Chapter 10
Fixed Assets and
Intangible Assets
Accounting, 21st Edition
Warren Reeve Fess
PowerPoint Presentation by Douglas Cloud
Professor Emeritus of Accounting
Pepperdine University
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Objectives
1. Define fixed assets and describe the
accounting for
their
cost. this
After
studying
2. Compute depreciation,
the following
chapter, youusing
should
methods: straight-line method, units-ofbe able
production method,
and to:
declining-balance
method.
3. Classify fixed asset costs as either capital
expenditures or revenue expenditures.
4. Journalize entries for the disposal of fixed
assets.
5. Define a lease and summarize the accounting
rules related to the leasing of fixed assets.
Objectives
6. Describe internal controls over fixed assets.
7. Compute depletion and journalize the entry for
depletion.
8. Describe the accounting for intangible assets,
such as patents, copyrights, and goodwill.
9. Describe how depreciation expense is
reported in an income statement, and prepare
a balance sheet that includes fixed assets and
intangible assets.
10. Compute and interpret the ratio of fixed assets
to long-term debt.
Nature of Fixed Assets
Fixed assets are long term or
relatively permanent assets
Fixed assets are tangible assets
because they exist physically.
They are owned and used by the
business and are not held for sale
as part of normal operations.
Classifying Costs
Is the purchased
item long-lived?
Yes
No
Is the asset used in
a productive
purpose?
Yes
No
Fixed Assets
Expense
Investment
Land
• Purchase price
• Sales taxes
• Permits from government
agencies
• Broker’s commissions
• Title fees
• Surveying fees
Land
• Purchase price
• Delinquent real estate taxes
• Sales taxes
Razing
or removing
• Permits• from
government
agencies unwanted buildings, less the
salvage
• Broker’s commissions
• Grading and leveling
• Title fees
• Paving a public street
• Surveying fees
bordering the land
Buildings
 Architects’ fees
 Engineers’ fees
 Insurance costs incurred
during construction
 Interest on money
borrowed to finance
construction
 Walkways to and around
the building
Buildings
 Sales taxes
 Repairs (purchase of
existing building)
 Reconditioning
(purchase of an existing
building)
 Modifying for use
 Permits from
governmental agencies
Land Improvements
•
•
•
•
•
•
Trees and shrubs
Fences
Parking areas
Outdoor lighting
Concrete sewers and drainage
Paved parking areas
Machinery and Equipment
•
•
•
•
Sales taxes
Freight
Installation
Repairs (purchase
of used equipment)
• Reconditioning
(purchase of used
equipment)
Machinery and Equipment
• Insurance while in
transit
• Assembly
• Modifying for use
• Testing for use
• Permits from
governmental
agencies
Cost of Acquiring Fixed Assets Excludes:




Vandalism
Mistakes in installation
Uninsured theft
Damage during
unpacking and installing
 Fines for not obtaining
proper permits from
government agencies
Nature of Depreciation
All fixed assets except land lose their capacity
to provide services. This loss of productive
capacity is recognized as Depreciation Expense.
Physical depreciation occurs from wear and tear
while in use and from the action of the weather.
Functional depreciation occurs when a fixed asset is
longer able to provide services at the level for
which it was intended, e.g., personal computer.
Depreciation Expense Factors
Initial Cost
-
Residual Value
=
Depreciable Cost
Useful Life
Periodic Depreciation
Expense
Use of Depreciation Methods
Other Units-of-Production
Declining4%
Balance
8%
5%
83%
Straight-Line
Source: Accounting Trends & Techniques, 56th. ed., American Institute of
Certified Public Accountants, New York, 2002.
Facts
Original Cost.....…………..
$24,000
Estimated Life in years…..
5 years
Estimated Life in hours…..
10,000
Estimated Residual Value...
$2,000
Straight-Line Method
Cost – estimated residual value
Estimated life
= Annual depreciation
Straight-Line Method
$24,000 – $2,000
5 years
= $4,400 annual depreciation
Straight-Line Rate
$24,000 – $2,000
= $4,400
5 years
$4,400
= 18.3%
$24,000
Straight-Line Method
The straight-line method is widely used by
firms because it is simple and it provides a
reasonable transfer of cost to periodic
expenses if the asset is used about the
same from period to period.
Straight-Line Method
Year
Cost
1
2
3
4
5
$24,000
24,000
24,000
24,000
24,000
Accum. Depr.
at Beginning
of Year
$ 4,400
8,800
13,200
17,600
Book Value
at Beginning
of Year
$24,000
19,600
15,200
10,800
6,400
Depr.
Expense
for Year
Book Value
at End
of Year
$4,400
4,400
4,400
4,400
4,400
$19,600
15,200
10,800
6,400
2,000
Cost ($24,000) – Residual Value ($2,000)
Estimated Useful Life (5 years)
Annual
= Depreciation
Expense ($4,400)
Units-of-Production Method
Cost – estimated residual value
Estimated life in units, hours, etc.
= Depreciation per unit, hour, etc.
Units-of-Production Method
$24,000 – $2,000
10,000 hours
= Depreciation
perper
unit,
hour, etc.
= $2.20
hour
Units-of-Production Method
The units-of-production method
is more appropriate than the
straight-line method when the
amount of use of a fixed asset
varies from year to year.
Declining-Balance Method
Step 1
Ignoring residual value,
determine the straight-line rate
$24,000 – $2,000
5 years
$4,800
$24,000
= $4,800
= 20%
Declining-Balance Method
There’s a shortcut. Simply
divide one by the number of
years (1 ÷ 5 = .20).
Declining-Balance Method
Step 2
Double the straight-line rate.
.20 x 2 = .40
For the first year, the cost of the asset is
multiplied by 40 percent. After the first year,
the declining book value of the asset is
multiplied 40 percent.
Declining-Balance Method
Step 3
Build a table.
Declining-Balance Method
Year
1
Book Value
Beginning
of Year
Rate
$24,000
Annual
Deprec.
40%
Accum.
Deprec.
Year-End
$9,600
$24,000 x .40
Book Value
Year-End
Declining-Balance Method
Year
1
Book Value
Beginning
of Year
Rate
$24,000
40%
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
$9,600
Book Value
Year-End
$14,400
Declining-Balance Method
Year
1
2
Book Value
Beginning
of Year
Rate
$24,000
14,400
Annual
Deprec.
40%
40%
Accum.
Deprec.
Year-End
$9,600
5,760
$14,400 x .40
$9,600
Book Value
Year-End
$14,400
Declining-Balance Method
Year
1
2
Book Value
Beginning
of Year
Rate
$24,000
14,400
40%
40%
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
$9,600
15,360
Book Value
Year-End
$14,400
8,640
Declining-Balance Method
Year
1
2
3
Book Value
Beginning
of Year
Rate
$24,000
14,400
8,640
40%
40%
40%
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
3,456
$9,600
15,360
18,816
Book Value
Year-End
$14,400
8,640
5,184
Declining-Balance Method
Year
1
2
3
4
Book Value
Beginning
of Year
Rate
$24,000
14,400
8,640
5,184
40%
40%
40%
40%
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
3,456
2,074
$9,600
15,360
18,816
20,890
Book Value
Year-End
$14,400
8,640
5,184
3,110
Declining-Balance Method
Year
1
2
3
4
5
Book Value
Beginning
of Year
Rate
$24,000
STOP!
14,400
8,640
5,184
3,110
40%
40%
40%
40%
40%
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
3,456
2,074
1,244
$9,600
15,360
18,816
20,890
22,134
Book Value
Year-End
$14,400
8,640
5,184
3,110
1,866
Declining-Balance Method
Year
1
2
3
4
5
If we
use this approach in Year
5, we will
Book
Value
Accum.
end the year withAnnual
a book value
of $1,866.
Beginning
Deprec.
Book Value
ofRemember,
Year
Rate
Deprec. value
Year-End
the residual
at the endYear-End
of
Year 5 is expected
to be $2,000,
so we must
$24,000
40% $9,600
$9,600
$14,400
modify
our
approach.
14,400
40%
5,760
15,360
8,640
8,640
40%
3,456
18,816
5,184
5,184
40%
2,074
20,890
3,110
3,110
40%
1,244
22,134
1,866
Declining-Balance Method
Year
1
2
3
4
5
Book Value
Beginning
of Year
Rate
$24,000
14,400
8,640
5,184
3,110
40%
40%
40%
40%
---
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
3,456
2,074
1,110
$3,110 – $2,000
$9,600
15,360
18,816
20,890
Book Value
Year-End
$14,400
8,640
5,184
3,110
Declining-Balance Method
Year
1
2
3
4
5
Book Value
Beginning
of Year
Rate
$24,000
14,400
8,640
5,184
3,110
40%
40%
40%
40%
---
Annual
Deprec.
Accum.
Deprec.
Year-End
$9,600
5,760
3,456
2,074
1,110
$9,600
15,360
18,816
20,890
22,000
Book Value
Year-End
$14,400
8,640
5,184
3,110
2,000
Desired
ending book
value
Comparing Straight-Line With the
Declining-Balance Method
Depreciation ($)
5,000
Straight-Line
Method
Declining-Balance
Method
4,000
3,000
2,000
1,000
0
1 2 3
Life (years)
4
1
2
3
Life (years)
4
Revising Depreciation Estimates
A machine purchased for
Annual
$130,000 was originally
Depreciation
estimated to have a useful
$130,000 – $10,000
life of 30 years and a
30 years
residual value of $10,000.
The asset has been
$4,000 per year
depreciated for ten years
using the straightline
method.
Revising Depreciation Estimates
Equipment
130,000
Book value = $90,000
Before revising
Accumulated
Depreciation
4,000
4,000
4,000
4,000
4,000
4,000
4,000
4,000
4,000
4,000
40,000
Revising Depreciation Estimates
During the eleventh year, it is estimated that the
remaining useful life is 25 years (rather than 20) and
that the revised estimated residual value is $5,000.
Book value – revised residual value
Revised estimated remaining life
$3,400 revised
$90,000 – $5,000
= annual depreciation
25 years
Capital and Revenue Expenditures
Expenditures made to
acquire new plant
assets are known as
capital expenditures.
Capital and Revenue Expenditures
Expenditures to repair or
maintain plant assets that do
not extend the life or enhance
the value are known as
revenue expenditures.
Capital and Revenue Expenditures
EXPENDITURE
Increases
Increases
operating
useful life
efficiency or adds No (extraordinary
to capacity?
repairs)?
Yes
Capital
Expenditure
(Debit fixed asset
account)
Revenue
Expenditure
(Debit expense
No account for
ordinary
maintenance
and repairs)
Yes
Capital Expenditure
(Debit accumulated
depreciation account)
Capital and Revenue Expenditures
LIABILITIES
CAPITAL
EXPENDITURES
1. Initial cost
2. Additions
3. Betterments
4. Extraordinary
repairs
ASSETS
OWNER’S
EQUITY
net income
EXPENSES
REVENUES
Capital and Revenue Expenditures
LIABILITIES
ASSETS
OWNER’S
EQUITY
net income
REVENUE
EXPENDITURES
Normal and
ordinary repairs
and maintenance
EXPENSES
REVENUES
Accounting for Fixed Asset Disposals
When fixed assets lose their usefulness they may be
disposed of in one of the following ways:
1. discarded,
2. sold, or
3. traded (exchanged) for similar assets.
Required entries will vary with type of disposition
and circumstances, but the following entries will
always be necessary:
An asset account must be credited to remove the asset
from the ledger, and the related Accumulated
Depreciation account must be debited to remove it’s
balance from the ledger.
Discarding Fixed Assets
A piece of equipment
acquired at a cost of
$25,000 is fully
depreciation. On February
14, the equipment is
discarded.
Discarding Fixed Assets
Feb. 14 Accumulated Depr.—Equipment
Equipment
To write off fully depreciated
equipment.
25 000 00
25 000 00
Discarding Fixed Assets
Equipment costing $6,000 is depreciation at an
annual straight-line rate of 10%. After the
adjusting entry, Accumulated Depreciation—
Equipment had a $4,750 balance. The equipment
was discarded on March 24.
Mar. 24 Depreciation Expense.—Equipment
150 00
Accum. Depreciation—Equipment
To record current depreciation
on equipment discarded.
150 00
$600 x 3/12
Discarding Fixed Assets
Equipment costing $6,000 is depreciation at an
annual straight-line rate of 10%. After the
adjusting entry, Accumulated Depreciation—
Equipment had a $4,750 balance. The
equipment was discarded on March 24.
Mar. 24 Accumulated Depr.—Equipment
4 900 00
Loss on Disposal of Fixed Asset
1 100 00
Equipment
To write off equipment
discarded.
6 000 00
Sale of Fixed Assets
When fixed assets are sold, the owner may
break even, sustain a loss, or realize a gain.
1. If the sale price is equal to book value, there
will be no gain or loss.
2. If the sale price is less than book value, there
will be a loss equal to the difference.
3. If the sale price is more than book value,
there will be a gain equal to the difference.
Gain or loss will be reported in the income
statement as Other Income or Other Loss.
Sale of Fixed Assets
Equipment costing $10,000 is depreciated at an
annual straight-line rate of 10%. The
equipment is sold for cash on October 12.
Accumulated Depreciation (last adjusted
December 31) has a balance of $7,000.
Oct. 12 Depreciation Expense—Equipment
750 00
Accumulated Depr.—Equipment
To record current depreciation
on equipment sold.
750 00
$10,000 x ¾
x10%
Sale of Fixed Assets
Assumption 1: The equipment is sold
for $2,250, so there is
no gain or loss.
Oct. 12 Cash
2 250 00
Accumulated Depr.—Equipment
Equipment
Sold equipment.
7 750 00
10 000 00
Sale of Fixed Assets
Assumption 2: The equipment is sold
for $1,000, so there is a
loss of $1,250.
Oct. 12 Cash
1 000 00
Accumulated Depr.—Equipment
7 750 00
Loss on Disposal of Fixed Assets
1 250 00
Equipment
Sold equipment.
10 000 00
Sale of Fixed Assets
Assumption 2: The equipment is sold
for $2,800, so there is a
gain of $550.
Oct. 12 Cash
Accumulated Depr.—Equipment
Equipment
Gain on Disposal of Fixed Assets
Sold equipment.
2 800 00
7 750 00
10 000 00
550 00
Exchanges of Similar Fixed Assets
 Trade-in Allowance (TIA) – amount
allowed for old equipment toward the
purchase price of similar new assets.
 Boot – balance owed on new equipment
after trade-in allowance has been
deducted.
 TIA > Book Value = Gain on Trade
 TIA < Book Value = Loss on Trade
 Gains are never recognized (not
recorded).
 Losses must be recognized (recorded).
Exchanges of Similar Fixed Assets
List price of new equipment acquired
Cost of old equipment traded in
Accum. depreciation at date of exchange
Book value at date of exchange
$5,000
$4,000
3,200
$ 800
CASE ONE (GAIN):
Trade-in allowance, $1,100
Cash paid, $3,900 ($5,000 – $1,100)
Gains are not
TIA > Book Value = Gain
recognized for
$1,100 – $800 = $300
financial reporting.
Boot + Book = Cost of New Equipment
$3,900 + $800 = $4,700
Exchanges of Similar Fixed Assets
On June 19, equipment exchanged
at a gain of $300.
June 19 Accumulated Depr.—Equipment
Equipment (new equipment)
3 200 00
4 700 00
Equipment (old equipment)
4 000 00
Cash
3 900 00
Exchanges of Similar Fixed Assets
List price of new equipment acquired
$10,000
Cost of old equipment traded in
$7,000
Accum. depreciation at date of exchange 4,600
Book value at date of exchange
$2,400
CASE TWO (LOSS):
Trade-in allowance, $2,000
Cash paid, $8,000 ($10,000 – $2,000)
TIA<Book Value = Loss
Losses are
$2,000 – $2,400 = $400
recognized for
financial reporting.
Exchanges of Similar Fixed Assets
On September 7, equipment
exchanged at a loss of $400.
Sept. 7 Accumulated Depr.—Equipment
Equipment (new equipment)
Loss on Disposal of Fixed Assets
4 600 00
10 000 00
400 00
Equipment (old equipment)
7 000 00
Cash
8 000 00
Natural Resources and
Depletion
Depletion is the process of
transferring the cost of natural
resources to an expense account.
Natural Resources and Depletion
A business paid
$400,000 for the
mining rights to a
mineral deposit
estimated at 1,000,000
tons of ore. The
depletion rate is $0.40
per ton ($400,000 ÷
1,000,000 tons).
Natural Resources and Depletion
During the current year, 90,000 tons are
mined. The periodic depletion is
$36,000 (90,000 tons x $0.40).
Adjusting Entry
Dec. 31 Depletion Expense
Accumulated Depletion
36 000 00
36 000 00
Intangible Assets and Amortization
Amortization is the periodic cost expiration of intangible
assets which do not have physical attributes and are not
held for sale (patents, copyrights, and goodwill).
Date
Description
Dec. 31 Amortization Expense
Patents
Debit Credit
20,000
20,000
Paid $100,000 for patent rights. The patent life is 11
years and was issued 6 years prior to purchase.
11 years – 6 years = 5-year life
($100,000 / 5 years) = $20,000 per year
Discovery Mining Co.
Partial Balance Sheet
December 31, 2006
Property, plant, and equipment:
Land
Buildings
Factory equipment
Office equipment
Mineral deposits:
Alaska deposit
Wyoming deposit
Cost
$ 30,000
110,000
650,000
120,000
$910,000
Cost
$1,200,000
750,000
$1,950,000
Total property, plant, and equipment
Intangible assets:
Patents
Goodwill
Total intangible assets
Accum.
Depr.
$ 26,000
192,000
13,000
$231,000
Book
Value
$ 30,000
84,000
458,000
107,000
$ 679,000
Accum.
Depr.
Book
Value
$ 800,000
200,000
$1,000,000
$400,000
550,000
950,000
$1,629,000
$
75,000
50,000
$ 125,000
Ratio of Fixed Assets to Long-Term Liabilities
Procter & Gamble
Fixed assets (net)
Long-term debt
Ratio of fixed assets to
long-term liabilities
(in millions)
2002
2001
$13,349
$11,201
$13,095
$9,792
1.2
1.3
Use: To indicate the margin of safety
to long-term creditors
Chapter 10
The End