Chapter 1

10-1
CHAPTER 1. PP&E and INTANGIBLE ASSETS
Intermediate Accounting
IFRS 2nd Edition
Kieso, Weygandt, and Warfield
10-2
Acquisition and Disposition of
Property, Plant, and
Equipment
LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Describe property, plant, and 5. Understand accounting issues related
equipment. to acquiring and valuing plant assets.
2. Identify the costs to include in initial 6. Describe the accounting treatment for
valuation of property, plant, and costs subsequent to acquisition.
equipment. 7. Describe the accounting treatment for
3. Describe the accounting problems the disposal of property, plant, and
associated with self-constructed assets. equipment.
4. Describe the accounting problems

associated with interest capitalization.
10-3
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are assets of a durable nature.

Other terms commonly used are plant assets and fixed assets.
Includes:
► “Used in operations” and not for
 Land,
resale.
 Building structures
► Long-term in nature and usually (offices, factories,
warehouses), and
depreciated.
 Equipment
► Possess physical substance. (machinery, furniture,
tools).
10-4 LO 1
ACQUISITION OF PROPERTY, PLANT,
AND EQUIPMENT (PP&E)
Historical cost measures the cash or cash equivalent price of

obtaining the asset and bringing it to the location and condition
necessary for its intended use.
In general, costs include:
1. Purchase price, including import duties and non-refundable

purchase taxes, less trade discounts and rebates.
2. Costs attributable to bringing the asset to the location and

condition necessary for it to be used in a manner intended
by the company.
10-5 LO 2
ACQUISITION OF PROPERTY, PLANT,
AND EQUIPMENT (PP&E)
Companies value property, plant, and equipment in

subsequent periods using either the
 cost method or
 fair value (revaluation) method.
10-6 LO 2
ACQUISITION OF PP&E
Cost of Land
All expenditures made to acquire land and ready it for use.
Costs typically include:
(1) purchase price;
(2) closing costs, such as title to the land, attorney’s fees, and
recording fees;
(3) costs of grading, filling, draining, and clearing;
(4) assumption of any liens, mortgages, or encumbrances on
the property; and
(5) additional land improvements that have an indefinite life.
10-7 LO 2
ACQUISITION OF PP&E
Cost of Land
 Improvements with limited lives, such as private
driveways, walks, fences, and parking lots, are recorded
as Land Improvements and depreciated.
 Land acquired and held for speculation is classified as

an investment.
 Land held by a real estate concern for resale should be

classified as inventory.
10-8 LO 2
ACQUISITION OF PP&E
Cost of Buildings
Includes all expenditures related directly to acquisition or
construction. Costs include:
 materials, labor, and overhead costs incurred during

construction and
 professional fees and building permits.
Companies consider all costs incurred, from excavation to

completion, as part of the building costs.
10-9 LO 2
ACQUISITION OF PP&E
Cost of Equipment
Include all expenditures incurred in acquiring the equipment
and preparing it for use. Costs include:
 purchase price,
 freight and handling charges,
 insurance on the equipment while in transit,
 cost of special foundations if required,
 assembling and installation costs, and
 costs of conducting trial runs.
10-10 LO 2
ACQUISITION OF PP&E
Illustration: The expenditures and receipts below are related to land,

land improvements, and buildings acquired for use in a business
enterprise. Determine how the following should be classified:
a. Money borrowed to pay building contractor a. Notes Payable

(signed a note)
b. Payment for construction from note proceeds b. Buildings
c. Cost of land fill and clearing c. Land
d. Delinquent real estate taxes on property d. Land
assumed by purchaser
e. Premium on 6-month insurance policy during e. Buildings
construction
10-11
ACQUISITION OF PP&E
Illustration: Determine how the following should be classified:
f. Refund of 1-month insurance premium f. (Buildings)

because construction completed early
g. Architect’s fee on building g. Buildings
h. Cost of real estate purchased as a plant site h. Land
(land €200,000 and building €50,000)
i. Commission fee paid to real estate agency i. Land
j. Cost of razing and removing building j. Land
k. Installation of fences around property k. Land
Improvements
10-12 LO 2
ACQUISITION OF PP&E
Illustration: Determine how the following should be classified:
l. Proceeds from residual value of demolished l. (Land)

building
m. Interest paid during construction on money m. Buildings
borrowed for construction
n. Land
n. Cost of parking lots and driveways
Improvements
o. Cost of trees and shrubbery planted o. Land
(permanent in nature)
p. Excavation costs for new building p. Buildings
10-13 LO 2
ACQUISITION OF PP&E
Self-Constructed Assets
Costs include:
 Materials and direct labor
 Overhead can be handled in two ways:

1. Assign no fixed overhead.
2. Assign a portion of all overhead to the construction

process.
Companies use the second method extensively.
10-14 LO 3
ACQUISITION OF PP&E
Interest Costs During Construction

Three approaches have been suggested to account for the
interest incurred in financing the construction.
$0
Increase to Cost of Asset $?
Capitalize no Capitalize
interest during Capitalize actual all costs of
construction costs incurred during funds
construction
ILLUSTRATION 10-1
Capitalization of Interest
Costs IFRS
10-15 LO 4
ACQUISITION OF PP&E

 IFRS requires — capitalizing actual interest (with
modification).
 Consistent with historical cost.
 Capitalization considers three items:
1. Qualifying assets.
2. Capitalization period.
3. Amount to capitalize.
10-16 LO 4
Qualifying Assets
Require a substantial period of time to get them ready for
their intended use or sale.
Two types of assets:
 Assets under construction for a company’s own use.
 Assets intended for sale or lease that are constructed or

produced as discrete projects.
10-17 LO 4
Capitalization Period
Begins when:
1. Expenditures for the assets are being incurred.
2. Activities for readying the asset for use or sale are

in progress .
3. Interest costs are being incurred.
Ends when:
The asset is substantially complete and ready for use.
10-18 LO 4
Amount to Capitalize
Capitalize the lesser of:
1. Actual interest cost incurred.
2. Avoidable interest - the amount of interest cost during

the period that a company could theoretically avoid if it
had not made expenditures for the asset.
10-19 LO 4
Illustration: Assume a company borrowed $200,000 at 12% interest

from State Bank on Jan. 1, 2015, for specific purposes of constructing
special-purpose equipment to be used in its operations. Construction on
the equipment began on Jan. 1, 2015, and the following expenditures
were made prior to the project’s completion on Dec. 31, 2015:
Actual Expenditures during 2015: Other general debt existing on

January 1 $ 100,000 Jan. 1, 2015:
April 30 150,000
$500,000, 14%, 10-year
November 1 300,000 bonds payable
December 31 100,000
Total expenditures $ 650,000 $300,000, 10%, 5-year
note payable
10-20 LO 4
Step 1 - Determine which assets qualify for capitalization of

interest.
Special purpose equipment qualifies because it requires a period of
time to get ready and it will be used in the company’s operations.
Step 2 - Determine the capitalization period.

The capitalization period is from Jan. 1, 2015 through Dec. 31, 2015,
because expenditures are being made and interest costs are being
incurred during this period while construction is taking place.
10-21 LO 4
Step 3 - Compute weighted-average accumulated expenditures.
Weighted
Average
Actual Capitalization Accumulated
Date Expenditures Period Expenditures
Jan. 1 $ 100,000 12/12 $ 100,000
Apr. 30 150,000 8/12 100,000
Nov. 1 300,000 2/12 50,000
Dec. 31 100,000 0/12 -
$ 650,000 $ 250,000
A company weights the construction expenditures by the amount of time

(fraction of a year or accounting period) that it can incur interest cost on the
expenditure.
10-22 LO 4
Step 4 - Compute the Actual and Avoidable Interest.
Selecting Appropriate Interest Rate:

1. For the portion of weighted-average accumulated expenditures
that is less than or equal to any amounts borrowed specifically to
finance construction of the assets, use the interest rate incurred on
the specific borrowings.
2. For the portion of weighted-average accumulated expenditures

that is greater than any debt incurred specifically to finance
construction of the assets, use a weighted average of interest
rates incurred on all other outstanding debt during the period.
10-23 LO 4
Step 4 - Compute the Actual and Avoidable Interest.
Actual Interest
Interest Actual
Debt Rate Interest Weighted-average
Specific Debt $ 200,000 12% $ 24,000 interest rate on
general debt
General Debt 500,000 14% 70,000 $100,000
= 12.5%
300,000 10% 30,000 $800,000
$ 1,000,000 $ 124,000
Accumulated Interest Avoidable

Avoidable Interest Expenditures Rate Interest
$ 200,000 12% $ 24,000
50,000 12.5% 6,250
$ 250,000 $ 30,250
10-24 LO 4
Step 5 – Capitalize the lesser of Avoidable interest or Actual

interest.
Avoidable interest $ 30,250

Actual interest 124,000
Journal entry to Capitalize Interest:
Equipment 30,250
Interest Expense 30,250
10-25 LO 4
Comprehensive Illustration: On November 1, 2014, Shalla

Company contracted Pfeifer Construction Co. to construct a building
for $1,400,000 on land costing $100,000 (purchased from the
contractor and included in the first payment). Shalla made the
following payments to the construction company during 2015.
10-26 LO 4
Pfeifer Construction completed the building, ready for occupancy, on

December 31, 2015. Shalla had the following debt outstanding at
December 31, 2015.
Specific Construction Debt
1. 15%, 3-year note to finance purchase of land and
construction of the building, dated December 31, 2014, with
interest payable annually on December 31 $750,000
Other Debt
2. 10%, 5-year note payable, dated December 31, 2011, with
3. 12%, 10-year bonds issued December 31, 2010, with
Compute weighted-average accumulated expenditures for 2015.
10-27 LO 4
Compute weighted-average accumulated expenditures for 2015.
ILLUSTRATION 10-4
Computation of Weighted-Average
Accumulated Expenditures
10-28 LO 4
ILLUSTRATION 10-5
Compute the avoidable interest. Computation of
Avoidable Interest
10-29 LO 4
Compute the actual interest cost, which represents the maximum

amount of interest that it may capitalize during 2015.
ILLUSTRATION 10-6
Computation of Actual
Interest Cost
The interest cost that Shalla capitalizes is the
lesser of $120,228 (avoidable interest) and
$239,500 (actual interest), or $120,228.
10-30 LO 4
Shalla records the following journal entries during 2015:
January 1 Land 100,000

Buildings (or CIP) 110,000
Cash 210,000
March 1 Buildings 300,000
Cash 300,000
May 1 Buildings 540,000
Cash 540,000
December 31 Buildings 450,000
Cash 450,000
Buildings (Capitalized Interest) 120,228
Interest Expense 119,272
Cash 239,500
10-31 LO 4
At December 31, 2015, Shalla discloses the amount of interest

capitalized either as part of the income statement or in the notes
accompanying the financial statements.
ILLUSTRATION 10-7
Capitalized Interest
Reported in the Income
Statement
ILLUSTRATION 10-8
Capitalized Interest
Disclosed in a Note
10-32 LO 4
Special Issues Related to Interest Capitalization

1. Expenditures for Land
 If land is purchased as a site for a structure, interest
costs capitalized during the period of construction are
part of the cost of the plant, not the land.
 Conversely, if the company develops land for lot sales,

it includes any capitalized interest cost as part of the
acquisition cost of the developed land.
2. Interest Revenue
 In general, companies should not offset interest revenue
against interest cost unless earned on specific borrowings.
10-33 LO 4
WHAT’S YOUR
WHAT ‘S IN YOUR PRINCIPLE
INTEREST?
How do statement users determine the impact of interest capitalization

on a company’s bottom line? They examine the notes to the financial
statements. Companies with material interest capitalization must
disclose the amounts of capitalized interest relative to total interest
costs. For example, Royal Dutch Shell (GBR and NLD) capitalized
nearly 42 percent of its total interest costs in a recent year and provided
the following footnote related to capitalized interest.
10-34 LO 4
VALUATION OF PROPERTY, PLANT &
EQUIPMENT
Companies should record property, plant, and equipment:
 at the fair value of what they give up or
 at the fair value of the asset received,
whichever is more clearly evident.
10-35 LO 5
VALUATION OF PP&E
Cash Discounts — Discounts for prompt payment.

Deferred-Payment Contracts — Assets purchased on
long-term credit contracts are valued at the present value of the
consideration exchanged.
Lump-Sum Purchases — Allocate the total cost among the

various assets on the basis of their relative fair market values.
Issuance of Shares — The market price of the shares issued

is a fair indication of the cost of the property acquired.
10-36 LO 5
VALUATION OF PP&E
Exchanges of Non-Monetary Assets

Ordinarily accounted for on the basis of:
 the fair value of the asset given up or
 the fair value of the asset received,
whichever is clearly more evident.
Companies should recognize immediately any gains or losses on

the exchange when the transaction has commercial substance.
10-37 LO 5
Meaning of Commercial Substance

Exchange has commercial substance if the future cash flows
change as a result of the transaction. That is, if the two parties’
economic positions change, the transaction has commercial
substance.
ILLUSTRATION 10-10
Accounting for Exchanges
10-38 LO 5
Exchanges—Loss Situation
Companies recognize a loss immediately whether the exchange
has commercial substance or not.
Rationale: Companies should not value assets at more than their

cash equivalent price; if the loss were deferred, assets would be
overstated.
10-39 LO 5
Illustration: Information Processing, Inc. trades its used machine for a

new model at Jerrod Business Solutions Inc. The exchange has
commercial substance. The used machine has a book value of €8,000
(original cost €12,000 less €4,000 accumulated depreciation) and a fair
value of €6,000. The new model lists for €16,000. Jerrod gives
Information Processing a trade-in allowance of €9,000 for the used
machine. Information Processing computes the cost of the new asset
as follows.
ILLUSTRATION 10-11
Computation of Cost of
New Machine
10-40 LO 5
Illustration: Information Processing records this transaction as follows:
Equipment 13,000
Accumulated Depreciation—Equipment 4,000
Loss on Disposal of Equipment 2,000
Equipment 12,000
Cash 7,000
ILLUSTRATION 10-12
Loss on Computation of Loss
on Disposal of Used
Disposal Machine
10-41 LO 5
Exchanges—Gain Situation
Has Commercial Substance. Company usually records the
cost of a non-monetary asset acquired in exchange for
another non-monetary asset at the fair value of the asset
given up, and immediately recognizes a gain.
10-42 LO 5
Illustration: Interstate Transportation Company exchanged a number

of used trucks plus cash for a semi-truck. The used trucks have a
combined book value of $42,000 (cost $64,000 less $22,000
accumulated depreciation). Interstate’s purchasing agent,
experienced in the secondhand market, indicates that the used
trucks have a fair market value of $49,000. In addition to the trucks,
Interstate must pay $11,000 cash for the semi-truck. Interstate
computes the cost of the semi-truck as follows.
Illustration 10-13
Computation of
Semi-Truck Cost
10-43 LO 5
Illustration: Interstate records the exchange transaction as follows:
Truck (semi) 60,000

Accumulated Depreciation—Trucks 22,000
Trucks (used) 64,000
Gain on Disposal of Trucks 7,000
Cash 11,000
ILLUSTRATION 10-14
Computation of Gain
Gain on on Disposal of Used
Trucks
Disposal
10-44 LO 5
Exchanges—Gain Situation
Lacks Commercial Substance. Now assume that Interstate
Transportation Company exchange lacks commercial
substance.
Interstate defers the gain of $7,000 and reduces the basis of

the semi-truck.
10-45 LO 5
Illustration: Interstate records the exchange transaction as

follows:
Trucks (semi) 53,000

Accumulated Depreciation—Trucks 22,000
Trucks (used) 64,000
Cash 11,000
ILLUSTRATION 10-15
Basis of Semi-Truck—
Fair Value vs. Book Value
10-46 LO 5
Summary of Gain and Loss Recognition on

ILLUSTRATION 10-16
Disclosure include
 nature of the transaction(s),
 method of accounting for the assets exchanged, and
 gains or losses recognized on the exchanges.
10-47 LO 5
VALUATION OF PP&E
Government Grants
Government Grants are assistance received from a
government in the form of transfers of resources to a
company in return for past or future compliance with certain
conditions relating to the operating activities of the
company.
IFRS requires grants to be recognized in income (income

approach) on a systematic basis that matches them with the
related costs that they are intended to compensate.
10-48 LO 5
Government Grants
Example 1: Grant for Lab Equipment. AG Company received a

€500,000 subsidy from the government to purchase lab equipment
on January 2, 2015. The lab equipment cost is €2,000,000, has a
useful life of five years, and is depreciated on the straight-line
basis.
IFRS allows AG to record this grant in one of two ways:
1. Credit Deferred Grant Revenue for the subsidy and amortize

the deferred grant revenue over the five-year period.
2. Credit the lab equipment for the subsidy and depreciate this
amount over the five-year period.
10-49 LO 5
Government Grants
Example 1: Grant for Lab Equipment. If AG chooses to record

deferred revenue of €500,000, it amortizes this amount over the
five-year period to income (€100,000 per year). The effects on the
financial statements at December 31, 2015, are:
ILLUSTRATION 10-17
Government Grant
Recorded as Deferred
Revenue
10-50 LO 5
Government Grants
Example 1: Grant for Lab Equipment. If AG chooses to reduce

the cost of the lab equipment, AG reports the equipment at
€1,500,000 (€2,000,000 - €500,000) and depreciates this amount
over the five-year period. The effects on the financial statements
at December 31, 2015, are: ILLUSTRATION 10-18
Government Grant Adjusted to Asset
10-51 LO 5
COSTS SUBSEQUENT TO ACQUISITION
Recognize costs subsequent to acquisition as an asset when

the costs can be measured reliably and it is probable that the
company will obtain future economic benefits.
Evidence of future economic benefit would include increases in
1. useful life,
2. quantity of product produced, and
3. quality of product produced.
10-52 LO 6
COSTS SUBSEQUENT TO ACQUISITION
10-53 ILLUSTRATION 10-21 Summary of Costs Subsequent to Acquisition LO 6

DISPOSITION OF PROPERTY, PLANT,
AND EQUIPMENT
A company may retire plant assets voluntarily or dispose of

them by
 Sale,
 Exchange,
 Involuntary conversion, or
 Abandonment.
Depreciation must be taken up to the date of disposition.
10-54 LO 7
DISPOSITION OF PP&E
Sale of Plant Assets

Illustration: Barret Company recorded depreciation on a machine
costing €18,000 for nine years at the rate of €1,200 per year. If it
sells the machine in the middle of the tenth year for €7,000, Barret
records depreciation to the date of sale as:
Depreciation Expense (€1,200 x ½) 600

Accumulated Depreciation—Machinery 600
10-55 LO 7
DISPOSITION OF PP&E
Illustration: Barret Company recorded depreciation on a machine

costing $18,000 for 9 years at the rate of $1,200 per year. If it sells
the machine in the middle of the tenth year for $7,000, Barret
records depreciation to the date of sale. Record the entry to record
the sale of the asset:
Cash 7,000
Accumulated Depreciation—Machinery 11,400
Machinery 18,000
Gain on Disposal of Machinery 400
10-56 LO 7
DISPOSITION OF PP&E
Involuntary Conversion
Sometimes an asset’s service is terminated through some type of
involuntary conversion such as fire, flood, theft, or condemnation.
Companies report the difference between the amount recovered

(e.g., from a condemnation award or insurance recovery), if any,
and the asset’s book value as a gain or loss.
They treat these gains or losses like any other type of disposition.
10-57 LO 7
DISPOSITION OF PP&E
Illustration: Camel Transport Corp. had to sell a plant located on

company property that stood directly in the path of an interstate
highway. Camel received $500,000, which substantially exceeded the
book value of the land of $150,000 and the book value of the building
of $100,000 (cost of $300,000 less accumulated depreciation of
$200,000). Camel made the following entry.
Cash 500,000
Accumulated Depreciation—Buildings 200,000
Buildings 300,000
Land 150,000
Gain on Disposal of Plant Assets 250,000
10-58 LO 7
PREVIEW OF CHAPTER 11
10-59
LEARNING OBJECTIVES
1. Explain the concept of 6. Explain the accounting procedures for

depreciation. depletion of mineral resources.
2. Identify the factors involved in the 7. Explain the accounting for revaluations.
depreciation process.
3. Compare activity, straight-line, and
diminishing-charge methods of
depreciation.
4. Explain component depreciation.
5. Explain the accounting issues related to
asset impairment.
10-60
DEPRECIATION—METHOD OF COST
ALLOCATION
Depreciation is the accounting process of allocating the cost of

tangible assets to expense in a systematic and rational manner
to those periods expected to benefit from the use of the asset.
Allocating costs of long-lived assets:

 Fixed assets = Depreciation expense
 Intangibles = Amortization expense
 Mineral resources = Depletion expense
10-61 LO 1
DEPRECIATION—COST ALLOCATION
Factors Involved in the Depreciation Process

Three basic questions:
1. What depreciable base is to be used?
2. What is the asset’s useful life?
3. What method of cost apportionment is best?
10-62 LO 2
Factors Involved in Depreciation Process
Depreciable Base for the Asset
ILLUSTRATION 11-1
Computation of
Depreciation Base
10-63 LO 2
Factors Involved in Depreciation Process
Estimation of Service Lives

 Service life often differs from physical life.
 Companies retire assets for two reasons:
1. Physical factors (casualty or expiration of physical
life).
2. Economic factors (inadequacy, supersession, and

obsolescence).
10-64 LO 2
Methods of Depreciation
The profession requires the method employed be “systematic
and rational.” Methods used include:
1. Activity method (units of use or production).
2. Straight-line method.
3. Diminishing (accelerated)-charge methods:
a) Sum-of-the-years’-digits.
b) Declining-balance method.
10-65 LO 3
Activity Method ILLUSTRATION 11-2

Data Used to Illustrate
Depreciation Methods
Data for
Stanley Coal
Mines
Illustration: If Stanley uses the crane for 4,000 hours the first
year, the depreciation charge is:
ILLUSTRATION 11-3
Depreciation Calculation,
Activity Method—Crane
Example
10-66 LO 3
Straight-Line Method ILLUSTRATION 11-2

Data for
Stanley Coal
Mines
Illustration: Stanley computes depreciation as follows:
ILLUSTRATION 11-4
Depreciation Calculation,
Straight-Line Method—
Crane Example
10-67 LO 3
Diminishing-Charge Methods ILLUSTRATION 11-2

Data for
Stanley Coal
Mines
Sum-of-the-Years’-Digits. Each fraction uses the sum of the years

as a denominator (5 + 4 + 3 + 2 + 1 = 15). The numerator is the
number of years of estimated life remaining as of the beginning of
the year.
Alternate sum-of-the- n(n+1) 5(5+1)

= = 15
years’ calculation 2 2
10-68 LO 3
Sum-of-the-Years’-Digits
ILLUSTRATION 11-6
Sum-of-the-Years’-Digits
Depreciation Schedule—
Crane Example
10-69 LO 3
Diminishing-Charge Methods ILLUSTRATION 11-2

Data for
Stanley Coal
Mines
Declining-Balance Method.
 Utilizes a depreciation rate (percentage) that is some multiple
of the straight-line method.
 Does not deduct the salvage value in computing the

depreciation base.
10-70 LO 3
Declining-Balance Method
ILLUSTRATION 11-7
Double-Declining
Depreciation Schedule—
Crane Example
10-71 LO 3
Component Depreciation
IFRS requires that each part of an item of property, plant,
and equipment that is significant to the total cost of the
asset must be depreciated separately.
10-72 LO 4
Illustration: EuroAsia Airlines purchases an airplane for

€100,000,000 on January 1, 2016. The airplane has a useful life of
20 years and a residual value of €0. EuroAsia uses the straight-
line method of depreciation for all its airplanes. EuroAsia identifies
the following components, amounts, and useful lives.
ILLUSTRATION 11-8
Airplane Components
10-73 LO 4
Computation of depreciation expense for

ILLUSTRATION 11-9
EuroAsia for 2016. Computation of
Depreciation journal entry for 2016.

Depreciation Expense 8,600,000
Accumulated Depreciation—Airplane 8,600,000
10-74 LO 4
On the statement of financial position at the end of 2016,

EuroAsia reports the airplane as a single amount.
ILLUSTRATION 11-10
Presentation of Carrying
Amount of Airplane
10-75 LO 4
Special Depreciation Issues

1. How should companies compute depreciation for
partial periods?
2. Does depreciation provide for the replacement of

assets?
3. How should companies handle revisions in

depreciation rates?
10-76 LO 4

1. How should companies compute depreciation for partial
periods?
 Companies determine the depreciation expense for

the full year and then
 prorate this depreciation expense between the two

periods involved.
This process should continue throughout the useful life of

the asset.
10-77 LO 4
Depreciation and Partial Periods
Illustration—(Four Methods): Maserati Corporation purchased a new

machine for its assembly process on August 1, 2015. The cost of this
machine was €150,000. The company estimated that the machine
would have a salvage value of €24,000 at the end of its service life.
Its life is estimated at 5 years and its working hours are estimated at
21,000 hours. Year-end is December 31.
Instructions: Compute the depreciation expense under the following

methods.
(a) Straight-line depreciation. (c) Sum-of-the-years’-digits.
(b) Activity method (d) Double-declining balance.
10-78 LO 4
Straight-line Method
Current
Depreciable Annual Partial Year Accum.
Year Base Years Expense Year Expense Deprec.
2015 € 126,000 / 5 = $ 25,200 x 5/12 = € 10,500 $ 10,500
2016 126,000 / 5 = 25,200 25,200 35,700
2017 126,000 / 5 = 25,200 25,200 60,900
2018 126,000 / 5 = 25,200 25,200 86,100
2019 126,000 / 5 = 25,200 25,200 111,300
2020 126,000 / 5 = 25,200 x 7/12 = 14,700 126,000
€ 126,000
Journal entry:
2015 Depreciation expense 10,500

Accumultated depreciation 10,500
10-79 LO 4
Activity Method (Assume 800 hours used in 2015)

(€126,000 / 21,000 hours = €6 per hour)
(Given) Current
Hours Rate per Annual Partial Year Accum.
Year Used Hours Expense Year Expense Deprec.
2015 800 x $6 = € 4,800 € 4,800 € 4,800
2016 x =
2017 x =
2018 x =
2019 x =
800 € 4,800
Journal entry:
10-80 LO 4
5/12 = .416667
Sum-of-the-Years’-Digits Method 7/12 = .583333
Current
Depreciable Annual Partial Year Accum.
Year Base Years Expense Year Expense Deprec.
2015 € 126,000 x 5/15 = 42,000 x 5/12 € 17,500 € 17,500
2016 126,000 x 4.58/15 = 38,500 38,500 56,000
2017 126,000 x 3.58/15 = 30,100 30,100 86,100
2018 126,000 x 2.58/15 = 21,700 21,700 107,800
2019 126,000 x 1.58/15 = 13,300 13,300 121,100
2020 126,000 x .58/15 = 4,900 4,900 126,000

€ 126,000
Journal entry:
10-81 LO 4
Double-Declining Balance Method

Current
Depreciable Rate Annual Partial Year
Year Base per Year Expense Year Expense
2015 € 150,000 x 40% = € 60,000 x 5/12 = € 25,000
2016 125,000 x 40% = 50,000 50,000
2017 75,000 x 40% = 30,000 30,000
2018 45,000 x 40% = 18,000 18,000
2019 27,000 x 40% = 10,800 Plug 3,000

€ 126,000
Journal entry:
10-82 LO 4

2. Does depreciation provide for the replacement of
assets?
 Does not involve a current cash outflow.
 Funds for the replacement of the assets come from

the revenues.
10-83 LO 4

3. How should companies handle revisions in depreciation
rates?
 Accounted for in the current and prospective periods
 Not handled retrospectively
 Not considered errors or extraordinary items
10-84 LO 4
Revision of Depreciation Rates
Arcadia HS, purchased equipment for $510,000 which was

estimated to have a useful life of 10 years with a residual value
of $10,000 at the end of that time. Depreciation has been
recorded for 7 years on a straight-line basis. In 2015 (year 8), it
is determined that the total estimated life should be 15 years
with a residual value of $5,000 at the end of that time.
Questions:
 What is the journal entry to correct No Entry
the prior years’ depreciation? Required
 Calculate the depreciation expense

for 2015.
10-85 LO 4
After 7
Revision of Depreciation Rates years
Equipment cost $510,000 First, establish NBV

Salvage value - 10,000 at date of change in
Depreciable base 500,000 estimate.
Useful life (original) 10 years
Annual depreciation $ 50,000 x 7 years = $350,000
Balance Sheet (Dec. 31, 2014)

Equipment $510,000
Accumulated depreciation 350,000
Net book value (NBV) $160,000
10-86 LO 4
After 7
Revision of Depreciation Rates years
Net book value $160,000 Depreciation

Salvage value (new) 5,000 Expense calculation
Depreciable base 155,000 for 2015.
Useful life remaining 8 years
Annual depreciation $ 19,375
Journal entry for 2015
Depreciation Expense 19,375

Accumulated Depreciation 19,375
10-87 LO 4
WHAT’S YOUR PRINCIPLE
DEPRECIATION CHOICES
The amount of depreciation expense

recorded depends on both the depreciation 1.7 Property, Plant, and Equipment
method used and estimates of service lives Property, plant, and equipment are
and residual values of the assets. recorded at historical acquisition cost to the
Differences in these choices and estimates Group, less accumulated depreciation and
can significantly impact a company’s any accumulated impairment losses.
reported results and can make it difficult to Property, plant, and equipment are
compare the depreciation numbers of recorded by component, with each
different companies. component depreciated over its useful life.
For example, Veolia Environment (FRA) Useful lives are as follows:
provided information regarding useful lives
of its assets in the note to its financial
statements, as shown to the right.
With the information provided, an analyst
determines the impact of these
management choices and judgments on the
amount of depreciation expense for classes
of property, plant, and equipment.
10-88 LO 4
IMPAIRMENTS
Recognizing Impairments
A long-lived tangible asset is impaired when a company is not
able to recover the asset’s carrying amount either through
using it or by selling it.
On an annual basis, companies review the asset for indicators

of impairments—that is, a decline in the asset’s cash-generating
ability through use or sale.
10-89 LO 5
If impairment indicators are present, then an impairment test

must be conducted.
ILLUSTRATION 11-15
Impairment Test
10-90 LO 5
Example: Assume that Cruz Company performs an impairment
test for its equipment. The carrying amount of Cruz’s equipment is
€200,000, its fair value less costs to sell is €180,000, and its
value-in-use is €205,000.
ILLUSTRATION 11-15
€200,000 €205,000
No
Impairment
€180,000 €205,000
10-91 LO 5
Example: Assume the same information for Cruz Company
except that the value-in-use of Cruz’s equipment is €175,000
rather than €205,000.
€20,000 Impairment Loss
ILLUSTRATION 11-15
€200,000 €180,000
€180,000 €175,000
10-92 LO 5
Example: Assume the same information for Cruz Company
except that the value-in-use of Cruz’s equipment is €175,000
rather than €205,000.
€20,000 Impairment Loss
ILLUSTRATION 11-15
€200,000 €180,000
Cruz makes the following entry to record the impairment loss.
Loss on Impairment 20,000

10-93 LO 5
Impairment Illustrations
Case 1
At December 31, 2016, Hanoi Company has equipment with a cost of
VND26,000,000, and accumulated depreciation of VND12,000,000. The
equipment has a total useful life of four years with a residual value of
VND2,000,000. The following information relates to this equipment.
1. The equipment’s carrying amount at December 31, 2016, is
VND14,000,000 (VND26,000,000 - VND12,000,000).
2. Hanoi uses straight-line depreciation. Hanoi’s depreciation was
VND6,000,000 [(VND26,000,000 - VND2,000,000) ÷ 4] for 2016
and is recorded.
3. Hanoi has determined that the recoverable amount for this asset at
December 31, 2016, is VND11,000,000.
4. The remaining useful life of the equipment after December 31,
2016, is two years.
10-94 LO 5
Case 1: Hanoi records the impairment on its equipment at

December 31, 2016, as follows.
VND3,000,000 Impairment Loss

ILLUSTRATION 11-15
VND14,000,000 VND11,000,000
Loss on Impairment 3,000,000

Accumulated Depreciation—Equipment 3,000,000
10-95 LO 5
Equipment VND 26,000,000

Less: Accumulated Depreciation-Equipment 15,000,000
Carrying value (Dec. 31, 2016) VND 11,000,000
Hanoi Company determines that the equipment’s total useful life

has not changed (remaining useful life is still two years). However,
the estimated residual value of the equipment is now zero. Hanoi
continues to use straight-line depreciation and makes the
following journal entry to record depreciation for 2017.
Depreciation Expense 5,500,000

Accumulated Depreciation—Equipment 5,500,000
10-96 LO 5
Case 2
At the end of 2015, Verma Company tests a machine for impairment. The
machine has a carrying amount of $200,000. It has an estimated remaining
useful life of five years. Because there is little market-related information on
which to base a recoverable amount based on fair value, Verma
determines the machine’s recoverable amount should be based on value-
in-use. Verma uses a discount rate of 8 percent. Verma’s analysis indicates
that its future cash flows will be $40,000 each year for five years, and it will
receive a residual value of $10,000 at the end of the five years. It is
assumed that all cash flows occur at the end of the year.
ILLUSTRATION 11-16
Value-in-Use Computation
10-97 LO 5
Case 2: Computation of the impairment loss on the machine at
the end of 2015.
$33,486 Impairment Loss
ILLUSTRATION 11-15
$200,000 $166,514
Unknown $166,514
10-98 LO 5
Case 2: Computation of the impairment loss on the machine at
the end of 2015.
$200,000 $166,514

Accumulated Depreciation—Machinery 33,486
Unknown $166,514
10-99 LO 5
Reversal of Impairment Loss
Illustration: Tan Company purchases equipment on January 1,

2015, for HK$300,000, useful life of three years, and no residual
value.
At December 31, 2015, Tan records an impairment loss of

HK$20,000.
10-100 LO 5
Depreciation expense and related carrying amount after the

impairment.
At the end of 2016, Tan determines that the recoverable amount of

the equipment is HK$96,000. Tan reverses the impairment loss.

Recovery of Impairment Loss 6,000
10-101 LO 5
IMPAIRMENTS
Cash-Generating Units
When it is not possible to assess a single asset for impairment
because the single asset generates cash flows only in
combination with other assets, companies identify the smallest
group of assets that can be identified that generate cash flows
independently of the cash flows from other assets.
10-102 LO 5
IMPAIRMENTS
Impairment of Assets to Be Disposed Of

 Report the impaired asset at the lower-of-cost-or-net
realizable value (fair value less costs to sell).
 No depreciation or amortization is taken on assets held

for disposal during the period they are held.
 Can write up or down an asset held for disposal in future

periods, as long as the carrying amount after the write up
never exceeds the carrying amount of the asset before
the impairment.
10-103 LO 5
IMPAIRMENTS
ILLUSTRATION 11-18
Graphic of Accounting for
Impairments
10-104 LO 5
DEPLETION
Natural resources can be divided into two categories:
1. Biological assets (timberlands)
► Fair value approach (chapter 9)
2. Mineral resources (oil, gas, and mineral mining).
► Complete removal (consumption) of the asset.
► Replacement of the asset only by an act of nature.
Depletion - process of allocating the cost of mineral resources.
10-105 LO 6
DEPLETION
Establishing a Depletion Base

Computation of the depletion base involves:
1. Pre-exploratory costs.
2. Exploratory and evaluation costs.
3. Development costs.
10-106 LO 6
DEPLETION
Write-off of Resource Cost

Normally, companies compute depletion on a units-of-production
method (activity approach). Depletion is a function of the
number of units extracted during the period.
Calculation:
Total Cost – Residual value

= Depletion Cost Per Unit
Total Estimated Units Available
Units Extracted x Cost Per Unit = Depletion
10-107 LO 6
DEPLETION
Illustration: MaClede Co. acquired the right to use 1,000 acres of

land in South Africa to mine for silver. The lease cost is €50,000,
and the related exploration costs on the property are €100,000.
Intangible development costs incurred in opening the mine are
€850,000. MaClede estimates that the mine will provide
approximately 100,000 ounces of gold.
ILLUSTRATION 11-19
Computation of Depletion Rate
10-108 LO 6
DEPLETION
If MaClede extracts 25,000 ounces in the first year, then the

depletion for the year is €250,000 (25,000 ounces x €10).
Inventory 250,000
Accumulated Depletion 250,000
ILLUSTRATION 11-20
MaClede’s statement of financial position: Statement of Financial Position
Presentation of Mineral Resource
Depletion cost related to inventory sold is part of cost of goods sold.
10-109 LO 6
DEPLETION
Estimating Recoverable Reserves

 Same as accounting for changes in estimates.
 Revise the depletion rate on a prospective basis.
 Divide the remaining cost by the new estimate of the

recoverable reserves.
10-110 LO 6
DEPLETION
Liquidating Dividends - Dividends greater than the

amount of accumulated net income.
Illustration: Callahan Mining had a retained earnings balance of

£1,650,000, accumulated depletion on mineral properties of
£2,100,000, and share premium of £5,435,493. Callahan’s board
declared a dividend of £3 a share on the 1,000,000 shares
outstanding. It records the £3,000,000 cash dividend as follows.
Retained Earnings 1,650,000

Share Premium—Ordinary 1,350,000
Cash 3,000,000
10-111 LO 6
DEPLETION
Presentation on the Financial Statements

Disclosures related to E&E expenditures should include:
1. Accounting policies for exploration and evaluation

expenditures, including the recognition of E&E assets.
2. Amounts of assets, liabilities, income and expense, and

operating cash flow arising from the exploration for and
evaluation of mineral resources.
10-112 LO 6
REVALUATIONS
Recognizing Revaluations
Companies may value long-lived tangible asset subsequent to
acquisition at cost or fair value.
Network Rail (GBR) elected to use fair values to account for its
railroad network.
► Increased long-lived tangible assets by £4,289 million.
► Change in the fair value accounted for by adjusting the asset

account and establishing an unrealized gain.
► Unrealized gain is often referred to as revaluation surplus.
10-113 LO 7
Recognizing Revaluation
Revaluation—Land
Illustration: Siemens Group (DEU) purchased land for €1,000,000
on January 5, 2015. The company elects to use revaluation
accounting for the land in subsequent periods. At December 31,
2015, the land’s fair value is €1,200,000. The entry to record the
land at fair value is as follows.
Land 200,000
Unrealized Gain on Revaluation - Land 200,000
Unrealized Gain on Revaluation—Land increases other comprehensive

income in the statement of comprehensive income.
10-114 LO 7
Revaluation—Depreciable Assets
Illustration: Lenovo Group (CHN) purchases equipment for
¥500,000 on January 2, 2015. The equipment has a useful life of
five years, is depreciated using the straight-line method of
depreciation, and its residual value is zero. Lenovo chooses to
revalue its equipment to fair value over the life of the equipment.
Lenovo records depreciation expense of ¥100,000 (¥500,000 ÷ 5)
at December 31, 2015, as follows.
Depreciation Expense 100,000

10-115 LO 7
Revaluation—Depreciable Assets
After this entry, Lenovo’s equipment has a carrying amount of
¥400,000 (¥500,000 - ¥100,000). Lenovo receives an independent
appraisal for the fair value of equipment at December 31, 2015,
which is ¥460,000.

Equipment 40,000
Unrealized Gain on Revaluation—Equipment 60,000
10-116 LO 7
ILLUSTRATION 11-22
Revaluation—Depreciable Assets Financial Statement
Presentation—Revaluations
Under no circumstances can the Accumulated Other Comprehensive Income

account related to revaluations have a negative balance.
10-117 LO 7
Revaluations Issues
Company can select to value only one class of assets, say
buildings, and not revalue other assets such as land or equipment.
If a company selects only buildings,
► revaluation applies to all assets in that class of assets.
► A class of assets is a grouping of items that have a similar nature
and use in a company’s operations.
► Companies must also make every effort to keep the assets’
values up to date.
10-118 LO 7
PRESENTATION
Presentation of Property, Plant, Equipment, and

Mineral Resources
Depreciating assets, use Accumulated Depreciation.
Depleting assets may include use of Accumulated Depletion

account, or the direct reduction of asset.
Disclosures Basis of valuation (usually cost)

Pledges, liens, and other commitments
10-119 LO 8
REVALUATION OF PROPERTY, PLANT, AND
APPENDIX
EQUIPMENT
The general rules for revaluation accounting are as follows.
1. When a company revalues its long-lived tangible assets above

historical cost, it reports an unrealized gain that increases other
comprehensive income. Thus, the unrealized gain bypasses net
income, increases other comprehensive income, and increases
accumulated other comprehensive income.
2. If a company experiences a loss on impairment (decrease of

value below historical cost), the loss reduces income and
retained earnings. Thus, gains on revaluation increase equity
but not net income, whereas losses decrease income and
retained earnings (and therefore equity).
10-120 LO 9 Explain revaluation accounting procedures.

REVALUATION OF PROPERTY, PLANT, AND
APPENDIX
EQUIPMENT
3. If a revaluation increase reverses a decrease that was

previously reported as an impairment loss, a company credits
the revaluation increase to income using the account Recovery
of Impairment Loss up to the amount of the prior loss. Any
additional valuation increase above historical cost increases
other comprehensive income and is credited to Unrealized Gain
on Revaluation.
4. If a revaluation decrease reverses an increase that was

reported as an unrealized gain, a company first reduces other
comprehensive income by eliminating the unrealized gain. Any
additional valuation decrease reduces net income and is
reported as a loss on impairment.
10-121 LO 9
INTANGIBLE ASSETS
10-122
INTANGIBLE ASSET ISSUES
Characteristics Coca-Cola Company’s

(USA) success comes
1. Identifiable. from its secret formula
for making Coca-Cola,
2. Lack physical existence. not its plant facilities.
3. Not monetary assets.
Normally classified as non-current asset.
Common types of intangibles:
 Patent  Trademark or trade name

 Copyright  Customer list
 Franchise or license  Goodwill
10-123 LO 1
Valuation
Purchased Intangibles
 Recorded at cost.
 Includes all acquisition costs plus expenditures to make the

intangible asset ready for its intended use.
 Typical costs include:
► Purchase price.
► Legal fees.
► Other incidental expenses.
10-124 LO 2
Valuation
Internally Created Intangibles
 Companies expense all research phase costs and some
development phase costs.
 Certain development costs are capitalized once economic

viability criteria are met.
 IFRS identifies several specific

criteria that must be met before
development costs are capitalized.
10-125 LO 2
Internally Created Intangibles ILLUSTRATION 12-1

Research and
Development Stages
10-126 LO 2
Amortization of Intangibles
Limited-Life Intangibles
 Amortize by systematic charge to expense over useful life.
 Credit asset account or accumulated amortization.
 Useful life should reflect the periods over which the asset
will contribute to cash flows.
 Amortization should be cost less residual value.
 Companies must evaluate the limited-life intangibles

annually for impairment.
10-127 LO 3
Amortization of Intangibles
Indefinite-Life Intangibles
 No foreseeable limit on time the asset is expected to provide
cash flows.
 Must test indefinite-life intangibles for impairment at least

annually.
 No amortization.
10-128 LO 3
Amortization of Intangibles ILLUSTRATION 12-2

Accounting Treatment
for Intangibles
10-129 LO 3
TYPES OF INTANGIBLE ASSETS
Six Major Categories:
(1) Marketing-related. (4) Contract-related.
(2) Customer-related. (5) Technology-related.
(3) Artistic-related. (6) Goodwill.
10-130 LO 4
Marketing-Related Intangible Assets

 Examples:
► Trademarks or trade names, newspaper
mastheads, Internet domain names, and non-
competition agreements.
 In the United States trademarks or trade names have

legal protection for indefinite number of 10 year
renewal periods.
 Capitalize purchase price.
 No amortization.
10-131 LO 4
KEEP YOUR HANDS OFF
MY INTANGIBLE!
Companies go to great extremes to trade name when Apple introduced
protect their valuable intangible assets. its hot new phone in 2007. Not so
Consider how the creators of the highly fast, said Cisco, which had held the
successful game Trivial Pursuit iPhone trade name since 2000 and
protected their creation. First, they was using it on its own Voice over
copyrighted the 6,000 questions that Internet Protocol (VoIP) products.
are at the heart of the game. Then they The two companies came to an
shielded the Trivial Pursuit name by agreement for joint use of the name.
applying for a registered trademark. As It was not disclosed what Apple paid
a third mode of protection, they for this arrangement, but it is not
obtained a design patent on the playing surprising why Apple would want to
board’s design as a unique graphic settle—to avoid a costly delay to the
creation. launch of its highly anticipated
Another example is the iPhone iPhone.
trade name. Cisco Systems (USA)
Source: Nick Wingfield, “Apple, Cisco Reach Accord
sued Apple (USA) for using the iPhone Over iPhone,” Wall Street Journal Online (February 22,
2007).
10-132 LO 4
Customer-Related Intangible Assets

 Examples:
► Customer lists, order or production backlogs, and both
contractual and non-contractual customer relationships.
 Capitalize acquisition costs.
 Amortized to expense over useful life.
10-133 LO 4
Illustration: Green Market Inc. acquires the customer list of a large
newspaper for €6,000,000 on January 1, 2015. Green Market
expects to benefit from the information evenly over a three-year
period. Record the purchase of the customer list and the
amortization of the customer list at the end of each year.
Jan. 1 Customer List 6,000,000

2015
Cash 6,000,000
Dec. 31 Amortization Expense 2,000,000

2015
Customer List * 2,000,000
2016
2017
10-134 * or Accumulated Amortization LO 4

Artistic-Related Intangible Assets

 Examples:
► Plays, literary works, musical works, pictures,
photographs, and video and audiovisual material.
 Copyright granted for the life of the creator plus 70 years.
 Capitalize costs of acquiring and defending.
 Amortized to expense over useful life if less than the legal

life.
and Mickey
Mouse
10-135 LO 4
Contract-Related Intangible Assets

 Examples:
► Franchise and licensing agreements, construction permits,
broadcast rights, and service or supply contracts.
 Franchise (or license) with a limited life should be amortized

as operating expense over the life of the franchise.
 Franchise with an indefinite life should be carried at cost and

not amortized.
10-136 LO 4
Technology-Related Intangible Assets

 Examples:
► Patented technology and trade secrets granted by a
government body.
 Patent gives holder exclusive use for a period of 20 years.
 Capitalize costs of purchasing a patent.
 Expense any R&D costs in developing a patent.
 Amortize over legal life or useful life, whichever is shorter.
10-137 LO 4
Illustration: Harcott Co. incurs $180,000 in legal costs on January
1, 2015, to successfully defend a patent. The patent’s useful life is
20 years, amortized on a straight-line basis. Harcott records the
legal fees and the amortization at the end of 2015 as follows.
Jan. 1 Patents 180,000

Cash 180,000
Dec. 31 Patent Amortization Expense 9,000

Patents (or Accumulated Amortization) 9,000
Patent Amortization Expense = ($180,000 ÷ 20) = $9,000
10-138 LO 4
Goodwill
Conceptually, represents the future economic benefits arising from
the other assets acquired in a business combination that are not
individually identified and separately recognized.
Only recorded when an entire business is purchased.
Goodwill is measured as the excess of ...
cost of the purchase over the fair value of the identifiable net
assets (assets less liabilities) purchased.
Internally created goodwill should not be capitalized.
10-139 LO 5
RECORDING GOODWILL
Illustration: Feng, Inc. decides that it needs a parts division to

supplement its existing tractor distributorship. The president of Feng is
interested in buying Tractorling Company. The illustration presents the
statement of financial position of Tractorling Company.
ILLUSTRATION 12-4
10-140 LO 5
RECORDING GOODWILL
Illustration: Feng investigates Tractorling’s underlying assets to

determine their fair values.
ILLUSTRATION 12-5
Tractorling Company decides to accept Feng’s offer of $400,000. What

is the value of the goodwill, if any?
10-141 LO 5
RECORDING GOODWILL
Illustration: Determination of Goodwill.

ILLUSTRATION 12-6
10-142 LO 5
RECORDING GOODWILL
Illustration: Feng records this transaction as follows.
Property, Plant, and Equipment 205,000

Patents 18,000
Inventory 122,000
Accounts Receivables 35,000
Cash 25,000
Goodwill 50,000
Liabilities 55,000
Cash 400,000
10-143 LO 5
RECORDING GOODWILL
Goodwill Write-Off
 Goodwill considered to have an indefinite life.
 Should not be amortized.
 Only adjust carrying value when goodwill is impaired.
Bargain Purchase
 Purchase price less than the fair value of net assets
acquired.
 Amount is recorded as a gain by the purchaser.
10-144 LO 5
IMPAIRMENT OF INTANGIBLE ASSETS
Impairment of Limited-Life Intangibles

The impairment loss is the carrying amount of the asset less the
recoverable amount of the impaired asset.
ILLUSTRATION 11-15
10-145 LO 6
Illustration: Lerch, Inc. has a patent on how to extract oil from shale
rock, with a carrying value of €5,000,000 at the end of 2014.
Unfortunately, several recent non-shale-oil discoveries adversely
affected the demand for shale-oil technology, indicating that the patent
is impaired. Lerch determines the recoverable amount for the patent,
based on value-in-use (because there is no active market for the
patent). Lerch estimates the patent’s value-in-use at €2,000,000,
based on the discounted expected net future cash flows at its market
rate of interest.
.
10-146 LO 6
Calculate the impairment loss (based on value-in-use).
€3,000,000 Impairment Loss
ILLUSTRATION 11-15
€5,000,000 €2,000,000
Unknown €2,000,000
10-147 LO 6
Calculate the impairment loss (based on value-in-use).
€3,000,000 Impairment Loss
ILLUSTRATION 11-15
€5,000,000 €2,000,000
Lerch makes the following entry to record the impairment.

Loss on Impairment 3,000,000
Unknown $2,000,000
Patents 3,000,000
10-148 LO 6

Illustration: The carrying value of the patent after impairment is
€2,000,000. Lerch’s amortization is €400,000 (€2000,000 ÷ 5) over
the remaining five years of the patent’s life. The amortization expense
and related carrying amount after the impairment is shown below:
ILLUSTRATION 12-8
10-149 LO 6

Early in 2016, based on improving conditions in the market for
shale-oil technology, Lerch remeasures the recoverable amount of
the patent to be €1,750,000. In this case, Lerch reverses a portion
of the recognized impairment loss.
Patents (€1,750,000 - €1,600,000) 150,000

Recovery of Impairment Loss 150,000
10-150 LO 6
Impairment of Indefinite-Life Intangibles

Other than Goodwill
 Should be tested for impairment at least annually.
 Impairment test is the same as that for limited-life

intangibles. That is,
► compare the recoverable amount of the intangible

asset with the asset’s carrying value.
► If the recoverable amount is less than the carrying

amount, the company recognizes an impairment.
10-151 LO 6
Illustration: Arcon Radio purchased a broadcast license for

€2,000,000. The license is renewable every 10 years. Arcon Radio
has renewed the license with the GCC twice, at a minimal cost.
Because it expects cash flows to last indefinitely, Arcon reports the
license as an indefinite-life intangible asset. Recently, the GCC
decided to auction these licenses to the highest bidder instead of
renewing them. Based on recent auctions of similar licenses, Arcon
Radio estimates the fair value less costs to sell (the recoverable
amount) of its license to be €1,500,000.
ILLUSTRATION 12-9
Computation of Loss on
Impairment of Broadcast License
10-152 LO 6
Impairment of Goodwill
 Companies must test goodwill at least annually.
 Impairment test is conducted based on the cash-generating

unit to which the goodwill is assigned.
► Cash-generating unit = smallest identifiable group of

assets that generate cash flow.
 Because there is rarely a market for cash-generating units,

estimation of the recoverable amount for goodwill
impairments is usually based on value-in-use estimates.
10-153 LO 6
Illustration: Kohlbuy Corporation has three divisions. It purchased

one division, Pritt Products, four years ago for €2 million.
Unfortunately, Pritt experienced operating losses over the last three
quarters. Kohlbuy management is now reviewing the division (the
cash-generating unit), for purposes of its annual impairment testing.
Illustration 12-10 lists the Pritt Division’s net assets, including the
associated goodwill of €900,000 from the purchase.
ILLUSTRATION 12-10
10-154 LO 6
Kohlbuy determines the recoverable amount for the Pritt Division to
be €2,800,000, based on a value-in-use estimate.
ILLUSTRATION 11-15
$2,400,000 $2,800,000
No
Impairment
Unknown $2,800,000
10-155 LO 6
Assume that the recoverable amount for the Pritt Division is
€1,900,000 instead of €2,800,000.
ILLUSTRATION 11-15
$2,400,000 $1,900,000
Unknown $1,900,000
10-156 LO 7
6
Assume that the recoverable amount for the Pritt Division is
€1,900,000 instead of €2,800,000.
ILLUSTRATION 11-15
$2,400,000 $1,900,000
Kohlbuy makes the following entry to record the impairment.

Goodwill Unknown 500,000

$1,900,000
10-157 LO 7
6
RESEARCH AND DEVELOPMENT COSTS
Research and development (R&D) costs are not in

themselves intangible assets.
Frequently results in the development of patents or

copyrights such as new
 product,  formula,
 process,  composition, or
 idea,  literary work.
10-158 LO 7
Companies spend considerable sums on research and

development. ILLUSTRATION 12-12
R&D Outlays, as a
Percentage of Sales
10-159 LO 7
 Research costs must be expensed as incurred.
 Development costs may or may not be expensed as

incurred.
 Capitalization begins when the project is far enough along

in the process such that the economic benefits of the R&D
project will flow to the company (the project is
economically viable).
10-160 LO 7
Identifying R & D Activities ILLUSTRATION 12-13

Research Activities versus
Development Activities
Research Activities Examples

Original and planned investigation Laboratory research aimed at discovery of
undertaken with the prospect of gaining new knowledge; searching for applications of
new scientific or technical knowledge new research findings.
and understanding.
Development Activities Examples

Application of research findings or other Conceptual formulation and design of
knowledge to a plan or design for the possible product or process alternatives;
production of new or substantially construction of prototypes and
improved materials, devices, products, operation of pilot plants.
processes, systems, or services before
the start of commercial production or
use.
10-161 LO 7
GLOBAL R&D INCENTIVES
Research and development investments are the lifeblood of product and process
developments that lead to future cash flows and growth. Countries around the world
understand this and as a result provide significant incentives in the form of tax credits,
“superdeductions” (deductions greater than 100%), and corporate tax rate reductions, including
“patent box” rates for companies that own and use patents registered in that country. Here is a
summary for seven major economies.
Source: L. Cutler, D. Sayuk, and Camille Shoff, “Global R&D Incentives Compared,” Journal of
10-162 Accountancy (June 2013). LO 7
Accounting for R & D Activities

Costs Associated with R&D Activities:
 Materials, equipment, and facilities.
 Personnel.
 Purchased intangibles.
 Contract Services.
 Indirect Costs.
10-163 LO 8
E12-1: Indicate how items on the list below would generally be reported in
the financial statements.
Item Classification
1. Investment in a subsidiary company. 1. Long-term investments

2. Timberland. 2. PP&E
3. Cost of engineering activity required to 3. R&D expense
advance the design of a product to the
manufacturing stage.
4. Lease prepayment (6 months’ rent). 4. Prepaid rent
5. Cost of equipment obtained. 5. PP&E
6. Cost of searching for applications of 6. R&D expense
new research findings.
10-164 LO 8
Item Classification
7. Cost incurred in the formation of a 7. Expense

corporation.
8. Operating losses incurred in the 8. Operating loss
start-up of a business.
9. Training costs incurred in start-up of 9. Expense
new operation.
10. Purchase cost of a franchise. 10. Intangible
11. Goodwill generated internally. 11. Not recorded
12. Cost of testing in search of product 12. R&D expense
alternatives.
10-165 LO 8
Item Classification
13. Goodwill acquired in the purchase 13. Intangible

of a business.
14. Cost of developing a patent (before 14. R&D expense
achieving economic viability).
15. Cost of purchasing a patent from 15. Intangible
an inventor.
16. Legal costs incurred in securing a 16. Intangible
patent.
17. Unrecovered costs of a successful legal 17. Intangible
suit to protect the patent.
10-166 LO 8
Item Classification
18. Cost of conceptual formulation of 18. R&D expense

possible product alternatives.
19. Cost of purchasing a copyright. 19. Intangible
20. Development costs incurred after 20. Intangible
achieving economic viability.
21. Long-term receivables. 21. Long-term investment
22. Cost of developing a trademark. 22. Expense
23. Cost of purchasing a trademark. 23. Intangible
10-167 LO 8
RECOGNITION OF R&D AND INTERNALLY
GENERATED INTANGIBLES
The requirement that companies expense immediately all R&D costs (as well as start-up costs)
incurred internally is a practical solution. It ensures consistency in practice and uniformity
among companies. But the practice of immediately writing off expenditures made in the
expectation of benefiting future periods is conceptually incorrect.
Proponents of immediate expensing contend that from an income statement standpoint,
long-run application of this standard frequently makes little difference. They argue that because
of the ongoing nature of most companies’ R&D activities, the amount of R&D cost charged to
expense each accounting period is about the same, whether there is immediate expensing or
capitalization and subsequent amortization.
Others criticize this practice. They believe that the statement of financial position should
report an intangible asset related to expenditures that have future benefit. To preclude
capitalization of all R&D expenditures removes from the statement of financial position what
may be a company’s most valuable asset. Indeed, research findings indicate that capitalizing
R&D costs may be helpful to investors.
The current accounting for R&D and other internally generated intangible assets represents
one of the many trade-offs made among relevance, faithful representation, and cost-benefit
considerations. The FASB and IASB have completed some limited-scope projects on the
accounting for intangible assets, and the Boards have contemplated a joint project on the
accounting for identifiable intangible assets (i.e., excluding goodwill). (See
http://www.ifrs.org/Current-Projects/IASBProjects/ Intangible-Assets/Pages/Intangible-
Assets.aspx.)
10-168 Source: See page 24 of the text. LO 8

Costs Similar to R & D Costs

 Start-up costs for a new operation.
 Initial operating losses.
 Advertising costs.
These costs are expensed as incurred, similar to the accounting

for R&D costs.
10-169 LO 8
E12-17: Compute the amount to be reported as research and
development expense.
$330,000 / 5 = $66,000 R&D
Expense
Cost of equipment acquired that will have alternative
uses in future R&D projects over the next 5 years. $330,000 $66,000
Materials consumed in R&D projects 59,000 59,000
Consulting fees paid to outsiders for R&D projects 100,000 100,000
Personnel costs of persons involved in R&D projects 128,000 128,000

Indirect costs reasonably allocable to R&D projects 50,000 50,000
Materials purchased for future R&D projects 34,000 0
$403,000
10-170 LO 8
BRANDED
For many companies, developing a strong brand image is as important as developing the products they
sell. Now more than ever, companies see the power of a strong brand, enhanced by significant and
effective advertising investments. As the following chart indicates, the value of brand investments is
substantial. Coca-Cola (USA) heads the list with an estimated brand value of about $78 billion.
Companies from around the globe are represented in the top 20 brands.
Occasionally, you may find the value of a brand included in a company’s financial statements under
goodwill. But generally you will not find the estimated values of brands recorded in companies’
statements of financial position. The reason? The subjectivity that goes into estimating a brand’s value.
In some cases, analysts base an estimate of brand value on opinion polls or on some multiple of ad
spending. For example, in estimating the brand values shown above, Interbrand Corp. (USA) estimates
the percentage of the overall future revenues the brand will generate and then discounts the net cash
flows, to arrive at a present value. Some analysts believe that information on brand values is relevant.
Others voice valid concerns about the reliability of brand value estimates due to subjectivity in the
estimates for revenues, costs, and the risk component of the discount rate.
10-171 Source: Interbrand Corp., Best Global Brands Report (October 2, 2012). LO 8
PRESENTATION OF INTANGIBLES
Presentation of Intangible Assets

Statement of Financial Position
 Companies should report as a separate item all intangible
assets other than goodwill.
 Reporting is similar to the reporting of property, plant, and

equipment.
 Contra accounts may not normally shown for intangibles.
10-172 LO 9

Income Statement
Companies should report
 amortization expense and
 impairment losses and reversals
for intangible assets other than goodwill separately in net income

(usually in the operating section).
Notes to the financial statements should include the amortization

expense for each type of asset.
10-173 LO 9

ILLUSTRATION 12-15
Nestlé’s Intangible Asset
Disclosures
10-174 LO 9
Presentation of Research and Development

Costs
Companies should disclose the total R&D costs charged to
expense each period.
ILLUSTRATION 12-16
R&D Reporting
10-175 LO 9

Chapter 1

Enviado por

Dados do documento

Direitos autorais

Formatos disponíveis

Compartilhar este documento

Compartilhar ou incorporar documento

Opções de compartilhamento

Você considera este documento útil?

Este conteúdo é inapropriado?

Direitos autorais:

Formatos disponíveis

Chapter 1

Enviado por

Direitos autorais:

Formatos disponíveis

10-1

CHAPTER 1. PP&E and INTANGIBLE ASSETS

4. Describe the accounting problems

Property, plant, and equipment are assets of a durable nature.

Historical cost measures the cash or cash equivalent price of

In general, costs include:

1. Purchase price, including import duties and non-refundable

2. Costs attributable to bringing the asset to the location and

Companies value property, plant, and equipment in

 fair value (revaluation) method.

 Land acquired and held for speculation is classified as

 Land held by a real estate concern for resale should be

 materials, labor, and overhead costs incurred during

 professional fees and building permits.

Companies consider all costs incurred, from excavation to

 freight and handling charges,

 insurance on the equipment while in transit,

 cost of special foundations if required,

 assembling and installation costs, and

 costs of conducting trial runs.

Illustration: The expenditures and receipts below are related to land,

a. Money borrowed to pay building contractor a. Notes Payable

Illustration: Determine how the following should be classified:

f. Refund of 1-month insurance premium f. (Buildings)

Illustration: Determine how the following should be classified:

l. Proceeds from residual value of demolished l. (Land)

 Overhead can be handled in two ways:

2. Assign a portion of all overhead to the construction

Companies use the second method extensively.

Interest Costs During Construction

Interest Costs During Construction

 Consistent with historical cost.

 Capitalization considers three items:

 Assets intended for sale or lease that are constructed or

2. Activities for readying the asset for use or sale are

3. Interest costs are being incurred.

2. Avoidable interest - the amount of interest cost during

Illustration: Assume a company borrowed $200,000 at 12% interest

Actual Expenditures during 2015: Other general debt existing on

Step 1 - Determine which assets qualify for capitalization of

Step 2 - Determine the capitalization period.

Step 3 - Compute weighted-average accumulated expenditures.

A company weights the construction expenditures by the amount of time

Step 4 - Compute the Actual and Avoidable Interest.

Selecting Appropriate Interest Rate:

2. For the portion of weighted-average accumulated expenditures

Accumulated Interest Avoidable

Step 5 – Capitalize the lesser of Avoidable interest or Actual

Avoidable interest $ 30,250

Journal entry to Capitalize Interest:

Comprehensive Illustration: On November 1, 2014, Shalla

Pfeifer Construction completed the building, ready for occupancy, on

Compute weighted-average accumulated expenditures for 2015.

Compute weighted-average accumulated expenditures for 2015.

Compute the actual interest cost, which represents the maximum

Shalla records the following journal entries during 2015:

January 1 Land 100,000

At December 31, 2015, Shalla discloses the amount of interest

Special Issues Related to Interest Capitalization

 Conversely, if the company develops land for lot sales,

How do statement users determine the impact of interest capitalization

Companies should record property, plant, and equipment:

 at the fair value of what they give up or

 at the fair value of the asset received,