FINANCIAL ACCOUNTING

Tools for Business Decision-Making

KIMMEL  WEYGANDT  KIESO  TRENHOLM  IRVINE

CHAPTER 9:
Reporting and Analyzing Long-Lived Assets
 September 29

Agenda:
Synchronous (1hr – 1.5hr)

• Finish Chapter 8 Notes Receivable

• Chapter 9 – Long-Lived Assets (Fixed Assets/PPE… etc)

• Overview – Expense Recognition
• Description
• Determining the COST BASE
• Subsequent Expenditures
• Depreciation – methods:
– SL
– DB
– U-O-P

• Revisions (UL, RV, use)

• Derecognition
• Other – Leasing/Intangibles

Asynchronous (Remainder of Class Time)

• Follow-up questions from synchronous class

• Quiz (available @ 3pm (until midnight) following synchronous class – 20 minutes to complete)
 Review!

Describe the REVENUE RECOGNITION principle??

Not relevant here!

Describe the EXPENSE RECOGNITION principle??

Relevant – how does this apply?
Chapter From 30,000 feet!

Timeline

2019 2020 2021

Match expenses to revenues – that those

expenses were incurred to help
generate.
Chapter From 30,000 feet!

Timeline

2019 2020 2021

$ $
$
Expense Recognition:
• Multi year use,
• Purchased in advance of use,
• Economic deterioration.
 Chapter From 30,000 feet!

Timeline
Purchase price = Expected resale
$40,000 value = $10,000
3 years of use

2019 2020 2021

$40,000 - $10,000 = $30,000

PP&E - Description
 Property, Plant, and Equipment

• Long-lived resources that

– Are controlled by the company
– Have physical substance
– Are used in the operation of a business
– Are not intended for sale to customers
• Provide benefits over many years
PP&E – Determining the Cost
Determining the Cost of Property, Plant and
Equipment
• Recorded at cost, which includes
– Purchase price, including non-refundable taxes
and duties, less discounts or rebates
– Expenditures necessary to bring asset to its
intended location and make it ready for its
intended use
– Estimated cost of future obligations to dismantle,
remove or restore the asset at the end of its useful
life
 Land

• Cost of land includes

– Purchase price
– Closing costs such as title and legal fees
– Additional costs to prepare land for its intended use
(less any proceeds from salvage)
• Land has an unlimited life, therefore it is not
depreciated
 Land Improvements

• The costs of structural additions made to land

(such as paving, fencing, and sidewalks)
• These decline in service potential over time
– They are recorded separately from land
– Depreciated over their useful lives
 Buildings

• All expenditures related to the purchase or

construction of a building
• When a building is purchased such costs
include
– Purchase price
– Closing costs (legal fees)
– Costs required to make building ready for its
intended use
 Buildings (Continued)

• When a building is constructed, its cost

consists of
– Contract price
– Architect's fees
– Building permits
– Excavation cost
– Interest costs during construction
 Equipment

• Costs include
– Purchase price
– Freight charges and insurance during transit paid
by the purchaser
– Assembling
– Installing and testing
 Subsequent Expenditures

Operating versus Capital

Expenditures During Useful Life

$ ???

2019 2020 2021

 Types of Expenditures

• Operating expenditures
– Benefit only the current period
– Immediately charged as an expense
• Capital expenditures
– Capitalized as an asset
– Benefit future periods
– Extends the life of an asset or its productivity or
efficiency
 Practice

Exercise 1 Page 501

 Practice
Exercise 1 Page 501

EXERCISE 9-1
(a) Under the cost principle, the acquisition cost for property, plant, and
equipment includes all expenditures necessary to acquire the asset and
make it ready for its intended use. For example, the cost of factory
equipment includes the purchase price, freight costs paid by the
purchaser, insurance costs during transit, and expenditures required in
assembling, installing, and testing the equipment.
(b) 1. Land
2. Land
3. Land
4. Land Improvements
5. Buildings
6. Land
7. Vehicles
8. Vehicles
9. Vehicles Expense
10. Prepaid Insurance
Depreciation
 Depreciation

• Systematic allocation of the cost of property,

plant and equipment over the asset’s useful
life
• A process of cost allocation, not determining
an asset’s fair value
• Does not use or provide cash to replace the
asset
 Factors in Calculating Depreciation

• Cost
– Purchase price plus costs required to get the asset
ready for use plus estimated asset retirement costs
• Useful Life
– The period of time that the asset is expected to be
available for use, or
– The number of units that the asset is expected to
produce
• Residual Value
– Estimated amount to be received at the end of the
asset’s useful life
 Depreciation Methods

• Straight-line
– Used by the majority of Canadian publicly-traded
companies
• Diminishing-balance (or Declining-balance)
• Units-of-production
• Management chooses the method that best
reflects the pattern of use of the economic
benefits from that asset
 Example – Depreciation Methods

A delivery van was bought on Jan. 1, 2020

Cost $33,000
Estimated residual value $3,000
Estimated useful life (in years) 5
Estimated useful life (in kilometres)100,000

Purchase price = Expected resale

$33,000 value = $3,000
5 years of use

2020 2021 2022 2023 2024

 Straight-Line Method

• Depreciation is constant for each year of the

asset's useful life
•
 Example – Depreciation Methods

Straight-Line

Purchase price = Expected resale

$33,000 value = $3,000
6 years of use

Depreciation Expense Accumulated Depreciation

$33,000 - $3,000 = Yr 1 -$6,000 Yr 1 -$6,000
$30,000 / 5 years = Yr 2 -$6,000 Yr 2 -$6,000
Yr 3 -$6,000 Yr 3 -$6,000
Yr 4 -$6,000 Yr 4 -$6,000
Yr 5 -$6,000 Yr 5 -$6,000

2020 2021 2022 2023 2024

$6,000 $6,000 $6,000 $6,000
$6,000
 Example – Depreciation Methods

Straight-Line

Expected resale
Purchase price =
value = $3,000
$33,000 6 years of use

Truck
Accumulated Depreciation
Yr 0 - $33,000 Yr 1 -$6,000
Yr 2 -$6,000
Yr 3 -$6,000
Yr 4 -$6,000
Yr 5 -$6,000
$30,000

Dec. 31 Dec. 31 Dec. 31 Dec. 31

Purchase Dec. 31
Truck - $33,000 Truck - $33,000 Truck - $33,000 Truck - $33,000
Truck - $33,000 Truck - $33,000
Accum. Dep. - $0 Accum. Dep. - $6,000 Accum. Dep. $12,000 Accum. Dep. $18,000 Accum. Dep.-$24,000 Accum.Dep.-$30,000
NBV $33,000 NBV $21,000 NBV $15,000 NBV $9,000 NBV $3,000
NBV $27,000
2020 2021 2022 2023 2024
 Diminishing-Balance Method

• Produces a decreasing annual depreciation

expense over an asset’s useful life
– Depreciation is calculated based on the asset’s carrying
amount, which diminishes each year as accumulated
depreciation increases
• Annual depreciation expense is calculated by
multiplying the carrying amount by the
depreciation rate
– Residual value is not included in the calculation
• Can be applied using different rates
– Depreciation rate = Straight-line rate x multiplier
 Diminishing-Balance Method (Continued)

Double Diminishing-Balance:

100% / 5 = 20% $33,000 x 40%

20% x 2 = 40%
 Diminishing-Balance Method (Continued)

Double Diminishing-Balance:

Year 1 Year 2 Year 3 Year 4 Year 5

Jan. 1 NBV $33,000.00 $19,800.00 $11,880.00 $7,128.00 $4,276.80
Rate 40% 40% 40% 40% 40%

Depreciation
Expense $13,200.00 $7,920.00 $4,752.00 $2,851.20 $1,710.72
Dec. 31 NBV $19,800.00 $11,880.00 $7,128.00 $4,276.80 $2,566.08
100% / 5 = 20% Problem!
20% x 2 = 40%

Expected resale
value = $3,000
 Diminishing-Balance Method (Continued)

Double Diminishing-Balance:

Year 1 Year 2 Year 3 Year 4 Year 5

Jan. 1 NBV $33,000.00 $19,800.00 $11,880.00 $7,128.00 $4,276.80
Rate 40% 40% 40% 40% 40%

Depreciation
Expense $13,200.00 $7,920.00 $4,752.00 $2,851.20 $1,710.72
Dec. 31 NBV $19,800.00 $11,880.00 $7,128.00 $4,276.80 $2,566.08

Year 1 Year 2 Year 3 Year 4 Year 5

Jan. 1 NBV $33,000.00 $19,800.00 $11,880.00 $7,128.00 $4,276.80
Rate 40% 40% 40% 40% 40%

Depreciation
Expense $13,200.00 $7,920.00 $4,752.00 $2,851.20 $1,276.80 $1,276.80 = $4,276.80 - $3,000
$3,000.00
Dec. 31 NBV $19,800.00 $11,880.00 $7,128.00 $4,276.80
 Units-of-Production Method

• Useful life is expressed in terms of total units

of production or activity expected from the
asset
– Such as units produced or machine-hours worked
• Useful for factory machinery, vehicles,
airplanes
Units-of-Production Method
 Practice

Problem 7A Page 506

Do part a) only – and for 2018 only.

(Note: adjust for part year)

We will address disposal/derecognition later

 Practice
Problem 7A Page 506
Do part a) only – and for 2018 only.
(Note: adjust for part year)
We will address disposal/derecognition later
a) (1) Straight-line

Depreciation Expense =

($70,000 – $10,000)
= $20,000
3

2018
Mar. 1 Equipment 70,000
Cash 70,000
Dec. 31Depreciation Expense 16,667
Accumulated Depreciation—Equipment 16,667
($20,000 × 10/12 = $16,667)
 Practice
Problem 7A Page 506
Do part a) only – and for 2018 only.
(Note: adjust for part year)
We will address disposal/derecognition later

(a) (2) Double-diminishing-balance

Depreciation Rate = 1 ÷ 3 years = 33% X 2 = 67% (note textbook convention

to round rates to two decimal points)

2018
Mar. 1 Equipment 70,000
Cash 70,000
2018
Dec. 31 Depreciation Expense 39,083
Accumulated Depreciation—Equipment 39,083
($70,000 × 67% × 10/12 = $39,083)
 Practice
Problem 7A Page 506
Do part a) only – and for 2018 only.
(Note: adjust for part year)
We will address disposal/derecognition later
(a) (3) Units-of-Production

Depreciable cost per unit =

($70,000 – $10,000)
= $5.00
12,000

2018
Mar. 1 Equipment 70,000
Cash 70,000

Dec. 31 Depreciation Expense 24,500

Accumulated Depreciation—Equipment 24,500
(4,900 × $5 = $24,500)
 Other Depreciation Issues

• Significant components
– May be depreciated separately
• Income tax
• Impairments
– Impairment loss occurs when carrying amount of
asset exceeds its recoverable amount
– Debit “Impairment Loss”
• Cost vs. revaluation model
– Revaluation model allowed under IFRS; used on a
limited basis (real estate management co.’s)
Revising Depreciation Amount
 Revising Periodic Depreciation

• Revisions needed if
– Capital expenditures during useful life
– Impairment losses
– Change in estimated useful life or residual value
– Change in the pattern in which the asset’s
economic benefits are consumed
• Accounted for as a change in estimate
– Change made in current and future years, but not
to prior periods (prospectively)
 Practice

Ex. 9-4 P.502 (revision of estimate)

a) Annual depreciation using straight-line?

b) Carrying amount (NBV) at Dec. 31, 2017?

c) Annual depreciation in 2018 - with proposed changes?

 Practice
Ex. 9-4 P.502 (revision of estimate)

Machine 1 Machine 2
Cost $800,000 Cost $120,000
Less: Residual value 40,000 Less: Residual value 5,000
Depreciable cost $760,000 Depreciable cost $115,000

Useful life in years 20 5

(a)
Annual depreciation $760,000 ÷ 20 = $38,000 $115,000 ÷ 5 = $23,000
 Practice
Ex. 9-4 P.502 (revision of estimate)

(b) Accumulated depreciation, December 31, 2017

Machine 1 ($38,000 × 10 years) $380,000
Machine 2 ($23,000 × 2 years) 46,000

Carrying amount, December 31, 2017

Machine 1 ($800,000 – $380,000) $420,000
Machine 2 ($120,000 – $46,000) 74,000

(c) If the company accepts Lindy’s proposed changes in useful life and
residual value, the 2018 depreciation expense for Machine 1 will be lower
and the depreciation expense for Machine 2 will be higher than for 2017.
The depreciation expense for Machine 1 will be lower due to the estimated
longer useful life and higher residual value. The depreciation expense for
Machine 2 will be higher due to the shorter estimated useful life and lower
residual value.
Mach. 1 Mach. 2
Cost $800,000 $120,000
Accum. Depreciation $380,000 $46,000
NBV $420,000 $74,000
Revised RV $62,000 $3,600
Depreciable Amount $358,000 $70,400
(25-10) (4-2)
Remaining Life - years 15 2

Revised Depreciation $23,867 $35,200

*(proposed years less years already in use)
Disposals – or “Derecogniton”
 Derecognition of Property, Plant, and
Equipment
1. Update depreciation
– Depreciation for the fraction of the year to the date of
disposal must be recorded
2. Calculate carrying amount
– Carrying amount = Cost – Accumulated depreciation
3. Calculate gain or loss
– Proceeds – carrying amount = gain/loss

Proceeds > carrying amount = Gain (Cr.)

Proceeds < carrying amount = Loss (Dr.)
 Derecognition of Property, Plant, and
Equipment
4. Record disposal
– Remove cost of asset and accumulated
depreciation. Record proceeds (if any) and gain or
loss on disposition (if any)

Cash xxx
Accumulated Depreciation xxx
Asset xxx
Gain on Disposal, or xxx
Loss on Disposal xxx
 Example – Derecognition

Sell truck June 30/23 for $10,000

Expected resale
Purchase price =
value = $3,000
$33,000

First update depreciation:

June 30, 2023
Depreciation Expense …………………….. $3,000
Accumulated Depreciation ……………............. $3,000

Add ½ year of
Purchase Dec. 31/22 depreciation
Truck - $33,000
Truck - $33,000 ($6,000 x .5 =
Accum. Dep. - $0 Accum. Dep. $18,000
NBV $15,000 $3,000)
NBV $33,000
2020 2021 2022 2023 2024
 Example – Derecognition

Sell truck June 30/23 for $10,000

Expected resale
Purchase price =
value = $3,000
$33,000

Cash ……………………………………………….. $10,000 June. 30/23

Accumulated Depreciation …………….. $21,000 Truck - $33,000
Accum. Dep. $21,000
Loss on Disposal …………………………….. $2,000 NBV $12,000

Truck …………………………………………………………. $33,000

Add ½ year of
Purchase Dec. 31/22 depreciation
Truck - $33,000
Truck - $33,000 ($6,000 x .5 =
Accum. Dep. - $0 Accum. Dep. $18,000
NBV $15,000 $3,000)
NBV $33,000
2020 2021 2022 2023 2024
 Practice

Problems:
Finish 7A (entries for 2019) – Sale on Nov. 30, 2019
 Practice

Finish 7A – Straight-Line

2019
Nov. 30 Depreciation Expense 18,333
Accumulated Depreciation—Equipment 18,333
($20,000 × 11/12 = $18,333)

30 Cash 18,000
Accumulated Depreciation—Equipment ($16,667 + $18,333) 35,000
Loss on Disposal 17,000
Equipment 70,000
 Practice

Finish 7A – Double-Diminishing-Balance

2019
Nov. 30 Depreciation Expense 18,988 Note: calculate Jan. 1/19 NBV
Accumulated Depreciation—Equipment 18,988 to calculate deprecation.
[($70,000 – $39,083) × 67% × 11/12 = $18,988]

Nov. 30 Cash 18,000

Accumulated Dep.—Equip. ($39,083 + $18,988) 58,071
Gain on Disposal 6,071
Equipment 70,000
 Practice

Finish 7A – U-O-P

2019
Nov. 30 Depreciation Expense 28,000
Accumulated Depreciation—Equipment 28,000
(5,600 × $5 = $28,000)

Nov. 30 Cash 18,000

Accum. Dep.—Equip. ($24,500 + $28,000) 52,500
Gain on Disposal 500
Equipment 70,000
 Practice

Finish 7A – Part b)

(b)
Double-
Straight- Diminishing Units-of-
Line -Balance Production
Depreciation expense 2018 $16,667 $39,083 $24,500
2019 $18,333 $18,988 $28,000

Depreciation for two years $35,000 $58,071 $52,500

+ Loss (or – gain) on disposal $17,000 -$6,071 -$500

Net expense for 2 years $52,000 $52,000 $52,000

Lease Accounting
 Buy or Lease?

• Advantages of leasing
– Reduced risk of obsolescence
– 100% financing
– Income tax
– “Off-balance sheet” financing
• Terminology
– Lessor — owner of asset for lease (such as a
landlord)
– Lessee — party leasing asset from owner (such as a
tenant)
 Buy or Lease? (Continued)

• Operating lease
– Treated as rental by lessee
– Periodic payment (rent expense)
• Finance lease
– Treated as purchase by lessee (as an asset and
corresponding liability)
– Periodic payment (decrease liability and charge
interest expense)
Intangible Assets – and Goodwill
 Intangible Assets and Goodwill

• Do not have physical substance

• Rights, privileges and/or competitive
advantages
– For example, intellectual property in a production
process
• Must be identifiable
– Can be separated from company and sold; or
– Based on contractual or legal rights
 Accounting for Intangible Assets

• Accounting for intangible assets parallels

accounting for tangible assets
– Recorded at cost including all costs to make asset ready
for use
• If intangible asset has a finite (limited) life, its cost
must be systematically allocated over its useful life
– For intangible assets, this is referred to as amortization
rather than depreciation
• Intangible assets with an indefinite (unlimited) life
are not amortized
 Amortization for Intangibles

• Amortize over shorter of

– Estimated useful life
– Legal life
• Test for impairment
 Intangibles with Finite Lives

• Patents
– Exclusive right to produce for 20 years
• Research and development costs
– All research costs are expensed
– Development costs are capitalized only if
associated with an identifiable, feasible product
• Copyrights ©
– Protection for the life of the creator + 50 years
 Intangibles with Indefinite Lives

• Trademarks and trade names ™®

– Word, jingle, symbol that distinguishes business
• Franchises
– Contractual agreement to sell products or services
• Licences
– Operating rights
 Goodwill

• Asset representing future economic benefits

arising from the purchase of a business
– Excess of cost over fair market value of net assets
(assets less liabilities) acquired
– Represents the extra value relating to a business
when it is purchased
– Only identified with the business as a whole
• Not amortized, but subject to an annual test
for impairment
 Practice

Exercise 9 Page 503

Financial Statement Presentation
 Presentation of Long-Lived Assets

• Statement of Financial Position

– Reported as
• Property, Plant and Equipment
• Intangible Assets
• Goodwill
– Disclose cost and accumulated depreciation
(amortization) of each major class of assets
• Either in statement or in notes
– Disclose depreciation/amortization methods and
useful lives or rates
– IFRS also requires additional disclosures
 Presentation of Long-Lived Assets

• Income Statement
– Depreciation expense, gains and losses on disposal
and impairment losses are included in the
operating section
• Statement of Cash Flows
– Cash flows from the purchase and sale of long-
lived assets are reported in the investing section
 Return on Assets

• Measures overall profitability

Profit .
Return on Assets = Average Total
Assets

Higher is better
 Asset Turnover

• Measures how efficiently a company uses its

assets

Net Sales
Asset Turnover = Average Total
Assets

Higher is better
 Profit Margin Revisited

• Together, profit margin and asset turnover

explain the return on assets ratio

Profit x Asset = Return on

Margin Turnover Assets
Comparing IFRS and ASPE