to the IRS:Generally, if you exchange business or investment property solely for business or investment property of a like-kind, no gain or loss is recognized under Internal Revenue Code Section 1031. If, as part of the exchange, you also receive other (not like-kind) property or money, gain is recognized to the extent of the other property and money received, but a loss is not recognized.

Section 1031 does not apply to exchanges of inventory, stocks, bonds, notes, other securities or evidence of indebtedness, or certain other assets.

10

Calculating the Gain

Price (fair market value) of new equipment $5,000Less assets given up in exchange:

Book value of old equipment ($4,000 – $3,200) $ 800Cash paid on the exchange 3,900 4,700

Gain on exchange of assets $ 300

Exchanging Similar Fixed Assets

10

Loss on Exchange of Similar Assets

This time assume that only a $675 trade-in allowance was allowed towards the purchase of the new equipment. Because the market value of the new equipment is $5,000, the cash paid on the exchange amounts to $4,325.

Exchanging Similar Fixed Assets

10

a.

Price (fair market value) of new equipment ....................................... $300,000 Trade-in allowance of old equipment ................................................. 120,000 Cash paid on the date of exchange .................................................... $180,000

b.

Price (fair market value) of new equipment ..................... $300,000 Less assets given up in exchange: Book value of old equipment ..................................... $115,500 Cash paid on the exchange ....................................... 180,000 295,500 Gain on exchange of equipment ...................................... $ 4,500

Exercise 10-26

10

108

THE ENDTHE END

CHAPTER 10

10 1 Fixed Assets and Intangible Assets CHAPTER E – 3, 4, 13, 18, 19, 20, 23, 26; P - 2A...

Documents

Transcript of 10 1 Fixed Assets and Intangible Assets CHAPTER E – 3, 4, 13, 18, 19, 20, 23, 26; P - 2A...