CHAPTER 9 PROPERTY, PLANT, AND EQUIPMENT AND INTANGIBLE ASSETS

PROPERTY, PLANT, AND EQUIPMENT AND INTANGIBLE ASSETS 1. a. Property, plant, and equipment or Plant assets b. Current assets (inventory) 2. Real estate acquired as speculation should be listed in the statement of financial position under the caption Investments, below the Current Assets section. 3. $1,100,000 4. Capital expenditures include the cost of acquiring PP&E and the cost of improving an asset. These costs are recorded by increasing (debiting) a PP&E account. Capital expenditures also include the costs of extraordinary repairs, which are recorded by decreasing (debiting) the asset s accumulated depreciation account. Revenue expenditures are recorded as expenses and are costs that benefit only the current period and are incurred for normal maintenance and repairs of PP&E. 5. Capital expenditure 6. 12 years 7. a. No b. No DISCUSSION QUESTIONS 8. a. An accelerated depreciation method is most appropriate for situations in which the decline in productivity or earning power of the asset is proportionately greater in the early years of use than in later years, and the repairs tend to increase with the age of the asset. b. An accelerated depreciation method reduces income tax payable to the IRS in the earlier periods of an asset s life. Thus, cash is freed up in the earlier periods to be used for other business purposes. c. MACRS was enacted by the Tax Reform Act of 1986. It is used for depreciation for PP&E acquired after 1986. 9. a. No, the accumulated depreciation for an asset cannot exceed the cost of the asset. To do so would create a negative carrying amount, which is meaningless. b. The cost and accumulated depreciation should be removed from the accounts when the asset is no longer useful and is removed from service. Presumably, the asset will then be sold, traded in, or discarded. 10. a. Over the shorter of its legal life or years of usefulness. b. Expense as incurred. c. Goodwill should not be amortized, but written down when impaired. 9-1

Property, Plant, and Equipment and Intangible Assets 11. IAS 16 provides two models for PP&E valuation and depreciation the cost model and the revaluation model. Companies are permitted to choose between the depreciation methods. Under cost model, there are two methods for the calculation of depreciation expense composite depreciation and component depreciation. IFRS allows the application of the revaluation model as well as the cost model. The application of the revaluation model as well as the cost model. A revaluation increase is recognized in the statement of financial position as an adjustment to shareholders equity while a revaluation decrease is reported as an expense (an impairment loss) in the statement of comprehensive income. 12. PP&E $10,000 Revaluation Surplus PP&E $10,000 13. Loss on Revaluation $20,000 PP&E $20,000 14. There are two depreciation methods under the cost model depreciation component depreciation and composite deprecation. Component depreciation requires that any part of PP&E should be separately depreciated over its useful life if it is significant, can be separately identified, and has a significantly different estimated useful life. In addition, component depreciation is required for components of an asset with differing patterns of benefits. In contrast with component depreciation, composite depreciation is based on an average of the depreciable lives of each retirement unit included in the composite asset. Under IFRS the retired component is derecognized and gain or loss from derecognition is recognized in profit or loss. Under IFRS derecognition gains are not classified as revenue. Over the useful life of the PP&E, the total depreciation expenses are the same under both methods. However, the patterns are different. From the above example, the annual depreciation expense under the component method is a constant amount while the composite depreciation illustrates a high variation although the economic over years remain constant. Therefore, component depreciation is preferable to composite depreciation under IFRS. 15. To maintain a smooth, continuing operation for an item of PP&E (e.g, an aircraft), a company may perform regular major inspections (overhaul) for faults regardless of whether parts of the item are replaced. For this, IAS 16 (para. 14) stipulates that when a major inspection is performed, the company should recognize the cost of the inspection in the carrying amount of the item of property, plant and equipmen as a replacement if the recognition criteria are satisfied. Any remaining carrying amount of the cost of the previous inspection (as distinct from physical parts) should be derecognized regardless of whether the cost of the previous inspection was identified in the transaction acquiring or constructing the item. 16 When a company chooses to apply fair value to PP&E, IAS 16 requires the following conditions to be satisfied: (a) fair value can be measured reliably; (b) revaluation model has to be applied for an entire class of PP&E; (c) items within the same class of PP&E must be revalued simultaneously; (d) revaluations should be carried out regularly; and finally (e) the company must apply the accounting policy consistently. 9-2

Property, Plant, and Equipment and Intangible Assets EXERCISES Ex. 9 1 a. New printing press: 1, 2, 3, 5, 6 b. Used printing press: 7, 8, 9, 11 Ex. 9 2 a. Yes. All expenditures incurred for the purpose of making the land suitable for its intended use should be debited to the land account. b. No. Land is not depreciated. Ex. 9 4 Capital expenditures: 3, 4, 5, 6, 7, 9, 10 Revenue expenditures: 1, 2, 8 9-3

Property, Plant, and Equipment and Intangible Assets Ex. 9 4 Mar. 20 Accumulated Depreciation Delivery Truck 1,890 Cash 1,890 June 11 Delivery Truck 1,350 Cash 1,350 Nov. 30 Repairs and Maintenance Expense 55 Cash 55 Ex. 9 5 a. No. The $44,500,000 represents the original cost of the equipment. Its replacement cost, which may be more or less than $44,500,000, is not reported in the financial statements. b. No. The $29,800,000 is the accumulation of the past depreciation charges on the equipment. The recognition of depreciation expense has no relationship to the cash account or accumulation of cash funds. Ex. 9 6 (a) 25% (1/4), (b) 12.5% (1/8), (c) 10% (1/10), (d) 6.25% (1/16), (e) 4% (1/25), (f) 2.5% (1/40), (g) 2% (1/50) Ex. 9 7 $3,950 [($60,000 $12,600) 12] Ex. 9 8 $214,000 $30,000 50,000 hours = $3.68 depreciation per hour 175 hours at $3.68 = $644 depreciation for January 9-4

Property, Plant, and Equipment and Intangible Assets Ex. 9 9 a. Depreciation Rate per Mile: Truck #1 ($80,000 $15,000) 250,000 = $0.26 Truck #2 ($54,000 $6,000) 300,000 = $0.16 Truck #3 ($72,900 $10,900) 200,000 = $0.31 Truck #4 ($90,000 $22,800) 240,000 = $0.28 Truck No. 1 2 3 4 Rate per Mile $0.26 0.16 0.31 0.28 Miles Operated 21,000 33,500 8,000 22,500 Total Credit to Accumulated Depreciation $ 5,460 5,360 1,860 * 6,300 $18,980 * Mileage depreciation of $2,480 (31 cents 8,000) is limited to $1,860, which reduces the carrying amount of the truck to $10,900, its residual value. b. Depreciation Expense Trucks 18,980 Accumulated Depreciation Trucks 18,980 Truck depreciation. Ex. 9 10 a. b. First Year 5% of $90,000 = $4,500 or $90,000 20 = $4,500 10% of $90,000 = $9,000 Second Year 5% of $90,000 = $4,500 or $90,000 20 = $4,500 10% of ($90,000 $9,000) = $8,100 Ex. 9 11 a. 4% of ($240,000 $30,000) = $8,400 or [($240,000 $30,000)/25] b. Year 1: 8% of $240,000 = $19,200 Year 2: 8% of ($240,000 $19,200) = $17,664 9-5

Property, Plant, and Equipment and Intangible Assets Ex. 9 12 a. Year 1: 9/12 [($36,000 $6,000) 10] = $2,250 Year 2: ($36,000 $6,000) 10 = $3,000 b. Year 1: 9/12 20% of $36,000 = $5,400 Year 2: 20% of ($36,000 $5,400) = $6,120 Ex. 9 13 a. $17,250 [($780,000 $90,000) 40] b. $366,000 [$780,000 ($17,250 24 yrs.)] c. $29,600 [($366,000 $70,000) 10 yrs.] Ex. 9 14 a. Apr. 30 Carpet 18,000 Cash 18,000 b. Dec. 31 Depreciation Expense 800 Accumulated Depreciation Carpet 800 Carpet depreciation [($18,000 15 years) 8/12]. Ex. 9 15 a. Cost of equipment $420,000 Accumulated depreciation at December 31, 2014 (4 years at $26,000* per year) 104,000 carrying amount at December 31, 2014 $316,000 * ($420,000 $30,000) 15 = $26,000 b. (1) Depreciation Expense Equipment 19,500 Accumulated Depreciation Equipment 19,500 Equipment depreciation ($26,000 9/12 = $19,500). (2) Cash 275,000 Accumulated Depreciation Equipment* 123,500 Loss on Sale of Equipment 21,500 Equipment 420,000 * $104,000 + $19,500 = $123,500 9-6

Property, Plant, and Equipment and Intangible Assets Ex. 9 16 a. 2011 depreciation expense: $55,800 [($714,000 $44,400) 12] 2012 depreciation expense: $55,800 2013 depreciation expense: $55,800 b. $546,600 [$714,000 ($55,800 3)] c. Cash 525,000 Accumulated Depreciation Equipment 167,400 Loss on Sale of Equipment 21,600 Equipment 714,000 d. Cash 560,000 Accumulated Depreciation Equipment 167,400 Equipment 714,000 Gain on Sale of Equipment 13,400 Ex. 9 17 a. $21,750,000 15,000,000 tons = $1.45 depletion per ton 3,600,000 tons $1.45 = $5,220,000 depletion expense b. Depletion Expense 5,220,000 Accumulated Depletion 5,220,000 Depletion of mineral deposit. Ex. 9 18 a. ($480,000 8) + ($80,000 5) = $76,000 total patent expense b. Amortization Expense Patents 76,000 Patents 76,000 Amortized patent rights ($60,000 + $16,000). 9-7

Property, Plant, and Equipment and Intangible Assets Ex. 9 19 a. Property, Plant, and Equipment (in millions): Current Preceding Year Year Land and buildings $1,471 $ 955 Machinery, equipment, and internal-use software 3,589 1,932 Office furniture and equipment 144 115 Other PP&E related to leases 2,030 1,665 $7,234 $4,667 Less accumulated depreciation and amortization 2,466 1,713 Carrying amount $4,768 $2,954 A comparison of the carrying amounts of the current and preceding years indicates that they increased. A comparison of the total cost and accumulated depreciation reveals that Apple purchased $2,567 million ($7,234 $4,667) of additional property, plant, and equipment, which was offset by the additional depreciation expense of $753 million ($2,466 $1,713) taken during the current year. b. We would expect Apple s carrying amount of PP&E to increase during the year as its sales increase. Although additional depreciation expense will reduce the carrying amount, most companies, such as Apple, invest in new assets in an amount that is at least equal to the depreciation expense. However, during periods of economic downturn, companies purchase fewer PP&E and the carrying amount of their PP&E may decline. Ex. 9 20 1. Property, plant, and equipment should be reported at cost and not replacement cost. 2. Land does not depreciate. 3. Patents and goodwill are intangible assets that should be listed in a separate section following the Property, Plant, and Equipment section. Patents should be reported at their net carrying amounts (cost less amortization to date). Goodwill should not be amortized, but should be only written down upon impairment. 9-8

Property, Plant, and Equipment and Intangible Assets Ex. 9 21 a. PP&E Turnover Ratio = Revenue Average Carrying Amount of PP&E PP&E Turnover Ratio = $106,565 ($87,711 + $91,985) 2 PP&E Turnover Ratio = 1.19 b. Verizon earns $1.19 revenue for every dollar of PP&E. This is a low PP&E turnover ratio, reflecting the high fixed asset intensity in a telecommunications company. The industry average PP&E turnover ratio is slightly lower at 1.10. Thus, Verizon is using its PP&E more efficiently than the industry as a whole. Ex. 9 22 a. Best Buy: 12.74 ($50,272 $3,947) RadioShack: 16.09 ($4,473 $278) b. RadioShack s PP&E turnover ratio of 16.09 is higher than Best Buy s PP&E turnover ratio of 12.74. Thus, RadioShack is generating $3.35 ($16.09 $12.74) more revenue for each dollar of property, plant, and equipment than is Best Buy. On this basis, RadioShack is managing its PP&E more efficiently than is Best Buy. Appendix Ex. 9 23 a. Price (fair market value) of new equipment $275,000 Trade-in allowance of old equipment 90,000 Cash paid on the date of exchange $185,000 b. Fair market value (trade-in allowance) of old equipment $ 90,000 Less carrying amount of old equipment 68,000 Gain on exchange of equipment $ 22,000 or Price (fair market value) of new equipment $275,000 Less assets given up in exchange: Carrying amount of old equipment $ 68,000 Cash paid on the exchange 185,000 253,000 Gain on exchange of equipment $ 22,000 9-9

Property, Plant, and Equipment and Intangible Assets Appendix Ex. 9 24 a. Price (fair market value) of new equipment $275,000 Trade-in allowance of old equipment 90,000 Cash paid on the date of exchange $185,000 b. Fair market value (trade-in allowance) of old equipment $ 90,000 Less carrying amount of old equipment 108,500 Gain on exchange of equipment $ (18,500) or Price (fair market value) of new equipment $275,000 Less assets given up in exchange: Carrying amount of old equipment $108,500 Cash paid on the exchange 185,000 293,500 Loss on exchange of equipment $ (18,500) Appendix Ex. 9 25 a. Depreciation Expense Equipment 6,000 Accumulated Depreciation Equipment 6,000 Equipment depreciation ($12,000 6/12). b. Accumulated Depreciation Equipment 126,000 Equipment 220,000 Loss on Exchange of Equipment 9,000 Equipment 180,000 Cash 175,000 Appendix Ex. 9 26 a. Depreciation Expense Trucks 5,250 Accumulated Depreciation Trucks 5,250 Truck depreciation ($7,000 9/12). b. Accumulated Depreciation Trucks 40,250 Trucks 75,000 Trucks 56,000 Cash 51,000 Gain on Exchange of Trucks 8,250 9-10

Property, Plant, and Equipment and Intangible Assets PROBLEMS Prob. 9 1A 1. Land Other Item Land Improvements Building Accounts a. $ 2,500 b. 340,000 c. 15,500 d. 5,000 e.* (4,000) f. 29,000 g. $ 60,000 h. 6,000 i. 12,000 j.* $(900,000) k. 5,500 l. $32,000 m. 11,000 n. 2,000 o. 2,500 p.* (7,500) q. 800,000 r. 34,500 s.* (500) 2. $400,000 $45,000 $900,000 * Receipt. 3. Since land used as a plant site does not lose its ability to provide services, it is not depreciated. However, land improvements do lose their ability to provide services as time passes and are therefore depreciated. 4. Since Land Improvements are depreciated, depreciation expense of $1,200 ($12,000 1/20 2) would be overstated and net profit would be understated by $1,200 on the statement of comprehensive income. On the statement of financial position, Land would be understated by $12,000, Land Improvements would be overstated by $10,800 ($12,000 $1,200), and Retained Earnings would be understated by $1,200. 9-11

Property, Plant, and Equipment and Intangible Assets Prob. 9 2A 1. Depreciation Expense a. Straight- b. Units-of- c. Double- Line Output Declining-Balance Year Method Method Method 2012 $ 40,500 $ 58,050 $ 90,000 2013 40,500 35,775 30,000 2014 40,500 27,675 1,500 Total $121,500 $121,500 $121,500 Calculations: Straight-line method: ($135,000 $13,500) 3 = $40,500 each year Units-of-output method: ($135,000 $13,500) 18,000 hours = $6.75 per hour 2012: 8,600 hours $6.75 = $58,050 2013: 5,300 hours $6.75 = $35,775 2014: 4,100 hours $6.75 = $27,675 Double-declining-balance method: 2012: $135,000 2/3 = $90,000 2013: ($135,000 $90,000) 2/3 = $30,000 2014: ($135,000 $90,000 $30,000 $13,500*) = $1,500 * Carrying amount should not be reduced below the residual value of $13,500. 2. The double-declining-balance method yields the most depreciation expense in 2012 of $90,000. 3. Over the three-year life of the equipment, all three depreciation methods yield the same total depreciation, $121,500, which is the cost of the equipment of $135,000 less the residual value of $13,500. 9-12

Property, Plant, and Equipment and Intangible Assets Prob. 9 3A a. Straight-line method: 2012: [($270,000 $9,000) 3] 9/12 $65,250 2013: ($270,000 $9,000) 3 87,000 2014: ($270,000 $9,000) 3 87,000 2015: [($270,000 $9,000) 3] 3/12 21,750 b. Units-of-output method: 2012: 7,500 hours $14.50* $108,750 2013: 5,500 hours $14.50 79,750 2014: 4,000 hours $14.50 58,000 2015: 1,000 hours $14.50 14,500 * ($270,000 $9,000) 18,000 hours = $14.50 per hour c. Double-declining-balance method: 2012: $270,000 2/3 9/12... $135,000 2013: ($270,000 $135,000) 2/3 90,000 2014: ($270,000 $135,000 $90,000) 2/3 30,000 2015: ($270,000 $135,000 $90,000 $30,000 $9,000*) 6,000 * Carrying amount should not be reduced below $9,000, the residual value. 9-13

Property, Plant, and Equipment and Intangible Assets Prob. 9 4A 1. Accumulated Depreciation Depreciation, Carrying Amount, Year Expense End of Year End of Year a. 1 $142,000 * $142,000 $658,000 2 142,000 284,000 516,000 3 142,000 426,000 374,000 4 142,000 568,000 232,000 5 142,000 710,000 90,000 * [($800,000 $90,000) 5] b. 1 [$800,000 (1/5) 2] $320,000 $320,000 $480,000 2 [$480,000 (1/5) 2] 192,000 512,000 288,000 3 [$288,000 (1/5) 2] 115,200 627,200 172,800 4 [$172,800 (1/5) 2] 69,120 696,320 103,680 5 ($800,000 $696,320 $90,000) 13,680 * 710,000 90,000 * Carrying amount should not be reduced below $90,000, the residual value. 2. Cash Accumulated Depreciation Equipment Equipment Gain on Sale of Equipment* * $135,000 $103,680 3. Cash Accumulated Depreciation Equipment Loss on Sale of Equipment* Equipment * $103,680 $88,750 135,000 696,320 88,750 696,320 14,930 800,000 31,320 800,000 9-14

Property, Plant, and Equipment and Intangible Assets Prob. 9 5A 2012 Jan. 4 Delivery Truck 28,000 Cash 28,000 Nov. 2 Truck Repair Expense 675 Cash 675 Dec. 31 Depreciation Expense Delivery Truck 14,000 Accum. Depreciation Delivery Truck 14,000 Delivery truck depreciation. [$28,000 (1/4 2)] 2013 Jan. 6 Delivery Truck 48,000 Cash 48,000 Apr. 1 Depreciation Expense Delivery Truck 1,750 Accum. Depreciation Delivery Truck 1,750 Delivery truck depreciation. [($28,000 $14,000) (1/4 2) 3/12] 1 Accum. Depreciation Delivery Truck 15,750 Cash 15,000 Delivery Truck 28,000 Gain on Sale of Delivery Truck 2,750 June 11 Truck Repair Expense 450 Cash 450 Dec. 31 Depreciation Expense Delivery Truck 19,200 Accum. Depreciation Delivery Truck 19,200 Delivery truck depreciation. [$48,000 (1/5 2)] 9-15

Property, Plant, and Equipment and Intangible Assets Prob. 9 5A (Concluded) 2014 July 1 Delivery Truck 54,000 Cash 54,000 Oct. 2 Depreciation Expense Delivery Truck 8,640 Accum. Depreciation Delivery Truck 8,640 Delivery truck depreciation. [($48,000 $19,200) (1/5 2) 9/12] 2 Cash 16,750 Accum. Depreciation Delivery Truck 27,840 Loss on Sale of Delivery Truck 3,410 Delivery Truck 48,000 Dec. 31 Depreciation Expense Delivery Truck 6,750 Accum. Depreciation Delivery Truck 6,750 Delivery truck depreciation. [$54,000 (1/8 2) 1/2] 9-16

Property, Plant, and Equipmentand Intangible Assets Prob. 9 6A 1. a. $1,600,000 5,000,000 board feet = $0.32 per board foot; 1,100,000 board feet $0.32 per board foot = $352,000 b. Loss from impaired goodwill, $3,750,000 c. $6,600,000 12 years = $550,000; 3/4 of $550,000 = $412,500 2. a. Depletion Expense 352,000 Accumulated Depletion 352,000 Depletion of timber rights. b. Loss from Impaired Goodwill 3,750,000 Goodwill 3,750,000 Impaired goodwill. c. Amortization Expense Patents 412,500 Patents 412,500 Patent amortization. 9-17

Property, Plant, and Equipmentand Intangible Assets Prob. 9 7A Double-Declining-Balance method Constant rate 2 10 = 20% Year 1 4,000,000 20% 9 12 = 600,000 (1) Eliminated against Cost Dec. 31 Accumulated Depreciation-Plant Assets 600,000 Plant Assets 192,000 Revaluation Surplus 408,000 (2) Restated Proportionately Dec. 31 Plant Assets 480,000 Accumulated Depreciation-Plant Assets 72,000 Revaluation Surplus 408,000 Prob. 9 8A Double-Declining-Balance method Constant rate 2 10 = 20% Year 1 4,000,000 20% 6 12 = 400,000 (1) Eliminated against Cost Dec. 31 Accumulated Depreciation-Plant Assets 400,000 Plant Assets 40,000 Revaluation Surplus 360,000 (2) Restated Proportionately Dec. 31 Plant Assets 400,000 Accumulated Depreciation-Plant Assets 40000 Revaluation Surplus 360,000 9-18 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 1B 1. Land Other Item Land Improvements Building Accounts a. $ 3,600 b. 780,000 c. 23,400 d. 15,000 e. $ 75,000 f. 10,000 g.* (3,400) h. 18,000 i. 8,400 j.* $(800,000) k. 13,400 l. 3,000 m. 2,000 n. $14,000 o. 21,600 p. 40,000 q.* (4,500) r. 800,000 s.* (1,400) 2. $860,000 $35,600 $922,000 * Receipt. 3. Since land used as a plant site does not lose its ability to provide services, it is not depreciated. However, land improvements do lose their ability to provide services as time passes and are therefore depreciated. 4. Since Land Improvements are depreciated, depreciation expense of $4,320 ($21,600 1/10 2) would be understated and net profit would be overstated by $4,320 on the statement of comprehensive income. On the statement of financial position, Land would be verstated by $21,600, Land Improvements would be understated by $17,280 ($21,600 $4,320), and Retained Earnings would be overstated by $4,320. 9-19

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 2B 1. Depreciation Expense a. Straight- b. Units-of- c. Double- Line Output Declining-Balance Year Method Method Method 2013 $ 71,250 $102,600 $160,000 2014 71,250 91,200 80,000 2015 71,250 62,700 40,000 2016 71,250 28,500 5,000 Total $285,000 $285,000 $285,000 Calculations: Straight-line method: ($320,000 $35,000) 4 = $71,250 each year Units-of-output method: ($320,000 $35,000) 20,000 hours = $14.25 per hour 2013: 7,200 hours $14.25 = $102,600 2014: 6,400 hours $14.25 = $91,200 2015: 4,400 hours $14.25 = $62,700 2016: 2,000 hours $14.25 = $28,500 Double-declining-balance method: 2013: $320,000 [(1/4) 2] = $160,000 2014: ($320,000 $160,000) [(1/4) 2] = $80,000 2015: ($320,000 $160,000 $80,000) [(1/4) 2] = $40,000 2016: ($320,000 $160,000 $80,000 $40,000 $35,000*) = $5,000 * Carrying amount should not be reduced below the residual value of $35,000. 2. The double-declining-balance method yields the most depreciation expense in 2013 of $160,000. 3. Over the four-year life of the equipment, all three depreciation methods yield the same total depreciation, $285,000, which is the cost of the equipment of $320,000 less the residual value of $35,000. 9-20

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 3B a. Straight-line method: 2012: [($108,000 $7,200) 3] 3/12 $ 8,400 2013: [($108,000 $7,200) 3] 33,600 2014: [($108,000 $7,200) 3] 33,600 2015: [($108,000 $7,200) 3] 9/12 25,200 b. Units-of-output method: 2012: 1,350 hours $8.40* $11,340 2013: 4,200 hours $8.40 35,280 2014: 3,650 hours $8.40 30,660 2015: 2,800 hours $8.40 23,520 * ($108,000 $7,200) 12,000 hours = $8.40 per hour c. Double-declining-balance method: 2012: $108,000 2/3 3/12... $18,000 2013: ($108,000 $18,000) 2/3 60,000 2014: ($108,000 $18,000 $60,000) 2/3 20,000 2015: ($108,000 $18,000 $60,000 $20,000 $7,200*) 2,800 * Carrying amount should not be reduced below $7,200, the residual value. 9-21

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 4B 1. Accumulated Depreciation Depreciation, Carrying Amount Year Expense End of Year End of Year a. 1 $25,625 * $ 25,625 $84,375 2 25,625 51,250 58,750 3 25,625 76,875 33,125 4 25,625 102,500 7,500 * [($110,000 $7,500) 4] b. 1 [$110,000 (1/4) 2] $55,000 $ 55,000 $55,000 2 [$55,000 (1/4) 2] 27,500 82,500 27,500 3 [$27,500 (1/4) 2] 13,750 96,250 13,750 4 ($110,000 $96,250 $7,500) 6,250* 102,500 7,500 * Carrying amount should not be reduced below $7,500, the residual value. 2. Cash Accumulated Depreciation Equipment Equipment Gain on Sale of Equipment* * $18,000 $13,750 3. Cash Accumulated Depreciation Equipment Loss on Sale of Equipment* Equipment * $13,750 $10,500 18,000 96,250 10,500 96,250 3,250 110,000 4,250 110,000 9-22

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 5B 2012 Jan. 8 Delivery Truck 24,000 Cash 24,000 Mar. 7 Truck Repair Expense 900 Cash 900 Dec. 31 Depreciation Expense Delivery Truck 12,000 Accum. Depreciation Delivery Truck 12,000 Delivery truck depreciation. [$24,000 (1/4 2)] 2013 Jan. 9 Delivery Truck 50,000 Cash 50,000 Feb. 28 Truck Repair Expense 250 Cash 250 Apr. 30 Depreciation Expense Delivery Truck 2,000 Accum. Depreciation Delivery Truck 2,000 Delivery truck depreciation. [($24,000 $12,000) (1/4 2) 4/12] 30 Accum. Depreciation Delivery Truck 14,000 Cash 9,500 Loss on Sale of Delivery Truck 500 Delivery Truck 24,000 Dec. 31 Depreciation Expense Delivery Truck 12,500 Accum. Depreciation Delivery Truck 12,500 Delivery truck depreciation. [$50,000 (1/8 2)] 9-23

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 5B (Concluded) 2014 Sept. 1 Delivery Truck 58,500 Cash 58,500 4 Depreciation Expense Delivery Truck 6,250 Accum. Depreciation Delivery Truck 6,250 Delivery truck depreciation. [($50,000 $12,500) (1/8 2) 8/12] 4 Cash 36,000 Accum. Depreciation Delivery Truck 18,750 Delivery Truck 50,000 Gain on Sale of Delivery Truck 4,750 Dec. 31 Depreciation Expense Delivery Truck 3,900 Accum. Depreciation Delivery Truck 3,900 Delivery truck depreciation. [$58,500 (1/10 2) 4/12] 9-24

Property, Plant, and Equipmentand and Intangible Assets Prob. 9 6B 1. a. Loss from impaired goodwill, $3,400,000 b. $4,800,000 8 years = $600,000; 1/4 of $600,000 = $150,000 c. $2,975,000 12,500,000 board feet = $0.238 per board foot; 4,150,000 board feet $0.238 per board foot = $987,700 2. a. Loss from Impaired Goodwill 3,400,000 Goodwill 3,400,000 Impaired goodwill. b. Amortization Expense Patents 150,000 Patents 150,000 Patent amortization. c. Depletion Expense 987,700 Accumulated Depletion 987,700 Depletion of timber rights. 9-25

Property, Plant, and Equipmentand and Intangible Assets CASES & PROJECTS CP 9 1 It is considered unprofessional for employees to use company assets for personal reasons, because such use reduces the useful life of the assets for normal business purposes. Thus, it is unethical for Dave Elliott to use Lyric Consulting Co. s computers and laser printers to service his part-time accounting business, even on an after-hours basis. In addition, it is improper for Dave s clients to call him during regular working hours. Such calls may interrupt or interfere with Dave s ability to carry out his assigned duties for Lyric Consulting Co. CP 9 2 You should explain to Nolan and Stacy that it is acceptable to maintain two sets of records for tax and financial reporting purposes. This can happen when a company uses one method for financial statement purposes, such as straight-line depreciation, and another method for tax purposes, such as MACRS depreciation. This should not be surprising, since the methods for taxes and financial statements are established by two different groups with different objectives. That is, tax laws and related accounting methods are established by Congress. The Internal Revenue Service then applies the laws and, in some cases, issues interpretations of the law and congressional intent. The primary objective of the tax laws is to generate revenue in an equitable manner for government use. Generally accepted accounting principles, on the other hand, are established primarily by the Financial Accounting Standards Board. The objective of generally accepted accounting principles is the preparation and reporting of true economic conditions and results of operations of business entities. You might note, however, that companies are required in their tax returns to reconcile differences in accounting methods. For example, income reported on the company s financial statements must be reconciled with taxable income. Finally, you might also indicate to Nolan and Stacy that even generally accepted accounting principles allow for alternative methods of accounting for the same transactions or economic events. For example, a company could use straight-line depreciation for some assets and double-declining-balance depreciation for other assets. 9-26

Property, Plant, and Equipmentand and Intangible Assets CP 9 3 1. a. Straight-line method: 2012: ($400,000 5) 1/2 $40,000 2013: ($400,000 5) 80,000 2014: ($400,000 5) 80,000 2015: ($400,000 5) 80,000 2016: ($400,000 5) 80,000 2017: ($400,000 5) 1/2 40,000 b. MACRS: 2012: ($400,000 20%) $ 80,000 2013: ($400,000 32%) 128,000 2014: ($400,000 19.2%) 76,800 2015: ($400,000 11.5%) 46,000 2016: ($400,000 11.5%) 46,000 2017: ($400,000 5.8%) 23,200 9-27

Property, Plant, and Equipmentand and Intangible Assets CP 9 3 (Continued) 2. a. Straight-line method: Year 2012 2013 2014 2015 2016 2017 Income before depreciation $750,000 $750,000 $750,000 $750,000 $750,000 $750,000 Depreciation expense 40,000 80,000 80,000 80,000 80,000 40,000 Profit before income tax $710,000 $670,000 $670,000 $670,000 $670,000 $710,000 Income tax 284,000 268,000 268,000 268,000 268,000 284,000 Net profit $426,000 $402,000 $402,000 $402,000 $402,000 $426,000 b. MACRS: Year 2012 2013 2014 2015 2016 2017 Income before depreciation $750,000 $750,000 $750,000 $750,000 $750,000 $750,000 Depreciation expense 80,000 128,000 76,800 46,000 46,000 23,200 Profit before income tax $670,000 $622,000 $673,200 $704,000 $704,000 $726,800 Income tax 268,000 248,800 269,280 281,600 281,600 290,720 Net profit $402,000 $373,200 $403,920 $422,400 $422,400 $436,080 9-28

Property, Plant, and Equipmentand and Intangible Assets CP 9 3 (Concluded) 3. For financial reporting purposes, Tim should select the method that provides the net profit figure that best represents the results of operations. Note to Instructors: The concept of matching revenues and expenses is discussed in Chapter 3. However, for income tax purposes, Tim should consider selecting the method that will minimize taxes. Based on the analyses in (2), both methods of depreciation will yield the same total amount of taxes over the useful life of the equipment. MACRS results in fewer taxes paid in the early years of useful life and more in the later years. For example, in 2012 the income tax expense using MACRS is $268,000, which is $16,000 ($284,000 $268,000) less than the income tax expense using the straight-line depreciation of $284,000. Tuttle Construction Co. can invest such differences in the early years and earn income. In some situations, it may be more beneficial for a taxpayer not to choose MACRS. These situations usually occur when a taxpayer is expected to be subject to a low tax rate in the early years of use of an asset and a higher tax rate in the later years of the asset s useful life. In this case, the taxpayer may be better off to defer the larger deductions to offset the higher tax rate. CP 9 4 Note to Instructors: The purpose of this activity is to familiarize students with the procedures involved in acquiring a patent, a copyright, and a trademark. You may wish to divide the class into three groups to report back on patents, copyrights, and trademarks separately. The following is some information on patents, copyrights, and trademarks that you may find helpful in your discussions. Patents A patent is requested by filing a written application at the relevant patent office. The person or company filing the application is referred to as the applicant. The applicant may be the inventor or its assignee. The application contains a description of how to make and use the invention that must provide sufficient detail for a person skilled in the art (i.e., the relevant area of technology) to make and use the invention. In some countries, there are requirements for providing specific information such as the usefulness of the invention, the best mode of performing the invention known to the inventor, or the technical problem or problems solved by the invention. Drawings illustrating the invention may also be provided. 9-29

Property, Plant, and Equipmentand and Intangible Assets CP 9 4 (Concluded) The application also includes one or more claims, although it is not always a requirement to submit these when first filing the application. The claims set out what the applicant is seeking to protect in that they define what the patent owner has a right to exclude others from making, using, or selling, as the case may be. In other words, the claims define what a patent covers or the scope of protection. After filing, an application is often referred to as patent pending. While this term does not confer legal protection, and a patent cannot be enforced until granted, it serves to provide warning to potential infringers that if the patent is issued, they may be liable for damages. Source: http://en.wikipedia.org/wiki/patent#application_and_prosecution. Copyright While copyright in the United States automatically attaches upon the creation of an original work of authorship, registration with the Copyright Office puts a copyright holder in a better position if litigation arises over the copyright. A copyright holder desiring to register his or her copyright should do the following: 1. Obtain and complete appropriate form. 2. Prepare clear rendition of material being submitted for copyright. 3. Send both documents to the U.S. Copyright Office in Washington, D.C. Source: http://en.wikipedia.org/wiki/united_states_copyright_law#procedural_issues. Trademark The law considers a trademark to be a form of property. Proprietary rights in relation to a trademark may be established through actual use in the marketplace, or through registration of the mark with the trademarks office (or trademarks registry ) of a particular jurisdiction. In some jurisdictions, trademark rights can be established through either or both means. Certain jurisdictions generally do not recognize trademarks rights arising through use. In the United States, the only way to qualify for a federally registered trademark is to first use the trademark in commerce. If trademark owners do not hold registrations for their marks in such jurisdictions, the extent to which they will be able to enforce their rights through trademark infringement proceedings will therefore be limited. In cases of dispute, this disparity of rights is often referred to as first to file as opposed to first to use. Other countries such as Germany offer a limited amount of common law rights for unregistered marks where, to gain protection, the goods or services must occupy a highly significant position in the marketplace where this could be 40% or more market share for sales in the particular class of goods or services. Source: http://en.wikipedia.org/wiki/trademark#maintaining_rights. 9-30

Property, Plant, and Equipmentand and Intangible Assets CP 9 5 a. PP&E Turnover Ratio = Revenue Average Carrying Amount of PP&E $421,849 Walmart: = 4.01 $105,093 Occidental Petroleum: Comcast Corporation: $19,045 $33,837 $37,937 $23,685 = 0.56 = 1.60 b. The PP&E turnover measures the amount of revenue earned per dollar of PP&E. Walmart earns $4.01 of revenue for every dollar of PP&E, while Occidental earns $0.56 and Comcast Corporation earns $1.60 in revenue for every dollar of PP&E. Occidental and Comcast require more PP&E to operate their businesses than does Walmart, for a given level of revenue volume. Does this mean that Walmart is a better company? Not necessarily. Revenue is not the same as earnings. More likely, Walmart has a smaller profit margin than do Occidental and Comcast. Although not required by the exercise, the operating profit before interest and taxes as a percent of sales (operating margin) for the three companies is Occidental, 39.2%; Comcast, 21.8%; and Walmart, 6.1%. Thus, the difference between the PP&E turnovers seems reasonable. Generally, companies with very low PP&E turnovers, such as gas and oil exploration and production (Occidental) and cable communications (Comcast), must be compensated with higher operating margins. Note to Instructors: You may wish to consider the impact of different PP&E turnover ratios across industries and the implications of these differences. This is a conceptual question designed to have students think about how competitive markets would likely reward the low PP&E turnover companies for embracing high PP&E commitments. 9-31