Chapter 11
Depreciation and Depletion
Asset cost –
Service life -
1.
a)
b)
2.
a)
b)
residual value –
Straight Line:
Cost – Salvage Value = annual depreciation expense
life in years
Accelerated Methods (recognize higher depreciation in earlier years of asset’s life, and
less in later years than with S/L):
Sum of Years Digits:
Number of years remaining in the assets life
at the BEGINNING of the current year
X
life(life + 1)
2
(cost – salvage) = annual depreciation
Double Declining Balance:
2
life
X (cost – accumulated depreciation) = annual depreciation
On the basis of usage (activity method):
Units of Production:
Cost – Salvage
total units of activity
= depreciation expense per unit of activity
Depr. exp. per unit of activity X
number of units used = Depr. exp. for period
EXAMPLE:
On 1/2/2003, ABC Co. bought a truck for $70,000. It is believed to have an estimated
life of 5 years or 100,000 miles and an estimated salvage value of $10,000.
Calculate depreciation expense for all years using S/L, SYD, DDB and Units of
Production. The truck was driven 10,000 miles in 2003, 12,000 miles in 2004 and 15,000
miles in 2005.
S/L
SYD
DDB
Units of Production
For the same facts as above, except the truck was bought on July 1 2003, calculate
deprecation expense for each year of the assets life.
S/L
SYD
DDB
Units of Production
See page 523 – 524 for disclosure of depreciation.
Group depreciation:
Composite depreciation:
Inventory systems:
Depreciation and Income Tax –
Prior to 1981
1981 – 1986
1987 forward
MACRS:
See page 535 for life and method.
See page 536 for % applied each year.
Results in temporary difference –
Changes/Corrections:
-
Change in residual value or service life –
-
Change in method -
-
Correction of error -
What about a change in estimate? If the life were changed in the beginning of 2006 to a
TOTAL life of 8 years? (watch the wording because it could be expressed as the number
of years remaining in the assets life, which is…….)
Using S/L:
undepreciated depreciable cost =
remaining useful life
entry to record depreciation for 2006:
if new life is longer, annual depreciation expense will be ____________ than before.
if new life is shorter, annual depreciation expense will be ____________ than before.
Is book value going to be any different at the end of the asset’s life? Why or why not?
How is this handled on the Income Statement?
Natural resources:
Assets which are consumed in the generation of revenues and which cannot be replaced
except by nature.
Depletion is usually computed like units of production, across the useful life of the
natural resource. This is very often subject to change, as a company reevaluates is
estimate of remaining units of resource based on new information.
The Hard Rock Mining Co. has purchased a tract of mineral land for $570,000. It is
estimated that this tract will yield 120,000 tons of ore. The land is expected to have a
residual value of $30,000.
The company builds necessary sheds and structures on the site at a cost of $36,000. It is
estimated that will last about 15 years, but they would have to be dismantled to be
moved, so there is no salvage value. The company does not intend to use the buildings
elsewhere. Mining machinery was purchased second hand at a cost of $48,000. This
machinery cost the former owner $96,000 and was 50% depreciated when purchased.
Hard Rock estimates that it will still be useful when the mine is exhausted, but that the
costs of dismantling will offset its value at that time. In the first year 7,000 tons were
removed and sold. What is the depletion base?
If extract 7,000 tons, depletion is:
If sell 6,000 tons, deletion expense will be _____________, which is shown on:
and the balance goes where?
At the beginning of the second year, Hard Rock estimates that there is actually about
110,000 tons of ore left in the mine. Revise the depletion rate.
Impairment –
Two steps:
1)
2)
Test –
Measurement –
Disclose –