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    9 Property, Plant and Equipment 9 Property, Plant and Equipment Presentation Transcript

    • Chapter 9: Accounting for Property, Plant, and Equipment Fundamentals of Intermediate Accounting Weygandt, Kieso and Warfield Prepared by Bonnie Harrison, College of Southern Maryland LaPlata, Maryland
    • Chapter 9 Accounting for Property, Plant and Equipment
      • After studying this chapter, you should be able to:
      • Describe property, plant and equipment and costs included in its initial valuation,
      • Describe the accounting problems associated with self-constructed assets.
      • Understand accounting issues related to acquiring and valuing plant assets.
      • Describe the accounting treatment for costs subsequent to acquisition.
      1 2 3 4
    • Chapter 9 Accounting for Property Plant and Equipment
      • After studying this chapter, you should be able to :
      • Explain the concept of depreciation.
      • Identify the factors involved in the depreciation process.
      • Compare activity, straight line, and decreasing charge methods of depreciation.
      • Describe the accounting treatment for the disposal of property, plant and equipment.
      • Explain how property, plant and equipment are reported and analyzed.
      5 6 7 8 9
    • Property, Plant, and Equipment (PP&E)
      • Includes land, building, structures and equipment
      • They are not held for resale
      • They are long term and are subject to depreciation (except land)
      • They are tangible
    • Acquisition Cost
      • Historical cost is the basis for determining cost.
      • Historical cost includes:
        • the asset’s cash or cash equivalent price, and
        • the cost of readying the asset for use
      • Costs incurred after acquisition are:
        • added to asset’s cost, if they provide future service potential,
        • - or -
        • expensed, if they do not add to service potential
    • Cost of Land, Building, and Equipment
      • Land costs include:
        • purchase price
        • closing costs, attorney fees, and recording fees
        • costs of getting land ready for use (clearing etc)
        • special assessments for local improvements
        • assumption of liens or encumbrances, and
        • additional improvements with an indefinite life
      • Sale of salvaged materials reduces cost
    • Land Improvements, Building, and Plant
      • Improvements with limited lives are recorded as Land Improvements (and not as Land)
      • Building cost includes:
        • costs of materials and labor, and overhead
        • professional fees and building permits
      • Cost of equipment includes:
        • purchase price
        • freight and handling charges
        • insurance on equipment while in transit
        • costs of special foundation, and trial runs
        • assembling, installation, and trial run costs
    • Self-Constructed Assets
      • These are assets constructed by the business for use in operations
      • The cost of self-constructed assets includes:
        • cost of direct materials,
        • cost of direct labor,
        • variable manufacturing overhead,
        • a pro rata portion of the fixed overhead,
          • - and -
        • actual interest costs incurred during construction (with modification)
    • Interest Capitalization: Rationale
      • When under construction :
        • asset does not produce revenue, so capitalize interest cost
      • When construction is complete :
        • asset produces revenue, so expense interest cost
    • Valuation Issues
      • A cash discount , whether taken or not, reduces purchase price of asset. (This is the preferred approach)
      • Cost of assets, acquired in a basket purchase, are allocated on the basis of their relative fair market values
    • Issuance of Stock for Assets
      • If stock is traded:
        • basis for recording is the market value of the stock issued.
      • If the market value of stock is not determinable:
        • basis for recording is market value of asset.
    • Contributions
      • Contributions received:
        • Recognized in period received as revenue
        • Recorded at fair value of assets received
      • Contributions given:
        • Recognized as expense in period donated
        • Recorded at fair value of asset donated
        • Difference between fair value and book value recorded as gain or loss.
    • Costs subsequent to Acquisition
      • If costs incurred increase future benefits, capitalize costs
      • If costs maintain a given level of services, expense costs
      • Costs incurred after acquisition can be:
        • additions
        • improvements and replacements
        • rearrangements and reinstallation
        • repairs
    • Improvements and Replacements Capitalize costs, if Improvements Replacements or They increase future service potential Substitution of a better asset for present asset Substitution of a similar asset for present asset
    • Capitalization Approaches
      • Carrying value of asset is known
      • Carrying value of the asset is unknown
      • Substitution approach
      • Capitalize the new asset (without removing the old asset from the pool), OR
      • Debit accumulated depreciation (when expenditures extend useful life of asset)
    • Depreciation - Concept
      • Depreciation is a means of cost allocation .
      • It is not a method of valuation.
      • Depreciation involves:
        • allocating the cost of tangible assets to an expense in a systematic and rational manner to periods expected to benefit from use of assets
    • Factors in the Depreciation Process
      • Questions to be answered :
        • What is the depreciable base of the asset?
        • What is the asset’s useful life?
        • What method of cost apportionment is best for the asset in question?
    • Depreciable Base
      • Depreciable base is the amount subject to depreciation.
      • It is determined by taking:
        • Original cost of the asset less
        • Estimated salvage or disposal value
    • Estimated Service Lives
      • An asset’s service life and physical life are not the same.
      • Assets are retired (from productive life) due to:
        • physical factors (such as casualty), or
        • economic factors (such as obsolescence)
      • Economic factors in turn include
        • Inadequacy (asset can not meet current demand)
        • Supercession (by a better asset)
        • Obsolescence (other factors)
    • Depreciation Methods
      • Depreciation methods can be classified as follows:
        • Tax depreciation methods
        • Financial accounting depreciation methods
      • Financial accounting methods are:
        • activity method
        • straight-line method
        • accelerated method
    • Depreciation Methods: Overview Depreciation Methods Financial Accounting Depreciation Methods Tax Depreciation Activity method Straight-line method Accelerated methods 1. Declining Balance 2. Sum-of-the-years’ digits
    • Depreciation Methods: Example
      • Amber Corporation buys a truck on January 1, 2003. Information relating to the truck is as follows:
      • Cost, $34,000
      • Estimated service life, 5 years (or 60,000 miles)
      • Salvage value end of five years or use, $4,000
      • Actual miles driven :
        • 20,000 miles (in 2003); 15,000 miles (in 2004)
    • Straight-line method 1. Depreciable base = $34,000 less $4,000 = $30,000 2. Annual depreciation = $30,000 / 5 years = $6,000 3. Depreciation Schedule : (years 1 and 2) Year Book Depreciation Accumulated Book value** (beg) Depreciation end of year 1 $34,000 $6,000 $6,000 $28,000 2 $28,000 $6,000 $12,000 $22,000 ** Book Value = Cost - Accumulated Depreciation
    • Activity method (unit = mile) 1. Depreciable base = $34,000 less $4,000 = $30,000 2. Depreciation per mile = $30,000 / 60,000 = $0.50 4. Depreciation Schedule : ( years 1 and 2 ) Year Book Depreciation Accumulated Book value (beg) Depreciation end of year 1 $34,000 $10,000 $10,000 $24,000 2 $24,000 $ 7,500 $17,500 $16,500 3. Depreciation (2003) = $0.50 * 20,000 miles = $10,000 Depreciation (2004) = $0.50 * 15,000 miles = $ 7,500
    • Sum-of-the-years’-digits (SYD) method 1. Depreciable base = $34,000 less $4,000 = $30,000 2. SYD fraction = (1+2+3+4+5) = 15 3. Depreciation (2003) = $30,000 * (5/15) = $10,000 Depreciation (2004) = $30,000 * (4/15) = $ 8,000 Depreciation (2005) = $30,000 * (3/15) = $ 6,000 Depreciation (2006) = $30,000 * (2/15) = $ 4,000 Depreciation (2007) = $30,000 * (1/15) = $ 2,000 Decreasing Fractions
    • Sum-of-the-years’-digits (SYD) method 4. Depreciation Schedule Year Book Depreciation Accumulated Book value (beg) Depreciation end of year 1 $34,000 $10,000 $10,000 $24,000 2 $24,000 $ 8,000 $18,000 $16,000 3 $16,000 $ 6,000 $ 24,000 $10,000 4 $10,000 $ 4,000 $ 28,000 $ 6,000 5 $ 6,000 $ 2,000 $ 30,000 $ 4,000
    • Double Declining balance method 1. Rate of depreciation = 2 * (1/5) = 0.40 2. Depreciation (2003) = $34,000 * 0.40 = $ 13,600 Depreciation (2004) = $20,400 * 0.40 = $ 8,160 Depreciation (2005) = $12,240 * 0.40 = $ 4,896 Depreciation (2006) = $ 7,344 * 0.40 = $ 2,938 Depreciation (2007) = ($ 34,000–$4000) – 29,594 = $406 Total depreciation taken = $ 30,000
    • Double declining balance method 3. Depreciation Schedule Year Book Depreciation Accumulated Book value (beg) Depreciation end of year 1 $34,000 $13,600 $13,600 $20,400 2 $20,400 $ 8,160 $21,760 $12,240 3 $12,240 $ 4,896 $ 26,656 $ 7,344 4 $ 7,344 $ 2938 $ 30,000 $ 4,406 5 $ 4,000 $ 406 $ 30,000 $ 4,000
    • Partial year depreciation
      • When an asset is bought sometime during the year, a partial depreciation charge is required.
      • The procedure is :
        • Determine depreciation for a full year, and
        • allocate the amount between the two periods affected (see example ==> )
    • Partial year depreciation : Example
      • Amber Corporation buys a truck on July 1, 2003. Information relating to the truck is as follows:
        • Cost, $10,000
        • Estimated service life, 5 years
        • Salvage value end of five years, none.
      • Determine depreciation expense under the double declining balance method.
    • Partial year depreciation : Example
      • Determine depreciation as follows :
      • First year (2003) ==> $10,000 X 40% = $4,000 X 6/12 = $2,000
      • Second full year (2004) ==> ($10,000 - $2,000) X 40% = $3,200
      • And so on for the remaining years
    • Revision of Depreciation Estimates
      • Determination of depreciation involves initial estimates (life, salvage value.)
      • When these estimates are revised, we re-compute depreciation.
      • These revised depreciation expenses apply prospectively to the remaining life of asset.
      • These changes do not affect prior periods.
    • Revision of Depreciation Estimates: Example
      • Amber Corporation buys a depreciable asset on January 1, 2003 for $95,000.
      • Estimated life was 20 years.
      • Estimated salvage value was $5,000.
      • On January 1, 2009, estimates were revised as follows:
        • salvage value, $2,000
        • estimated life : 24 years (years 2003 through 2032)
      • Determine depreciation for 2009 based on straight line method of depreciation.
    • Revision of Depreciation Estimates: Example
      • Accumulated depreciation to date of revision of estimates :
        • ($95,000 - $5,000) / 20 years = $4,500 dep
        • $4,500 * 6 years = $27,000 accumulated depr.
      • Amount to be depreciated (years 2009 through 2032 = 18 years)
        • ($95,000 - $27,000 - $2,000) / 18 years
        • = $3,667 (rounded) annual depreciation
    • Dispositions of PP&E
      • Plant assets may be:
        • retired voluntarily, or
        • disposed of by sale, exchange, involuntary conversion
      • Depreciation is recorded up to the date of disposal before determining gain or loss
    • Accounting for Exchanges Types of Accounting Rationale Exchange Guidance Dissimilar Recognize gain Earnings process assets and losses is complete Similar Recognize loss; Earnings process assets (cash Gain up to boot is partially received) (partial gain) complete Similar Recognize loss; Earnings process assets (No Defer gain is not complete cash received)
    • Dissimilar Assets
      • Amber Company exchanges a number of trucks for land from Becktel Company.
      • Fair value of trucks: $ 49,000.
      • Book value of trucks: $ 42,000 (Cost, $64,000; Accu. Depr, $ 22,000)
      • Cash paid to Becktel: $ 17,000
      • Record the purchase in Amber’s books .
    • Dissimilar Assets Amber Becktel Amber recognizes gain= FMV less Book value = $7,000 Land, FMV= $66,000 Cash, $17,000 plus Trucks, FMV= $49,000
    • Dissimilar Assets
      • Land Dr. $ 66,000
      • Accu. Dep (Trucks) Dr. $ 22,000
      • Trucks $ 64,000
      • Cash $ 17,000
      • Gain on disposal $ 7,000
    • Similar Assets (loss)
      • Amber Company exchanges a used machine for a similar machine from Becktel Company.
      • Fair value of used machine: $ 6,000.
      • Book value of used machine: $ 8,000 (Cost, $12,000; Accu. Depr, $ 4,000)
      • Cash paid to Becktel: $ 7,000
      • Record the purchase in Amber’s books .
    • Similar Assets (Loss) Amber recognizes loss ==> Book value less FMV = $2,000 Cash, $ 7,000 plus used machine, FMV= $ 6,000 Amber Becktel New machine, FMV= $13,000
    • Similar Assets (Loss)
      • New Machine Dr. $ 13,000
      • Accu. Dep (Old) Dr. $ 4,000
      • Loss on disposal Dr. $ 2,000
      • Machine (old) $ 12,000
      • Cash $ 7,000
    • Similar Assets (Deferred gain)
      • Davis Company exchanges Ford cars for GM cars from Nertz Company .
      • Fair value of Ford cars: $ 160,000.
      • Book value of Ford cars: $ 135,000 (Cost, $150,000; Accu. Depr, $ 15,000)
      • Cash paid to Nertz: $ 10,000
      • Fair value of GM cars: ($160,000 + $ 10,000) $ 170,000
      • Record the purchase in Davis’ books .
    • Similar Assets (Deferred Gain) Davis defers gain ==> FMV less book value = $25,000 Cash, $ 10,000 plus Ford cars, FMV= $ 160,000 Davis Nertz GM cars, FMV= $170,000
    • Similar Assets (Deferred Gain)
      • GM cars Dr. $ 145,000 (see below)
      • Accu. Dep (Ford) Dr. $ 15,000
      • Ford cars (old) $ 150,000
      • Cash $ 10,000
      • Fair value of GM cars $170,000 Gain deferred ($ 25,000)
      • GM cars (basis) $145,000
    • Similar Assets (Partial gain)
      • Davis Company exchanges Ford cars for GM cars from Nertz Company .
      • Fair value of Ford cars: $ 160,000.
      • Cash paid to Nertz: $ 10,000
      • Fair value of GM cars: ($160,000 + $ 10,000) $ 170,000
      • Book value of GM cars: $ 136,000 (Cost, $200,000; Accu. Depr, $ 64,000)
      • Record the purchase in Nertz’s books .
    • Similar Assets (Partial Gain) Nertz: Gain realized : FMV less book value = $34,000 Cash, $ 10,000 plus Ford cars, FMV= $ 160,000 Davis Nertz GM cars, FMV= $170,000
    • Similar Assets (Partial gain)
      • Since Nertz receives cash (boot) as part of the exchange, Nertz recognizes partial gain as follows:
      • FMV less Book value = Realized gain $170,000 less $136,000 = $ 34,000
      • Recognized gain: (next slide)
    • Similar Assets (Partial gain)
      • Nertz recognizes partial gain as follows :
      • ( boot / total consideration) * Realized gain
      • ($10,000 / $ 170,000) * $34,000
      • = $ 2,000 .
      • Total gain less gain recognized = deferred gain $34,000 less $2,000 = $32,000
    • Nertz Company (Partial Gain)
      • Ford cars Dr. $ 128,000 (see below)
      • Accu. Dep (GM) Dr. $ 64,000
      • Cash Dr. $ 10,000
      • GM cars (old) $ 200,000
        • Gain on disposal $ 2,000
      • Fair value of Ford cars $160,000
      • Gain deferred ($ 32,000)
      • Ford cars (basis) $128,000
    • Copyright © 2003 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that named in Section 117 of the 1976 United States Copyright Act without the express written consent of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein. Copyright