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10-1

CHAPTER 10

PROPERTY, PLANT, AND


EQUIPMENT
10-2

Nature of Plant Assets


Tangible.

Used to produce
Useful life is revenue rather
more than one than being held
year. for resale.
HILTON
10-3

Nature of Plant Assets


1. Record 2. Record depreciation. 4. Record
acquisition 3. Record subsequent disposal
of asset. expenditures. of asset.

$
Asset
cost

Disposal
of asset

Salvage
value
Time (useful life)
367
10-4

Acquisition Cost of
Plant Assets
General Rule
The amount of cash or cash equivalents
given up to acquire and place the asset
in service.
10-5

Acquisition Cost of
Plant Assets
More on General Rule
Includes cost incurred to get the asset
into the position and condition to start
earning revenue.

Computers-R-Us
10-6

Acquisition Cost
Land
Real estate
Purchase price commissions Title search

Title insurance
premiums Title transfer
fees
10-7

Acquisition Cost - Buildings


Legal costs

Purchase price

Remodeling
costs
Unpaid taxes
we assumed

Real estate
commissions
paid
10-8

“Basket” Purchase of Assets


When assets are purchased together,
separate the cost into the proper
accounts ...
... on the basis of relative fair market value.
10-9

Group Purchase of Assets


On January 1, we purchase land and
building for $200,000 cash. The
appraised value of the building is
$162,500, and the land is appraised
at $87,500.

How much of the $200,000 purchase


price do we debit to the separate
building and land accounts?
10-10

Group Purchase of Assets


Fair Value
Land $ 87,500
Building 162,500
Total fair value $ 250,000
10-11

Group Purchase of Assets


Fair Value
Land $ 87,500
Building 162,500
Total fair value $ 250,000
Land $ 87,500 ÷ $ 250,000 = 35% of fair value
Building 162,500 ÷ 250,000 = 65% of fair value
10-12

Group Purchase of Assets


Fair Value
Land $ 87,500
Building 162,500
Total fair value $ 250,000
Land $ 87,500 ÷ $ 250,000 = 35% of fair value
Building 162,500 ÷ 250,000 = 65% of fair value
Land $ 200,000 x 35% = $ 70,000
Building 200,000 x 65% = 130,000
$ 200,000
10-13

Acquisition Cost - Equipment


Testing
Transportation
costs
costs

Installation
costs
Net purchase
price

Insurance
while in
transit
10-14

Acquisition Cost
Self-Constructed Assets
The cost should include all materials
used and labor directly traceable to the
construction as well as indirect costs
such as interest, utilities, and
supervision.
10-15

Noncash Acquisitions
A plant asset may be acquired in
exchange for noncash items, such
as land, stock or notes payable.
10-16

Noncash Acquisitions
 Fair market value is Let’s trade this guy
the price received for a new pitcher!
for an item sold in
the normal course
of business.

 Accountants
generally record
noncash exchanges
at fair market value.
10-17

Noncash Acquisitions
General Rule
Record the asset received at the fair
market value of the asset received or
the fair market value of the asset given
up, whichever is more clearly evident.
10-18

Noncash Acquisitions
If fair market value cannot be
determined, use appraised value to
record a noncash transaction.
As an expert, I
believe he’s worth
$3,500,000.
10-19

Noncash Acquisitions
Book value is the asset’s cost less
accumulated depreciation.
We would only assign book value of the
asset given up to the asset received
when better information is unavailable.
You don’t know what you’re
talking about! No way is this
player worth $3,500,000.
10-20

Depreciation
Depreciation is the process of allocating
the cost of plant assets to the periods
that will benefit from its use.
Depreciable
base $145,000 Depreciate over useful life.
(Depreciation expense)
Asset
Cost
$150,000
Not depreciable.
Salvage
value $5,000
10-21

Depreciation
Depreciation is the process of allocating
the cost of plant assets to the periods
that will benefit from its use.

Depreciation is a cost allocation process


and has nothing to do with asset
valuation.
10-22

Depreciation
Factors Affecting Depreciation
Asset cost
Estimated salvage value
Estimated useful life
Depreciation method used
10-23

Depreciation Methods
 Straight-line
 Units-of-production
 Accelerated methods
 Sum-of-the-years’-digits
 Double-declining-balance
10-24

Straight-Line Depreciation
Depreciation
= Asset Cost - Est. Salvage Value
Expense Est. Useful Life
10-25

Straight-Line Depreciation
Example

On January 1, Ace, Inc. purchased equipment


for $27,500 cash. The equipment has an
estimated useful life of 5 years and an
estimated salvage value of $2,500.

What is the annual straight-line


depreciation expense?
10-26

Straight-Line Depreciation
Example

Asset cost $ 27,500


Less: salvage value (2,500)
Basis for depreciation 25,000
Useful life ÷ 5
Annual depreciation $ 5,000
10-27

Straight-Line Depreciation
Example
Depreciation Schedule
Depr. Accum. Book
Period Expense Depr. Value
1 $ 5,000 $ 5,000 $ 22,500
2 5,000 10,000 17,500
3 5,000 15,000 12,500
4 5,000 20,000 7,500
5 5,000 25,000 2,500
25,000
10-28

Straight-Line Depreciation
Example
$25,000

$20,000

$15,000
Depr. Expense
Accum. Depr.
Book Value
$10,000

$5,000

$-
1 2 3 4 5
10-29

Units-of-Production Depreciation
Depreciation = Asset Cost - Est. Salvage Value
Per Unit Est. Total Units of Production
10-30

Units-of-Production Depreciation
Depreciation = Asset Cost - Est. Salvage Value
Per Unit Est. Total Units of Production

Depreciation Depreciation Number of Units


= x
Per Period Per Unit Produced
10-31

Units-of-Production Depreciation
Example

On January 1, we purchase equipment for


$50,000 cash. The equipment is expected to
produce 100,000 units during its life and has
an estimated salvage value of $5,000.
If 30,000 were produced this year, what is the
amount of depreciation expense?
10-32

Units-of-Production Depreciation
Example

Cost $ 50,000
Salvage value (5,000)
Depreciation base 45,000
Total units ÷ 100,000
Depreciation per unit $ 0.45
Current units produced × 30,000
Depreciation expense $ 13,500
10-33

Units-of-Production Depreciation
Example
The schedule of actual production is:

Units
Year Produced
1 30,000
2 20,000
3 40,000
4 10,000
100,000
10-34

Units-of-Production Depreciation
Example
Completed depreciation schedule.
Units Depreciation Depreciation Accumulated Book
Year Produced Per Unit Expense Depreciation Value
1 30,000 $ 0.45 $ 13,500 $ 13,500 $ 36,500
2 20,000 0.45 9,000 22,500 27,500
3 40,000 0.45 18,000 40,500 9,500
4 10,000 0.45 4,500 45,000 5,000
100,000 $ 45,000
10-35

Units-of-Production Depreciation
Example
50,000

45,000

40,000

35,000

30,000
Units Produced
25,000 Depreciation Expense
Accumulated Depreciation
20,000

15,000

10,000

5,000

-
1 2 3 4
10-36

Question
The accumulated depreciation account
increases each year of the asset’s life if
the asset is not fully depreciated.

a. True
b. False
10-37

Accelerated Depreciation
Sum-of-the-Years’ Digits

Double-Declining Balance
10-38

Sum-of-Years’-Digits Depreciation
(SOYD)

nn + 1
SOYD =
2
10-39

Sum-of-Years’-Digits Depreciation
(SOYD)

No. of Years Remaining


Depreciation
= in Useful Life
Fraction
SOYD
10-40

Sum-of-Years’-Digits Depreciation
(SOYD)

No. of Years Remaining


Depreciation
= in Useful Life
Fraction
SOYD

Depr. Per Depreciation


= x (Cost - SV)
Period Fraction
10-41

SOYD Depreciation
Example
On January 1, we purchase equipment
for $40,000 cash. The equipment has a
useful life of 8 years and an estimated
salvage value of $4,000.

Calculate depreciation using the


SOYD method.
10-42

SOYD Depreciation
Example

Cost $ 40,000
Salvage value (4,000)
Depreciable amount $ 36,000

SOYD = 36
10-43

SOYD Depreciation
Example
SOYD Depreciation Accumulated
Year Fraction Expense Depreciation Book Value
1 8/36 $ 8,000 $ 8,000 $32,000
10-44

SOYD Depreciation
Example
SOYD Depreciation Accumulated
Year Fraction Expense Depreciation Book Value
1 8/36 $ 8,000 $ 8,000 $32,000
2 7/36 7,000 15,000 25,000
3 6/36 6,000 21,000 19,000
4 5/36 5,000 26,000 14,000
5 4/36 4,000 30,000 10,000
6 3/36 3,000 33,000 7,000
7 2/36 2,000 35,000 5,000
8 1/36 1,000 36,000 4,000
36/36 $ 36,000
10-45

SOYD Depreciation
Example
$40,000
$35,000
$30,000
Depreciation
$25,000 Expense
Accumulated
$20,000
Depreciation
$15,000 Book Value
$10,000
$5,000
$-
1 2 3 4 5 6 7 8
Year
10-46

Double-Declining-Balance (DDB)
Depreciation Straight-line Asset Accumulated
per Period
= ( 2×
rate ) ( ×
Cost

Depreciation )

i.e., Book Value


at beginning of period.
10-47

Double-Declining-Balance (DDB)
Depreciation Straight-line Asset Accumulated
per Period
= ( 2×
rate ) ( ×
Cost

Depreciation )
Straight-line 1
=
rate Est. Useful Life
10-48

Double-Declining-Balance (DDB)
Depreciation Straight-line Asset Accumulated
per Period
= ( 2×
rate ) ( ×
Cost

Depreciation )
Straight-line 1
=
rate Est. Useful Life

Ignore salvage value when


calculating DDB depreciation!
10-49

DDB Depreciation
Example

On January 1, we purchase equipment


for $50,000 cash. The equipment has
a useful life of 8 years and an
estimated salvage value of $2,000.

Calculate depreciation using the DDB


method.
10-50

DDB Depreciation
Example
Straight-line 1
= = 12.5%
rate 8
Depreciation
per Period
= ( 2 × 12.5%) × ($50,000 - $0)
Depreciation Accumulated Book
Year Expense Depreciation Value
1 $ 12,500 $ 12,500 $ 37,500
10-51

DDB Depreciation
Example
Depreciation Accumulated Book
Year Expense Depreciation Value
1 $ 12,500 $ 12,500 $ 37,500
2 9,375 21,875 28,125
3 7,031 28,906 21,094
4 5,273 34,180* 15,820
5 3,955 38,135 11,865
6 2,966 41,101 8,899
7 2,225 43,326 6,674
8 1,669 44,994* 5,006
$ 44,994 Hey, shouldn’t the total
depreciation expense be $48,000?
*Rounding difference
10-52

DDB Depreciation
Example
Depreciation Accumulated Book
Year Expense Depreciation Value
1 $ 12,500 $ 12,500 $ 37,500
2 9,375 21,875 28,125
3 7,031 28,906 21,094
When using DDB it is sometimes necessary
4 5,273 34,180 15,820
to adjust the last year’s depreciation so
5 that3,955
Book Value will 38,135
equal Salvage11,865
Value.
6 2,966 41,101 8,899
7 2,225 43,326 6,674
8 4,674 48,000 2,000
$ 48,000
10-53

DDB Depreciation
Example
$50,000
$45,000
$40,000
Depreciation
$35,000
Expense
$30,000
Accumulated
$25,000
Depreciation
$20,000
Book Value
$15,000
$10,000
$5,000
$-
1 2 3 4 5 6 7 8

Year
10-54

Partial-Year Depreciation
If an asset is purchased sometime during
the year, we have to adjust annual
depreciation for the partial-year period.

June
30
10-55

Partial-Year Depreciation
Example
On June 30, 19X1 we purchased
equipment for $75,000 cash. The
equipment has a useful life of 10 years
and estimated salvage value of $5,000.

Calculate the straight-line depreciation


for the year ended December 31, 19X1.
10-56

Partial-Year Depreciation
Example
Ann. Depr. = ($75,000 - $5,000) ÷ 10
= $7,000

6
Depr. Expense = $7,000 × 12 = $3,500

June
30
10-57

Changes in Estimates
 Because depreciation is based on the
estimated useful life and estimated
salvage value, depreciation expense is
an estimate.
 Over the life of an asset, Useful
new information may come Life?
to light that indicates the
original estimated useful
life or salvage value was
inaccurate.
10-58

Changes in Estimates
 If the useful life or salvage value of an
asset changes, we must revise
depreciation expense for the current
and future periods. (i.e., prospectively
not retroactively.)
 For this change in accounting estimate,
we spread the remaining undepreciated
cost (book value) over the remaining
useful life - like peanut butter.
10-59

Changes in Estimates
Example
On January 1, 1996, we purchased
equipment costing $30,000, with a useful
life of 10 years and zero salvage value.
During 1999, we determine that the
remaining useful life is 5 years (8-year
total life). We use straight-line
depreciation.

Calculate depreciation expense for the


year ended December 31, 1999.
10-60

Changes in Estimates
Example

Cost $ 30,000
Salvage value -
Depreciation base 30,000
Useful life ÷ 10
Annual depreciation 3,000
1996 - 1998 × 3
Accumulated depreciation $ 9,000
10-61

Changes in Estimates
Example

Cost $ 30,000
Accumulated depreciation (9,000)
Book value 21,000
Remaining useful life ÷ 5
Annual depreciation $ 4,200

Depreciation for 1999, and subsequent


years, will be $4,200.
10-62

Depreciation and Financial


Reporting
Report assets at cost less accumulated
depreciation.
Sample Company
Partial Balance Sheet
December 31, 1999
Property, plant, and equipment
Land $ 30,000
Buildings $ 75,000
Less: Accumulated depreciation (45,000) 30,000
Equipment 19,000
Less: Accumulated depreciation (1,500) 17,500
Total property, plant, and equipment $ 77,500
10-63

Subsequent Expenditures
on Assets (P.382)
Please note:
“Expenditure” = “Expense”
10-64

Subsequent Expenditures
on Assets (P.382)
Increases quality Extends services Does not extend the
of services of beyond original quality or
the asset. estimate. quantity of services.

Debit accumulated Debit maintenance


Debit asset account.
depreciation. expense

Capital expenditure Revenue expenditure


(allocate over life (expensed in the
of asset) current period)
10-65

Subsequent Expenditures
on Assets (P.382)
Increases quality
of services of
the asset. Relates to betterments or
improvements.
(e.g., adding air conditioning
to a delivery vehicle.)
Debit asset account.
10-66

Subsequent Expenditures
on Assets (P.382)
Extends services
Relates to beyond original
extraordinary estimate.
repairs.
(e.g., replacing the
engine in a delivery
Debit accumulated
vehicle.) depreciation.
10-67

Subsequent Expenditures
on Assets (P.382)
Does not extend the
Relates to ordinary quality or
repairs and quantity of services.
maintenance.
(e.g., changing the
engine oil in a
Debit maintenance
delivery vehicle.) expense
10-68

Subsidiary Records
As in the case of Accounts Receivable,
General ledger accounts do not
provide space for the details necessary
to keep track of depreciable assets.
Depreciation
Cost Salvage Policy
Value Location
of Asset

?
GENERAL LEDGER
Account: Acct. No. ##
Balance Useful
Post.
Date Item Ref. Debit Credit DR (CR) Life
10-69

Subsidiary Records
To overcome this shortcoming, companies
keep detail information about individual
assets in a subsidiary ledger account that
looks something like this:
Item: Arc Welder Date 5/17/97
ID 97-37628 Cost 12,147.62
Loc Dallas - 87 SV 400.00
Life 8 years
Repair record:
Date Amt
Date Amt
Date Amt
10-70

Well, I guess this computer


is about fully depreciated!