Exercise for Depreciation
FTMBA Core (Section-E), FTMBA Cap Market. & Executive MBA_2010-11
Amit Shrivastava
Multiple choice/ Problem /cases _Source: Stice
24.
Konering Company purchased a patent for a new manufacturing process for $34,000. Because of
government regulation the patent is now worth $42,500. The process is only expected to be useful
for 5 years. The annual amortization expense associated with this patent is:
a. $2,000
b. $6,800
c. $2,500
d. $8,500
ANS: B
$34,000 / 5 years = $6,800.
(Konering can not recognize the increase in value of the patent; it's amortization period is the
lesser of [a] the legal life or [b] the useful life.)
OBJ: KP 12-5
25.
ANS: A
26.
ANS: E
27.
ANS: D
28.
ANS: B
TOP: Depreciation and Amortization The Acquisition of Intangible Assets
Which of the following is not typically a problem associated with allocating the cost of
noncurrent, nonmonetary assets to future accounting periods?
a. distinguishing between revenues and expenses
b. determining acquisition costs
c. selecting among alternative depreciation methods
d. accounting for disposals of property, plant, and equipment
OBJ: KP 12-5 TOP: Depreciation and Amortization
Which of the following is not a factor in computing depreciation?
a. acquisition cost
b. residual value
c. depreciable cost
d. estimated useful life
e. All of the choices provided in this question are factors in computing depreciation.
OBJ: KP 12-5 TOP: Depreciation and Amortization
Depreciation expense is recorded in order to
a. ensure that the firm has adequate cash to replace the asset.
b. present assets at fair market value.
c. prevent the recognition of large losses at disposition.
d. allocate the cost of noncurrent, nonmonetary assets to periods benefited.
OBJ: KP 12-5 TOP: Depreciation and Amortization
The estimate of the value of an asset at the time of disposal is the
a. acquisition cost.
b. residual value.
c. depreciable cost.
d. economic life.
OBJ: KP 12-5 TOP: Depreciation and Amortization
29.
ANS: D
30.
ANS: A
31.
ANS: C
32.
ANS: C
33.
ANS: A
The estimate of the length of service to be provided by an asset is the
a. acquisition cost.
b. residual value.
c. depreciable cost.
d. economic life.
e. physical life.
OBJ: KP 12-5 TOP: Depreciation and Amortization
The difference between an asset's acquisition cost and its residual value is the
a. depreciable cost.
b. accumulated depreciation.
c. book value.
d. depreciation expense.
OBJ: KP 12-5 TOP: Depreciation and Amortization
The difference between an asset's acquisition cost and its accumulated depreciation is the
a. depreciable cost.
b. accumulated depreciation.
c. book value.
d. depreciation expense.
OBJ: KP 12-5 TOP: Depreciation and Amortization
From an accounting perspective, which of the following statements regarding depreciation is
true?
a. Depreciation attempts to reflect the current value of an asset.
b. Depreciation is a source of cash.
c. Depreciation is the allocation of an asset's cost to the periods benefited.
d. All of the choices provided in this question are true.
e. None of the choices provided in this question are true.
OBJ: KP 12-5 TOP: Depreciation and Amortization
The use of an accelerated depreciation method
a. is appropriate for assets which produce more benefits in earlier years than in later years.
b. results in a greater net income in early years than the straight-line method.
c. recognizes more depreciation in total over the asset's useful life than the straight-line method.
d. can be used for financial statement purposes only if the same method is used for tax purposes.
OBJ: KP 12-5 TOP: Depreciation and Amortization
Wheaten
On January 1, Year 1, Wheaton Corporation purchased a new machine for $68,000. The machine was
expected to have a useful life of 5 years, which equates to approximately 12,000 machine hours of usage.
The machine is expected to have a residual value of $8,000.
34.
Refer to Wheaton. Wheaton's depreciation expense recognized in Year 2 using the straight-line
method is:
a. $12,000
b. $13,600
c. $24,000
d. $27,200
ANS: A
($68,000 - $8,000) / 5 years = $12,000
OBJ: KP 12-5
35.
TOP: Depreciation and Amortization
Refer to Wheaton. Wheaton's accumulated depreciation on the machine after three full years
using straight-line would be:
a. $36,000
b. $40,800
c. $72,000
d. $60,000
ANS: A
($68,000 - $8,000) / 5 years = $12,000 × 3 years = $36,000
OBJ: KP 12-5
36.
TOP: Depreciation and Amortization
Refer to Wheaton. Wheaton's depreciation expense in Year 2 using the double-declining balance
method is:
a. $27,200
b. $16,320
c. $24,000
d. $14,400
ANS: B
Yr 1: ($68,000 - 0) × 40% = $27,200
Yr 2: ($68,000 - $27,200) × 40% = $16,320
OBJ: KP 12-5
TOP: Depreciation and Amortization
Jeffries
On January 1, Year 1, Jeffries Corporation purchased a new machine for $30,000. The machine was
expected to have a useful life of 10 years, which equates to approximately 30,000 machine hours of
usage. The machine is expected to have a residual value of $2,000.
37.
Refer to Jeffries. Jeffries' accumulated depreciation on the machine after five full years using
straight-line depreciation would be:
a. $2,000
b. $2,800
c. $14,000
d. $28,000
ANS: C
[($30,000 - $2,000) / 10 years] × 5 years = $14,000
OBJ: KP 12-5
38.
TOP: Depreciation and Amortization
Refer to Jeffries. Jeffries' depreciation expense in Year 2 using double declining balance is:
a. $2,800
b. $4,800
c. $5,600
d. $6,000
ANS: B
Yr 1: ($30,000 - 0) × 20% = $6,000
Yr 2: ($30,000 - $6,000) × 20% = $4,800
OBJ: KP 12-5
TOP: Depreciation and Amortization
Sherman
On April 3, Year 1, Sherman Company purchased a new truck for $36,000. The truck is expected to be
driven 22,000 miles per year for a total of 5 years, at which time its residual value will be approximately
$2,000. The fiscal year end for Sherman Company is December 31.
39.
Refer to Sherman. Sherman's accumulated depreciation at the end of Year 2 using double
declining balance would be:
a. $4,320
b. $19,720
c. $20,880
d. $3,400
ANS: C
Year 1: ($36,000 - 0) × 40% × 9/12
Year 2: (36,000 - 10,800) × 40%
OBJ: KP 12-5
=
=
TOP: Depreciation and Amortization
$10,800
10,080
$20,880
40.
Refer to Sherman. Sherman's depreciation expense in Year 1 using the straight-line method
would be:
a. $6,800
b. $5,100
c. $7,200
d. $5,400
ANS: B
($36,000 - $2,000) / 5 = $6,800 × 9/12 = $5,100
OBJ: KP 12-5
41.
TOP: Depreciation and Amortization
On September 2, Year 1, Bucyrus Company purchased a new truck for $25,000. The truck is
expected to be driven 12,000 miles per year for a total of 6 years, at which time its residual value
will be approximately $1,000. The fiscal year end is December 31.
Accumulated depreciation at the end of Year 2 using double declining balance would be:
a. $7,407
b. $7,444
c. $10,111
d. $10,185
e. $13,689
ANS: D
The double-the-straight-line-rate for a 6-year asset is ( 1÷ 6 × 2 = 33.3%) or 1/3.
Year 1: ($25,000 - 0) × (1/3) × (4/12)
Year 2: ($25,000 - $2,778) × (1/3)
OBJ: KP 12-5
42.
ANS: C
43.
ANS: C
=
=
$ 2,778
7,407
$10,185
TOP: Depreciation and Amortization
At the end of its useful life, the accumulated depreciation of an asset would be
a. greater under the declining-balance method than under the straight-line method.
b. greater under the straight-line method than under the declining-balance method.
c. the same under both methods.
d. unable to determine from the information given.
OBJ: KP 12-5 TOP: Depreciation and Amortization
Depreciation is an indirect source of cash because
a. it creates a cash fund being accumulated through accumulated depreciation.
b. it is added back to net income in the computation of cash from operating activities.
c. it reduces taxable income.
d. none of the choices provided in this question.
OBJ: KP 12-5 TOP: Depreciation and Amortization
44.
Assuming that an asset has been depreciated using the straight-line method for 3 years, an
increase in the assets estimated useful life from 7 years to 10 years would
a. increase the annual depreciation expense.
b. decrease the annual depreciation expense.
c. not change the annual depreciation expense.
d. unable to determine from the information given.
ANS: B
45.
OBJ: KP 12-5 TOP: Depreciation and Amortization
Winston purchased a new machine in January, Year 1, for $12,000. The machine was expected to
have a 5-year life and a residual value of $2,000; the straight-line method was adopted. At the
beginning of Year 3 it was decided that the asset's total useful life would be 8 years rather than 5.
No change was made to the estimation of residual value. The machine's accumulated depreciation
at the end of Year 3 would be:
a. $800
b. $900
c. $1,000
d. $1,200
e. $5,000
ANS: E
original depreciation: $10,000 / 5 years = $2,000 per year
$2,000 × 2 years = $4,000 taken to date
Original cost
Less: Accumulated depreciation
Book value
Less: residual value
New depreciable cost
($6,000 / 6 years remaining)
Depreciation taken prior to the change in life estimate
Total
OBJ: KP 12-5
14.
TOP: Depreciation and Amortization
TOP: Depreciation and Amortization
There are two major factors causing tangible assets to give up economic benefits:
____________________ and ____________________.
ANS: physical deterioration (or deterioration), obsolescence
OBJ: KP 12-5
TOP: Depreciation and Amortization
16.
$ 1,000/year
4,000
$ 5,000
The process of allocating the cost of a long-term operating asset over the periods that the asset is
in service is _______________________.
ANS: depreciation
OBJ: KP 12-5
15.
$12,000
(4,000)
$ 8,000
(2,000)
$ 6,000
Assets are not depreciated below their ________________________.
ANS: salvage value or residual value
OBJ: KP 12-5
TOP: Depreciation and Amortization
17.
Assets are not depreciated below their ________________________.
ANS: salvage value
OBJ: KP 12-5
TOP: Depreciation and Amortization
18.
____________________ depreciation methods allocate a greater portion of an asset's cost to the
early years of its useful life, and a smaller portion to later years.
ANS: Accelerated
OBJ: KP 12-5
19.
TOP: Depreciation and Amortization
In choosing a particular method of depreciation, management is often concerned with practical
issues, such as simplicity, which would explain the popularity of the ____________________
depreciation method.
ANS: straight-line
OBJ: KP 12-5
TOP: Depreciation and Amortization
Problems:
11.On January 4, Year 1, Bavarian Corporation purchased factory equipment for $80,000. The equipment
will be depreciated for an 4-year period (approximately 130,000 hours of use), at which time its
residual value is estimated to be $5,000.
Required:
a. Calculate depreciation expense for the year ending December 31, Year 2, using the doubledeclining balance method.
b. Calculate accumulated depreciation at the end of Year 3, using the straight-line method.
c. Calculate the net book value of the equipment at the end of Year 3, assuming that Bavarian
used the straight-line method.
ANS:
a.
b.
c.
Depreciation Expense at the end of year 2 using the double-declining-balance method:
$40,000.00
Year 1: ($80,000 - 0) × 50%
$20,000.00
Year 2: ($80,000 - $40,000) × 50%
Accumulated depreciation at the end of Year 3 using the straight-line method:
($80000 - $5,000) / 4 years = $18,750 × 3 years = $56,250
The net book value of the equipment at the end of Year 3 assuming the use of the straightline method:
Original cost of asset
$80,000
Less: Accumulated depreciation
(56,250)
Net book value after 3 years of use
$23,750
OBJ: KP 12-5
TOP: Depreciation and Amortization
12.
In its first year of operations, Zoom Corporation purchased a new truck for $22,000. The truck is
expected to have an 8-year life and to be functional for 105,000 miles of use. A residual value of
$1,000 has been estimated.
Required:
a. Calculate accumulated depreciation at the end of year 4 using the straight-line method.
b. Calculate the accumulated depreciation at the end of year 2 using the double declining
balance method.
ANS:
a.
b.
Accumulated depreciation after 4 years using straight-line
($22,000 - $1,000) / 8 = $2,625 per year × 4 years = $10,500
Accumulated depreciation after 2 years using double declining balance
Year 1: ($22,000 - 0) × 25%
Year 2: ($22,000 - $5,500) × 25%
Accumulated depreciation
OBJ: KP 12-5
13.
=
=
=
$5,500
4,125
$9,625
TOP: Depreciation and Amortization
A machine costing $48,000 had an estimated useful life of 5 years and a residual value of $3,000
when purchased on January 3, Year 1.
Required: Supply the missing information in the table below:
Method
Straight-Line
Double Declining Balance
Depreciation
Expense for
Year 2
____________
____________
Accumulated
Depreciation
on 12/31/Yr 2
____________
____________
Book
Value
on 12/31/Yr 2
____________
____________
Method
Straight-Line
Double Declining Balance
Depreciation
Expense for
Year 2
$ 9,000
$11,520
Accumulated
Depreciation
on 12/31/Yr 2
$18,000
$30,720
Book
Value
on 12/31/Yr 2
$30,000
$17,280
ANS:
Accumulated Depreciation Calculations
Straight-Line: ($48,000 - $3,000) / 5 = $9,000 × 2 years = $18,000
Double Declining Balance:
Depreciation expense year 1: ($48,000 - 0) × 40%
Depreciation expense year 2: ($48,000 - $19,200) × 40%
Accumulated Depreciation
$19,200
11,520
$30,720
Book values were computed by subtracting each asset's accumulated depreciation from its
historical cost.
OBJ: KP 12-5
14.
TOP: Depreciation and Amortization
A machine with an estimated useful life of 6 years and an expected residual value of $15,000 was
purchased on July 3, Year 1, for $120,000. The fiscal year end is December 31.
Required:
a. Calculate depreciation expense for Year 1 using the double declining balance method.
b. Calculate accumulated depreciation at the end of Year 4 using the straight-line method.
ANS:
a.
Depreciation Expense in Year 1 using double declining balance:
($120,000 - 0) × 1/3 = $40,000 × 6/12 = $20,000
(DDB rate for a 6 year asset = 1 / 6 × 2 = 33.3% or 1/3)
b.
Accumulated Depreciation at the end of Year 4 using straight-line:
($120,000 - $15,000) / 6 = $17,500 per year
Depreciation expense Year 1: $17,500 × 6/12 =
Depreciation expense Years 2-4: $17,500 × 3 =
Accumulated Depreciation
OBJ: KP 12-5
16.
$ 8,750
52,500
$61,250
TOP: Depreciation and Amortization
Indigo, Inc. purchased computer equipment costing $65,000. The equipment is expected to have a
useful life of 6 years with a $5,000 residual value. For financial reporting purposes, the company
uses straight-line depreciation. Computer equipment is classified as five-year property for tax
purposes and the percentages for calculating depreciation for tax purposes are as follows:
Year 1
Year 2
Year 3
Year 4
Year 5
Year 6
20%
32%
19.2%
11.52%
11.52%
5.76%
Required:
a. Calculate depreciation expense for years 1 through 6 for financial reporting purposes.
b. Calculate depreciation for years 1 through 6 for tax purposes.
ANS:
a.
b.
Straight-line depreciation for financial reporting purposes
($65,000 - $5,000) ÷ 6 = $10,000 per year for Years 1 through 6
For tax purposes
Year 1 $65,000 × 20%
Year 2 $65,000 × 32%
Year 3 $65,000 × 19.2%
Year 4 $65,000 × 11.52%
Year 5 $65,000 × 11.52%
$13,000
$20,800
$12,480
$ 7,488
$ 7,488
Year 6 $65,000 × 5.76%
OBJ: KP 12-5
$ 3,744
TOP: Depreciation and Amortization
Question
A colleague makes the observation that depreciation is a "valuation" technique and that
"accumulated depreciation" is analogous to an asset replacement fund. Critique this statement.
ANS:
Depreciation is the process of allocating the cost of tangible long-term assets (except land) to the period
in which the company receives the benefits from these assets. Depreciation is not a way to compute the
current value of long-lived assets. Rather, depreciation is the systematic allocation of the cost of an asset
to the periods benefited by the use of the asset. Accumulated depreciation is the sum of the previously
recorded deprecation on the asset. The book value of the asset is not representative of the asset's market
value, but rather the value of the asset that will be allocated to future benefit periods. If the asset has a
stipulated residual value, the book value minus the residual value represents the remaining depreciable
base of the asset.
OBJ: KP 12-5
TOP: Depreciation and Amortization
MATCHING
Match as many of the descriptions as possible with one of the terms in a-n below. If no match is possible,
answer "o."
n. straight-line depreciation
a. accounting rate of return
o. no match
b. amortization
c. capitalized interest
d. declining-balance
depreciation
e. depreciable cost
f. depreciation
g. fixed asset turnover
h. goodwill
i. impairment
j. long-term operating assets
k. net present value method
l. payback period
m. residual value
1.
2.
3.
4.
5.
6.
All the special competitive
advantages enjoyed by a
company
The time required to
recover the initial cost of
an operating asset.
Property, plant, and
equipment and intangible
assets
Sales divided by average
fixed assets
Reduction in the value of
an asset due to events
subsequent to its
acquisition
Income earned by an asset
divided by the initial
investment in the asset
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
ANS: H
ANS: L
ANS: J
ANS: G
ANS: I
ANS: A
ANS: K
ANS: O
ANS: C
ANS: E
11.
12.
13.
14.
ANS: F
ANS: N
ANS: M
ANS: D
7.
8.
9.
10.
11.
12.
13.
14.
15.
Compares the present value of cash outflows with the
present value of cash inflows.
Net income from operations divided by average fixed
assets
Interest that is recorded as part of the cost of a selfconstructed asset
Acquisition cost less estimated residual value.
The process of allocating the cost of assets such as
plant and equipment to the period in which the
company receives the benefits from the assets
Depreciation expense is calculated by dividing
depreciable cost by useful life.
Estimate of what an asset will be worth at disposal.
Allocates a greater portion of an asset's cost to the
early years of its useful life.
The process of allocating the cost of assets such as
patents and copyrights to the period in which the
company receives the benefits from the assets