Accounting

Principles
Second Canadian Edition
Weygandt · Kieso · Kimmel ·
Trenholm

Prepared by:
Carole Bowman, Sheridan College
 CHAPTER

10

CAPITAL ASSETS
 CAPITAL
CAPITAL ASSETS
ASSETS

 Capital assets are long-lived assets that are

used in the operations of a business and are
not intended for sale to customers.
 Capital assets are subdivided into two
classes:
1. Tangible (with physical substance)
2. Intangible (without
physical substance)
 TANGIBLE CAPITAL ASSETS

Tangible capital assets include:

 property, plant and equipment
 Land
 Land improvements
 Buildings
 Equipment

 natural resources such as mineral deposits,

oil and gas reserves, and timber
 INTANGIBLE CAPITAL ASSETS

Intangible capital assets provide future

benefits through the special rights and
privileges they convey.

Examples:
Patents, copyrights, sports contracts, and
trademarks

 ©
 DETERMINING
DETERMINING THE
THE COST
COST OF
OF
CAPITAL
CAPITAL ASSETS
ASSETS
 Capital assets are recorded at cost in
accordance with the cost principle.
 Cost consists of all expenditures necessary
to 1) acquire the asset and 2) make
it ready for its intended use.
 These costs include purchase price,
freight costs, and installation costs.
BASKET PURCHASE

 Allocate cost of a
group of assets in
proportion to
relative fair
market values.
 MEASUREMENT
MEASUREMENT OFOF
CAPITAL
CAPITAL ASSET
ASSET COST
COST

 Cost is measured by the cash paid in a cash

transaction or by the cash equivalent price when
non-cash assets are used in payment.
 The cash equivalent price is equal to the fair market
value of the asset given up or the fair market value
of the asset received, whichever is more clearly
determinable.
 LAND
LAND

The cost of Land includes:

1. purchase price
2. closing costs such as title and
legal fees
3. accrued property taxes and other liens
on the land assumed by the purchaser
All necessary costs incurred in making land
ready for its intended use are debited to the
Land account.
 LAND
LAND IMPROVEMENTS
IMPROVEMENTS

The cost of land improvements includes all

expenditures necessary to make the
improvements ready for their intended use,
such as:
1. parking lots
Lighting
2. fencing
3. landscaping
4. lighting

Parking Lot
 BUILDINGS
BUILDINGS
 The cost of buildings includes all necessary
expenditures relating to the purchase or construction
of a building.
 When a building is purchased, such costs include the
purchase price and closing costs.
 Costs to make the building ready for its intended use
consist of expenditures for remodelling and replacing
or repairing the roof, floors, wiring, and plumbing.
 When a new building is constructed, cost consists
of the contract price plus payments for
architects’ fees, building permits, interest payments
during construction, and excavation costs.
 EQUIPMENT
EQUIPMENT
 The cost of equipment consists of the cash
purchase price, freight charges, and
insurance paid by the purchaser during
transit.
 Cost includes all expenditures required in
assembling, installing, and testing the unit.
 Depreciation/Amortization
Depreciation/Amortization
 Depreciation is the process of allocating to an
expense account the cost of a capital asset over its
useful (service) life in a rational and systematic
manner.
 Cost allocation is designed to provide for the proper
matching of expenses with revenues in accordance
with the matching principle.
 During an asset’s life, its usefulness may decline
because of wear and tear or obsolescence.
 Land is the only capital asset that is not amortized.
 Illustration 10-6
FACTORS IN CALCULATING
AMORTIZATION
 DEPRECIATION METHODS

Three methods of recognizing amortization are:

1. Straight-line,
2. Units of activity, and
3. Declining-balance.
Each method is acceptable under generally
accepted accounting principles. Management
selects the method that is appropriate for their
company. Once a method is chosen, it should be
applied consistently.
STRAIGHT-LINE METHOD
 STRAIGHT-LINE METHOD

 Amortization is
constant for
each year of the
asset's useful life
 DECLINING-BALANCE
DECLINING-BALANCE METHOD
METHOD
The calculation of periodic amortization is
based on a declining net book value (cost
less accumulated amortization) of the asset.
The amortization rate remains constant
from year to year, but the net book value to
which the rate is applied declines each year.

Straight-line Rate
Net Book Value (at (x declining balance Amortization
beginning of year) rate multiplier, if Expense
any)
 Diminishing-Balance Method

 Depreciation expense based on asset’s diminishing carrying amount

(cost less accumulated depreciation)
 Depreciation rate remains constant, but depreciation expense declines
each year

19
 DECLINING-BALANCE METHOD

 Accelerated
methods result in
more amortization
in early years and
less in later years
 UNITS-OF-ACTIVITY METHOD
To use the units-of-activity method,
1) the total units of activity for the entire useful life are estimated,
2) the amount is divided into amortizable cost to calculate the amortization cost per
unit, and
3) the amortization cost per unit is then applied to the units of activity during the year
to calculate the annual amortization.

Total
Amortized Units of Amortizable
Cost Activity Cost per Unit

Units of
Amortizable Activity during Amortization
Cost per Unit the Year Expense
 Units-of-Production Method
 Useful life expressed as total units of production or activity
 Must estimate the total units of production that will be obtained from
asset

22
 UNITS-OF-ACTIVITY METHOD

 Useful life is
expressed in terms
of total units of
production or
activity expected
from the asset
 EXPENDITURES
EXPENDITURES DURING
DURING
USEFUL
USEFUL LIFE
LIFE
 Ordinary repairs are expenditures to maintain the
operating efficiency and expected productive life of the
capital asset.
 They are debited to Repairs Expense as incurred and are
often referred to as operating expenditures.
 Additions and improvements are costs incurred to
increase the operating efficiency, productive
capacity, or expected useful life of the capital asset.
1. Expenditures are usually material in amount
and occur infrequently during the period of ownership.
2. Since additions and improvements increase the
company’s investment in productive facilities, they
are debits to the capital asset affected, and are
referred to as capital expenditures.
 CAPITAL ASSET DISPOSALS

Capital assets may be disposed of by

a) retirement
b) sale, or
c) exchange
 NATURAL
NATURAL RESOURCES
RESOURCES
 Natural resources consist of standing
timber and underground deposits
of oil, gas, and minerals.
 Natural resources, frequently called
wasting assets, have two distinguishing
characteristics:
1. They are physically extracted in
operations.
2. They are replaceable only
by an act of nature.
 ACQUISITION
ACQUISITION COST
COST

 The acquisition cost of a natural

resource is the cash or cash
equivalent price necessary to
acquire the resource and prepare
it for its intended use.
 If the resource is already
discovered, cost is the price paid
for the property.
 AMORTIZATION
AMORTIZATION

 The units-of-activity method is generally

used to calculate amortization, and
restoration costs are added to the
amortizable costs.
 Restoration costs – all cost to restore the
natural resource to a usable state
 A liability account is established for the
restoration portion of amortizable cost.
ILLUSTRATION 10-23
FORMULA TO CALCULATE
AMORTIZATION EXPENSE
Amortizable Cost = Total Amortization
(Cost – Residual Value Estimated Cost per
+ Restoration Costs) Units Unit

Number of
Amortization Units Amortization
Cost per Extracted Expense
Unit and Sold
 ILLUSTRATION 10-24
STATEMENT PRESENTATION OF
AMORTIZATION
Accumulated Amortization, a contra asset account, is
deducted from the cost of the natural resource in the
balance sheet as follows:
Lane Coal Company
Balance Sheet (partial)
December 31, 2003
Assets
Capital assets
Coal mine $ 5,000,000
Less: Accumulated amortization 384,000
Net book value 4,616,000
 INTANGIBLE
INTANGIBLE ASSETS
ASSETS
 Intangibleassets are rights, privileges, and
competitive advantages that result from the
ownership of long-lived assets that do not
possess physical substance.
 ACCOUNTING
ACCOUNTING FOR
FOR
INTANGIBLE
INTANGIBLE ASSETS
ASSETS
 In general, accounting for intangible
assets parallels the accounting for
capital assets.
 Intangible assets are:

1. recorded at cost;
2. written off over useful life in a
rational and systematic manner;
3. at disposal, net book value is eliminated
and gain or loss, if any, is recorded.
 AMORTIZATION

 Amortizable intangible assets

 Have defined lives
 Allocation of the cost to expense over the shorter of
Useful (economic) life
Legal life

 Straight-line method of amortization used

 UNAMORTIZABLE INTANGIBLE
ASSETS

 Indefinite useful lives

 Do not amortize, no legally determined
life
 Test for impairment
 TYPES OF INTANGIBLE ASSETS

 Patents
 Copyrights
 Trademarks and Trade Names
 Franchises and Licenses
 Goodwill
 Research and Development Costs
 PATENTS

 Exclusive right to manufacture, sell or

control granted for 20 years
 Legal costs of protecting a patent in an
infringement suit are added to the Patent
account and amortized over the remaining
life of the patent
 COPYRIGHTS
 Copyrights are granted by the federal
government giving the owner the exclusive
right to reproduce and sell artistic or
published work
 Copyrights extend for the life of the creator
plus 50 years
 TRADE MARKS/NAMES

 Word, phrase, jingle

or symbol that
distinguishes or
identifies a particular
enterprise or product
 If indefinite life, do not
amortize. Test for
impairment
 FRANCHISES

 Contractual agreement under which the

franchiser grants the franchisee the right
 To sell certain products
 To render specific services or to use certain
trademarks or trade names, usually within a
designated geographic area
 LICENSES

 Operating rights permit the enterprise to

use public property in performing its
service (i.e. the use of airwaves for radio
or TV broadcasting)
 GOODWILL

 Goodwill represents favourable attributes that

relate to a business enterprise
 Record only in an exchange transaction that
involves the purchase of an entire business
 Goodwill equals the excess of cost over the fair
market value of the net assets (assets less
liabilities) acquired
 Goodwill is not written off as it has an unlimited
useful life. It must be tested regularly for
impairment.
 RESEARCH AND DEVELOPMENT
COSTS
 Research costs–record as an expense when
incurred
 Development costs–capitalize if associated
with an identifiable, feasible product.
Otherwise, expense
 FINANCIAL
FINANCIAL STATEMENT
STATEMENT
PRESENTATION
PRESENTATION
 In the balance sheet, property, plant and
equipment, natural resources, and intangible
assets are often combined under the heading
Capital Assets.
 There should be disclosure of the balances in the
major classes of assets and accumulated
amortization of major classes of assets or of
assets in total.
 The amortization methods used should be
described and the amount of amortization
expense for the period disclosed.
 ASSET TURNOVER RATIO

 The ratio that shows how efficiently a company

uses its assets to generate sales is the asset
turnover ratio.
 How many dollars of sales are produced for
every dollar invested in assets?
Net Average Assets
Sales  Total Assets = Turnover
X times
 RETURN ON ASSETS

 The ratio that shows the profitability of assets

used in the earnings process is the return on
assets.
 What is the amount of profit earned for each
dollar invested in assets?
Net Average Return on
Income  Total Assets = Assets
X%
 COPYRIGHT

Copyright © 2002 John Wiley & Sons Canada, Ltd. All rights
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