fixed asset accounting
Define capitalize
*Def 1*: Delay the recognition of expenses by recording the expense as a long-term asset. Companies acquiring assets can spread out the cost. Expenses incurred today are deducted over the long term without an immediate negative affect against revenues. *Def 2*: Capitalizing a cost allows a business to report that cost as an asset rather than an expense.
What are some of the rule making bodies?
1) Institute of Management Accountants (formerly the National Association of Accountants) 2) Financial Accounting Standards Board (publishes GAAP)
Define "asset"
An asset is current production that is not used up, and instead provides the means for future productivity. Capital goods (assets) are something which must be managed for the future, not just to benefit current quarter earnings. GAAP defines a company's assets as the things it owns or controls that have measurable future economic value. If something doesn't fit that description, it can't be capitalized. Land, buildings, equipment, items held in inventory, stocks and bonds, even IOUs from customers (accounts receivable) have measurable future economic value, so a company can capitalize them as assets. Other costs, such as advertising, marketing and research and development, must be expensed. While these costs are certainly intended to produce future value, that value can't be reliably measured at present.
What gives the best ROI in today's complex business world?
Best quality and maximum utilization.
What to capitalize?
GAAP allows companies to capitalize the full costs of acquiring an asset and preparing it for use. Suppose a publishing company buys a $5 million press from a manufacturer in Germany. Not only can the company capitalize the purchase price of the press, it can also capitalize the cost of transporting the equipment from Germany. Assembly costs, the cost of any necessary modifications to the company's printing plant, even taxes and tariffs paid on the presses, can all be rolled into the capitalized cost. On a far smaller scale, if a company buys $100 in stock for investment purposes and has to pay a $1 commission, it can capitalize the full acquisition cost: $101.
Explain inflation accounting and whether or not it should be utilized in calculating depreciation.
Inflation accounting refers to estimating the probability that plant and equipment will have to be replaced at a cost much greater than those of the facilities currently in use. Depreciation must not be "written up," or calculated on the basis of this expected inflation.
What must be emphasized with regards to managing assets?
It is not always possible to create more debt in order to acquire new assets. Therefore, some of our consumption today must be sacrificed in order to provide quality assets for tomorrow. Assets capable of providing future benefit must be managed in a way to allow that future benefit to occur.
What must accounting information be to be valuable?
Simple, understandable, relevant, timely.
When do we recognize losses in future benefits derived from assets?
We recognize losses if it becomes evident that previously recognized future economic benefits of assets have been reduced or eliminated.
Explain depreciation
When a company capitalizes an asset, that doesn't necessarily mean it will never have to expense the cost. "Hard assets," such as property, plants and equipment, tend to lose value as time passes. Buildings deteriorate, vehicles and equipment break down, technology becomes obsolete. GAAP recognizes this and it requires companies to expense a portion of the asset's value for each year of its useful life. This is called depreciation. A $5 million printing press, for example, might have a useful life of 25 years, at the end of which it would be worth, say, $200,000 for scrap metal. So the company has to depreciate $4.8 million worth of value over 25 years. Under the most common depreciation method, the company would claim a depreciation expense of $192,000 a year. Depreciation also serves a second purpose under GAAP: the "matching principle." This principle says that when companies report revenue, they must simultaneously report, as expenses, all costs incurred in producing that revenue. For the printing press, the $192,000 in depreciation is an expense incurred to produce the revenue generated by the press that year.
Explain capitalization versus expense
When companies incur costs, they can either "capitalize" those costs or "expense" them. Capitalizing a cost means converting it to an asset on the balance sheet. For example, if a company pays $10,000 in cash for piece of equipment, its financial statements don't show that it "spent" $10,000. Rather, they show that it converted $10,000 worth of cash into $10,000 worth of equipment, an asset. Expensing a cost, on the other hand, means reporting it on the income statement as an outflow of money. If a company pays $10,000 for rent, for example, its financial statements show that money as being "spent." Expenses directly reduce a company's net income, or profit, so the more costs a company can capitalize rather than expense, the greater the profit it can report to shareholders.