AC 310 1st Edition Final Exam Study Guide Days 26 29 Days 26 29 Chapter 11 Impairment when a significant decline of an asset s benefits occurs Recognizing a loss depends on if the asset will be used or sold in the future Intangibles that are amortized Definite Life Same approach taken as long lived assets Two step approach 1 Test for impairment undiscounted sum of future cash flows must be lower than book value for an item to be impaired 2 Book Value Fair Value Impairment Loss Practice Problem2 Day 29 Slides Equipment purchased 8 years ago for 1 000 000 Straight line method 10 residual 20 year life Test for impairment decide remaining life 7 years Net cash inflow 80 000 year Fair Value 240 000 1 Impairment 1 000 000 100 000 45 000 annual depreciation 20 years Accumulated Depreciation 45 000 8 360 000 Cost Acc Dep Book Value 1 000 000 360 000 640 000 2 Cash flows 80 000 7 years 560 000 BV 640 000 FCF 560 000 impairment 3 Book Value Fair Value Loss 640 000 240 000 400 000 Impairment Loss Journal Entry Dr Loss on Impairment Cr Acc Dep 400 000 400 000 Would there still be impairment if fair value was 500 000 Yes Only the loss would change It would go from 400 000 to 140 000 Intangibles that are NOT amortized Indefinite Life Should be tested for impairment annually One step process 1 Compare book value to fair value we expect cash flows to continue indefinitely a Divide yearly cash flows by discount rate to get fair value b If book value fair value then impairment exists Recovery of an impairment loss is prohibited Goodwill Acquired only with the purchase of a company Goodwill is NOT amortized so test yearly for impairment Goodwill in general is Purchase price fair value of net assets always the residual amount FV of net assets assets liabilities Impairment testing is a process 1 Estimate fair value for entire reporting operating unit 2 Compare value of reporting unit with book value a If book value is greater impairment loss is indicated 3 Find Implied Fair Value of Goodwill a Estimated fair value of reporting unit net fair value of assets Implied Goodwill There may be other assets that are impaired so the company would want to do impairment testing after gaining this knowledge Assets Held for Sale For assets held for sale if Book Value Exceeds Fair Value minus cost to sell an impairment loss is recognized for the difference Depreciation Methods Straight Line Cost Residual Yearly depreciation Useful life Gives an equal amount of depreciation for every year Sum of the Years Digits Accelerated Method Multiplies the depreciable base by a fraction that declines each year Asset provides greater benefits in the early years of its life than in later years Cost Residual Depreciation Rate Annual Depreciation Depreciation Rate n n 1 2 Don t change base number only fraction For five years 5 5 1 2 15 Year 1 5 15 Year 2 4 15 Year 3 3 15 ETC ETC Double Declining Balance Book Value 1st year should equal cost x Rate Rate 2 Useful Life Multiply constant by decreasing book value Not uncommon for companies to change methods halfway through the year Units of Production Cost Residual x Units for the year Total Estimated Units Annual Depreciation Never depreciate below residual value Expenditures Repairs Maintenance maintain a given level of benefit Additions acquire new major component to existing asset Improvements replace major component of the asset Rearrangements restructure without making improvements Cost Allocation Processes Used to help meet the matching principle requirements Property Plant and Equipment Depreciation Dr Depreciation Expense Cr Accumulated Depreciation Natural Resources Depletion Depletion per ton Depletion base Estimated extractable tons Dr Depletion Expense Cr Natural Resource Intangible Assets Amortization Dr Amortization Expense Cr Intangible Asset Change in Depreciation Method 1 Solve for Depreciation to date 2 Subtract out residual value 3 Divide by remaining life New annual depreciation Chapter 10 Initial cost of PPE and intangible assets includes purchase price and all expenditures necessary to bring asset to its desired condition location Benefit now expensed Benefit over lifetime capitalized o Capitalize record as asset and expense in future period o If mistakenly capitalize instead of expense overstate current income assets and equity Note difference between land and land improvements o Life of land is indefinite o Life of land improvements parking lots driveways fences is estimated PPE provide benefits by being used natural resources provide benefits by being consumed Acquisition costs for use of land Exploration Development Costs before production begins Restoration Costs during at end of extraction Intangible Assets no physical substance exclusive rights Amortize cost unless indefinite life 1 Patent right to manufacture use a product 20 Years 2 Copyright protection to creator of published work Life of Creator 70 Years 3 Trademark right to display slogan symbol a 10 Years b Life can be indefinite because renewable 4 Franchise agreement for one to use franchisor s trademark and product fast food chains 5 Goodwill not separable from company a Unique features magic b Residual asset amount left after other assets are identified and valued c Total fair value fair value of net assets Goodwill d DO NOT AMORTIZE GOODWILL Lump Sum Purchases Step One Add all individual fair values of assets Step Two Take of individual fair value total fair value sum Step Three x Purchase Price Step Four Journal Entry Dr All individual assets Dr Dr Cr Cash Purchase Price Interest Capitalization Only capitalize interest incurred during construction period Begins with construction Only capitalize amount of interest that could have been avoided if construction had not been undertaken Average accumulated expenditures approximates the average debt necessary for construction Steps 1 Find Maximum Interest Capitalization a Take all debt rates and find total possible interest available 2 Find Weighted Average Rate on other debt debt that s not related to project a Interest amount of loans weighted average rate 3 Weighted average accumulated expenditures a Fraction x Expenditures 4 Find avoidable interest a Amount of 3 x interest rate 5 Expense remainder Dr Construction in Progress expenditures interest capitalized Dr Interest Expense total interest available interest capitalized Cr Cash