Ch. 10: Property, Plant, and Equipment and Intangible Assets - Acquisition
Organization costs
fees and other expenses of organizing a new entity.
Specific interest method
for interest capitalization, rates from specific construction loans to the extent of specific borrowings are used before using the average rate of other debt.
Weighted-average interest method
for interest capitalization, weighted-average rate on all interest-bearing debt, including all construction loans, is used.
Development costs
for natural resources, costs incurred after the resource has been discovered but before production begins.
Exploration costs
for natural resources, expenditures such as drilling a well, or excavating a mine, or any other costs of searching for natural resources.
Self-constructed assets Interest capitalization disclosure
if material, the amount of interest capitalized during the period must be disclosed.
Intangible assets
operational assets that lack physical substance; examples include patents, copyrights, franchises, and goodwill.
Start-up costs
whenever a company introduces a new product or service, or commences business in a new territory or with a new customer, it incurs one-time costs that are expensed in the period incurred.
AROS measurement
- A company recognizes the fair value of an ARO in the period it's incurred. - The amount of the liability increases the valuation of the related asset. Usually, the fair value is estimated by calculating the present value of estimated future cash outflows.
Self-constructed assets Interest capitalization calculation
(1) determine the weighted-average accumulated expenditures. (2) calculate the amount of interest to be capitalized by multiplying an interest rate by the average accumulated expenditures. (3) compare calculated interest with actual interest incurred.
Deferred payments
- A company can acquire an asset by giving the seller a promise to pay cash in the future and thus creating a liability, usually a note payable. - The initial valuation of the asset is, again, quite simple as long as the note payable explicitly requires the payment of interest at a realistic interest rate.
Donated assets U.S. GAAP vs. IFRS
- Both U.S. GAAP and IFRS require that companies value donated assets at their fair values. - For government grants, the way that value is recorded is different under the two sets of standards. - Unlike U.S. GAAP, donated assets are not recorded as revenue under IFRS. - IAS No. 20 requires that government grants be recognized in income over the periods necessary to match them on a systematic basis with the related costs that they are intended to compensate.
Research and Development (R&D) U.S. GAAP vs. IFRS
- GAAP: requires that total R&D expense incurred must be disclosed either as a line item in the income statement or in a disclosure note. - IFRS: research expenditures are expensed in the period incurred. - IFRS: development expenditures that meet specified criteria are capitalized as an intangible asset. - GAAP and IFRS: any direct costs to secure a patent, such as legal and filing fees, are capitalized.
AROS and U.S. GAAP
- Generally accepted accounting principles require that an existing legal obligation associated with the retirement of a tangible, long-lived asset be recognized as a liability and measured at fair value, if value can be reasonably estimated. - When the liability is credited, the offsetting debit is to the related asset.
Lump-sum purchases
- It's not unusual for a group of assets to be acquired for a single sum. - If these assets are indistinguishable, valuation is obvious. - If the lump-sum purchase involves different assets, it's necessary to allocate the lump-sum acquisition price among the separate items. - The assets acquired may have different characteristics and different useful lives. - The allocation is made in proportion to the individual assets' relative fair values.
Franchise payments
- Payments to the franchisor usually include an initial payment plus periodic payments over the life of the franchise agreement. - The franchisee capitalizes as an intangible asset the initial franchise fee plus any legal costs associated with the contract agreement. - The franchise asset is then amortized over the life of the franchise agreement. - The periodic payments usually relate to services provided by the franchisor on a continuing basis and are expensed as incurred.
Software development costs U.S. GAAP vs. IFRS
- The percentage we use to amortize computer software development costs under U.S. GAAP is the greater of (1) the ratio of current revenues to current and anticipated revenues or (2) the straight-line percentage over the useful life of the software. - Amortization under IFRS typically occurs over the useful life of the software, based on pattern of benefits, with straight-line as the default.
AROS present value calculations
- We use a discount rate equal to the credit-adjusted risk-free rate. - The higher a company's credit risk, the higher will be the discount rate. - All other uncertainties or risks are incorporated into the cash flow probabilities.
Self-constructed assets
- a company might decide to construct an asset for its own use rather than buy an existing one. - identifying the cost is difficult because there is no external transaction to establish an exchange price. - the cost includes identifiable materials and labor and a portion of the company's manufacturing overhead costs.
Goodwill
- a unique intangible asset in that its cost can't be directly associated with any specifically identifiable right and it is not separable from the company itself. - represents the unique value of a company as a whole over and above its identifiable tangible and intangible assets. - an emerge from a company's clientele and reputation, its trained employees and management team, its favorable business location, and any other unique features of the company that can't be associated with a specific asset.
Software development costs
- amortization begins when the product is available for general release to customers. - periodic amortization percentage is the greater of (1) the ratio of current revenues to current and anticipated revenues (percentage-of-revenue method) or (2) the straight-line percentage over the useful life of the asset.
Self-constructed assets Average accumulated expenditures
- approximates the average debt necessary for construction. - determined by time-weighting individual expenditures made during the construction period.
Noncash acquisitions
- deferred payments (notes payable) - issuance of equity securities - donated assets - exchanges of nonmonetary assets for other assets
Research and Development (R&D) purchased in business acquisitions
- developed technology vs. in-process research and development - the fair value of developed technology is capitalized as an finite-life intangible asset. - the fair value of in-process research and development is capitalized as an indefinite-life intangible asset.
Research and Development (R&D) Costs related that are capitalized (recorded as an asset)
- development costs for software that has reached the point of technological feasibility. - R&D performed by the company for sale to others. - R&D purchased in a business acquisition.
Patent
exclusive right to manufacture a product or to use a process.
Research and Development (R&D) costs
- entail a high degree of uncertainty of future benefits and are difficult to match with future revenues. - expensed in the periods incurred. - include salaries, wages, and other labor costs of personnel engaged in R&D activities, the costs of materials consumed, equipment, facilities, and intangibles used in R&D projects, the costs of services performed by others in connection with R&D activities, and a reasonable allocation of indirect costs related to those activities.
Donated assets
- enticements to do something that benefits the donor. - recorded at their fair values based on either an available market price or an appraisal value. - revenue is credited for the amount paid by an unrelated party. - the company receiving the donation is performing a service for the donor in exchange for the asset donated.
Exchanges Lack of commercial substance
- fair value can be used only in gain situations that have "commercial substance." - Gain situation: the exchange lacks commercial substance and the new asset is valued at the book value of the old asset. - Loss situation: when a loss is indicated in a nonmonetary exchange, it's okay to record the loss and we use fair value to value the asset acquired.0
Research and Development (R&D) performed for others
- immediate expensing does not apply to companies that perform R&D for other companies under contract. - costs are capitalized as inventory and carried forward into future years until the project is completed.
Research and Development (R&D) expense
- includes the depreciation and amortization of assets used in R&D activities. - costs incurred before the start of commercial production are expensed as R&D. - costs to develop the patented product are expensed. - filing and legal costs for patents, copyrights, and other developed intangibles are capitalized and amortized in future periods.
Cost of land
- includes the purchase price plus closing costs such as fees for the attorney, real estate agent commissions, title and title search, and recording. - if the property is subject to back taxes, liens, mortgages, or other obligations, these amounts are included also. - includes any expenditures such as clearing, filling, draining, and even removing (razing) old buildings that are needed to prepare the land for its intended use are part of the land's cost. - proceeds from the sale of salvaged materials from old buildings torn down after purchase reduce the cost.
Exchanges
- involves a trade-in by which a new asset is acquired in exchange for an old asset, and cash is given to equalize the fair values of the assets exchanged. - value the asset received at fair value. - the amount can be based on the fair value of the asset(s) given up or the fair value of the asset(s) received plus (or minus) any cash exchanged. - recognize a gain or loss for the difference between the fair value and the book value of the asset given up.
Fixed-asset turnover ratio
- measures a company's effectiveness in managing property, plant, and equipment. - indicates the level of sales generated by the company's investment in fixed assets. - calculated: Net sales / average
Issuance of equity securities
- occurs when small companies incorporate and the owner or owners contribute assets to the new corporation in exchange for ownership securities, usually common stock. - the fair value of the assets received by the corporation is probably the better indicator of the transaction's exchange value.
Self-constructed assets Interest capitalization
- only assets that are constructed as discrete projects or those built for a company's own use qualify for interest capitalization. - the capitalization period starts with the first expenditure (materials, labor, or overhead) and ends either when the asset is substantially complete and ready for use or when interest costs no longer are being incurred.
Intangible assets
- operational assets that lack physical substance; examples include patents, copyrights, franchises, and goodwill. - include patents, copyrights, trademarks, franchises, and goodwill.
Capital budgeting
- the process of evaluating the purchase of operational assets. - requires management to forecast all future net cash flows (cash inflows minus cash outflows) generated by the asset(s).
Franchise
A contractual arrangement under which the franchisor grants the franchisee the exclusive right to use the franchisor's trademark or tradename and may include product and formula rights, within a geographical area, usually for a specified period of time.
AROS recognition
A retirement obligation might arise at the inception of an asset's life or during its operating life.
AROS scope
AROs arise only from legal obligations associated with the retirement of a tangible long-lived asset that result from the acquisition, construction, or development and (or) normal operation of a long-lived asset.
Software development costs
GAAP requires the capitalization of software development costs incurred after technological feasibility is established but before the software is available for general release to customers are capitalized as an intangible asset.
Expected cash flow approach
adjusts the cash flows, not the discount rate, for the uncertainty or risk of those cash flows.
Full-cost method
allows costs incurred in searching for oil and gas within a large geographical area to be capitalized as assets and expensed in the future as oil and gas from the successful wells are removed from that area.
nonmonetary exchange
considered to have commercial substance if future cash flows will change as a result of the exchange.
Restoration costs
costs to restore land or other property to its original condition after extraction of the natural resource ends.
Equipment
encompasses machinery used in manufacturing, computers and other office equipment, vehicles, furniture, and fixtures.
Technological feasibility
established when the enterprise has completed all planning, designing, coding, and testing activities that are necessary to establish that the product can be produced to meet its design specifications including functions, features, and technical performance requirements.
Copyright
exclusive right of protection given to a creator of a published work, such as a song, painting, photograph, or book.
Trademark
exclusive right to display a word, a slogan, a symbol, or an emblem that distinctively identifies a company, a product, or a service.
Cost of equipment
includes the purchase price plus any sales tax (less any discounts received from the seller), transportation costs paid by the buyer to transport the asset to the location in which it will be used, expenditures for installation, testing, legal fees to establish title, and any other costs of bringing the asset to its condition and location for use.
Property, plant, and equipment (PP&E)
land, buildings, equipment, machinery, autos, and trucks.
Asset retirement obligations (AROS)
obligations associated with the disposition of an operational asset.
Commercial substancE
occurs when future cash flows change as a result of the exchange.
Natural resources
oil and gas deposits, timber tracts, and mineral deposits.
Successful efforts method
requires that exploration costs that are known not to have resulted in the discovery of oil or gas be included as expense in the period the expenditures are made.
Acquisition costs
the amounts paid to acquire the rights to explore for undiscovered natural resources or to extract proven natural resources.
Land improvements
the cost of parking lots, driveways, and private roads and the costs of fences and lawn and garden sprinkler systems.
When a company develops natural resources
the initial valuation can include (a) acquisition costs, (b) exploration costs, (c) development costs, and (d) restoration costs
When a company buys natural resources from another company
the initial valuation is simply the purchase price plus any other costs necessary to bring the asset to condition and location for use.
Self-constructed assets Overhead allocation
the treatment of manufacturing overhead cost and its allocation between construction projects and normal production is a controversial issue.
Exchanges Fair value not determinable
use the book value of the asset given up, plus (minus) any cash given (received) to value the asset acquired.
Noncash transactions
valued at the fair value of the assets given or the fair value of the assets received, whichever is more clearly evident.