Chapter 18 Lecture Notes

This chapter discusses property plant and equipment; you will learn about acquisition and depreciation, disposal of assets, as well as how to deal with depletion, intangible assets, and impairment.

When property, plant and equipment are purchased it is important to determine which costs should be capitalized (recorded as part of the assets cost). The acquisition cost includes the gross purchase price less any discounts, transportation costs, installation costs, and costs of any adjustments or modifications necessary in preparing the asset for use. Remember that land is not depreciated, so if land and building are purchased for one price, that price must be allocated between the two. Land improvements, however, are depreciated – these include such things as installation of sidewalks or roads and are debited to an asset account called Land Improvements.

Recall that depreciation is the allocation of the cost of an asset over its useful life. Depreciation for each period is debited to a depreciation expense account and credited to the contra asset account accumulated depreciation which shows all the depreciation that has been taken during the assets life.

You were introduced previously to the straight line method of depreciation; in this chapter you will also learn the declining-balance method, the sum-of- the-years’-digits method, and the units of output method. These are all methods that businesses can use when preparing their financial statements. You will also be introduced to the rules for calculating depreciation for income tax purposes (MACRS). Check out the IRS website at http://www.irs.gov/publications/p946/index.html to learn more about MACRS and see the useful life that the IRS assigns to assets.

When an asset is disposed of its cost and accumulated depreciation must be removed from the firm’s accounting records. Businesses often incur gains or losses when disposing of an asset; this is determined by taking the proceeds and subtracting the book value (historical cost – accumulated depreciation) to find the gain or loss. Step by step examples for calculating and recording disposal of assets are found on pages 647-651. When dealing with natural resource such as oil, the company must allocate the cost of the natural resource as it is removed from its source. A debit is made to a depletion expense account and a credit to accumulated depletion.

Intangible assets, such as a brand name or copyright, are recognized on the balance sheet and expensed over the shorter of their legal or economic life. The process of periodically transferring the acquisition cost of intangible assets to an expense account is known as amortization.

When an asset is determined to have a value which is less than its book value it is said to be impaired. This is a complex topic and is only introduced here, but you should review the three steps used in determining whether or not an asset is impaired.