Chapter 09 - Plant and Intangible Assets

9PLANT AND INTANGIBLE ASSETS

Chapter Summary
The material on plant assets is organized into sections for tangible assets, intangible assets, and natural resources. For all three categories of plant assets the chapter focuses on three accountable e ents! "#$ ac%uisition, "&$ allocation of the ac%uisition cost to e'pense o er the asset(s lifetime, and ")$ sale or disposal. In determining the cost of a plant asset, careful attention is paid to distinguishing bet*een capital and re enue e'penditures. +pecial considerations surrounding the ac%uisition of land, e'isting structures, and land impro ements are briefl, discussed, as is the allocation of lump-sum purchases. A considerable amount of attention is paid to depreciation. -efore discussing arious methods of calculating periodic depreciation, a conceptual introduction e'plains that depreciation is simpl, the process of allocating a recorded cost and does not represent an accounting effort to establish the mar.et alue of a plant asset. At this point in the course, the student is alread, a*are of the calculation of straight-line depreciation and the ad/usting entr, to record the e'pense. Accounting for residual alues and dealing *ith fractional periods completes the discussion from prior chapters. Accelerated depreciation is introduced using the declining balance method for illustration. Accounting for the disposal of plant assets re%uires a /ournal entr, to remo e both the original recorded cost of the asset and the accumulated depreciation. The chapter deals *ith sales for cash, tradeins, and scrapping *orthless e%uipment. The calculation of gain or loss is illustrated onl, for financial statement purposes. Trade-in transactions are treated onl, briefl, at an introductor, le el. A *ide ariet, of intangible assets including trademar.s, patents, cop,rights, and franchises is discussed, but onl, good*ill is treated in detail. The difficult, of ob/ecti el, estimating good*ill is e'plained as the reason that this asset is onl, recorded *hen purchased. The brief discussion of natural resources parallels that for e%uipment. 0e emphasize that depletion is first recorded as in entor, and charged to e'pense as the material is sold.

Learning Objectives
1. 1eter mi n e the cost of plant ass e t s . 2. 1istinguis h bet* e e n ca pi t a l ex p e n d i t u r e s and re v e n u e e x p e n d i t u r e s . 3. Compu t e depr e ci a tion b, the s t r a i g h t - lin e and d e c li ni n g - bal a n c e me t h o d s . 4. Account for depr e ci a tion using me t h o d s other tha n straight- line or declining- balanc e . 5. 6. 7. 8. Account for the dispos al of plant ass e t s . 2'plain the nat ur e of inta ngibl e ass e t s , including good*ill. Account for the deple tion of nat ur al resourc e . 2'plain the cas h effects of trans a c tion s in ol ing plant ass e t s .

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Chapter 09 - Plant and Intangible Assets

Brief topical outline

A Plant ass e t s as a 3stre a m of future ser ice s3 B 4a/or cate g o ri e s of plant ass e t s 1 Tangible plant ass e t s 2 Intan gible ass e t s 3 5atur al reso urc e s C Acccount a bl e e e n t s in the li es of plant ass e t s D Ac%uisition of plant assets 1 1etermining cost! an e'ample 2 +ome special considerations a 6and b 6and impro ements c -uildings d 2%uipment e Allocation of a lump-sum purchase - see Your Turn "page 388$ 3 Capital e'penditures and re enue e'penditures E 1epreciation 1 Allocating the cost of plant and e%uipment o er the ,ears of use a 1epreciation is not a process of aluation b -oo. alue b. Causes of depreciation a Ph,sical deterioration b 7bsolescence 3 4ethods of computing depreciation a The straight-line method 1 1epreciation for fractional periods b The declining-balance method 1 1ouble-declining-balance 2 #809 declining-balance 4 0hich depr e ci a tio n met h o d s do mos t busin e s s e s use: a The difference in depreciation methods! are the, ;real<: 5 Financial statement disclosures a 2stimates of useful life and residual alue b The principle of consistenc, c =e ision of estimated useful li es 6 The impairment of plant assets - see Case in Point "page 397$ 7 7ther depreciation methods a The units-of-output method b 4AC=+ c +um-of-the-,ears-digits d 1ecelerated depreciation methods e 1epreciation methods in use! a sur e,

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Chapter 09 - Plant and Intangible Assets

F 1isposal of plant and e%uipment 1 >ains and losses on disposals of plant and e%uipment a 1isposal at a price abo e boo. alue b 1isposal at a price belo* boo. alue 2 Trading in used assets for ne* ones 3 International Financial =eporting +tandards G Intangible assets 1 Characteristics 2 7perating e'penses ersus intangible assets 3 Amortization 4 >ood*ill a 2stimating good*ill b =ecording good*ill in the accounts- see Case in Point "page 404$ 5 Patents 6 Trademar.s and trade names 7 Franchises 8 Cop,rights 9 7ther intangibles and deferred charges 10 =esearch and de elopment "= ? 1$ costs H Financial anal,sis and decision ma.ing @ see Your Turn "page 406$ I 5atural resources 1 Accounting for natural resources a 1epreciation of buildings and e%uipment closel, related to natural resources 2 1epreciation, amortization, and depletion--a common goal J Plant transactions and the statement of cash flo*s 1 5oncash in esting acti ities @ see Ethics, Fraud & Corporate Governance "page 408$ K Concluding remar.s

Topical coverage and suggested assignment

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Chapter 09 - Plant and Intangible Assets

Comments and observations

(eac.#%$ ob5ec&#1e" 3o C.a)&e 9 This chapter co ers accounting for plant assets, including ac%uisition, depreciation, and disposal. Also included in the chapter are accounting for intangible assets and brief co erage of natural resources. 7ur ob/ecti es in presenting this material are to! 1 1escribe plant assets as a 3stream of ser ices3 to be recei ed b, the business entit,. 2 1istinguish bet*een capital e'penditures and re enue e'penditures. 3 2'plain and illustrate depreciation as a techni%ue for allocating costs. 4 2'plain and illustrate the mechanics of the depreciation methods discussed in the chapter. 5 2'plain and illustrate accounting for disposals of plant assets. 6 2'plain the nature of intangible assets. 7 1iscuss techni%ues for estimating the alue of the good*ill possessed b, a successful business. 8 2'plain and illustrate depletionG relate depreciation, amortization, and depletion to the matching principle.

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Chapter 09 - Plant and Intangible Assets

General comments
+ome students ha e difficult, in identif,ing the t,pes of e'penditures included in the cost of an asset, and in distinguishing bet*een capital e'penditures and re enue e'penditures. 0e recommend an in-class re ie* of 1iscussion Huestions 5 and 6 and of 2'ercise 2 to clarif, these points. The most important topic in this chapter is depreciation. Perhaps the greatest challenge in e'plaining depreciation is to dispel the idea that depreciation represents a decline in mar.et alue. +tudents are familiar *ith the term depreciation as it relates to the mar.et alue of an automobile. 1iscussion Huestion 9 and the diagram on page 389 are both designed to stress the idea that depreciation is a cost allocation process, not a aluation process. 0e recommend discussing in class the e'tent to *hich depreciation is based upon /udgments "estimates$, and the roles of management and auditors in ma.ing and e aluating these /udgments. The one form of depreciation calculation that re%uires no /udgment or estimates is that re%uired for income ta' purposes under 4AC=+. 0e stress that different depreciation methods are t,picall, used for financial reporting purposes and for income ta' purposes. 2'ercise 5 and Case 3 emphasize these points. Problem 3 is a comprehensi e re ie* of the differences among depreciation methods. In discussing intangible assets, *e place greater emphasis upon the limitations of financial reporting than upon simple mechanics such as amortization o er B0 ,ears. Informed users of financial statements should recognize that a business ma, ha e intangible assets of immense economic alue *hich do not e en appear on the balance sheet, either because the, *ere de eloped internall, or because the, ha e long since been amortized. 2'amples include the Coca-Cola trademar. and the brand names 3Eleene'3 and 3+cotch Tape.3 7n the other hand, the presence of an intangible on the balance sheet merel, means that a cost *as incurred, not that an asset necessaril, e'ists. This is especiall, true of good*ill, an 3asset3 for *hich man, companies greatl, o erpaid in the #9F0s *a e of corporate ta.eo ers. Ca0&#o%6 In discussing such issues as differences bet*een recorded alues and economic alues, *e consider it important not to do*npla, the rele ance and usefulness of financial statements. Actuall,, financial statements and the related disclosures pro ide an informed reader *ith man, clues as to resources that ma, ha e economic alues significantl, different from the recorded amounts. 4an, accounting numbers should not be ta.en at face alueG the informed decision ma.ers should loo. to the accounting policies and facts that underlie the numbers. 0e ie* accounting for natural resources and depletion as optional topics in the introductor, accounting course. -asicall,, these topics consist of appl,ing units-of-output depreciation *ithin a specific industr, setting. If the topic is discussed in class, *e *ould stress the difficult, in estimating the original %uantit, of the natural resource at the site. These estimates are made b, professional geologists and other specialists *ith e'pertise in fields other than accounting.

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Chapter 09 - Plant and Intangible Assets

Supplemental Exercises Business Week Exercise

In ;Do* 4uch Is the >ood*ill 0orth:<, Business Week, +eptember #A, &00&, the author suggests that corporate America *ill slash at least I800 billion in shareholder e%uit, from its collecti e balance sheet and discusses ho* companies account for an asset called good*ill. =esearch the recent changes in ho* J+ accountants deal *ith good*ill to see ho* these changes affect the income statement and the balance sheet.

Group Exercise
Access the Internal =e enue *ebsite http!KK***.irs.go and search for 4AC=+ Tables. Choose one column from the 4AC=+ table for 8-,ear propert, using the half-,ear con ention. Prepare a presentation for the class demonstrating ho* the percentage allo*ances for depreciation in this table *ere determined.

nternet Exercise
7btain 2''on 4obil(s mos t rece n t annu al report from the comp a n , *ebsit e http!KK***. e '' o n m o bil.co m . =ese a r c h the footno t e s , bala nc e she e t , and inco m e stat e m e n t and describ e the inform a tio n ,ou find reg a r din g deple tio n.

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Chapter 09 - Plant and Intangible Assets

CHA+(E7 9 8A-E 10: -I8;(E 2;I< A =EC(I/8

Indicate the best ans*er for each %uestion in the space pro ided. Us e th e follo w i n g da t a for qu e s t i o n s 1 an d 2 7n 4arch #& , &00F, +horeh a m, Inc. ac%uired melting e%uipme n t for IB8,A00. The estima t e d life of the e%uip me n t is A ,ears, *ith an estima t e d residual alue of I&,B00. 1 !ef e r to ab o v e da t a In its financial stat e m e n t s , +horeh a m uses straightline depreciation *ith the half- ,ear con ention. The boo. alue of the e%uip me n t at 1ece mb e r )#, &009, *ill be! a I&A,A00. b IB&,000. c I)B,F00. d +ome other amount. !ef e r to ab o v e declining- balanc e the e%uipme n t at a I&0,&AC. b da t a In its financial stat e m e n t s , +horeh a m uses doubledepreciation *ith half- ,ear con ention. The boo. alue of 1ece mb e r )#, &009, *ill be! I#&,AAC. c I&8,))). d +ome other amount.

+a, ille 1air, sold a deli er, truc. for cash of IF,AF0. The original cost of the truc. *as I)),A00, and a loss of I8,)&0 *as recognize d on the sale. The accu mul at e d depreciation at the date of sale must ha e been! a I&B,9&0. b I#B,8A0. c I),)A0. d I#9,A00. Cage Corporation purcha s e s Presle, Compa n,(s entire busines s for I&,C00,000. The fair mar.e t alue of Presle,(s net identifiable asse t s is I&,B00,000 . a Presle, should record good*ill of I)00,000. b Cage paid I)00,000 for good*ill gener a t e d b, Presle,. c Cage should charge the I)00,000 e'cess paid for Presle, Compa n , directl, to e'pens e . d Presle, should record amortization o er a period not to e'ce e d B0 ,ears. Throughout the current ,ear, Cal erton Compa n, treat e d sales ta'es paid on purcha s e s of plant asse t s as re enu e e'pe nditur e s. As a result, the current ,ear(s! a 5et income is o erst a t e d. b =e enu e is o erst a t e d. c 1epreciation e'pe ns e is unders t a t e d . d 5one of the abo eG pa,me n t s of sales ta'es should be treat e d as re enu e e'pe nditur e s .

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Chapter 09 - Plant and Intangible Assets

CHA+(E7 9 10: -I8;(E 2;I< B

8A-E =EC(I/8

Indicate the best ans*er for each %uestion in the space pro ided. Us e th e follo w i n g da t a for th e four ind e p e n d e n t qu e s t i o n s whi c h follo w " 7n 4a, 8 , &009, 6lo,d purcha s e d a machine for IFB,000. The estima t e d life of the mac hine *as #0 ,ears, *ith an estima t e d residual alue of I#0,000. The ser ice life in ter ms of ;output< is estima t e d at F,000 hours of operation. 1 !ef e r to th e ab o v e da t a Assume 6lo,d uses straight- line depreciation *ith the half- ,ear con ention. 1epreciation e'pe ns e to be recognize d in 20 0 9 "the ,ear of purcha s e$ is! a IC,B00. b IF,B00. c I),C00. d +ome other amount. !ef e r to th e da t a ab o v e Assume 6lo,d uses &009- declining- balanc e depreciation *ith the half- ,ear con ention. 1epreciation e'pens e to be recognize d in 20 1 0 "the second ,ear of o*nership$ is! a IF,B00. b I#),#&0. c I#8,#&0. d +ome other amount. !ef e r to th e da t a ab o v e Assume 6lo,d uses 15 # $ -declining- balanc e depreciation *ith the half- ,ear con ention. 1epreciation e'pens e to be recognize d in &009 "the ,ear of purcha s e $ is! a IF,B00. b IA,)00. c I#&,A00. d +ome other amount. !ef e r to th e da t a ab o v e Assume 6lo,d uses the units- of-output met hod and that the machine *as in operation for #,000 hours in &009 and #,F00 hours in &0#0. The bo o % val u e of the machine at 1ece mb e r )#, &0#0 is! a IBF,#00. b I8F,#00. c I&8,900. d +ome other amount .

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Chapter 09 - Plant and Intangible Assets

CHA+(E7 9 10: -I8;(E 2;I< C

8A-E =EC(I/8

7n April F , &0#0, 1rea ml a nd Par. purcha s e d a ferris *heel for I)00,000. The estima t e d life of the ferris *heel *as #0 ,ears, *ith an estima t e d residual alue of IA0,000. The ser ice life in ter ms of output is estima t e d at )0,000 hours of operation. Comput e the depreciation on this ferris *heel in &0#0 and &0## using the follo*ing methods . 20 1 0 a +traight- line "*ith half- ,ear con ention$ ILLLLLLLL 20 1 1 ILLLLLLLL

&009- declining- balanc e "*ith half- ,ear con ention$ ILLLLLLLL

ILLLLLLLL

#809- declining- balanc e "*ith half- ,ear con ention$ ILLLLLLLL

ILLLLLLLL

Jnits- of-output method "hours of operation! "&,A00 in &0#0 and A,000 in &0##$

ILLLLLLLL

ILLLLLLLL

+traight- line "*ith depreciation calculate d to the near e s t *hole mont h$

ILLLLLLLL

ILLLLLLLL

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Chapter 09 - Plant and Intangible Assets

CHA+(E7 9 10: -I8;(E 2;I< D

8A-E =EC(I/8

6ouis ille Farms, a bree d e r of racehors e s , paid IB)&,000 cash for a prize- *inning stallion on Manuar, #, &00). The stallion is depreciat e d on a straight- line basis, *ith depreciation for partial ,ears rounde d to the neare s t month. 2stima t e d useful life *as nine ,ears, *ith no residual alue. After o*ning the animal for si' ,ears and fi e mont hs, 6ouis ille Farms sold the stallion on 4a, )#, &009, for cash of IF8,000. 1epreciation had last been recorde d on 1ece mb e r )#, &00F. a Comput e to the near e s t full month depreciation for the fractional period from Manuar, #, &009 to 4a, )# of &009. ILLLLLLLLLLLLLL b c d Comput e the boo. ILLLLLLLLLLLLLL alue of the stallion at 4a, )#, &009, the date of sale.

Comput e the gain or loss on the sale of the stallion. ILLLLLLLLLLLLLL "gainKloss$ In the spac e pro ided belo*, prepar e the /ournal entr, to record the sale of the stallion on 4a, )#, &009. "Jse -reeding +toc. as the title of the ass et account. Assume that depreciation to date of sale alrea d, has been recorde d.$ 20 0 9 4a, )# Ge% e a* Jo0 %a*

Com) 0 & a & # o % "

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Chapter 09 - Plant and Intangible Assets

=/>;(I/8= (/ CHA+(E7 9 2;I< A 1 2 3 4 5 C C 1 C 2;I< B 1 2 3 4 C C -

10: -I8;(E 2;I<<E=

2;I< C ?ea a +traight- line ?ea 16 N"I)00,000 - IA0,000$ ' #K#0 ' #K&O ?ea 26 "I&B0,000 ' #K#0$ &009- declining- balanc e I8B,000 ?ea 16 "I)00,000 ' &09 ' #K&$ ?ea 26 N"I)00,000 - I)0,000$ ' &09O #809- declining- balanc e IB#,A&8 ?ea 16 "I)00,000 ' #89 ' #K&$ ?ea 26 N"I)00,000 - I&&,800$ ' #89O Jnits- of-output I &0,F00 ?ea 16 N"I)00,000 - IA0,000$ ' &,A00K)0,00 0O ?ea 26 N"I)00,000 - IA0,000$ ' A,000K)0,00 0O +traight- line I #F,000 ?ea 16 N"I)00,000 - IA0,000$ ' #K#0 ' 9K#&O ?ea 26 "I)00,000 - IA0,000$ ' #K#0 I #&,000 1 ?ea I&B,000 2

I)0,000

I &&,800

IBF,000

I &B,000

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Chapter 09 - Plant and Intangible Assets

2;I< D a b c ?ea I&0,000 I#&B,000 I)9,000 loss 20 0 9 Cash Accumul at e d 1epreciation, -reeding +toc. -reeding +toc. To record sale of stallion at price belo* boo. alue. Ge% e a* Jo0 %a* 6oss on +ale of -reeding +toc. )9,000 F8,000 )0F,000 B)&,000

4a, )#

Com) 0 & a & # o % " a 1epreciation for the fi e mont hs ende d 4a, )#, &009 N"IB)&, 000 cost 9 ,ears$ ' 8K#&O ................................ -oo. I &0,000

alue of the stallion at 4a, )#, &009 7riginal cost ................................................................ IB)&,000 1epreciation for A ,ears ",ear # through ,ear A$ "IB)&,00 0 9$ ' A ,ears ......................................... I&FF,000 1epreciation for 8 mont hs in ,ear C "see part a $ &0,000 Accumul at e d depr eciation to 4a, )#, &009 ..... ")0F,000$ -oo. alue of stallion at 4a, )#, &009 ..... I #&B,000 alue ...... I )9,000 loss

6oss on sale of the stallion! +ales price IF8,000 - I#&B,00 0 boo.

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Chapter 09 - Plant and Intangible Assets

Assignment Guide to Chapter 9

B #e 3 E4e c# " e " #- #0 (#me e " & # m a & e '#% m# % 0 & e " , D#33#c 0* & @ a&# % $ >ea %# % $ /b5e c & # 1 e " 6 1. De & e m # % e &. e co " & o3 )*a % & a" " e & " . 2. D#"&# % $ 0 # " . be & w e e % ca)# & a * e 4 ) e % d # & 0 e " a%d e1 e % 0 e e4) e % d# & 0 e " . 3. Com) 0 & e de ) e c # a & # o % b@ &. e "& a# $ . & : *#% e a% d de c *# %# % $ : ba* a % c e m e & . o d " . 4. Acc o 0 % & 3o de ) e c # a & # o % 0"# % $ m e & . o d " o& . e &.a % "& a# $ . & : *#% e o de c *# %# % $ : ba* a % c e . 5. Acc o 0 % & 3o &. e d#" ) o " a * o3 )*a% & a" " e & " . 6. E4)* a# % &. e %a& 0 e o3 #%& a % $ # b * e a" " e & " A #%c*0 d# % $ $ood w #**. 7. Acc o 0 % & 3o &. e de )* e & # o % o3 %a& 0 a * e " o 0 c e " . 8. E4)* a# % &. e ca " . e33 e c & " o3 & a% " a c & # o % " #%1 o* 1# % $ )*a% & a" " e & " . P#8 2 # E4e c# " e" #- #8 P#8 2 &, #0, #8 #, & #, ), B, 8, A, #8 #), #B C, 9 F, #0, #& ## 9, #& # B 0 4 + o b* e m " & B0 4 ) 80 + Q B ) 0 4 8 A 0 + A B 0 4 C B 0 4 F 8 0 + # & 8 4 Ca" e " & )0 4 Q ) ) 0 4 B ) 0 4 8e & 8 B0 4

# &, ), B, 8, A, C 8, #0 A, C F 9

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