# Financial accounting the impact on decision makers 9e chapter 8

Chapter 8
Operating Assets: Property, Plant,
and Equipment, and Intangibles

Operating Assets

Two categories of operating assets presented on the
balance sheet:

Property, Plant and Equipment
Intangible Assets

Presented at their acquisition cost (historical cost)
 Essential to a company’s long-term future

Used to produce the goods or services the company sells to
customers

Constitute the major productive assets of many
companies
LO 1

Balance Sheet Presentation of
Property, Plant, and Equipment
 Balance

sheet uses one line item for property,
plant, and equipment and presents the details
in the notes

Acquisition of Property, Plant, and
Equipment
 Initially

recorded at acquisition cost or original

cost
 Includes all cost normally necessary to acquire
an asset and prepare it for its intended use
 Purchase

price
 Taxes paid at time of purchase (for example, sales
tax)
 Transportation charges
 Installation costs
LO 2

Group Purchase

 Firm

purchases several assets as a group and
pays a lump-sum amount
 Acquisition cost of each asset is separately
measured on the basis of the proportion of the
fair market value of each

LO 3

Example 8.1—Determining Cost When
a Group of Assets Is Purchased

Assume that on January 1, ExerCo purchased a building and the
land on which it is situated for \$100,000. The accountant
established the assets’ fair market value on January 1 as follows:

Based on the estimated market values, purchase price should be
allocated as follows:
To land

\$100,000 × \$30,000/\$120,000 = \$25,000

To building

\$100,000 × \$90,000/\$120,000 = \$75,000

Example 8.1—Determining Cost When a
Group of Assets Is Purchased (continued)
The effect of the transaction can be identified and
analyzed as follows:

Capitalization of Interest
 The

interest on borrowed money should be
treated as an expense of the period
 If a company constructs an asset over a period
of time and borrows money to finance the
construction
 The

interest incurred during the construction period
is not treated as interest expense
 The interest must be included as part of the
acquisition cost of the asset
LO 4

Land Improvements
 The

acquisition cost of land should be kept in a
separate account because land has an unlimited
life and is not subject to depreciation
 Costs associated with land should be recorded
in an account such as Land Improvements
 Example:

Costs of paving a parking lot and
landscaping costs
• Have a limited life
• Should be depreciated over their useful lives

Use and Depreciation of Property,
Plant, and Equipment
 Depreciation:

allocation of the original cost of
an asset to the periods benefited by its use
 An asset’s decline in usefulness is related to:
 Physical

deterioration from usage or from the
passage of time
 Obsolescence factors such as changes in technology
 The company’s repair and maintenance policies

LO 5

Use and Depreciation of Property,
Plant, and Equipment
 Methods

of depreciation:

Straight-line
Units-of-production
Accelerated depreciation

 The

method chosen should be one that best
matches the expense to the revenue generated
by the asset

Straight-Line Method
 Allocates

the cost of the asset evenly over time

Example 8.2—Computing Depreciation
Using the Straight-Line Method

Assume that on January 1, 2014, ExerCo, a manufacturer of
exercise equipment, purchased a machine for \$20,000. The
machine’s estimated life would be five years, and its residual
value at the end of 2018 would be \$2,000. The annual
depreciation should be calculated as follows:

The book value at the end of 2014

Example 8.2—Computing Depreciation
Using the Straight-Line Method (continued)

The book value at the end of 2014

Units-of-Production Method
 Depreciation

is determined as a function of the
number of units the asset produces

Example 8.3—Computing Depreciation
Using the Units-of-Production

ExerCo has estimated that the total number of units that will be
produced during the asset’s five-year life is 18,000. During 2014,
ExerCo produced 4,000 units. The depreciation per unit for
ExerCo’s machine can be calculated as follows:

The book value at the end of 2014

Accelerated Depreciation Method
 Higher

amount of depreciation is recorded in
the early years than in later years
 Double-declining-balance method: recorded at
twice the straight-line rate, but the balance is
reduced each period

Example 8.4—Computing Depreciation
Using the Double-Declining-Balance Method

Assume that ExerCo wants to depreciate its asset using the doubledeclining-balance method. The first step is to calculate the straightline rate as a percentage. The straight-line rate for the ExerCo asset
with a five-year life is as follows:

The second step is to double the straight-line rate, as follows:

The amount of depreciation for 2014

The amount of depreciation for 2015

Example 8.4—Computing Depreciation
Using the Units-of-Production (continued)
The complete depreciation schedule for ExerCo for all five years of
the machine’s life would be as follows:

Exhibit 8.1—Comparison of Depreciation and Book Values
of Straight-Line and Double-Declining-Balance Methods

Exhibit 8.2—Management’s Choice of
Depreciation Method

Changes in Depreciation Estimate
 Change

in the life of the asset or in its residual

value
 Recorded prospectively
 The

depreciation recorded in prior years is not
corrected or restated
 The new estimate should affect the current and
future years

LO 6

Example 8.5—Calculating a Change in
Depreciation Estimate

\$20,000 machine originally expected to be depreciated
over 5 years. After 2 years, useful life is increased to 7
years
\$3,600

\$3,600

2012

2013

Depreciation

2014

revise
estimate
From 5 years to 7 years

2015

2016

Example 8.5—Calculating a Change in
Depreciation Estimate (continued)

\$3,600

\$3,600

\$2,160

\$2,160

\$2,160

\$2,160

\$2,160

2012

2013

2014

2015

2016

2017

2018

revise
estimate

Depreciation

Example 8.5—Calculating a Change in
Depreciation Estimate (continued)
 In

Example 8-5, the effect of the transaction can
be identified and analyzed as follows:

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