mcgraw-hill/irwin © the mcgraw-hill companies, inc., 2015 9- 1 chapter eight accounting for long-...

McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2015

9- 1

Chapter Eight

Accounting for Long-Term Operational

Assets


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Chapter 8Long-Term

Operational Assets


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Classification of Operational Assets

Operational assets are used by a business to generate revenue.

Tangible operational assets have physical substance.– Property, Plant, and Equipment –

Sometimes called plant assets or fixed assets. We depreciate these assets over their useful life.


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Tangible operational assets have physical substance.– Land – Has an infinite life and is not

subject to depreciation.


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Tangible operational assets have physical substance.– Natural Resources – Mineral

deposits, oil and gas reserves, timber stands, coal mines, and stone quarries are some examples of natural resources. We deplete these assets over their useful life.


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Cost of Long-Term Assets

Buildings • Purchase price• Sales taxes• Title search and transfer document

costs• Realtor’s and attorney’s fees• Remodeling costs

Buildings • Purchase price• Sales taxes• Title search and transfer document

costs• Realtor’s and attorney’s fees• Remodeling costsEquipment • Purchase price (less

discounts)• Sales taxes• Delivery costs• Installation costs• Costs to adapt to

intended use

Equipment • Purchase price (less

discounts)• Sales taxes• Delivery costs• Installation costs• Costs to adapt to

intended use

Land • Purchase price• Sales taxes• Title search and transfer

document costs• Realtor’s and attorney’s

fees• Costs of removal of old

buildings• Grading costs

Land • Purchase price• Sales taxes• Title search and transfer

document costs• Realtor’s and attorney’s

fees• Costs of removal of old

buildings• Grading costs


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Intangible operational assets lack physical substance and confer specific use rights on the owner. Patents Copyrights Franchises Licenses Trademarks

Burger QueenFranchise


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Basket Purchases of Assets

When land and building are purchased together, the land cost and the building cost are placed in separate accounts.

The total cost of the purchase is separated on the basis of relative market values.


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Example: On March 1, Arco Co. purchasedland and building for $100,000 cash. The appraised value of the building was $90,000 and the land was appraised at $30,000.

How much of the $100,000 purchase price will be allocated to each account?

Land = ? Building = ?



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Basket Purchases of Assets Fair Market Values:

Building $ 90,000Land $ 30,000

Total market value $120,000

Allocation of cost:

Building * $100,000 =Land * $100,000 =

Appraised Values

Total Cost


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Percent

Building $ 90,000 75%Land $ 30,000 25%Total market value $120,000

Allocation of cost:

Building * $100,000 =Land * $100,000 =

Total Cost

Appraised Values


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Percent

Building $ 90,000 75% Land $ 30,000 25%Total market value $120,000 100%

Allocation of cost:

Building * $100,000 =Land * $100,000 =

Total Cost

Appraised Values


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Percent

Building $ 90,000 75%Land $ 30,000 25%

Total market value $120,000 100%

Allocation of cost:

Building 75% * $100,000 =Land 25% * $100,000 =

Total Cost

Appraised Values


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Fair Market Values: Building $ 90,000Land $ 30,000

Total market value $120,000

Allocation of cost:

Building 75% * $100,000 = $75,000Land 25% * $100,000 = $25,000

Total Cost

Appraised Values

Allocated Cost


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Basket Purchases of Assets General Journal entry:

Building $ 75,000Land $ 25,000 Cash $100,000

Allocation of cost:

Building 75% * $100,000 = $75,000Land 25% * $100,000 = $25,000

Total CostAllocated

Cost


Depreciation

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You’ve purchased an asset that will be used to benefit more than one year of operations. When you buy the asset you do NOT “expense” it. You postpone (defer) the recognition of the expense until you have used the asset over a period of time.

Recognizing an expenditure by spreading it over several years, allocating a part of the expense to each of several periods during which the asset is used, is called depreciation.


Depreciation

The portion of the cost of an asset allocated to any one accounting period is called--DEPRECIATION EXPENSE

Depreciation of an asset is an allocation process--spreading the cost of an asset that benefits more than one accounting period over the estimated useful life of the asset.


Example of Depreciation: ABC Sports Bar Co.

bought equipment for $55,000. The asset is expected to last five years and have a $10,000 salvage value at the end of its useful life. How will the purchase and use of the asset affect the financial statements?


We want to allocate the cost of the asset to the income statement as an expense during the time period we use the asset. Why?

To comply with the MATCHING principle. Expenses incurred must be “matched” to the

same time period the revenues (from using this equipment) are recorded.

If we depreciate the asset using the STRAIGHT LINE method, we will divide the cost of the asset (minus any estimated salvage value) by the useful life:

(55,000-10,000)/5 yrs. = $9,000 depreciation expense each year.


Effect on the financial statements:

Purchase of asset:Balance Sheet Increases assets (eg. Equip); may decrease “cash” asset

(thus, no effect on net assets) or may increase a liabilityIncome Statement

Statement of Changes in Stockholders’ Equity

Statement of Cash Flows


Effect on the financial statements:Purchase of asset:

Balance Sheet Increases assets; may decrease an asset (cash) or

increase a liability (payable) if we haven’t paid yet.Income Statement No effectStatement of Changes in Stockholders’

Equity Statement of Cash Flows





Equity No effectStatement of Cash Flows





Equity No effectStatement of Cash Flows Depends on whether or not the asset was purchased for

cash. If cash is paid it is an Investing Activity cash flow.


Balance Sheet Reduces the net value of the asset by increasing a

contra-asset account called accumulated depreciation Income Statement



Use of the asset:

Accumulated Depreciation is a Permanent (Asset) Account. It accumulates the depreciation expense each year of the asset’s useful life.



contra-asset called accumulated depreciation Income Statement

Increase in depreciation expense reduces Net Income



Use of the asset:




Increase in depreciation expense reduces Net Income Statement of Changes in Stockholders’ Equity

Since the Net Income decreased, the remaining Retained Earnings will decrease causing total Stockholders’ Equity to decrease.


Use of the asset:




Increase in depreciation expense reduces Net Income Statement of Changes in Stockholders’ Equity

Since the Net Income decreased, the remaining Retained Earnings will decrease causing total Stockholders’ Equity to decrease.

Statement of Cash Flows No cash involved. Depreciation is an adjusting entry.

Use of the asset:


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Depreciation Methods

1. Straight-line method - the same amount is depreciated each accounting period.

2. Units-of-Production – produces varying amounts of depreciation in different accounting periods depending upon the number of units produced.

3. Double-declining-balance – produces more depreciation expense in the early years of an asset’s life, with a declining amount of expense in later years.

1. Straight-line method - the same amount is depreciated each accounting period.

2. Units-of-Production – produces varying amounts of depreciation in different accounting periods depending upon the number of units produced.

3. Double-declining-balance – produces more depreciation expense in the early years of an asset’s life, with a declining amount of expense in later years.


Example of Balance Sheet

AssetsCash 11,000$ Computer Equipment 55,000 Less: Accumulated Depreciation (9,000) 46,000 Total Assets 57,000$

LiabilitiesUnearned Revenue 12,000$

Stockholders' EquityCommn Stock 1,000$ Retained Earnings 44,000 Total Stockholders' Equity 45,000 Total Liabilities and Stockholders' Equity 57,000$

As of December 31, 2014

ABC Sports Bar, Inc.Balance Sheet

NetAsset

Balance


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Cost - Salvage Value

Life in Years

Straight-Line Method

Depreciation

Expense per Year=


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Straight-Line Method: Example

On January 1, 2013, equipment was purchased for $55,000 cash. The equipment has an estimated useful life of 5 years and an estimated Salvage value of $10,000.

What is the annual straight-line depreciation expense?


Straight-Line Method: ExampleOn January 1, 2013, equipment was purchased for $55,000 cash. The equipment has an estimated useful life of 5 years and an estimated Salvage value of $10,000. = Rev. – Exp. = Net Inc. Cash Flow

Cash + Eqpt AccDep = Com. Stk. Ret. Earn.(55,000) 55,000 = NA = NA NA NA – NA = NA (55,000) IA

EquityAssets

Account Title Debit CreditEquipment 55,000 Cash 55,000

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9- 33

Straight-Line Method: Example

Depreciation

Expense per Year=

Depreciation

Expense per Year=

Cost - Salvage Value

Life in Years

Depreciation

Expense per Year=

55,000 - 10,000

5

9,000


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Straight-Line Method: ExampleThe company use the equipment to generate $30,000 revenue for the period

= Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow30,000 NA = NA + 30,000 30,000 – NA = 30,000 30,000 OA

NA (9,000) NA (9,000) NA – 9,000 (9,000) NA

Assets

Cash 30,000 Service revenue 30,000 Depreciation expense 9,000 Accumulated depreciation 9,000


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Units-of-Production Method

Step 1:

Depreciation Rate

= Cost - Salvage Value Estimated units of useful life

Depreciation Rate =Depreciation charge per each unit produced


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Units-of-Production Method

Depreciation Rate

= Cost - Salvage Value Estimated units of useful life

Step 1:

Step 2:

Depreciation Expense =

Depreciation Rate

×Number of

Units Producedfor the Year


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Given the same information [asset cost $55,000, has a salvage value of $10,000, has a useful life of five years] plus the fact that the asset is estimated to have a total productive capacity of 100,000 units during the useful life:

If 22,000 units were produced this year, what is the amount of depreciation expense?

Example of Units of Production Method


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Example of Production Method

Step 1:

Step 2:

Depreciation Expense = $ .45/unit x 22,000 = $9,900

Depreciation Rate

=

=Cost - salvage value

Productive output

$45,000

100,000

Dep. rate x units produced

= $.45Per unit


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Example of Production Method

If 15,000 units are produced during the second year of the asset’s life, what is the amount of depreciation expense?

$0.45 x 15,000 = $6,750 What is the Accumulated Depreciation at

the end of the second year?$9,900 + $6,750 = $16,650

What is the 12/31/05 Equip. Book Value?$55,000 cost - $16,650 Accum. Dep. = $38,350


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Accelerated depreciation methods result in more depreciation expense in the early years of an asset’s useful life and less depreciation expense in later years of the an asset’s useful life.

Accelerated Depreciation


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Double-Declining Balance Method

Declining-balance depreciation is based on the straight-line rate multiplied by an acceleration factor. – For example, when the acceleration

factor is 200 percent, the method is referred to as double-declining balance depreciation.

Declining-balance depreciation computations ignore salvage value.


9- 42

Double-Declining Balance Method

Annual Depreciation is calculated with the following formula:

Book Value × (2 × Straight-Line Rate)

$55,000 – 10,000 x 1 5 yrs

Straight-Line:

1 5

x 2 = 2 or 5

40%


9- 43

Using the same information from our earlier example [asset cost $55,000,

Salvage value is $10,000, and useful life is 5 years]:

Calculate the depreciation expense for the asset’s life.

Double-Declining-Balance Example


9- 44


YearBeginning

Book Value DDB RateDeprec.Expense Accum Dep

End Bk Value

1 55,000 40% 22,000 22,000 33,000 2 33,000 40% 13,200 35,200 19,800 3 19,800


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YearBeginning


End Bk Value

1 55,000 40% 22,000 22,000 33,000 2 33,000 40% 13,200 35,200 19,800 3 19,800 40% 7,920


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YearBeginning


End Bk Value

1 55,000 40% 22,000 22,000 33,000 2 33,000 40% 13,200 35,200 19,800 3 19,800 40% 7,920 43,120 11,880 4 11,880 40% 4,752 47,872 7,128

Solution:4 11,880 1,880 45,000 10,000 5 10,000 0 0 10,000


9- 47

Comparison of Depreciation Methods

Straight-line Production* Double-Declining Bal. Dep. Accum. Dep. Accum. Dep. Accum.Year Exp. Dep. Exp. Dep. Exp. Dep.

1 9000 9000 9900 9900 22,000 22,000

2 9000 18000 6750 16650 13,200 35,200

3 9000 27000 11250 27900 7,920 43,120

4 9000 36000 11250 39150 1,8801 45,000

5 9000 45000 5850 45000 01 45,000

*Units produced were Yr 1= 22,000; Yr 2=15,000; Yrs 3&4=25,000 each; Yr. 5=13,000. [1 In yr. 4, didn’t use DDB formula. Wrote-off last 1,880.]


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Comparison of Depreciation Methods The total amount of depreciation recorded

over the useful life of an asset is the same regardless of the method used.

Depreciation expense recorded in any one period will vary according to method used.

The straight-line method is used for financial accounting purposes (“the books”) by about 95 percent of companies because it is easy to use and to explain to financial statement users.


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Disposal of

Operational Assets


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Horizontal Model Transaction Analysis Horizontal Model Transaction Analysis

1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B

Balance Sheet Income Statement Cashflow Assets = Liab.+ Equity Rev./ Exp. Statem’tCash + Equip.- Acc.D.= A/P + C.C.+ R.E. Gains - Loss= N.I. OA,IA,FA


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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B



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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B


5 9000 (9000) 9,000 (9000)

B 45,000 55,000 18,000 70,000 12,000 Closed out 45,000 B


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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B

5 9000 (9000) 9,000 (9000)

B 45,000 55,000 18,000 70,00012,000 Closed out 45,000 B



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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B

5 9000 (9000) 9,000 (9000)

B 45,000 55,000 18,000 70,00012,000 Closed out 45,000 B

Balance Sheet Income Statement Cashflow Assets = Liab.+ Equity Rev./ Exp. Statem’tCash + Equip.- Acc.D. = A/P + C.C.+ R.E. Gains - Loss= N.I. OA,IA,FA

6 6,000 (6000) 6,000 (6000)


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1. Update the depreciation on the asset to the date of disposal.

2. Record the disposal by . . . – Removing the asset cost (credit).– Removing the Accumulated Depreciation

(debit).– Recording cash received (debit) or cash paid

(credit).– Recording a loss (debit) or gain (credit).

Disposal of Operational Assets


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Compare cash received for the asset with the asset’s book value (BV).

– If cash greater than BV, record a gain (credit).– If cash less than BV, record a loss (debit).– If cash equals BV, no gain or loss.

Gain or Loss on Disposal?

asset for sale

How do we know if there is a Loss or Gain on the disposal?


9- 57

Compare cash received for the asset with the asset’s book value (BV).

Disposal of Operational Assets How do we know if there is a Loss or Gain on the disposal?

Cash received

Equipment, cost

Less: Accum. Dep.

Equip, Book Value

Gain (Loss)

$26,000

$55,000

24,000

31,000

$ (5,000)

- 5000.


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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B

5 9000 (9000) 9,000 (9000)

B 45,000 55,000 18,000 70,00012,000 Closed out 45,000 B


6 6,000 (6000) 6,000 (6000)

7 26,000 (55,000) (24,000) (5000) 5,000 (5000) 26,000 IA


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Journalize the Disposal

Cash

Accumulated Depreciation (to remove)

Loss on Disposal of Equipment

Equipment (original cost)

What if there had been a GAIN on disposal?

The GAIN would be a CREDIT in the journal entry above (and there would be

more cash).

$26,000

24,000

5,000

55,000


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1 70,000 70,000 70,000 FA

2 (55,000) 55,000 (55,000) IA

3 30,000 30000 30,000 30,000 30,000 OA

4 + 9000 (9000) 9,000 (9000)

B 45,000 55,000 9000 70,000 21000 Closed out 45,000 B

5 9000 (9000) 9,000 (9000)

B 45,000 55,000 18,000 70,00012,000 Closed out 45,000 B

6 6,000 (6000) 6,000 (6000)

7 26,000 (55,000) (24,000) (5000) 5,000 (5000) 26,000 IA

Balance Sheet Income Statement Cashflow Assets = Liab.+ Equity Rev./ Exp. Statem’tCash + Equip.- Acc.D. = A/P + C.C.+ R.E. Gains - Loss= N.I. OA,IA,FA

B 71,000 0 0 70,000 1,000 Closed out 71,000 B


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What’s the result? - For Year 3How much depreciation expense is on the 2015 Income Statement?

$6,000

How much Gain or Loss is on the 2015 Income Statement?

$5,000 Loss on Disposal

How much Accumulated Deprec. is on the 12/31/15 Bal. Sheet?

$0 (We don’t have the equipment anymore.)

What is the equipment’s Book Value(or Carrying Value) at the end of 2015?

$0 (We don’t have the equipment anymore.)


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Most corporations use the Modified Accelerated Cost Recovery System (MACRS) for tax purposes. (Could use straight-line depreciation.)

MACRS provides for rapid write-off of an asset’s cost in order to stimulate investment in modern facilities.

MACRS uses half-year convention and assumes no Salvage value.

Depreciation and Federal Income Tax


9- 63

Same purchase recorded previously:

On Jan. 1, 2013 equipment costing $55,000 was purchased. Estimated life = 5 yrs. Estimated Salvage value = $10,000.

Depreciation and Federal Income TaxMACRS example

Calculate the depreciation taxdeduction assuming the equipmentis classified as “5 year property.”

Note: See tax tables in your text for 5-Yr. and 7-Yr. properties.


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IRS Table yr.

% 1

20.00 2

32.00 3

19.20 4

11.52 5

11.52 6

5.76

Depreciation and Federal Income TaxMACRS example

Equipm’t Costx $55,000 =x 55,000 =x 55,000 =x 55,000 =x 55,000 =x 55,000 =

$11,000 17,600 10,560 6,336 6,336 3,168 $55,000

Depreciation Deduction

100% = 100%


9- 65 Revising Estimates of Salvage Value or of Useful Life

When an estimate is revised, no changes are made to amounts reported in the past.

The new estimates are incorporated into the present and future calculations only.

Depreciation amounts are revised using the book value, estimated useful life and salvage value at beginning of the year of the revision.


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Revising Estimates of Salvage Value or of Useful Life - Example

On Jan. 1, 2013 the Goodview Co. purchased Equipment costing $55,000. It was estimated to last 5 years and have a $10,000 Salvage value. Straight-line depreciation ($9,000) has been used.

On Jan. 1, 2015 management determinedthat the equipment would last 4 years fromthis date, but would only be worth $5,000 atthe end of that time.

How much depreciation expense should be recorded each year starting on Dec. 31, 2015?


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Revising Estimates of Salvage Value or of Useful Life - Example

The equipment has already been depreciated two years (‘08 and ‘09) at $9,000 per year. So, Accumulated Depreciation has an $18,000 balance at the beginning of 2015.

Original Cost $55,000

Less: Accum. Dep. 18,000

= Book value, Jan. 1, ‘2015 37,000

Less: Revised Salvage Value -5,000

= Remainder to be depreciated 32,000

Divided by Remaining life 4 yrs.

= New annual Depreciation expense $ 8,000

Starting in 2015


Continuing Expenditures for Plant Assets

Costs That Are ExpensedThe cost of routine maintenance and minor repairs that are incurred to keep an asset in good working order are expensed as incurred. Assume the company spent $500 cash for routine maintenance on machinery.

Account Title Debit CreditRepairs Expense 500 Cash 500

Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

Cash Ret. Earn.(500) = NA + (500) NA – 500 = (500) (500) OA

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Continuing Expenditures for Plant Assets

Expenditures made to keep an asset in good working order are expensed in the period in which they are incurred. (normally expected repairs & maintenance)

Substantial costs spent to (1) improve the quality or (2) extend the life of an asset are capitalized.


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Accounting for capital expenditures:Extraordinary Repairs Ex: Overhaul Extend the life?

– viewed as canceling some of the previous depreciation

– journal entry to reduce (debit) accumulated depreciation

– new depreciation amount will be calculated using the revision approach.

BettermentsEx: Attach snowplow to

truck owned for 2 years.

Improve the quality?– viewed as an

additional cost of the equipment

– journal entry to increase (debit) the cost of the asset

– new depreciation amount will be calculated using the revision approach.


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Extraordinary Expenditure Extend Useful Life Improve Quality

Over-haul Engine

Original Cost

Add Attach-ment

EqptCost

10,000

AccumDeprec

4,000

Net Book Value 6,000


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Over-haul Engine

Original Cost

Add Attach-ment

EqptCost

10,000 10,000

AccumDeprec 2,000 = +2,000

4,000

Net Book Value 8,000 6,000


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Over-haul Engine

Original Cost

Add Attach-ment

EqptCost

10,000 10,000 +2,000 = 12,000

AccumDeprec 2,000 = +2,000

4,000 4,000

Net Book Value 8,000 6,000 8,000


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Natural Resources Assets supplied by nature

– Examples: gold, oil, and coal

Presented on balance sheet as non-current assets at cost minus all depletion to date.

Total cost of the asset is the cost of acquisition, exploration and development.

Cost is “written-off” as “Depletion Expense” over periods that related revenues are earned. (Usually, units-of-production method.)


9- 75

Natural Resources

A depletion rate is calculated usingthe units-of-production method.

Depletion Cost Per Unit Is Calculated As Follows:

Total Cost of Natural Resource

Estimated Number of Available Unitsof Natural Resource


9- 76

Natural Resources

Martin Mining Company paid $10,000,000 cash to purchase land that is expected to yield 5,000,000 tons

of coal. After all coal is extracted the land is not expected to have any salvage value. During 2006, the

company extracted and sold 500,000 tons of coal.

$10,000,000 – $05,000,000 tons

= $2.00 per ton extracted and sold


9- 77

Natural Resources

= Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

Cash + Coal Mine(10,000,000) 10,000,000 = NA + NA NA – NA = NA (10,000,000) IA

NA (1,000,000) NA (1,000,000) NA – 1,000,000 (1,000,000) NA

Assets

Martin Mining Company paid $10,000,000 cash to purchase land that is expected to yield 5,000,000 tons of coal. After all coal is extracted the land is not expected to

have any salvage value. During 2006, the company extracted and sold 500,000 tons of coal.

Account Title Debit CreditCoal Mine 10,000,000 Cash 10,000,000

Depletion Expense 1,000,000 Coal Mine 1,000,000


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Intangible Assets

Noncurrent assets without physical substance that confer certain rights and privileges on the owner of the asset. – Examples: patents, copyrights, franchises

and licenses, leaseholds, leasehold improvements, trademarks, and goodwill.

Purchased intangible assets are recorded at cost.


9- 79

Two Categories of Intangible Assets

Intangible assets with IDENTIFIABLE useful lives.– e.g. Patents and Copyrights They have a legal life, BUT they MAY become obsolete or worthless before their legal live is over.

Intangible assets with INDEFINITE useful lives. – e.g. Goodwill, Franchise, Trademark

How long will the “name” of a restaurant keep attracting customers if new owners don’t serve good food and provide good service?


9- 80

Intangible Assets with IDENTIFIABLE Useful Lives

Amortize (write-off) over the shorter of their useful life or legal life.

Normally the straight-line method is used and the asset is reported on the balance sheet at book value without a related accumulated amortization account.


9- 81

Intangible Assets: Patents A patent is an exclusive right granted by

the federal government to sell or manufacture an invention.

A patent is amortized over the shorter of its useful life or 17-year legal life.


9- 82

Intangible Assets with IDENTIFIABLE Useful Lives

Example: (1) A patent is purchased from a company for $20,000. (2) When purchased, there were 15 years remaining of the 17 year legal life, but management estimates that new technology will make this patent obsolete in 4 years. ($20,000/4=$5,000)

INCOME STATEMENT CASHFLOW

= + EQUITY STATEMENTAccts Com. Ret. Net OA,IA,FA

Cash + Patent = Pay. + Stk. + Earn. Rev. - Exp. = Inc. $ amt

BB 30,000 22,000 8,000 30,000 bal.

1 (20,000) 20,000 (20,000) IA

2 (5,000) (5,000) 5,000 (5,000)

EB 10,000 + 15,000 = - + 22,000 + 3,000 - - 5,000 = (5,000) 10,000 bal.

Patent 20,000 Amortization Expense 5,000

Cash 20000 Patent 5000


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Intangible Assets: Goodwill Goodwill is the added value of a business that is

attributable to favorable factors such as a good reputation, location, and superior products.

Goodwill must be PURCHASED by acquiring an existing business at a cost that is higher than the Fair Market Value of its physical assets (minus any liabilities assumed by the buying company).

Goodwill has an INDEFINITE useful life, so it must be tested for IMPAIRMENT each year.


9- 85

Intangible Assets with INDEFINITE Useful Lives

Must be tested for IMPAIRMENT each year. If the fair market value of the intangible asset is

less than its book value, the value has been IMPAIRED (reduced).

To reduce the intangible asset to its new lower fair value an IMPAIRMENT LOSS is recorded and reported on the Income Statement. The intangible asset is reduced by the same amount.


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Intangible Assets: Goodwill (Example)

Winona Co. purchased Rushford Co. by paying $1,500 cash for all of its assets, but also agreeing to assume its liabilities.

Individual company balance sheets before purchase: Rushford Co. Winona Co.Assets: Liab.-A/P 200 Assets: Liab.-A/P 1000Eq.,net 1000 C.Cap. 500 Cash 2000 C.Cap.

3000 Ret.Earn 300 Eq.,net 7000 Ret.Earn

5000T. Assets 1000 T. L&Eq.1000 T.Assets 9000 T. L&Eq. 9000

An appraiser says the Fair Market Value of Rushford’s assets is $1,300.


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Intangible Assets: Goodwill (example)

Cash Paid

+ Liab. Assumed

= Total cost

- FMV of Assets Acquired

= Goodwill purchased

Calculation of Goodwill

$1,500

200

1,700

1,300

$ 400


9- 88

Stockholders’

Equity

For

Corporations

Let’s Take a Quick Look at a Chapter 11


9- 89

Corporations

A corporation is a popular form of business because . . . It is simple for individuals to purchase

small amounts of stock.It allows for an easy transfer of

ownership through established markets, like the New York Stock Exchange.

It provides stockholders with limited liability.


9- 90

Corporations Because a corporation is a separate

legal entity, it can . . . – Own assets.– Incur liabilities.– Sue and be sued.– Enter into contracts independent of the

stockholder owners.

Many Americans own stock through a mutual fund or pension program.


9- 91

Ownership of a Corporation

Owners of common stock generally receive the following rights:– Voting (in person or by proxy).– Distributions of profits (in the form of Dividends).

– Distributions of assets in a liquidation.– Offers to purchase shares of a new stock

issue (pro rata basis).


9- 92

Creating a Corporation

State laws govern the creation of corporations.

An application for a charter (or articles of incorporation) must include the corporation’s name and purpose, kinds and amounts of capital (common) stock authorized, and other detailed information.


9- 93

Creating a Corporation

Once the state issues a charter, the stockholders elect a board of directors.


9- 94

Authorized, Issued, and Outstanding Capital Stock

The maximum number of shares of capital stock that can be sold to the public is called the authorized number of shares.

AuthorizedShares


9- 95


Authorized Shares

Issued shares have been

sold.

Unissued shares have

never been sold.


9- 96


AuthorizedShares

UnissuedShares

OutstandingShares

owned by stockholders.

IssuedShares


9- 97


AuthorizedShares

UnissuedShares

TreasuryShares

OutstandingShares

owned by stockholders.

IssuedShares

reacquired by the corporation.


9- 98

Common Stock

Basic voting stock of the corporation Ranks after preferred stock for

dividend and liquidation distribution. Dividend rates are determined by the

board of directors based on the corporation’s profitability and other factors.


9- 99

Chapter 8 (and a little 11)

The End

mcgraw-hill/irwin © the mcgraw-hill companies, inc., 2015 9- 1 chapter eight accounting for long-...

Documents

plant assets

fixed assets

cost of intangible assets

usable assets

cost of equipment

mcgrawhill companies

cost of buildings

process of allocating