Long-Lived AssetsLong-Lived Assets

Presentations for Chapter 9 by Glenn Owen

Key PointsKey Points How the matching principle underlies the methods used to

account for long-lived assets. Major questions that are addressed when accounting for

long-lived assets and how the financial statements are affected.

Major economic consequences associated with the methods used to account for long-lived assets.

Costs that should be included in the capitalized cost of a long-lived asset.

Accounting treatment of post acquisition expenditures. How the cost of a long-lived asset is allocated over its

useful life and the alternative allocation methods. Disposition of long-lived assets.

Property, Plant, Equipment, and Property, Plant, Equipment, and Intangibles as a Percentage Intangibles as a Percentage

of Total Assetsof Total Assets

Company (Industry) PPE + Intangibles

/Total Assets General Electric (Manufacturing) .15

Chevron Oil (Oil drilling and refining) .58

Super Value (Grocery) .57

Tommy Hilfiger (Clothing) .63

Yahoo (Internet search engine) .16

Cisco (Internet systems) .16

SBC Communications (Telcom services) .49

Wendy’s (Restaurant services) .78

Bank of America (Banking services) .03

Merrill Lynch (Investment services) .03

Overview of Long-Lived Overview of Long-Lived Asset AccountingAsset Accounting

1. What costs to capitalize?General ruleSpecific issues

LandLump-sum purchases

Construction

AcquisitionUse

1. Post acquisition expendituresBettermentsMaintenance

2. Cost allocationEstimate useful lifeEstimate salvage valueChoose allocation method

Straight-lineAcceleratedActivity

Allocation for tax purposes

Disposal1. Retirement2. Sale – exchange asset

for cash or receivable3. Trade-in – exchange of

long-lived assets

Acquisition: Acquisition: What Costs to Capitalize?What Costs to Capitalize?

Land– Purchase price, closing costs, costs to get land in

condition for its intended purpose, assumptions of back taxes, liens, or mortgages, and permanent land improvements.

Lump-sum purchases– Allocate based on FMV

Construction of long-lived assets– Costs required to get the assets into

operating condition– Interest on funds borrowed to finance

construction

Post Acquisition Expenditures:Post Acquisition Expenditures:Betterments or Maintenance?Betterments or Maintenance?

Betterments:– Increase asset’s useful life– Improve quality of asset’s output– Increase quantity of asset’s output– Reduce asset’s operating costs

Accounting treatment– Betterments are capitalized– Maintenance expenditures

are expensed

Cost Allocation:Cost Allocation:Amortizing Capitalized CostsAmortizing Capitalized Costs

Estimating useful life and salvage value Revising useful life estimate Depreciation methods

– Straight-line– Double-declining balance– Activity (units-of-production)

The matching principle Choosing a method Income tax depreciation methods

Depreciation Method:Depreciation Method:Straight LineStraight Line

Equal benefits across each year of useful life Simple and easy to apply Higher net income and book values in the early

years of life Formula:

(Cost – Salvage Value) Estimated Useful Life

Depreciation Method:Depreciation Method:Double-Declining-BalanceDouble-Declining-Balance

Accelerated method since greater amounts of cost are allocated to the earlier periods of the asset’s life than to later periods

Formula:

2 x Book Value *

Estimated Useful Life

*Book Value =

Cost – Accumulated Depreciation

Effects of Depreciation Effects of Depreciation Methods on Net IncomeMethods on Net Income

$-

$1,000

$2,000

$3,000

$4,000

$5,000

$6,000

$7,000

1996 1997 1998 1999 2000

Years

Net

In

com

e

SL DDB

Disposal: Retirements, Sales, Disposal: Retirements, Sales, and Trade-insand Trade-ins

Retirement– Obsolescence– Lack of a market– Closure

Sales Trade-ins

– Two or more long-lived assets are exchanged

– Similar– Dissimilar

Intangible Assets Intangible Assets and Deferred Costsand Deferred Costs

Copyrights, patents, and trademarksDeveloping computer softwareGoodwillOrganizational costsResearch and development

C O P Y R I G H T

C o p y r i g h t © 2 0 0 3 , J o h n W i l e y & S o n s , I n c . A l l r i g h t s r e s e r v e d .R e p r o d u c t i o n o r t r a n s l a t i o n o f t h i s w o r k b e y o n d t h a t p e r m i t t e d i n S e c t i o n 1 1 7 o f t h e 1 9 7 6 U n i t e d S t a t e s C o p y r i g h t A c t w i t h o u t t h ee x p r e s s w r i t t e n p e r m i s s i o n o f t h e c o p y r i g h t o w n e r i s u n l a w f u l . R e q u e s t f o r f u r t h e r i n f o r m a t i o n s h o u l d b e a d d r e s s e d t o t h e P e r m i s s i o n s D e p a r t m e n t , J o h n W i l e y & S o n s , I n c . T h e p u r c h a s e r m a y m a k e b a c k - u p c o p i e s f o r h i s / h e r o w n u s e o n l y a n d n o t f o r d i s t r i b u t i o n o r r e s a l e . T h e P u b l i s h e r a s s u m e s n o r e s p o n s i b i l i t yf o r e r r o r s , o m i s s i o n s , o r d a m a g e s , c a u s e d b y t h e u s e o f t h e s e p r o g r a m s o r f r o m t h e u s e o f t h e i n f o r m a t i o n c o n t a i n e d h e r e i n .