Chapter

9-1
 9
REPORTING
AND ANALYZING
LONG-LIVED ASSETS

Chapter Financial Accounting, Sixth Edition

9-2
 Study Objectives
1. Describe how the cost principle applies to plant assets.

2. Explain the concept of depreciation.

3. Compute periodic depreciation using the straight-line method, and

contrast its expense pattern with those of other methods.

4. Describe the procedure for revising periodic depreciation.

5. Explain how to account for the disposal of plant assets.

6. Describe methods for evaluating the use of plant assets.

7. Identify the basic issues related to reporting intangible assets.

8. Indicate how long-lived assets are reported in the financial

statements.
Chapter
9-3
 Reporting and Analyzing Long-Lived Assets

Plant Assets Intangible Assets

Determining the cost of Accounting for

plant assets intangibles assets
Accounting for plant Types of intangibles
assets assets
Analyzing plant assets Financial statement
presentation of long-lived
assets

Chapter
9-4
 Plant Assets Section One

Plant assets are resources that have

 physical substance (a definite size and shape),

 are used in the operations of a business,

 are not intended for sale to customers,

 are expected to provide service to the company for a

number of years, except for land.

Referred to as property, plant, and equipment; plant and

equipment; and fixed assets.

Chapter
9-5
 Plant Assets Section One

Plant assets are critical to a company’s success

Illustration 9-1

Chapter
9-6
 Determining the Cost of Plant Assets

Cost Principle - requires that companies record plant

assets at cost.

Cost consists of all expenditures necessary to

acquire an asset and make it ready for its intended use.

Revenue expenditure – costs incurred to acquire a plant

asset that are expensed immediately.

Capital expenditures - costs included in a plant asset

account.

Chapter
9-7 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Cost - cash paid in a cash transaction or the cash

equivalent price paid.
Cash equivalent price is the

 fair value of the asset given up or

 fair value of the asset received,

whichever is more clearly determinable.

Chapter
9-8 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Land
All necessary costs incurred in making land ready for its
intended use increase (debit) the Land account.

Costs typically include:

1) cash purchase price,
2) closing costs such as title and attorney’s fees,
3) real estate brokers’ commissions, and
4) accrued property taxes and other liens on the land
assumed by the purchaser.

Chapter
9-9 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Illustration: Assume that Hayes Manufacturing Company

acquires real estate at a cash cost of $100,000. The property
contains an old warehouse that is razed at a net cost of $6,000
($7,500 in costs less $1,500 proceeds from salvaged materials).
Additional expenditures are the attorney’s fee, $1,000, and the
real estate broker’s commission, $8,000.

Required: Determine the amount to be reported as the cost of

the land.

Chapter
9-10 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Required: Determine amount to be reported as the cost of the

land.
Land
Cash price of property ($100,000) $100,000
Net removal cost of warehouse ($6,000) 6,000
Attorney's fees ($1,000) 1,000
Real estate broker’s commission ($8,000) 8,000
Cost of Land $115,000

Chapter
9-11 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Land Improvements
Includes all expenditures necessary to make the
improvements ready for their intended use.

 Examples: driveways, parking lots, fences, landscaping,

and underground sprinklers.

 Limited useful lives.

 Expense (depreciate) the cost of land improvements over

their useful lives.

Chapter
9-12 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Buildings
Includes all costs related directly to purchase or construction.

Purchase costs:
 Purchase price, closing costs (attorney’s fees, title insurance,
etc.) and real estate broker’s commission.
 Remodeling and replacing or repairing the roof, floors,
electrical wiring, and plumbing.

Construction costs:
 Contract price plus payments for architects’ fees, building
permits, and excavation costs.
Chapter
9-13 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Equipment
Include all costs incurred in acquiring the equipment and
preparing it for use.
Costs typically include:
 Cash purchase price.
 Sales taxes.
 Freight charges.
 Insurance during transit paid by the purchaser.
 Expenditures required in assembling, installing, and testing
the unit.
Chapter
9-14 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Illustration: Lenard Company purchases a delivery truck at a

cash price of $22,000. Related expenditures are sales taxes
$1,320, painting and lettering $500, motor vehicle license $80,
and a three-year accident insurance policy $1,600. Compute
the cost of the delivery truck.
Truck
Cash price $22,000
Sales taxes 1,320
Painting and lettering 500

Cost of Delivery Truck $23,820

Chapter
9-15 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

Illustration: Lenard Company purchases a delivery truck at a

cash price of $22,000. Related expenditures are sales taxes
$1,320, painting and lettering $500, motor vehicle license $80,
and a three-year accident insurance policy $1,600. Prepare the
journal entry to record these costs.

Equipment 23,820
License expense 80
Prepaid insurance 1,600
Cash 25,500

Chapter
9-16 SO 1 Describe how the cost principle applies to plant assets.
 Determining the Cost of Plant Assets

To Buy or Lease?
A lease is a contractual agreement in which the owner of an
asset (lessor) allows another party (lessee) to use the asset
for a period of time at an agreed price.
Some advantages of leasing
1. Reduced risk of obsolescence.
2. Little or no down payment.
3. Shared tax advantages.
4. Assets and liabilities not reported.

Capital lease - lessees show the asset and liability on the balance sheet.
Chapter
9-17 SO 1 Describe how the cost principle applies to plant assets.
Chapter
9-18
 Accounting for Plant Assets

Depreciation
Process of allocating to expense the cost of a plant asset
over its useful (service) life in a rational and systematic
manner.

 Process of cost allocation, not asset valuation.

 Applies to land improvements, buildings, and equipment,

not land.

 Depreciable, because the revenue-producing ability of

asset will decline over the asset’s useful life.

Chapter
9-19 SO 2 Explain the concept of depreciation.
 Accounting for Plant Assets

Factors in Computing Depreciation

Illustration 9-6

Cost Useful Life Salvage Value

Chapter
9-20 SO 2 Explain the concept of depreciation.
 Accounting for Plant Assets

Depreciation Methods
Management selects the method it believes best measures
an asset’s contribution to revenue over its useful life.

Examples include:
(1) Straight-line method.
(2) Declining-balance method.
(3) Units-of-activity method.

Illustration 9-7
Use of depreciation
methods in major
U.S. companies
Chapter
9-21 SO 3
 Accounting for Plant Assets

Illustration: Bill’s Pizzas purchased a small delivery truck on

January 1, 2012.

Required: Compute depreciation using the following.

(a) Straight-Line. (b) Units-of-Activity. (c) Declining Balance.

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-22
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Straight-Line
 Expense is same amount for each year.
 Depreciable cost = Cost less salvage value.
Illustration 9-8

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-23
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Illustration: (Straight-Line Method)

Illustration 9-9

Depreciable Annual Accum. Book

Year Cost x Rate = Expense Deprec. Value
2012 $ 12,000 20% $ 2,400 $ 2,400 $ 10,600
2013 12,000 20 2,400 4,800 8,200
2014 12,000 20 2,400 7,200 5,800
2015 12,000 20 2,400 9,600 3,400
2016 12,000 20 2,400 12,000 1,000

2012 Depreciation expense 2,400

Journal
Entry Accumulated depreciation 2,400
Chapter SO 3 Compute periodic depreciation using the straight-line method,
9-24
and contrast its expense pattern with those of other methods.
 Partial
Accounting for Plant Assets
Year
Illustration: (Straight-Line Method)
Assume the delivery truck was purchased on April 1, 2010.
Current
Depreciable Annual Partial Year Accum.
Year Cost Rate Expense Year Expense Deprec.
2012 $ 12,000 x 20% = $ 2,400 x 9/12 = $ 1,800 $ 1,800
2013 12,000 x 20% = 2,400 2,400 4,200
2014 12,000 x 20% = 2,400 2,400 6,600
2015 12,000 x 20% = 2,400 2,400 9,000
2016 12,000 x 20% = 2,400 2,400 11,400
2017 12,000 x 20% = 2,400 x 3/12 = 600 12,000
$ 12,000
Journal entry:
2012 Depreciation expense 1,800
Accumultated depreciation 1,800
Chapter
9-25 SO 3
 Accounting for Plant Assets

Declining-Balance
 Accelerated method.

 Decreasing annual depreciation expense over the

asset’s useful life.

 Double declining-balance rate is double the straight-line

rate.

 Rate applied to book value.

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-26
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Illustration: (Declining-Balance Method)

Illustration 9A-2
Declining
Beginning Balance Annual Accum. Book
Year Book value x Rate = Expense Deprec. Value

2012 13,000 40% $ 5,200 $ 5,200 $ 7,800

2013 7,800 40 3,120 8,320 4,680
2014 4,680 40 1,872 10,192 2,808
2015 2,808 40 1,123 11,315 1,685
2016 1,685 40 685* 12,000 1,000

2012 Depreciation expense 5,200

Journal
Entry Accumulated depreciation 5,200
Chapter
9-27 * Computation of $674 ($1,685 x 40%) is adjusted to $685. SO 3
 Accounting for Plant Assets

Units-of-Activity
 Companies estimate total units of activity to calculate
depreciation cost per unit.
Illustration 9A-3

 Expense varies based on

units of activity.
 Depreciable cost is cost
less salvage value.

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-28
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Illustration: (Units-of-Activity Method)

Illustration 9A-4

Hours Rate per Annual Accum. Book

Year Used x Hour = Expense Deprec. Value
2012 15,000 $ 0.12 $ 1,800 $ 1,800 $ 11,200
2013 30,000 0.12 3,600 5,400 7,600
2014 20,000 0.12 2,400 7,800 5,200
2015 25,000 0.12 3,000 10,800 2,200
2016 10,000 0.12 1,200 12,000 1,000

2012 Depreciation expense 1,800

Journal
Entry Accumulated depreciation 1,800

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-29
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets
Illustration 9-12

Comparison of
Depreciation
Methods
Illustration 9-13

Each method is
acceptable because
each recognizes the
decline in service
potential of the asset
in a rational and
systematic manner.
Chapter
9-30 SO 3
 Accounting for Plant Assets

Depreciation and Income Taxes

IRS does not require taxpayer to use the same depreciation
method on the tax return that is used in preparing financial
statements.

IRS requires the straight-line method or a special

accelerated-depreciation method called the Modified
Accelerated Cost Recovery System (MACRS).

MACRS is NOT acceptable under GAAP.

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-31
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Depreciation Disclosure in the Notes

Illustration 9-14

Chapter SO 3 Compute periodic depreciation using the straight-line method,

9-32
and contrast its expense pattern with those of other methods.
 Accounting for Plant Assets

Revising Periodic Depreciation

 Accounted for in the period of change and future
periods (Change in Estimate).

 Not handled retrospectively.

 Not considered error.

Chapter
9-33 SO 4 Describe the procedure for revising periodic depreciation.
 Accounting for Plant Assets

Illustration: Arcadia HS, purchased equipment for $510,000

which was estimated to have a useful life of 10 years with a
salvage value of $10,000 at the end of that time. Depreciation
has been recorded for 7 years on a straight-line basis. In 2012
(year 8), it is determined that the total estimated life should be
15 years with a salvage value of $5,000 at the end of that time.

Questions:
 What is the journal entry to correct the
No Entry
prior years’ depreciation? Required
 Calculate the depreciation expense
for 2012.
Chapter
9-34 SO 4 Describe the procedure for revising periodic depreciation.
 Accounting for Plant Assets After 7 years

Equipment cost $510,000 First, establish NBV

Salvage value - 10,000 at date of change in
Depreciable base 500,000 estimate.
Useful life (original) 10 years
Annual depreciation $ 50,000 x 7 years = $350,000

Balance Sheet (Dec. 31, 2011)

Plant Assets:
Equipment $510,000
Accumulated depreciation 350,000
Net book value (NBV) $160,000
Chapter
9-35 SO 4 Describe the procedure for revising periodic depreciation.
 Accounting for Plant Assets After 7 years

Net book value $160,000 Depreciation

Salvage value (new) 5,000 Expense calculation
Depreciable base 155,000 for 2012.
Useful life remaining 8 years
Annual depreciation $ 19,375

Journal entry for 2012 and future years.

Depreciation expense 19,375

Accumulated depreciation 19,375

Chapter
9-36 SO 4 Describe the procedure for revising periodic depreciation.
 Accounting for Plant Assets

Expenditure During Useful Life

Ordinary Repairs - expenditures to maintain the
operating efficiency and productive life of the unit.

 Debit - Repair (or Maintenance) Expense.

Additions and Improvements - costs incurred to

increase the operating efficiency, productive capacity, or
useful life of a plant asset.

 Debit - the plant asset affected.

Chapter
9-37 SO 4 Describe the procedure for revising periodic depreciation.
Chapter
9-38
 Accounting for Plant Assets

Impairments
Permanent decline in the fair value of an asset.

So as not to overstate the asset on the books, the

company writes the asset down to its new fair value
during the year in which the decline in value occurs.

Chapter
9-39 SO 4 Describe the procedure for revising periodic depreciation.
 Accounting for Plant Assets

Plant Asset Disposals

Companies dispose of plant assets in three ways —Retirement,
Sale, or Exchange (appendix).
Illustration 9-16

Record depreciation up to the date of disposal.

Eliminate asset by (1) debiting Accumulated Depreciation, and (2)
crediting the asset account.

Chapter
9-40 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Sale of Plant Assets

Compare the book value of the asset with the proceeds
received from the sale.
 If proceeds exceed the book value, a gain on disposal
occurs.
 If proceeds are less than the book value, a loss on
disposal occurs.

Chapter
9-41 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Illustration: On July 1, 2012, Wright Company sells office

furniture for $16,000 cash. The office furniture originally cost
$60,000. As of January 1, 2012, it had accumulated
depreciation of $41,000. Depreciation for the first six months of
2012 is $8,000. Prepare the journal entry to record
depreciation expense up to the date of sale.

July 1 Depreciation expense 8,000

Accumulated depreciation 8,000

Chapter
9-42 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Illustration 9-17
Computation of gain
on disposal

Illustration: Wright records the sale as follows.

July 1 Cash 16,000

Accumulated depreciation 49,000
Equipment 60,000
Gain on disposal 5,000

Chapter
9-43 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Illustration: Assume that instead of selling the office furniture

for $16,000, Wright sells it for $9,000.
Illustration 9-18
Computation of loss
on disposal

July 1 Cash 9,000

Accumulated depreciation 49,000
Equipment 60,000
Loss on disposal 2,000
Chapter
9-44 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Retirement of Plant Assets

 No cash is received.

 Decrease (debit) Accumulated Depreciation for the

full amount of depreciation taken over the life of the
asset.

 Decrease (credit) the asset account for the original

cost of the asset.

Chapter
9-45 SO 5 Explain how to account for the disposal of a plant asset.
 Plant Asset Disposals

Illustration: Assume that Hobart Enterprises retires

its computer printers, which cost $32,000. The accumulated
depreciation on these printers is $32,000. The journal entry to
record this retirement is?

Accumulated depreciation 32,000

Printing equipment 32,000

Question: What happens if a fully depreciated plant asset is still

useful to the company?

Chapter
9-46 SO 5 Explain how to account for the disposal of a plant asset.
 Analyzing Plant Assets

Return on Asset Ratio indicates the amount of net

income generated by each dollar of assets.
Illustration 9-19

Chapter
9-47 SO 6 Describe methods for evaluating the use of plant assets.
Chapter
9-48
 Analyzing Plant Assets

Asset Turnover Ratio indicates how efficiently a

company uses its assets to generate sales.
Illustration 9-20

Chapter
9-49 SO 6 Describe methods for evaluating the use of plant assets.
 Analyzing Plant Assets

Profit Margin Ratio Revisited

Tells how effective a company is in turning its sales into income—
that is, how much income each dollar of sales provides.
Illustration 9-21

Illustration 9-22
You can evaluate
the return on assets
ratio by evaluating
its components.
Chapter
9-50 SO 6 Describe methods for evaluating the use of plant assets.
 Intangible Assets Section Two

Intangible assets are rights, privileges, and competitive

advantages that result from ownership of long-lived
assets that do not possess physical substance.

Limited life or an indefinite life.

Common types of intangibles:

 Patents  Trademarks
 Copyrights  Trade names
 Franchises or licenses  Goodwill

Chapter
9-51 SO 7 Identify the basic issues related to reporting intangible assets.
 Accounting for Intangible Assets

Amortization of Intangibles
Limited-Life Intangibles:
 Amortize to expense.
 Credit asset account or accumulated amortization.

Indefinite-Life Intangibles:
 No foreseeable limit on time the asset is expected to
provide cash flows.
 No amortization.

Chapter
9-52 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Patents
 Exclusive right to manufacture, sell, or otherwise control
an invention for a period of 20 years from the date of the
grant.

 Capitalize costs of purchasing a patent and amortize

over its 20-year life or its useful life, whichever is shorter.

 Expense any R&D costs in developing a patent.

 Legal fees incurred successfully defending a patent are

capitalized to Patent account.

Chapter
9-53 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Illustration: National Labs purchases a patent at a cost of

$60,000 on June 30. National estimates the useful life of the
patent to be eight years. Prepare the journal entry to record the
amortization for the six-month period ended December 31.

Cost $60,000
Useful life / 8
Annual expense $ 7,500
6 months x 6/12
Amortization $ 3,750
Dec. 31
Amortization expense 3,750
Patent 3,750
Chapter
9-54 SO 7
 Types of Intangible Assets

Research and Development Costs

Expenditures that may lead to

 patents, All R & D costs

 copyrights, are expensed
when incurred.
 new processes, and

 new products.

Chapter
9-55 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Copyrights
 Give the owner the exclusive right to reproduce and sell
an artistic or published work.

 Granted for the life of the creator plus 70 years.

 Capitalize costs of acquiring and defending it.

 Amortized to expense over useful life.

Chapter
9-56 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Trademarks and Trade Names

 Word, phrase, jingle, or symbol that identifies a
particular enterprise or product.
► Wheaties, Monopoly, Sunkist, Kleenex, Coca-Cola,
Big Mac, and Jeep.

 Legal protection for indefinite number of 20 year

renewal periods.

 Capitalize acquisition costs.

 No amortization.

Chapter
9-57 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Franchises and Licenses

 Contractual arrangement between a franchisor and a
franchisee.
► Toyota, Shell, Subway, and Marriott are franchises.

 Franchise (or license) with a limited life should be

amortized to expense over the life of the franchise.

 Franchise with an indefinite life should be carried at

cost and not amortized.

Chapter
9-58 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Goodwill
Includes exceptional management, desirable location, good
customer relations, skilled employees, high-quality products,
etc.

Only recorded when an entire business is purchased.

Goodwill is recorded as the excess of ...

purchase price over the FMV of the identifiable net
assets acquired.

Internally created goodwill should not be capitalized.

Chapter
9-59 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Illustration: Identify the term most directly associated with

each statement.

1. The allocation to expense of the cost of an

intangible asset over the asset’s useful life.
Amortization

2. Rights, privileges, and competitive

advantages that result from the ownership Intangible
of long-lived assets that do not possess Assets
physical substance.
3. An exclusive right granted by the federal
government to reproduce and sell an Copyrights
artistic or published work.
Chapter
9-60 SO 7 Identify the basic issues related to reporting intangible assets.
 Types of Intangible Assets

Illustration: Identify the term most directly associated with

each statement.

4. A right to sell certain products or services

or to use certain trademarks or trade Franchise
names within a designated geographic
area.
5. Costs incurred by a company that often Research
lead to patents or new products. These
and
Development
costs must be expensed as incurred.
Costs

Chapter
9-61 SO 7 Identify the basic issues related to reporting intangible assets.
Chapter
9-62
 Statement Presentation of Long-Lived Assets

Illustration 9-23

Chapter
9-63 SO 8 Indicate how long-lived assets are reported in the financial statements.
 Statement Presentation of Long-Lived Assets

A difference between accrual-accounting net income and net cash provided by

operating activities is caused by depreciation and amortization expense.

Chapter
9-64 SO 8.
 Calculation of Depreciation
appendix 9A Using Other Methods

Declining-Balance
 Decreasing annual depreciation expense over the
asset’s useful life.
 Double declining-balance rate is double the straight-line
rate.
 Rate applied to book value.
Illustration 9-A1

Chapter SO 9 Compute periodic depreciation using the declining-

9-65
balance method and the units-of-activity method.
 Calculation of Depreciation
appendix 9A Using Other Methods
Illustration: (Declining-Balance Method)
Declining Illustration 9-A2

Beginning Balance Annual Accum. Book

Year Book value x Rate = Expense Deprec. Value

2012 13,000 40% $ 5,200 $ 5,200 $ 7,800

2013 7,800 40 3,120 8,320 4,680
2014 4,680 40 1,872 10,192 2,808
2015 2,808 40 1,123 11,315 1,685
2016 1,685 40 685* 12,000 1,000

2012 Depreciation expense 5,200

Journal
Entry Accumulated depreciation 5,200
Chapter
9-66 * Computation of $674 ($1,685 x 40%) is adjusted to $685.
 Partial Year
appendix 9A Purchased on
4/1/12
Illustration: (Declining-Balance Method)
Declining Current
Beginning Balance Annual Partial Year Accum.
Year Book Value Rate Expense Year Expense Deprec.
2012 $ 13,000 x 40% = $ 5,200 x 9/12 = $ 3,900 $ 3,900
2013 9,100 x 40% = 3,640 3,640 7,540
2014 5,460 x 40% = 2,184 2,184 9,724
2015 3,276 x 40% = 1,310 1,310 11,034
2016 1,966 x 40% = 786 786 11,821
2017 1,179 x 40% = 472 Plug 179 12,000
$ 12,000
Journal entry:

2012 Depreciation expense 3,900

Accumultated depreciation 3,900

Chapter SO 9 Compute periodic depreciation using the declining-

9-67
balance method and the units-of-activity method.
 Calculation of Depreciation
appendix 9A Using Other Methods

Units-of-Activity
 Suited to equipment whose activity can be measured in
units of output, miles driven, or hours in use.
 Calculate depreciation cost Illustration 9A-3

per unit.
 Expense varies based on
units of activity.
 Depreciable cost is cost
less salvage value.

Chapter SO 9 Compute periodic depreciation using the declining-

9-68
balance method and the units-of-activity method.
 Calculation of Depreciation
appendix 9A Using Other Methods

Illustration: (Units-of-Activity Method)

Illustration 9A-4

Hours Rate per Annual Accum. Book

Year Used x Hour = Expense Deprec. Value
2012 15,000 $ 0.12 $ 1,800 $ 1,800 $ 11,200
2013 30,000 0.12 3,600 5,400 7,600
2014 20,000 0.12 2,400 7,800 5,200
2015 25,000 0.12 3,000 10,800 2,200
2016 10,000 0.12 1,200 12,000 1,000

2012 Depreciation expense 1,800

Journal
Entry Accumulated depreciation 1,800
Chapter SO 9 Compute periodic depreciation using the declining-
9-69
balance method and the units-of-activity method.
 Key Points
 The definition for plant assets for both IFRS and GAAP is
essentially the same.
 Both international standards and GAAP follow the cost
principle when accounting for property, plant, and equipment at
date of acquisition.
 Under both IFRS and GAAP, interest costs incurred during
construction are capitalized. Recently, IFRS converged to GAAP
requirements in this area.
 IFRS, like GAAP, capitalizes all direct costs in self-constructed
assets such as raw materials and labor. IFRS does not address
Chapter
the capitalization of fixed overhead.
9-70
 Key Points
 IFRS also views depreciation as an allocation of cost over an
asset’s useful life. IFRS permits the same depreciation methods
(e.g., straight-line, accelerated, and units-of-activity) as GAAP.
However, a major difference is that IFRS requires component
depreciation. Component depreciation specifies that any
significant parts of a depreciable asset that have different
estimated useful lives should be separately depreciated.
Component depreciation is allowed under GAAP but is seldom
used.
 IFRS uses the term residual value, rather than salvage value.

Chapter
9-71
 Key Points
 IFRS allows companies to revalue plant assets to fair value at
the reporting date. Companies that choose to use the
revaluation framework must follow revaluation procedures. If
revaluation is used, it must be applied to all assets in a class of
assets. Assets that are experiencing rapid price changes must
be revalued on an annual basis, otherwise less frequent
revaluation is acceptable.
 Under both GAAP and IFRS, changes in the depreciation
method used and changes in useful life are handled in current
and future periods. Prior periods are not affected. GAAP
recently conformed to international standards in the accounting
Chapter for changes in depreciation methods.
9-72
 Key Points
 The accounting for subsequent expenditures, such as ordinary
repairs and additions, are essentially the same under IFRS and
GAAP.
 The accounting for plant asset disposals is essentially the
same under IFRS and GAAP.
 Initial costs to acquire natural resources are essentially the
same under IFRS and GAAP.
 The definition of intangible assets is essentially the same under
IFRS and GAAP.

Chapter
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 Key Points
 Intangibles generally arise when a company buys another
company. In this case, specific criteria are needed to separate
goodwill from other intangibles. Both GAAP and IFRS follow the
same approach to make this separation, that is, companies
recognize an intangible asset separately from goodwill if the
intangible represents contractual or legal rights or is capable of
being separated or divided and sold, transferred, licensed,
rented, or exchanged. In addition, under both GAAP and IFRS,
companies recognize acquired in-process research and
development (IPR&D) as a separate intangible asset if it meets
the definition of an intangible asset and its fair value can be
measured reliably.
Chapter
9-74
 Key Points
 As in GAAP, under IFRS the costs associated with research and
development are segregated into the two components. Costs in
the research phase are always expensed under both IFRS and
GAAP. Under IFRS, however, costs in the development phase
are capitalized as Development Costs once technological
feasibility is achieved.
 IFRS permits revaluation of intangible assets (except for
goodwill). GAAP prohibits revaluation of intangible assets.

Chapter
9-75
 Key Points
 IFRS requires an impairment test at each reporting date for
plant assets and intangibles and records an impairment if the
asset’s carrying amount exceeds its recoverable amount. The
recoverable amount is the higher of the asset’s fair value less
costs to sell or its value-in-use. Value-in-use is the future cash
flows to be derived from the particular asset, discounted to
present value. Under GAAP, impairment loss is measured as the
excess of the carrying amount over the asset’s fair value.

Chapter
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 Key Points
 IFRS allows reversal of impairment losses when there has been
a change in economic conditions or in the expected use of the
asset. Under GAAP, impairment losses cannot be reversed for
assets to be held and used; the impairment loss results in a
new cost basis for the asset. IFRS and GAAP are similar in the
accounting for impairments of assets held for disposal.
 The accounting for exchanges of nonmonetary assets has
recently converged between IFRS and GAAP. GAAP now
requires that gains on exchanges of nonmonetary assets be
recognized if the exchange has commercial substance. This is
the same framework used in IFRS.
Chapter
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 Looking into the Future
It is too early to say whether a converged conceptual framework
will recommend fair value measurement (and revaluation
accounting) for plant assets and intangibles. The IASB and FASB
have identified a project that would consider expanded recognition
of internally generated intangible assets. IFRS permits more
recognition of intangibles compared to GAAP. Thus, it will be
challenging to develop converged standards for intangible assets,
given the long-standing prohibition on capitalizing internally
generated intangible assets and research and development costs
in GAAP.
Chapter
9-78
 Which of the following statements is correct?

a) Both IFRS and GAAP permit revaluation of property,

plant, and equipment and intangible assets (except for
goodwill).

b) IFRS permits revaluation of property, plant, and

equipment and intangible assets (except for goodwill).

c) Both IFRS and GAAP permit revaluation of property,

plant, and equipment but not intangible assets.

d) GAAP permits revaluation of property, plant, and

equipment but not intangible assets.
Chapter
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 Research and development costs are:

a) expensed under GAAP.

b) expensed under IFRS.

c) expensed under both GAAP and IFRS.

d) None of the above.

Chapter
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 Under IFRS, value-in-use is defined as:

a) net realizable value.

b) fair value.

c) future cash flows discounted to present value.

d) total future undiscounted cash flows.

Chapter
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 Copyright

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Chapter
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