Ch.8 Operating Assets: Plant Assets, Natural Resources, and Intangible Assets.
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Transcript of Ch.8 Operating Assets: Plant Assets, Natural Resources, and Intangible Assets.
Ch.8Operating Assets:
Plant Assets,Natural Resources,
and Intangible Assets
Plant Assets,Natural Resources (FYI only)Intangible Assets (FYI only)
Part I: Plant Assets1. Acquisition of plant assets
2. Use and depreciation of plant assets
3. Repair and maintenance – post acquisition expenditures
4. Disposal of plant assets
(in millions)Land $ 179.5Buildings 813.6Machinery and equipment 1,608.6Leasehold improvements 470.2Construction in process 60.4
$ 3,132.3Less accumulated depreciation 1,545.4
Property, plant, and equipment (net) $ 1,586.9
Nike, Inc.Property, Plant, and Equipment
LO1
1. Acquisition Cost of Property, Plant, and Equipment
All of the costs necessary to acquire the asset and prepare it for its intended use
Purchaseprice
+Taxes Installation
costs
Transportation charges
LO2
Group Purchase
Allocate cost of lump-sum purchase based on fair market values
Cost$100,000
$75,000
$25,000
AllocatedCost
Land = $30,000
Building = $90,000
Fair MarketValue
75%
25%
% ofMarketValue
LO3
Capitalization of Interest
Interest can be included as part of the cost of an asset if the company:• Constructs the asset over time
and• Borrows money to finance
construction
LO 4
2. Depreciation of Property, Plant, and Equipment
Match cost ofassets
with periodsbenefited
1 2 3
4 5 6 7 8 9 10
11 12 13 14 15 16 17
18 19 20 21 22 23 24
25 26 28 29 30 3127
Straight Line Units ofProduction
Double Declining Balance
via
LO5
Straight-Line Method
Allocates the cost of the asset evenly over its useful life
Units-of-Production Method
Allocates the asset cost based on the number of units produced over its useful life
depreciation =
per unit
Double-Declining-Balance Method
Accelerated method – higher amount of depreciation in early years
Double the straight-line rate on a declining amount (book value)
Straight-linerate
Depreciation Example
On January 1, ExerCo purchases a
machine for $20,000. The life of the machine
is estimated at 5 years, after which it is
expected to be sold for $2,000.
Depreciation Example
Calculate ExerCo’s depreciation of the machine for years 1 through 5 using the straight-line, units-of-production and double-declining-balance depreciation methods.
$20,000 cost – $2,000 residual value = $18,000 to be depreciated
Straight-Line Depreciation
Depreciation = Cost – Residual Value Life
= $20,000 – $2,000 5 years
= $3,600
$18,0005-year life
$3,600Year 1
$3,600Year 2
$3,600Year 3
$3,600Year 4
$3,600Year 5
Units-of-Production Depreciation
ExerCo’s estimated machine production:
Year 1 3,600 unitsYear 2 3,600 unitsYear 3 3,600 unitsYear 4 3,600 unitsYear 5 3,600 unitsTotal 18,000 units
Units-of-Production Depreciation
Depreciation = Cost – Residual Value per unit Life in Units
= $20,000 – $2,000 18,000
= $1.00 per unit
ExerCo’s Depreciation in 2007:
4,000 Units × $1 per Unit = $ 4,000
Units-of-Production Depreciation
Double-Declining-Balance Depreciation
DDB Rate = (100%/Useful Life) × 2
= (100%/5 Years) × 2
= 40%
.40Initiallyignore
residual value
Double-Declining-Balance Depreciation
2007 Depreciation = Beginning Book Value × Rate
= $20,000 × 40%
= $8,000 Book Value at Book Value
atYear Rate Beginning of Year Depreciation End of Year
2007 40% $20,000 $8,000 $12,000
Double-Declining-Balance Depreciation
2008 Depreciation = Beginning Book Value × Rate
= $12,000 × 40%
= $4,800
Book Value at Book Value atYear Rate Beginning of Year Depreciation End of Year
2007 40% $20,000 $8,000 $12,000
2008 40 12,000 4,800 7,200
Double-Declining-Balance Depreciation
Book Value at Book Value at
Year Rate Beginning of Year Depreciation End of Year
2007 40% $20,000 $ 8,000 $12,0002008 40 12,000 4,800 7,200 2009 40 7,200 2,880 4,3202010 40 4,320 1,728 2,5922011 40 2,592 592 2,000
$18,000Final year’s depreciation = amount needed to equate book
value with salvage value= Residual
Value
Straight-Line vs. Double-Declining-Balance Depreciation
$0
$1,000
$2,000
$3,000
$4,000
$5,000
$6,000
$7,000
$8,000
Year 1 Year 2 Year 3 Year 4 Year 5
Straight-Line
Double-Declining-Balance
Reasons for Choosing the Straight-Line Method
Simplicity Reporting to stockholders Comparability Bonus plans
Reasons for Choosing Accelerated Methods
Result in better matching of revenue and expenses for some assets, particularly those becoming obsolete quickly.
Minimize taxable income (but companies usually use one method for tax purpose and another for financial reporting purpose.
Part III: Repair and maintenance – post acquisition expenditures Such expenditures are charged to the period
incurred (referred to as revenue expenditure) unless they significant benefit future periods (referred to as capital expenditure).
Revenue expenditures Recorded as an expense when incurred:
Dr. repair/maintenance expense 100 Cr. Cash
100
Capital expenditures Such expenditures benefit future periods
Improve efficiency/productivity Extend useful life
They are added to the cost of the assets and depreciated over the remaining life of the assets
Dr. Plant asset/Accu. Depreciation 5,000
Cr. Cash 5,000
Capital vs. Revenue Expenditures
Category Example Asset or ExpenseNormal maintenance Repainting Expense
Minor repair Replace spark plugs Expense
Major repair Replace a vehicle’s
engine Asset*
Addition Add a wing to a
building Asset
*if life or productivity is enhanced
4. Disposal of Property, Plant, and Equipment
Record depreciation up to date of disposal Compute gain or loss on disposal
Selling Price > Book Value = Gain Selling Price < Book Value = Loss
LO8
Disposal of Property, Plant, and Equipment
Sell machine (cost $20,000; accumulated depreciation $9,000) for $12,400
Asset cost $20,000Less: Accumulated depreciation 9,000Book value $11,000Sale price 12,400
Gain on sale of asset $ 1,400
Example:
Part II: Natural Resources (FYI) Acquisition of natural resources is recorded at
cost When the natural resources are extracted, a
depletion expense is recorded
(in millions)
Weyerhauser CompanyPartial Balance Sheet
Property and equipment, net 11,843Construction in progress 269Investments in and advances to equity affiliates 489Goodwill 3,244
2004
Timber and timberlands at cost, less depletion charged to disposals 4,212
Natural Resources
Natural Resources
When a natural resource is used or consumed, it should be treated as an expense
Recording the expense is referred to as depletion
Depletion method is similar to the units-of-production method
Part III: Intangible Assets
Patents
Intangible Assets
Legal rights/privileges Long-term in nature Used in operation No physical properties
Goodwill
Trademarks
Copyrights
LO9
Acquisition of Intangible Assets
Acquisition of intangible assets is recorded at costExternally acquired: recorded at cost Internally developed
Only legal fees/registration fees are recorded as cost R&D costs are expensed when incurred
Amortization of Intangibles
Normally recorded using the straight-line method
Reported net of accumulated amortization Amortized over the legal or useful life,
whichever is shorter
LO10
Amortization of Intangibles
Nike developed a patent for $10,000. The patent’s legal life is 20 years, but its anticipated useful life is 5 years.
Example:
Amortization of Intangibles
Nike’s annual amortization:
Patent approval costs $10,000
Divided by:
Lesser of legal or useful life 5 years
Annual amortization $ 2,000
Journal entry:
Patent Amortization Expense 2,000
Accumulated Amortization—Patent 2,000To record amortization of patent for one year.