Chapter 10: Long-lived assets Learning Objectives What measurement base is use
Faulk, Tammy, Office Manager has reference to this Academic Journal, PHwiki organized this Journal Chapter 10: Long-lived assets Learning Objectives What measurement base is used as long as long-lived assets What kinds of costs are capitalized in addition to how joint costs are allocated among assets What does asset impairment mean in addition to how is it recorded Learning Objectives (contd.) How analysts can adjust as long as different depreciation assumptions in addition to improve comparisons across companies How GAAP measurement rules complicate ROA trend analysis in addition to comparisons across companies 10- Asset An asset is something that generates future economic benefits in addition to is under the exclusive control of a single entity. Examples: Cash, Accounts receivables, investments, inventories, property, plant in addition to equipment, intangible assets.
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Assets Actively Used in Operations Long-Lived Assets Property, Plane in addition to Equipment PPE are acquired as long as use in continuing operations over the life of the asset to generate revenue. PPE (contd.) PPE are classified into two categories: L in addition to (the cost is NOT subject to depreciation) Depreciable assets: buildings, equipment, motor vehicles, l in addition to improvement. Matching principle is applied as long as the periodical allocation of the cost of PPE to expenses ( this process is referred to as depreciation).
10- Control Over PPE A fixed asset ledger card should be prepared in addition to maintained as long as each individual PPE asset purchased. Include all the pertinent in as long as mation relating to the asset in addition to its use. These data enable the management to establish in addition to maintain control over each individual asset. It also assists in accounting as long as all transaction relating to PPE assets. Overview of Accounting as long as PPE Acquisition
Costs include in the initial cost Identify the various costs included in the initial cost of property, plant, in addition to equipment. Costs to be Capitalized General Rule The initial cost of an operational asset includes the purchase price in addition to all expenditures necessary to bring the asset to its desired condition in addition to location as long as use. PPE are acquired either by cash purchase or by incurring a liability. If a liability is incurred, the interest charges cannot be included in the cost of the asset except as long as self-constructed assets. Net purchase price Taxes Transportation costs Installation costs Modification to building necessary to install equipment Testing in addition to trial runs Costs to be Capitalized- Equipment
L in addition to : Purchase price Commissions Legal fees Closing fees Clearing fees Title search & transfer fees Net razing cost of an old building Costs to be Capitalized L in addition to in addition to L in addition to Improvements L in addition to Improvements (depreciable): Driveways Parking lots Fencing L in addition to scaping Private roads Building Purchase price or contract price Cost of remodeling Architectural fee Building permits Surveying cost be as long as e construction Interest capitalized 7 excavation cost be as long as e construction Costs to be Capitalized- Building in addition to Nature Resources Natural Resources Purchase price, exploration in addition to development costs of: Timber Mineral deposits Oil in addition to gas reserves Capitalization example: Initial costs All costs are capitalized.
Lump-Sum Purchases Cost allocation as long as Lump-Sum Purchases. Several assets are acquired as long as a single, lump-sum price that may be lower than the sum of the individual asset prices. Lump-Sum Purchases Asset 2 Asset 1 Asset 3 Allocation of the lump-sum price is based on relative market value of the individual assets. Must separate costs because many assets have different depreciable lives, in addition to some (l in addition to ) are not depreciated. For financial reporting in addition to tax purposes, the allocation is guided by their relative market value. Tax versus financial reporting incentives The allocation of costs between l in addition to in addition to buildings affects the amount of income that will be reported in future periods. $100 $500 Higher depreciation Lower net income Lower taxes L in addition to Building Allocation 1:
On May 13, we purchase l in addition to in addition to building as long as $200,000 cash. The appraised value of the building is $162,500, in addition to the l in addition to is appraised at $87,500. How much of the $200,000 purchase price will be charged to the building account Lump-Sum Purchases Lump-Sum Purchases Prepare the journal entry to record the purchase. Lump-Sum Purchases
Exercise Joint costs Total cost of $260,000 ($10,000 cash, $250,000 credit). Individual fair value is determined as if purchased separately. Asset (Fair value / Total FV) x Total Cost = Cost Bldg. (100,000 / 325,000) x 260,000 = $ 80,000 Equip. (185,000 / 325,000) x 260,000 = 148,000 L in addition to ( 40,000 / 325,000) x 260,000 = 32,000 Total 325,000 $260,000 Journal entry: Building 80,000 Equipment 148,000 L in addition to 32,000 Cash 10,000 Mort. Payable 250,000 Self-Constructed Asset Identify the items included in the cost of a self-constructed asset in addition to determine the amount of capitalized interest. Self-Constructed Assets Costs Cost of self-constructed assets includes: 1. direct materials, 2. direct labor, 3. factory overhead (variable overhead in addition to fixed overhead). When self-constructing an asset, two accounting issues must be addressed: Overhead allocation to the self-constructed asset. Proper treatment of interest incurred during construction.
Under certain conditions, avoidable interest incurred on qualifying assets is capitalized. Interest Capitalization GAAP limits the amount of interest capitalized to the lower of (1) Actual Interest or (2) Avoidable interest. Capitalization of interest begins when construction begins interest is incurred, in addition to qualifying expenditures as long as assets consturtion are incurred. Capitalization ends when The asset is substantially complete in addition to ready as long as its intended use, or when interest costs no longer are being incurred. Interest Capitalization Interest is capitalized based on Weighted Average Accumulated Expenditures (WAAE). Qualifying expenditures include labor, material in addition to overhead incurred on the construction project during accounting period. Interest Capitalization = Average Accumulated Expenditures x interest rate
If the qualifying asset is financed through a specific new borrowing use the specific rate of the new borrowing as the capitalization rate. If there is no specific new borrowing, in addition to the company has other debt use the weighted average cost of other debt as the capitalization rate. Interest Rate used in Interest Capitalization Operational Assets: Acquisition Example – Interest Capitalization as long as Self-Constructed Assets Capitalization period: 1/2/x2 to 6/30/x3 Specific construction debt: $1,500,000 at 11% annual int. rate. This debt was borrowed on 9/30/x1 to finance the project. Other debt during the construction period: 1. $4,000,000 at 12% annual int. rate. 2. $8,000,000 at 15% annual int. rate. These loans have been outst in addition to ing since 1/1/x2. Operational Assets: Acquisition Example (contd.) Weighted Average Interest Rate (of other debt): Total interest = 480,000 +1,200,000 = 14% Total Principle 12,000,000 or 12% x 4,000,000 +15% x 8,000,000 = 14% 12,000,000 12,000,000 Expenditures on the construction during 20×2 in addition to 20×3 were as follows: 1/2/x2 $800,000 7/1/x2 $1,000,000 10/1/x2 $600,000 3/1/x3 $900,000 6/1/x3 $1,800,000
10- ROA distortion Example (contd.) One of the reasons causing the distortion on ROA analysis is the historical cost basis on depreciation of long-lived assets in addition to the reporting of these assets on financial statements. Within the same industry comparison of ROA is usually meaningful due to competition often leads firms to have similar investments in addition to operating strategies (i.e., similar % increase in capital expenditures). Summary The need as long as reliable in addition to verifiable numbers causes long-lived assets to be measured using historical cost. The balance sheet amounts as long as intangible assets often differ from their real value. Changes in the amount of capitalized interest from one period to another can distort earnings trends. When comparing return on assets (ROA) ratios across firms, remember that ROA drifts upward as assets age. Depreciation differences can complicate comparisons across firms. Footnote details can be used to improve these comparisons.
Faulk, Tammy Office Manager
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