ACTG 2110

Chapter 10 – Fixed Assets and

Intangible Assets
 Operating Assets
• Used in the day to day operations of a
business to generate income for many
years
• They cost large amounts of money
• Categories:
– Fixed Assets – physical form
– Natural Resources
– Intangible Assets – no physical form
 Fixed Assets
• Common types
– Land
– Land Improvements
– Buildings
– Machinery and equipment
– Furniture and fixtures
– Automobiles
• If used in the business, they are set up as fixed
assets.
• If not used in the business and we are just
holding them for later use or sale, they are
investments.
Determining the Cost of Operating
Assets
• Purchase price plus
– Additional expenditures to get the asset ready
for use
– Examples: back property taxes, tearing down
old buildings, closing costs, sales taxes,
delivery costs, building permits, architect’s
fees, additional dirt
 Additional Expenditures
Capitalization versus Expense
• Capitalization (Record as asset)
– If the additional cost extends the life of the
asset OR
– Adds new long-lasting value to the asset
• Expense
– Routine maintenance
– Does not extend the life of the asset
 Leasing Fixed Assets
• Lessor – owner of the property
• Lessee – user of the property
• If long-term, set up the lease as a capital
lease.
– Lease is an asset
– Payments due are a liability
• If short-term, expense the lease.
 Depreciation
• Cost allocation, NOT MARKET VALUATION
• Causes of depreciation
– Wear and tear
– Use
– Time passage
• Measuring depreciation
– Cost
– Estimated useful life (how long the asset is intended to be used
in the business)
– Estimated residual (salvage) value (what you can sell the asset
for when the useful life is over)
– Book value
• DOES NOT REPRESENT MARKET VALUE!!!!!!!!
• Cost – accumulated depreciation
 Depreciation Methods
• Straight line (equal amount of depreciation
each year)
• Units-of-production (depreciation based on
how many units made or used up that
year)
• Double-declining (Accelerated method
where more depreciation is taken in the
early years)
 Straight-line
• Cost $20,000, Residual value $4,000, Useful life 5 years
• Cost – residual value = $20,000 – 4,000
• Useful life 5 years
• $3,200 each year
• Depr. Expense Accum. Depr. Book Value
• 1 – 3,200 3,200 16,800
• 2 – 3,200 6,400 13,600
• 3 – 3,200 9,600 10,400
• 4 – 3,200 12,800 7,200
• 5 – 3,200 16,000 4,000
 Units-of-production
• Cost $20,000, Residual value $4,000, Useful life 100,000
units of product
• Cost – residual value = $20,000 – 4,000
• Useful production 100,000
• $.16 per unit, Years 1-3 25,000 units, 4 – 15,000, 5 -
10,000
• Depr. Expense Accum. Depr. Book Value
• 1 – 4,000 4,000 16,000
• 2 – 4,000 8,000 12,000
• 3 – 4,000 12,000 8,000
• 4 – 2,400 14,400 5,600
• 5 – 1,600 16,000 4,000
 Double-Declining Balance
• Cost $20,000, Residual value $4,000, Useful life 5 years
• 100%/5 years = 20% x 2 = 40% per year (Switch to
straight line in year 4)
• Year 1 – Book value x 40%
• Depr. Expense Accum. Depr. Book Value
• 1 – 8,000 8,000 12,000
• 2 – 4,800 12,800 7,200
• 3 – 2,880 15,680 4,320
• 4 – 160 15,840 4,160
• 5 – 160 16,000 4,000
 Comparison of Methods
Units-of Double-Decl.
• Straight-line Production Balance
• 1- 3,200 4,000 8,000
• 2- 3,200 4,000 4,800
• 3- 3,200 4,000 2,880
• 4- 3,200 2,400 160
• 5- 3,200 1,600 160
 Depreciation Methods
• Income tax depreciation – MACRS (Modified
Accelerated Cost Recovery System) – based on
double-declining method
• Partial years – when purchasing the asset on a
day other than January 1, a portion of the annual
depreciation should be taken
– Purchase 1-15 day of month (take whole month)
– Purchase 16-31 day of month (wait until next month
for depreciation)
• Revision of depreciation estimates – Depreciate
book value using new useful life
 Disposal of Plant Assets
• Can retire, junk, sale or trade in asset
• Procedure
– 1 – Record depreciation through date of
disposal
– 2 – Remove related accumulated depreciation
amount from books by debiting that account
– 3 – Determine the book value (Cost –
accumulated depreciation)
– 4 – Determine the gain or loss
 Disposal of Plant Assets
• Example: Sold equipment costing $10,000 with
Accum. Depr. of $7,000 for $5,000.
(Depreciation up to date)
• Sales price $5,000 – book value (10,000 –
7,000) $3,000 = $2,000 gain
• Entry:
• Cash 5,000
• Accumulated Depreciation 7,000
• Equipment (cost) 10,000
• Gain on sale of asset 2,000
 Disposal of Plant Assets
• Exchanging Plant Assets for new plant assets
• Instead of selling the asset in the previous example,
assume we traded it in with $10,000 cash.
• Journal entry:
• New equipment $13,000
• (10,000 + 3,000 b.v. of old)
• Accum. Depreciation 7,000
• Old equipment 10,000
• Cash 10,000
• Gain goes into the cost of the new equipment.
• Loss must be expensed right away and the new
equipment will be the list price.
 Natural Resources
• Examples: Iron ore, oil, timber, metals
• Set up purchase price plus costs to get
ready to extract as asset
• Use similar to depreciation is recorded as
“depletion expense”
• Depletion expense method is similar to
units-of-production depreciation method
 Intangible Assets
• Characteristics – no physical form, these assets
give you rights and privileges
• Examples: patents, copyrights, trademarks,
brand names, franchises, licenses, goodwill
• Set up purchase price as asset
• Use is similar to depreciation and is recorded as
“amortization expense”
• Amortization expense is like straight-line
deprecation
• Goodwill and trademarks are not amortized but
tested for impairment losses occassionally.
 Financial Analysis and
Interpretation
• Fixed Asset Turnover Ratio:

Revenue
Average book value of fixed assets

• Higher the turnover, the better