Intermediate Accounting Chapter 11: Property, Plant, and Equipment and Intangible Assets: Utilization and Disposition

For plant, property, and equipment, U.S. GAAP requires the investigation of possible impairment

only if events or changes in circumstances indicate that the asset may not be recoverable.

What is the purpose of group or composite depreciation?

To reduce the record-keeping costs of determining depreciation.

An impairment occurs when the

undiscounted sum of estimated future cash flows is less than the asset's book value.

On October 1, year 1, Johnson Corp. purchased equipment for $100,000. The equipment has a useful life of 5 years with no residual value. Johnson uses the double-declining-balance method of depreciation. The partial year depreciation for year 1 is

$10,000 (The depreciation rate is 1/5 x 2 = 40%. $100,000 x 40% x 1/4 = $10,000 depreciation expense in year 1.)

On October 1, year 1, Kirby Corp. purchased equipment for $100,000. The equipment has a useful life of 5 years with no residual value. Kirby uses the straight-line method of depreciation. The partial year depreciation for year 1 is

$5,000 (Year 1 - Depreciation is only for 3months (Oct to Dec) $100,000/5 years = $20,000 per year x 1/4 year = $5,000 depreciation expense in year 1.)

Match each term with its definition. Instructions

-Depreciation - Allocation of the cost of a tangible fixed asset -Depletion - Allocation of the cost of natural resources -Amortization - Allocation of the cost of an intangible asset

Which of the following are required when a material error is discovered in a subsequent accounting period that impacts retained earnings? (Select all that apply.)

-Previous financial statements are retrospectively restated. -A disclosure note describing the nature of the error and the impact of the correction on net income and earnings per share. -A prior period adjustment is made to the beginning balance of retained earnings. Need help? Review these concept resources.

What are the issues when accounting for impairments? (Select all that apply.)

-When to recognize the impairment. -How to measure the impairment loss.

The allocation of the cost of a tangible fixed asset over a period of time is referred to as ___, whereas the allocation of the cost of an intangible asset is referred to as ___.

-depreciation -amortization

A subsequent expenditure for an asset increases the future benefits of the asset if it (Select all that apply.)

-increases the operating efficiency of the asset. -increases the quality of the goods or services produced by the asset. -extends the asset's useful life.

Which items are considered changes in estimates that would be treated on a prospective basis in the current period and future periods? (Select all that apply.)

-increasing the residual value of an asset -change in useful life of an asset

The two categories for intangible assets are

-intangibles with indefinite lives. -intangibles with finite lives.

The useful life of an intangible asset may be limited by what type of provisions? (Select all that apply.)

-legal -regulatory -contractual

Required Information #6

A change in depreciation, depletion, or amortization method is considered a change in accounting estimate that is achieved by a change in accounting principle. We account for these changes prospectively, exactly as we would any other change in estimate. One difference is that most changes in estimate do not require a company to justify the change. However, this change in estimate is a result of changing an accounting principle and therefore requires a clear justification as to why the new method is preferable.

Required Information #5

A change in either the service life or residual value of property, plant, and equipment and intangible assets should be reflected in the financial statements of the current period and future periods by recalculating periodic depreciation, depletion, or amortization.

When accounting for impairments, the two categories for recognizing and measuring the loss are

assets to be held and used and assets held for sale.

Required Information #7

A material error in accounting for property, plant, and equipment and intangible assets that is discovered in a year subsequent to the year of the error requires that previous years' financial statements that were incorrect as a result of the error be retrospectively restated to reflect the correction. Any account balances that are incorrect as a result of the error are corrected by journal entry. If retained earnings is one of the incorrect accounts, the correction is reported as a prior period adjustment to the beginning balance in the statement of shareholders' equity. In addition, a disclosure note is needed to describe the nature of the error and the impact of its correction on income.

Which of the following accounting changes must be justified in the notes to the financial statements?

Changes in depreciation methods

The acronym MACRS stands for

Modified Accelerated Cost Recovery System

Required Information #8

Conceptually, there is considerable merit for a policy requiring the write-down of an asset when there has been a significant decline in value below book value. The write-down provides important information about the future cash flows to be generated from the use of the asset. However, in practice this policy is very subjective. GAAP [FASB ASC 360] establishes guidance for when to recognize and how to measure impairment losses of property, plant, and equipment and intangible assets that have finite useful lives. GAAP [FASB ASC 350] also provides guidance for the recognition and measurement of impairment for indefinite-life intangibles and goodwill.

Book Value Formula

Cost - Accumulated depreciation

Depreciable Base Formula

Cost - Residual Value

Annual Depreciation Formula (Double-Declining Balance Method)

Cost x [2 x (1 / Service Life)]

Average Depletion Rate Formula

Depletion Base / Service Life of Natural Resources

Annual Depreciation Formula (Activity-Based Method/ Units-of-Production Method)

Depreciable Base / Number of Units Expected to be Produced

Annual Depreciation Formula (Straight-Line Method)

Depreciable Base / Number of Years in Asset's Life

Annual Depreciation Formula (Sum of the Years' Digits Method)

Depreciable Base x [Remaining Service Life (counting current year) / Sum of Digits (1 to n)] *n = number of years in service life

Required Information #9

Expenditures for repairs and maintenance generally are expensed when incurred. The costs of additions and improvements usually are capitalized. The costs of material rearrangements should be capitalized if they clearly increase future benefits.

The retirement depreciation method assumes a ___ cost approach in determining depreciation expense at the time the assets are disposed.

FIFO

True or false: When accounting for impairments, the two categories for recognizing and measuring the loss are tangible and intangible assets.

False (The categories for accounting for impairments are assets to be held and used and assets held for sale.)

Which statement is true about the straight-line method of depreciation?

It allocates an equal amount of depreciation to each year of the asset's service life.

What is the accounting treatment for the discovery of a material error in a previous year?

Previous years' financial statements are restated.

Which of the following terms is equivalent to an asset's useful life to a particular company?

Service Life

Required Information #4

The allocation process for intangible assets is called amortization. For an intangible asset with a finite useful life, the capitalized cost less any estimated residual value must be allocated to periods in which the asset is expected to contribute to the company's revenue-generating activities. An intangible asset that is determined to have an indefinite useful life is not subject to periodic amortization. Goodwill is perhaps the most typical intangible asset with an indefinite useful life.

Required Information #3

The allocation process for natural resources is called depletion. The activity-based method called units-of-production usually is employed to determine periodic depletion.

Required Information #2

The allocation process for plant and equipment is called depreciation. Time-based depreciation methods estimate service life in years and then allocate depreciable base, cost less estimated residual value, using either a straight-line or accelerated pattern. Activity-based depreciation methods allocate the depreciable base by estimating service life according to some measure of productivity. When an item of property, plant, and equipment or an intangible asset is sold, a gain or loss is recognized for the difference between the consideration received and the asset's book value.

Required Information #1

The use of property, plant, and equipment and intangible assets represents a consumption of benefits, or service potentials, inherent in the assets. The cost of these inherent benefits or service potentials should be recognized as an expense over the periods they help to produce revenues. As there very seldom is a direct relationship between the use of assets and revenue production, accounting resorts to arbitrary methods to allocate these costs over the periods of their use.

Which of the following intangible assets are usually considered to have indefinite lives?

Trademarks

Which of the following is an activity-based depreciation method?

Units-of-production method

The allocation of the cost of an intangible asset over its useful life is called

amortization

In accounting, the term impairment refers to

an asset's significant decline in value.

When selling a fixed asset, the seller recognizes a gain or loss for the difference between the consideration received and the ______ value of the asset sold.

book

The gain or loss on disposal of an asset is calculated as

consideration received less the book value of asset sold.

For natural resources the depletion base is

cost less any anticipated residual value.

The cost of a natural resource less its anticipated residual value is called the ___ ___.

depletion base

The acronym "MACRS" refers to a(n) _____ method that may be used for ______ purposes.

depreciation; tax

Accounting for impairment of value of assets with finite lives and those with indefinite lives

differs

When an asset has a significant decline in value and is written down, this is called ______.

impairment

No amortization is recorded for

intangible assets with indefinite lives.

If obsolescence were expected to limit the longevity of a protected product, the useful life of a patent might be _________ its legal life.

less than

Expenditures subsequent to acquisition may be properly capitalized when they increase the asset's useful life or increase its productive capacity. However, most companies set thresholds for capitalizing these expenditures based on

materiality.

If there is a change in an intangible asset's estimated useful life, the change is treated

on a prospective basis.

A change in depreciation method is treated as a change in estimate that is achieved by a change in accounting principle, and is accounted for

prospectively in the current and future periods.

In measuring an impairment loss, the difference between the asset's book value and its fair value is

recognized as an impairment loss.

A(n) ___ ___ is an operating segment of a company or a component of an operating segment for which discrete financial information is available and management regularly reviews the operating results of that component.

reporting unit

The amount of use that the company expects to obtain from an asset before disposing of it is referred to as the ___ life of the asset.

service, useful, depreciable

The depreciation method that allocates an equal amount of the depreciable base to each year of the asset's service life is the

straight-line method.

The measurement of an impairment loss in step 2 is the difference between

the asset's book value and its fair value.

In determining whether an impairment loss should be recognized for goodwill, a company compares the book value of the reporting unit with

the fair value of the reporting unit.

If a company bases depreciation expense on the life of a machine in hours, and depreciates the machine for the number of hours used during the year, it is using the ______ method of depreciation.

units-of-production

The retirement method for recording depreciation expense records depreciation

when the assets are disposed of.