ACCT 215 Autumn 2013 Review What are long term assets If an asset is not short term i e a current asset it is long term General types of long term asset Tangible long term assets e g equipment land buildings Intangible long term assets e g patents goodwill brand names Capitalize all costs needed to get the asset ready for its intended use such as Purchase price demolition costs transaction costs interest on loan used to buy asset capitalized interest Post Acquisition Expenditures Expense the cost if it only helps maintain the productive capacity of the asset during the current accounting period Capitalize the cost if it increases the productive life operating efficiency or capacity of the asset Cost allocation terms Depreciation Allocation of a long term tangible asset s cost to an expense over time Amortization Allocation of a long term intangible asset s cost to an expense over time Depletion Allocation of a long term natural resource asset s cost to an expense over time Cost allocation assumptions Useful life Residual Value Cost allocation methods Straight line Units of production Computation Cost Salvage value Useful life Cost Salvage value Estimated total production X Annual production Double declining balance Cost Accumulated accelerated method depreciation Useful life X 2 Depreciation Expense Equal amounts each year Varying amounts based on production level Declining amounts over time Impairment testing 1 Test for impairment if net book value estimated future cash flows asset is impaired 2 Compute impairment loss Impairment loss Net book value Fair value 1 ACCT 215 Autumn 2013 Disposal of long term assets 1 Adjusting entry to update the depreciation expense and accumulated depreciation accounts 2 Record the disposal cost of the asset and any accumulated depreciation at the date of the disposal must be removed from the accounts difference between the resources received on disposal and the net book value is treated as a gain or loss E g Loss on sale Cash A Loss on sale of assets Loss E SE Accumulated Depreciation XA Equipment A 500 000 50 000 200 000 750 000 Intangible assets Definite lived cost is allocated on a straight line basis each period over its useful life in a process called amortization Indefinite lived not amortized but tested at least annually for impairment Goodwill Only recorded when another business is purchased o Goodwill Purchase price Net assets at fair value Key ratio from Chapter 8 Fixed Asset Turnover Net Sales Average Net Fixed Assets 2 ACCT 215 Autumn 2013 Problem 1 Stillwater Youth Programs SYP purchased a used school bus to use in transporting children for its after school programs SYP incurred the following expenses related to the bus in 2013 1 Painted the SYP logo on the bus for 3 000 to help promote the after school program 2 Installed new seats on the bus at a cost of 5 000 3 Installed a DVD player and sound system in the bus to entertain the children intransit and announce upcoming events at a cost of 1 000 4 Paid insurance on the bus for 2010 which increased 10 over the prior year to an annual premium of 2 800 5 Performed annual maintenance and repairs for 1 400 6 Overhauled the engine at a cost of 6 500 increasing the service life of the bus by an estimated three years Required 1 Indicate whether SYP should capitalize or expense each of these expenditures 2 How could SYP use expenditures like these to increase reported earnings Problem 2 The following information relates to the intangible assets of Lettuce Express 1 On 1 1 10 Lettuce Express completed the purchase of Farmers Produce Inc for 1 500 000 in cash The fair value of the identifiable net assets of Farmers Produce was 1 350 000 2 Included in the assets purchased from Farmers Produce was a patent for a method of processing lettuce valued at 45 000 The original legal life of the patent was 20 years There are still 17 years left on the patent but Lettuce Express estimates the patent will be useful for only 10 more years 3 Lettuce Express acquired a franchise on 7 1 10 by paying an initial franchise fee of 175 000 The contractual life of the franchise is seven years Required 1 Record the amortization expense for the intangible assets at 12 31 10 2 Prepare the intangible asset section of the 12 31 10 balance sheet 3 ACCT 215 Autumn 2013 Problem 3 Strong Metals Inc purchased a new stamping machine at the beginning of the year at a cost of 950 000 The estimated residual value was 50 000 Assume that the estimated useful life was five years and the estimated productive life of the machine was 300 000 units Actual annual production was as follows Year 1 2 3 4 5 Units 70 000 67 000 50 000 73 000 40 000 Required 1 Calculate depreciation expense accumulated depreciation and net book value of the machine for the first two years after acquisition under each of the following methods a Straight line b Units of production c Double declining balance Problem 4 New Deli is in the process of closing its operations It sold its three year old ovens to Sicily Pizza for 300 000 The ovens originally cost 400 000 and had an estimated useful service life of 10 years and an estimated residual value of 25 000 New Deli uses straight line depreciation for all equipment Required 1 Calculate the balance in the accumulated depreciation account at the end of the third year 2 Calculate the book value of the ovens at the end of the third year 3 What is the gain or loss on the sale of the ovens at the end of the third year 4 Record the sale of the ovens at the end of the third year 4 ACCT 215 Autumn 2013 SOLUTION PROBLEM 1 1 Expense 2 Capitalize 3 Capitalize 4 Expense 5 Expense 6 Capitalize SYP could increase reported earnings by improperly recording expenses as assets For example SYP could record maintenance and repair expense to the equipment asset account This would lower expenses and increase earnings reported in the current year SOLUTION PROBLEM 2 REQUIREMENT 1 a Goodwill is not amortized Debit 4 500 b Amortization Expense Patent To record amortization 45 000 10 years Credit 4 500 c Amortization Expense 12 500 Franchise 12 500 To record amortization 175 000 7 years x 1 2 year REQUIREMENT 2 Lettuce Express Balance Sheet December 31 2010 Intangible Assets Section Intangible Assets Goodwill Patent 45 000 4 500 Franchise 175 000 12 500 Total Intangible Assets 150 000 40 500 162 500 353 000 5 ACCT 215 Autumn 2013 SOLUTION PROBLEM 3 a Straight line Annual depreciation expense 950 000 50 000 5 180 000 year Year 1 2