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Book Cover
Financial and Managerial Accounting: The Basis for Business Decisions, 12/e
Jan R. Williams, University of Tennessee
Susan F. Haka, Michigan State University
Mark S. Bettner, Bucknell University
Robert F. Meigs

Plant Assets and Depreciation

Chapter Summary

Chapter 9 - Summary

LO 1

Determine the cost of plant assets.

Plant assets are long-lived assets acquired for use in the business and not for resale to customers. The matching principle of accounting requires that we include in the plant and equipment accounts those costs that will provide services over a period of years. During these years, the use of the plant assets contributes to the earning of revenues. The cost of a plant asset includes all expenditures reasonable and necessary in acquiring the asset and placing it in a position and condition for use in the operations of the business.

LO 2

Distinguish between capital expenditures and revenue expenditures.

Capital expenditures include any material expenditure that will benefit several accounting periods. Therefore, these expenditures are charged to asset accounts (capitalized) and are recognized as expense in future periods.

Revenue expenditures are charged directly to expense accounts because either (1) there is no objective evidence of future benefits or (2) the amounts are immaterial.

LO 3

Compute depreciation by the straight-line and declining-balance methods.

Straight-line depreciation assigns an equal portion of an asset's cost to expense in each period of the asset's life. Declining-balance is an accelerated method. Each year, a fixed (and relatively high) depreciation rate is applied to the remaining book value of the asset. There are several variations of declining-balance depreciation, including MACRS.

LO 4

Account for disposals of plant assets.

When plant assets are disposed of, depreciation should be recorded to the date of disposal. The cost is then removed from the asset account and the total recorded depreciation is removed from the accumulated depreciation account. The sale of a plant asset at a price above or below book value results in a gain or loss to be reported in the income statement.

Because different depreciation methods are used for income tax purposes, the gain or loss reported in income tax returns may differ from that shown in the income statement. It is the gain or loss shown in the financial statement that is recorded in the company's general ledger accounts.

LO 5

Explain the nature of intangible assets, including goodwill.

Intangible assets are assets owned by the business that have no physical substance, are noncurrent, and are used in business operations. Examples include trademarks and patents.

Among the most interesting intangible assets is goodwill. Goodwill is the present value of future earnings in excess of a normal return on net identifiable assets. It stems from such factors as a good reputation, loyal customers, and superior management. Any business that earns significantly more than a normal rate of return actually has goodwill. But goodwill is recorded in the accounts only if it is purchased by acquiring another business at a price higher than the fair market value of its net identifiable assets.

All intangible assets, including goodwill, should be amortized to expense over their useful economic lives. This period may not exceed 40 years but usually is much shorter.

LO 6

Account for the depletion of natural resources.

Natural resources (or wasting assets) include mines, oil fields, and standing timber. Their cost is converted into inventory as the resource is mined, pumped, or cut. This allocation of the cost of a natural resource to inventories is called depletion. The depletion rate per unit extracted equals the cost of the resource (less residual value) divided by the estimated number of units it contains.

LO 7

Explain the cash effects of transactions involving plant assets.

Depreciation is a noncash expense; cash expenditures for the acquisition of plant assets are independent of the amount of depreciation for the period. Cash payments to acquire plant assets (and cash receipts from disposals) appear in the statement of cash flows, classified as investing activities.

Write-downs of plant assets also are noncash charges, which do not involve cash payments.

*LO 8

Account for depreciation using methods other than straight-line or declining-balance.

Most companies that prepare financial statements in conformity with generally accepted accounting principles use the straight-line method of depreciation. Other accepted methods include the units-of-output method, sum-of-the-years' digits, and in rare circumstances, decelerated depreciation methods.

This chapter completes our discussion of the valuation of the major types of business assets. To review, we have seen that cash is reported in the financial statements at face value, marketable securities at market value, accounts receivable at their net realizable value, inventories at the lower-of-cost-or-market, and plant assets at cost less accumulated depreciation. Two ideas that are consistently reflected in each of these valuation bases are the matching principle and the concept of conservatism. In the next chapter, we will turn our attention to the measurement of liabilities.