Stice | Stice | Skousen Intermediate Accounting,17E Investments in Noncurrent Operating Assets— Utilization and Retirement PowerPoint presented by: Douglas Cloud Professor Emeritus of Accounting, Pepperdine University © 2010 Cengage Learning Depreciation • The use of assets during the period should be reported as an expense of that period • Accountants estimate this cost by using a systematic method to allocate the recorded costs, called: Depreciation for tangible property, such as equipment Depletion for minerals and natural resources Amortization for intangible assets, such as patents and copyrights (continues) 11-2 Depreciation • Depreciation is not a process through which a company accumulates a cash fund to replace its long-lived assets 11-3 Factors Affecting the Periodic Depreciation Charge • • • • Asset cost Residual or salvage value Useful life Pattern of use 11-4 Depreciation Vocabulary • Asset cost is the purchase cost plus any capitalized expenditures • Residual (salvage) value is the estimated resale value of the asset upon retirement • Useful life is the expected life of the asset in years, hours of service, or per unit of output 11-5 Pattern of Use Depreciable Depreciable Cost Cost (Asset) (Asset) Costs incurred are deferred until future periods They are recorded as an asset and the costs are assigned to future periods Period Period 11 Period Period 22 Period Period 33 11-6 Pattern of Use • The allocation of a deferred cost, in this case depreciation expense, has no direct effect on cash • The allocation is based on the depreciable cost, useful life, and depreciation method 11-7 Straight-Line Depreciation Time-Factor Time-Factor Methods Methods Straight-line depreciation relates depreciation to the passage of time and recognizes equal depreciation in each year of the life of the asset 11-8 Straight-Line Depreciation Schuss Boom Ski Manufacturing acquired a polyurethane plastic-molding machine at the beginning of 2011 for $100,000 It has an estimated life of five years and an estimated residual value of $5,000 (continues) 11-9 Straight-Line Depreciation Depreciation = Cost – Residual Value Number of Years Depreciation = $100,000 – $5,000 Depreciation = $19,000 11-10 Asset Retirement by Exchange for Other Nonmonetary Assets Assume the delivery equipment’s fair market value is not determinable, but the machinery has a market value of $25,000 Delivery Equipment Accumulated Depreciation—Machinery Loss on Exchange of Machinery Machinery 83,600 25,000 54,780 3,820 11-64 Asset Retirement by Exchange for Other Nonmonetary Assets Assume the delivery equipment’s fair market value is not determinable, but the machinery has a market value of $25,000 In addition to the delivery equipment, cash of $3,000 was received Cash Delivery Equipment Accumulated Depreciation—Machinery Loss on Exchange of Machinery Machinery Fair market value 83,600 of machine 3,000 22,000 54,780 3,820 11-65 Nonmonetary Exchange without Commercial Substance Example Example1—No 1—No Cash CashInvolved Involved Republic Manufacturing Company owns a molding machine that it decided to exchange for a machine owned by Logan Square Company The following cost and market data relate to the two machines: (continues) 11-66 Nonmonetary Exchange without Commercial Substance Example Example1—No 1—No Cash CashInvolved Involved The entry on Republic’s books to record the exchange will be: Machinery (new) Accumulated Depreciation—Machinery (old) Machinery 46,000 14,000 32,000 Machinery (new) Accumulated Depreciation—Machinery (old) Loss on Exchange of Machinery Machinery (old) 54,000 16,000 37,700 300 The entry on Logan’s books to record the exchange will be: 11-67 Nonmonetary Exchange without Commercial Substance Example Example2—Small 2—SmallAmount Amountof ofCash CashInvolved Involved Assume the same facts as Example 1, except that it is agreed that Republic’s machine has a market value of $16,000 and Logan’s machine is worth $17,000 Republic pays Logan $1,000 cash 17,000 (continues) 11-68 Nonmonetary Exchange without Commercial Substance Example Example2—Small 2—SmallAmount Amountof ofCash CashInvolved Involved The entry on Republic’s books to record the exchange will be: Machinery (new) Accumulated Depreciation—Machinery (old) Machinery 46,000 Cash The entry on Logan’s books to record the exchange 1,000 Cash Machinery (new) Accumulated Depreciation—Machinery (old) Machinery (old) 54,000 15,000 32,000 will be: 1,000 15,300 37,700 11-69 Nonmonetary Exchange without Commercial Substance Example Example3—Large 3—LargeAmount Amount of ofCash CashInvolved Involved Assume the same facts as in Example 1, except that it is agreed that Republic’s machine has a market value of $12,750 and Logan’s machine is worth $17,000 Republic pays Logan $4,250 cash 12,750 (continues) 17,000 11-70 Nonmonetary Exchange without Commercial Substance Example Example3—Large 3—LargeAmount Amount of ofCash CashInvolved Involved The entry on Republic’s books to record the exchange will be: Machinery (new) Accumulated Depreciation—Machinery (old) Loss on Exchange of Machinery Machinery 46,000 Cash 4,250 (continues) 17,000 32,000 1,250 11-71 Nonmonetary Exchange without Commercial Substance Example Example3—Large 3—LargeAmount Amount of ofCash CashInvolved Involved The entry on Logan’s books to record the exchange: Cash 4,250 Machinery (new) 12,750 Accumulated Depreciation—Machinery (old) 37,700 Machinery (old 54,000 Gain on Exchange of Machinery How much cash constitutes an amount large enough 700 to require the approach used in Example 3? The FASB failed to establish a “bright line” test, so the old 25% rule will continue to serve as a guideline 11-72 Depreciation for Partial Periods Makes the Nearest whole month most intuitive Nearest whole year sense Half-year convention No depreciation in year of acquisition; full year depreciation in year of retirement Full year depreciation in year of acquisition; no depreciation in year of retirement 11-73 Depreciation for Partial Periods From this point, each year’s depreciation will be $6,333 less than the previous year’s depreciation 11-74 Depreciation for Partial Periods Sum-of-the-Years’-Digits Method 11-75 Depreciation for Partial Periods Declining-Balance Method 11-76 Income Tax Depreciation • The term cost recovery was used in the tax regulations to emphasize that ACRS is not a standard depreciation method because the system is not based strictly on asset life or pattern of use • Salvage values are ignored • Depreciate over three to five years 11-77 Income Tax Depreciation The MACRS method for personal property also incorporates a half-year convention, meaning that one-half of a year’s depreciation is recognized on all assets purchased or sold during the year 11-78 ... Rate per unit = $3.80 per unit Annual depreciation for 2 011 and 2012: 2 011: 3,200 units × $3.80 = $12,160 2012: 5,400 units × $3.80 = $20,520 11- 21 Group and Composite Depreciation • Group depreciation... recorded as an asset and the costs are assigned to future periods Period Period 11 Period Period 22 Period Period 33 11- 6 Pattern of Use • The allocation of a deferred cost, in this case depreciation... year of the life of the asset 11- 8 Straight-Line Depreciation Schuss Boom Ski Manufacturing acquired a polyurethane plastic-molding machine at the beginning of 2 011 for $100,000 It has an estimated