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QUESTIONS
Q8-1. Routine maintenance costs that are necessary to realize the full benefits of ownership of the asset should be expensed. However, betterment or improvement costs should be capitalized if the outlay enhances the usefulness of the asset or extends the assets useful life beyond original expectations. As would be the case with any cost, an immaterial amount should be expensed as incurred. Q8-2. Capitalizing interest costs as part of the cost of constructing an asset reduces interest expense, and increases net income during the construction period. In subsequent periods, the interest costs that were capitalized as part of the cost of the asset will increase the periodic depreciation expense and reduce net income. Q8-3. As any asset is used up, its cost is removed from the balance sheet and transferred into the income statement as an expense. Capitalization of costs onto the balance sheet and subsequent removal as expense is the essence of accrual accounting. If the cost of a depreciable asset is recognized in full upon purchase, profit would be inaccurately measured: it would be too low in the year of purchase when the asset is expensed and too high in later years as revenues earned by the asset are not matched with a corresponding cost. The proper matching of costs (expenses) and revenues is essential for the proper recognition of profit. Q8-4. The primary benefit of accelerated depreciation for tax reporting is that the higher depreciation deductions in early periods reduce taxable income and income taxes. Cash flow is, therefore, increased, and this additional cash can be invested to yield additional cash inflows (e.g., an "interest-free loan" that can be used to generate additional income). We would generally prefer to receive cash inflows sooner rather than later in order to maximize this investment potential. Q8-5. When a change occurs in the estimate of an asset's useful life or its salvage value, the revision of depreciation expense is handled by depreciating the current undepreciated cost of the asset (original cost accumulated depreciation) using the revised assumptions of remaining useful life and salvage value. Present and future periods are affected by such revisions. Depreciation expense calculated and reported in past periods is not revised. Q8-6. The gain or loss on the sale of a PPE asset is determined by the difference between the asset's book value and the sale proceeds. Sales proceeds in excess of book values create gains; sales proceeds less than book values cause losses. The relevant factors, then, are the depreciation rate and salvage values used to compute depreciation expense, accumulated depreciation and the net book value of the asset, as well as the selling price of the asset.
Cambridge Business Publishers, 2011 8-2 Financial Accounting, 3rd Edition
Q8-7. A PPE asset is considered to be impaired when the sum of the undiscounted expected cash flows to be derived from the asset is less than its current book value. An impairment loss is calculated as the difference between the asset's book value and its current fair market value. Q8-8. Research and development costs must be expensed under GAAP unless they have alternative future uses. Equipment relating to a specific research project with no alternative use would, therefore, be expensed rather than capitalized and subsequently depreciated. Accounting standard-setters have justified this expense as incurred treatment for R&D costs since the outputs from research and development activities are uncertain and there are, therefore, no expected cash flows against which to match any future depreciation expense. Q8-9. The difficulty with amortizing intangible assets is estimating the useful life. For some intangibles, the useful life is limited and can be easily estimated. However, some intangibles have an indefinite life. This means that the useful life of the intangible is long and cannot be determined with any reasonable degree of accuracy. Under these circumstances, it is not appropriate to amortize the asset until the useful life can be determined. Q8-10. Goodwill arises whenever a company acquires another company and the purchase price is greater than the fair value of the identifiable assets acquired. The amount of goodwill is the difference between the purchase price and the value assigned to the net assets of the acquired company. It is recorded as a long-term asset in the balance sheet. Since goodwill is assumed to have an indefinite life, it is not amortized. The only time that goodwill might affect the income statement is if it is determined that its value is impaired. In that case, an impairment loss is recorded in the income statement and the value of the goodwill asset on the balance sheet is reduced.
MINI EXERCISES
M8-11 (10 minutes) a. expense b. capitalize c. capitalize (the new equipment enhances the assembly line) d. expense this is routine maintenance of the building, unless it extends the buildings useful life e. capitalize the useful life is extended f. capitalize this is a purchased intangible asset M8-12 (15 minutes) a. Straight-line: ($18,000 - $1,500)/ 5 years = $3,300 for both 2008 and 2009. b. Double-declining-balance: Twice straight-line rate = 2 x 1/5 = 40% 2010: $18,000 x 0.40 = $7,200 2011: ($18,000 - $7,200) x 0.40 = $4,320 Notice that, over the first two years, the company reports $6,600 of depreciation expense under the straight-line method and $11,520 of depreciation expense under the double-declining-balance method. M8-13 (15 minutes) a. Straight-line: ($130,000 - $10,000)/ 6 years = $20,000 for both 2010 and 2011. b. Double-declining-balance: Twice straight-line rate = 2 x 1/6 = 1/3 2010: $130,000 x 1/3 = $43,333 2011: ($130,000 - $43,333) x 1/3 = $28,889 c. Units of production: ($130,000 - $10,000) / 1,000,000 = $0.12 per unit 2010: 180,000 units x $0.12 = $21,600 2011: 140,000 units x $0.12 = $16,800 M8-14 (15 minutes) Straight-line depreciation: $40,000/10 = $4,000; 8 years x $4,000 = $32,000. a. Cash (+A) ........................................................................ Accumulated depreciation (-XA, +A) ........................... 3,500 32,000
........................................................................................... ........................................................................................... ........................................................................................... Loss on sale of furniture and fixtures (+E, -SE) ......... ........................................................................................... Furniture and fixtures (-A) ................................ M8-14continued. b.
Balance Sheet
Transaction Sold furniture and fixtures for cash. Cash Asset
4,500 40,000
Income Statement
+ Contrib. Capital + Earned Capital Revenues - Expenses = Net Income
+3,500
Cash
Noncash + Assets
-40,000
-32,000
Contra Assets
Liabilities
-4,500
Retained Earnings
+4,500
-4,500 =
Accumulated Depreciation
M8-15 (15 minutes) Twice the straight-line rate = 1/5 x 2 = 40% Year 1: $75,000 x .4 = Year 2: ($75,000 - $30,000) x .4 = Year 3: ($75,000 - $30,000 - $18,000) x .4 = Total accumulated depreciation a. $30,000 18,000 10,800 $58,800 25,000 58,800 75,000 8,800
Cash (+A) .......................................................................... Accumulated depreciation (-XA, +A) .............................. Machinery (-A) ........................................................ Gain on sale of machinery (+R, +SE) ...................
b.
Balance Sheet
Transaction Sold machinery for cash. Cash Asset
Income Statement
+ Contrib. + Capital Earned Capital Revenues - Expenses = Net Income
+25,000
Cash
Noncash + Assets
-75,000
Machinery
-58,800
Accumulated Depreciation
Contra Assets
Liabilities
+8,800
Retained Earnings
+8,800
Gain on Sale of Machinery
+8,800
M8-16 (15 minutes) a. Straight-line depreciation 2010: 2011: ($145,800 - $5,400)/3 = $46,800; (8/12) x $46,800 = $31,200 $46,800
($145,800 x 66%) = $97,200 2010: 2011: (8/12) x $97,200 = $64,800 ($145,800 - $64,800) x 66% = $54,000
M8-17 (20 minutes) a. Under U.S. GAAP, capitalization of development costs is not allowed and all R&D costs must be expensed. Under IFRS, development costs are capitalized if there is the intention, feasibility and resources to bring the asset to completion, there exists the ability to use or sell the asset to generate an economic benefit. Otherwise the costs must be expensed. b. Direct R&D personnel costs. Legal fees and registering costs. Overhead that cannot be allocated on a consistent basis including depreciation on equipment and amortization of patents and licenses related to the generation of the intangible. Administration, related promotion, and training expenses. c. Yes, impairment should be tested for annually. M8-18 (20 minutes) a. Year Book value Depreciation rate Depreciation expense 1 $50,000 2 x = 0.5 $25,000 2 25,000 2 x = 0.5 12,500 3 12,500 4,500 4 8,000 0* * No depreciation is recorded in Year 4 because the asset is depreciated to its residual value of $8,000. b. Year Book value Depreciation rate Depreciation expense 1 $50,000 2 x 1/5 = 0.4 $20,000 2 30,000 2 x 1/5 = 0.4 12,000 3 18,000 2 x 1/5 = 0.4 7,200 4 10,800 2 x 1/5 = 0.4 4,320 5 6,480 3,480* * $3,480 of depreciation is required in Year 5 to depreciate the asset to its residual value of $3,000. c. Year Book value Depreciation rate Depreciation expense 1 $50,000 2 x 1/10 = 0.2 $10,000 2 40,000 2 x 1/10 = 0.2 8,000 3 32,000 2 x 1/10 = 0.2 6,400 4 25,600 2 x 1/10 = 0.2 5,120 5 20,480 2 x 1/10 = 0.2 4,096 6 16,384 2 x 1/10 = 0.2 3,277 7 13,107 2 x 1/10 = 0.2 2,621 8 10,486 2 x 1/10 = 0.2 2,097 9 8,389 2 x 1/10 = 0.2 1,678 10 6,711 5,711* * $5,711 of depreciation is required in Year 10 to depreciate the remaining value of the asset. Alternatively, DeFond could switch to straight-line depreciation in Year 7, recording $3,027 of depreciation in Years 7 through 10.
Cambridge Business Publishers, 2011 Solutions Manual, Chapter 8 8-7
M8-19 (15 minutes) a. Year Barrels extracted 2010 300,000 2011 500,000 2012 600,000
b. i. Oil reserve (+A) ................................................................... 32,000,000 Cash (-A) .......................................................................... 32,000,000 ii. Oil inventory (+A) ................................................................ Oil reserve (-A) ................................................................ c.
+ i. Balance Oil Reserve (A) 32,000,000 2,400,000 29,600,000 + i. ii. Balance 2,400,000 Oil Inventory (A) 2,400,000 -
2,400,000 2,400,000
M8-20 (15 minutes) a. PPE turnover rates for 2007 Texas Instruments Intel Corp. $12,501 / [($3,609 + $3,304) / 2] = 3.62 $37,586 / [($16,918 + $17,544) / 2] = 2.18
Texas Instruments turns its PPE more quickly than does Intel. b. PPE turnover rates increase with increases in sales volume relative to the dollar amount of PPE on the balance sheet. The PPE turnover rate is often a very difficult turnover rate to change, and typically requires creative thinking. Many companies are outsourcing the manufacturing process in whole or in part to others in the supply chain. This is beneficial so long as the benefits realized by the reduction of manufacturing assets more than offset the higher cost of the goods as these are now purchased rather than manufactured. Another approach is to utilize long-term operating assets in partnership with another firm, say in a joint venture.
M8-21 (15 minutes) a. $2,786,067 / $29,527,552 = 9.4%. Abbotts R&D expenditure level could be compared to the R&D expenditure level for its competitors to gain a sense of the appropriateness of its R&D expenditures. b. R&D costs must be expensed when incurred unless acquired depreciable assets have alternative future uses. As a result, the balance sheet does not reflect the costs incurred for long-term R&D assets. In addition, operating expenses are increased, thus reducing retained earnings.
($000)
Balance Sheet
Cash Liabi+ Noncash Asset Assets = lities -2,786,067 = Cash + Contrib. Capital +
Income Statement
Earned Revenues - Expenses = Net Capital Income -2,786,067 +2,786,067 -2,786,067 - R&D Expense = Retained
Earnings
Transaction
R&D expenditures
EXERCISES
E8-22 (15 minutes) a. Machine (+A) .............................................................. Cash (-A) ($85,000 + $2,000 + $2,500) ........... 89,500 89,500
b. ($89,500 - $7,000) / 5 = $16,500 per year. Depreciation expense (+E, -SE) ................................ Accumulated depreciation (+XA, -A) ............ c. Cash (+A) ............................................................................. Accumulated depreciation (-XA, +A) ($16,500 x 4) ......... Loss on sale of machine (+E, -SE) ................................... Machine (-A) ............................................................... 16,500 16,500 12,000 66,000 11,500 89,500
E8-23 (20 minutes) a. b. Straight line: ($80,000 - $5,000)/5 years = $15,000 per year Double declining balance: Twice straight-line rate = 2 x 100%/5 = 40% Year 1 2 3 4 5 Total Book Value x Rate $80,000 x 0.40 = ($80,000 - $32,000) x 0.40 = ($80,000 - $51,200) x 0.40 = ($80,000 - $62,720) x 0.40 = Depreciation Expense $32,000 19,200 11,520 6,912 5,368 (plug) $75,000
E8-24 (25 minutes) a. 1. Cumulative depreciation expense to date of sale: [($800,000-$80,000)/10 years] x 6 years = $432,000 2. Net book value of the plane at date of sale: $800,000 - $432,000 = $368,000 b. 1. $ 0 Cash (+A) ............................................................................... Accumulated depreciation (-XA, +A) .................................. Plane (-A) ......................................................................... 2. Loss on sale of: $195,000 - $368,000 = $173,000 Cash (+A) ............................................................................... Accumulated depreciation (-XA, +A) .................................. Loss on sale of plane (+E, -SE) ........................................... Plane (-A) ......................................................................... 3. Gain on sale of: $600,000 - $368,000 = $232,000 Cash (+A) ............................................................................... Accumulated depreciation (-XA, +A) .................................. Gain on sale of plane (+R, +SE) .................................... Plane (-A) ......................................................................... 600,000 432,000 232,000 800,000 195,000 432,000 173,000 800,000 368,000 432,000 800,000
E8-25 (15 minutes) a. Straight-line: 2010 and 2011 ($218,700 - $23,400)/6 years = $32,550 b. Double-declining-balance: twice straight-line rate = 100% x 2/6 = 33% 2010 2011 $218,700 x 33% = ($218,700 - $ 72,900) x 33% = $72,900 $48,600
E8-26 (15 minutes) a. Depreciation expense to date of sale is [($27,200 - $2,000)/6] x 3 = $12,600. The net book value of the van is, therefore, $27,200 - $12,600 = $14,600. b.1. 0
E8-27 (20 minutes) a. Straight line: ($110,000 - $15,000) / 6 = $15,833 each year. b. Double-declining-balance: rate = 2 x 1/6 = 1/3. 2010: $110,000 x 1/3 = 2011: ($110,000 $36,667) x 1/3 = 2012: ($110,000 $36,667 $24,444) x 1/3 = $36,667 $24,444 $16,296
c. Straight line: ($110,000 $15,833x2 $10,000) / 5 = $13,667 each year. Double-declining balance: rate = 2 x 1/7 = 2/7. ($110,000 $36,667 $24,444) x 2/7 = $13,968 in 2012
E8-28 (20 minutes) a. Straight-line: $6,000,000 / 30 = $200,000 per year each year. b. Double-declining balance: rate = 2 x 1/30 = 1/15. 2010: $6,000,000 x 1/15 = $400,000 2011: ($6,000,000 $400,000) x 1/15 = $373,333 c. The revised depreciation rate = 2 x 1/25 = 8% 2012: ($6,000,000 $400,000 $373,333) x 8% = $418,133
E8-29 (10 minutes) Percent depreciated = Accumulated depreciation / Asset cost = $4,411 million / ($8,539 - $95 - $833) million = 58% Note: We eliminate land and construction in progress from the computation because these assets are not depreciated. Assuming that assets are replaced evenly as they are used up, we would expect assets to be 50% depreciated, on average. Deeres 58% is higher than this level. Our concern is that it will require higher capital expenditures in the near future to replace aging assets.
= 7.57
= 4.67
= 3.92
200 8
$25, 269
$3 ,195+$3 , 362 2
= 7.71
$13, 379
$3 , 013+$2 , 852 2
= 4.56
$25, 269
$6 , 886+$6 , 582 2
= 3.75
b. 3Ms Inventory and PPE turnover ratios have declined slightly while its receivable turnover rates improved slightly. The latter could be due to monitoring more closely the quality of customers to which credit is granted, implementing better collection procedures, and offering discounts as an incentive for early payment. Inventory turnover rates can be improved by weeding out slowly moving product lines, by reducing the depth and breadth of products carried, and by implementing just-in-time deliveries. PPE turns can be improved by off-loading manufacturing to other companies in the supply chain and acquiring long-term operating assets in partnership with other companies, for example, in a joint venture.
E8-31 (10 minutes) a. Fair Value (capitalized) Patent Trademark Noncompetition agreement $200,000 $500,000 $300,000 Useful life 3 years Indefinite 5 years 60,000 $126,667 b. Amortization expense for 2009 $66,667
E8-32 (15 minutes) a. Cost of reserve: Residual value: Depletion base: Depletion rate: 2010: 2011: $7,200,000 + $420,000 + $50,000 = $7,670,000 $1,200,000 $800,000 = $400,000 $7,670,000 $400,000 = $7,270,000 $7,270,000 / 500,000 tons = $14.54 per ton
60,000 x $14.54 = $872,400 85,000 x $14.54 = $1,235,900 872,400 872,400 1,235,900 1,235,900
b. 2010: Inventory (+A) ............................................................ Resource reserve (-A) ........................................ 2011 : Inventory (+A) ............................................................ Resource reserve (-A) ........................................
E8-33 (15 minutes) a. Percent depreciated 2008: $10,070 / $11,280 = 89.3% 2007: $10,132 / $11,178 = 90.6% b. PPET: $91,451 / [(1,210 + 1,046)/2] = 81.1 times c. Adams assets are almost completely depreciated. This results in an extremely high percent depreciated ratio and also a very high PPE turnover ratio (PPET). Adding inventories and receivables to get all the firms net operating asset turnover (NOAT) is more reasonable devisor. Adams outsources most of its manufacturing and, recognizing concerns that these numbers might produce, reports in its 10K that its current facilities (PPE assets) are adequate for the foreseeable future. Thus, although the ratios might suggest otherwise, the company does not anticipate large capital expenditures in the near future. Indeed this has been the case for the last several years as well.
E8-34 (15 minutes) a. The list illustrates the wide range in expenditures for R&D (as a percent of sales) across firms. Note the large amount spent by pharmaceutical companies Pfizer (16.45%) and Merck (20.15%), compared to the amount spent by Dell (1.09%). The companies in the list are paired by industry. It is interesting to see how similar some firms in the same industry are. For example, Callaway Golf and Adams Golf spend almost the same percentage of sales on R&D despite the fact that Callaway is several times larger than Adams. Similarly, Baxter International and Advanced Medical Optics, both in the medical/surgical instruments industry, are very similar. Also noteworthy is the significant difference between some firms in the same industry (e.g., Apple and Dell). b. Beside industry affiliation, the differences in R&D expenditures as a percent of sales is due to differences in markets, product mix, and other strategic considerations. Apple, for example, has established itself as a technological innovator and has spent millions of dollars developing unique products such as the Ipod. Dell, on the other hand, is best known for its operating efficiencies. Rather than developing new, innovative products, the company sells mainstream computers and peripherals using state-of-the-art inventory management and distribution methods. Because of its strategy, Apple relies on R&D to a much greater extent than does Dell.
E8-35 (20 minutes) a. Yes, the equipment is impaired at July 1, 2010. This is because its book value is not recoverable through future cash flows. Specifically, on July 1, 2010, its book value is $145,000 ($225,000 initial cost less $80,000 accumulated depreciation*) and the estimated future (undiscounted) cash flows are only $125,000. *4 years of [($225,000-$25,000)/10 years]. b. The impairment loss in a is computed as the equipment's book value minus its current fair value: $145,000 $90,000 = $55,000 Impairment loss (+E, -SE) ............................................. Equipment* (-A) .................................................... * Accumulated depreciation is sometimes credited for the loss. 55,000 55,000
c. Assuming that the salvage value remains the same after the impairment (this is not likely given the decline in market value of the asset), the annual depreciation expense would be ($90,000 - $25,000) / 6 = $10,833 per year. Depreciation expense (+E, -SE) ....................... Accumulated depreciation (+XA, -A) .... d.
($000) Transaction b. Impairment charge. c. Depreciation expense. Cash Asset + Noncash Assets -
10,833 10,833
Income Statement
Revenues Expenses Net = Income
+10,833
-55,000
Retained Earnings
+55,000
Impairment Loss
= -55,000 = -10,833
-10,833
Retained Earnings
+10,833
Depreciation Expense
Accumulated Depreciation
PROBLEMS
P8-36 (20 minutes) (i) (ii) (iii ) Land, buildings and equipment (+A) .................................. Cash (-A) .......................................................................... Depreciation expense (+E, -SE) .......................................... Accumulated depreciation (+XA, -A) ............................ Cash (+A) ............................................................................... Loss on sale of land, buildings and equipment (+E) ........ Accumulated depreciation (-XA, +A) .................................. Land, buildings and equipment (-A) .............................
+ Land, Buildings and Equipment (A) Balance 3,928,936 (i) 246,851 84,814 Balance 4,090,973 (iii) (iii) -
Accumulated Depreciation (XA) + 2,121,158 Balance 264,769 (ii) 75,320 2,310,607 Balance
P8-37 (20 minutes) a. $704 million / $5,774 million = 12.2% b. R&D costs are expensed in the income statement except for the portion relating to depreciable assets that have alternate uses. Expensing (rather than capitalizing and depreciating) reduces assets, and the additional expense reduces profit and equity (via the reduction in retained earnings). In addition, expensing R&D as incurred means that potentially valuable intangible assets are omitted from the balance sheet. c. Agilent has reduced its R&D spending as a percent of revenues in recent years and, as a result, increased its earnings. This has turned operating losses into an operating profit for the company. However, Agilent is dependent upon technology in order to maintain its market position, and R&D is critical to its very existence. The market is generally not very forgiving of technology-related companies that improve operating results via the reduction of R&D spending.
P8-38 (20 minutes) ($ millions) a. Depreciation expense (+E, -SE) ............................................. Accumulated depreciation (+XA, -A) ............................ 1,804 1,804 22 22 3,547 3,547 49 33 631 713 609 609
b. Amortization expense (+E, -SE) ($1,826 - $1,804) ................ Accumulated amortization (+XA, -A) ............................ c. Property and equipment (+A) ................................................ Cash (-A) ..........................................................................
d. Cash (+A) ................................................................................. Loss on sale of property and equipment (+E, -SE) ............. Accumulated depreciation (-XA, +A) (see T-account) ......... Property and equipment (-A) (see T-account) ............. e. Repair and maintenance expense (+E, -SE) ......................... Cash (-A) ..........................................................................
(d) (d) -
+ Property and Equipment (A) Balance 31,982 (c) 3,547 713 Balance 34,816
Accumulated Depreciation (XA) + 7,887 Balance 1,804 (a) 631 9,060 Balance
P8-39 (20 minutes) ($ thousands) a. Depreciation expense (+E, -SE) ............................................ Accumulated depreciation (+XA, -A) ............................ 148,083 148,083 191,789 191,789 33,995 33,995 9,250 39,317 60,798 109,365
b. Property and equipment (+A) ................................................ Cash (-A) .......................................................................... c. Loss on impairment of property and equipment (+E) ........ Property and equipment (-A) .........................................
d. Cash (+A) ................................................................................. Loss on sale of property and equipment (+E, -SE) ............. Accumulated depreciation (-XA, +A) (see T-account) ........ Property and equipment (-A) (see T-account) .............
+ Property and Equipment (A) Balance 1,843,101
Cambridge Business Publishers, 2011 8-18
(b) Balance
148,083 949,311
(a) Balance
CASES
C8-40 (90 min) a. PPE Turnover: $9,575/[($2,853 + $2,871)/2] = 3.35 Inventory Turnover: $7,165/[($1,099 + $1,024)/2] = 6.75 The firm does not appear to be as capital intensive as others in the industry based on a lower than average PPE turnover ratio than that in the industry. Further, their inventory turnover appears high given the firms business. b. Accumulated depreciation / Depreciable asset cost $6,040/ ($8,893 - $154*- $231*- $367*) = 0.7419 or 74%
*Note:
We eliminate land from the computation because land is never depreciated. We eliminate construction in progress and capitalized interest because these represent assets that the company is building (and the interest paid on the construction loans). These assets are not yet in service and are consequently not yet depreciable. This elimination is also used in part c.
If plant assets are replaced at a constant rate, we would expect those assets to be about 50% used up, on average. A substantially higher percentage used up indicates that the assets are closer to the end of their useful lives and will require replacement (and usually higher maintenance costs near the end of their useful lives). Such a situation would negatively impact future cash flows. Rohm & Haass depreciable assets appear to be substantially used up based on this analysis. c. Depreciable asset cost / Depreciation expense ($8,893 - $154*- $231* - $367*) / $467 = 17.4 years d. Depreciation expense (+E, -SE) ........................................... PPE accumulated depreciation (+XA, -A) ...................... PPE (+A) ................................................................................. Cash (-A) ............................................................................ Impairment loss (+E, -SE) .................................................... PPE (-A) ............................................................................. 467 467 520 520 42 42
e. The recognition of the impairment loss reduces operating income and this in turn reduces cash flow from operations. However, the loss is added back in the operating cash flow adjustments and so there is no impact on the companys cash flow. In addition, the impairment charge is not deductible for tax purposes until the asset is disposed of, that is, until the loss is realized. Asset impairment
charges are nonrecurring. Analysts would be justified in treating them as transitory (nonrecurring operating) items for analysis purposes. C8-41 (40 minutes)
Reducing operating assets is an important means of increasing performance measures including the return on net operating assets. Most companies focus first on reducing receivables and inventories. This is the so-called low-hanging fruit that can lead to quick results. Some possible actions include those listed. Students will think of additional possibilities. a. Reducing receivables through: 1. Better underwriting of credit quality 2. Better controls to identify delinquencies, automated over-due notices, and better collection procedures 3. Increased attention to accuracy in invoicing 4. Offering early payment incentives b. Reducing inventories and inventory costs through essentially eliminating nonproductive activities including inspection, moving activities, waiting setup time, : 1. Use of less costly components (of equal quality) and production with lower wage rates 2. Elimination of product features not valued by customers 3. Outsourcing to reduce product cost 4. Just-in-time deliveries of raw materials 5. Elimination of manufacturing bottlenecks to reduce work-in-process inventories 6. Producing to order rather than to estimated demand to reduce finished goods inventories 7. Eliminating defects c. Reducing PPE assets is much more difficult. The benefits, however, can be substantial. Some suggestions are the following: 1. Sale of unused and unnecessary assets 2. Acquisition of production and administrative assets in partnership with other companies for greater throughput 3. Acquisition of finished or semi finished goods (sub-components) from suppliers to reduce manufacturing assets d. Reducing unnecessary intangible assets that are reported on the balance sheet is the most difficult. 1.Sale of assets no longer relevant to company plans
Cambridge Business Publishers, 2011 Solutions Manual, Chapter 8 8-21