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© The McGraw-Hill Companies, Inc., 2013

Solutions Manual, Vol.1, Chapter 11 11–1

AACSB assurance of learning standards in accounting and business education requiredocumentation of outcomes assessment. Although schools, departments, and faculty may approachassessment and its documentation differently, one approach is to provide specific questions onexams that become the basis for assessment. To aid faculty in this endeavor, we have labeled eachquestion, exercise, and problem in Intermediate Accounting, 7e, with the following AACSB learningskills:

Questions AACSB Tags Exercises AACSB Tags11–1 Reflective thinking 11–1 Analytic11–2 Reflective thinking 11–2 Analytic11–3 Reflective thinking 11–3 Analytic11–4 Reflective thinking 11–4 Analytic

11–5 Reflective thinking 11–5 Analytic11–6 Reflective thinking 11–6 Analytic11–7 Reflective thinking 11–7 Analytic11–8 Reflective thinking 11–8 Analytic11–9 Reflective thinking 11–9 Analytic11–10 Reflective thinking 11–10 Analytic, Reflective thinking11–11 Reflective thinking 11–11 Analytic, Reflective thinking11–12 Reflective thinking 11–12 Analytic11–13 Reflective thinking 11–13 Analytic, Reflective thinking11–14 Reflective thinking 11–14 Analytic11–15 Reflective thinking 11–15 Analytic11–16 Reflective thinking 11–16 Analytic11–17 Reflective thinking 11–17 Analytic11–18 Reflective thinking 11–18 Analytic11–19 Reflective thinking 11–19 Analytic11–20 Reflective thinking 11–20 Analytic, Reflective thinking11–21 Reflective thinking 11–21 Analytic11–22 Reflective thinking 11–22 Analytic

Brief Exercises AACSB Tags 11–23 Analytic, Diversity

11–1 Reflective thinking 11–24 Analytic, Diversity11–2 Analytic 11–25 Analytic11–3 Analytic 11–26 Reflective thinking11–4 Analytic 11–27 Analytic11–5 Analytic 11–28 Analytic11–6 Analytic 11–29 Communications11–7 Analytic 11–30 Communications11–8 Reflective thinking, Analytic 11–31 Analytic

11–9 Reflective thinking, Analytic 11–32 Analytic11–10 Analytic 11–33 Reflective thinking11–11 Analytic 11–34 Analytic11–12 Analytic 11–35 Reflective thinking11–13 Analytic CPA/CMA AACSB Tags11–14 Analytic 1 Analytic11–15 Analytic 2 Analytic11–16 Reflective thinking 3 Analytic

Chapter 11 Property, Plant, and Equipment andIntangible Assets: Utilization and Impairment




11–2 Intermediate Accounting, 7/e

CPA/CMA cont AACSB Tags Problems AACSB Tags4 Analytic 11–1 Analytic5 Analytic 11–2 Analytic6 Analytic 11–3 Analytic7 Analytic 11–4 Analytic8 Analytic 11–5 Analytic

9 Analytic 11–6 Analytic10 Reflective thinking 11–7 Analytic, Reflective thinking11 Reflective thinking 11–8 Analytic12 Reflective thinking 11–9 Analytic13 Analytic 11–10 Analytic, Reflective thinking14 Analytic 11–11 Analytic1 Analytic 11–12 Analytic2 Analytic 11–13 Analytic3 Analytic





Question 11–1The terms depreciation, depletion, and amortization all refer to the process of allocating the

cost of property, plant, and equipment and finite-life intangible assets to periods of use. The onlydifference between the terms is that they refer to different types of these long-lived assets;depreciation for plant and equipment, depletion for natural resources, and amortization forintangibles.

Question 11–2The term depreciation often is confused with a decline in value or worth of an asset

Depreciation is not measured as decline in value from one period to the next. Instead, it involves thedistribution of the cost of an asset, less any anticipated residual value, over the asset's estimateduseful life in a systematic and rational manner that attempts to match revenues with the use of the

asset.

Question 11–3The process of cost allocation for plant and equipment and finite-life intangible assets requires

that three factors be established at the time the asset is put into use. These factors are:1. Service (useful) life—The estimated use that the company expects to receive from the asset.2. Allocation base—The value of the usefulness that is expected to be consumed.3. Allocation method—The pattern in which the usefulness is expected to be consumed.

Question 11–4

Physical life provides the upper bound for service life. Physical life will vary according to the purpose for which the asset is acquired and the environment in which it is operated. Service lifemay be less than physical life for several reasons. For example, the expected rate of technologicachanges may shorten service life. Management intent also may shorten the period of an asset’susefulness below its physical life. For instance, a company may have a policy of using its deliverytrucks for a three-year period before trading the trucks for new models.

Question 11–5The total amount of depreciation to be recorded during an asset’s service life is called its

depreciable base. This amount is the difference between the initial value of the asset at itsacquisition (its cost) and its residual value. Residual or salvage value is the amount the company

expects to receive for the asset at the end of its service life less any anticipated disposal costs.

QUESTIONS FOR REVIEW OF KEY TOPICS





Answers to Questions (continued)

Question 11–6Activity-based allocation methods estimate service life in terms of some measure of

productivity. Periodic depreciation or depletion is then determined based on the actual productivitygenerated by the asset during the period. Time-based allocation methods estimate service life inyears. Periodic depreciation or amortization is then determined based on the passage of time.

Question 11–7The straight-line depreciation method allocates an equal amount of depreciable base to each

year of an asset’s service life. Accelerated depreciation methods allocate higher portions ofdepreciable base to the early years of the asset’s life and lower amounts of depreciable base to lateryears. Total depreciation is the same by either approach.

Question 11–8Theoretically, the use of activity-based depreciation methods would provide a better matching

of revenues and expenses. Clearly, the productivity of a plant asset is more closely associated withthe benefits provided by that asset than the mere passage of time. However, activity-based methodsquite often are either infeasible or too costly to use. For example, buildings do not have anidentifiable measure of productivity. For assets such as machinery, there may be an identifiablemeasure of productivity, such as machine-hours or units produced, but it is more costly to determinethe amount each period than it is to simply measure the passage of time. For these reasons, mostcompanies use time-based depreciation methods.

Question 11–9Companies might use the straight-line method because they consider that the benefits derived

from the majority of plant assets are realized approximately evenly over these assets’ useful lives. Italso is the easiest method to understand and apply. The effect on net income also could explain whyso many companies prefer the straight-line method to the accelerated methods. Straight line produces a higher net income in the early years of an asset’s life. Net income can affect bonuses paid to management or debt agreements with lenders. Income taxes are not a factor in determiningthe depreciation method because a company is not required to use the same depreciation method for both financial reporting and income tax purposes.

Question 11–10The group approach to aggregation is applied to a collection of depreciable assets that share

similar service lives and other attributes. For example, group depreciation could be used for fleets of

vehicles or collections of machinery. The composite approach to aggregation is applied to dissimilaroperating assets, such as all of the depreciable assets in one manufacturing plant. Individual assetsin the composite may have diverse service lives. Both approaches are similar in that they involveapplying a single straight-line rate based on the average service lives of the assets in the group orcomposite.






Question 11–11The allocation of the cost of a natural resource to periods of use is called depletion. The

process otherwise is identical to depreciation. The activity-based units-of-production method is the predominant method used to calculate depletion, not the time-based straight-line method.

Question 11–12The amortization of finite-life intangible assets is based on the same concepts as depreciation

and depletion. The capitalized cost of an intangible asset that has a finite useful life must beallocated to the periods the company expects the asset to contribute to its revenue-generatingactivities. Intangibles, though, generally have no residual values, so the amortizable base is simplycost. Also, intangibles possess no physical life to provide an upper bound to service life. Howevermost intangibles have a legal or contractual life that limits useful life. Intangible assets that haveindefinite useful lives, including goodwill, are not amortized.

Question 11–13A company can calculate depreciation based on the actual number of days or months the asset

was used during the year. A common simplifying convention is to record one-half of a full year’sexpense in the years of acquisition and disposal. This is known as the half-year convention. Themodified half-year convention records a full year’s expense when the asset is acquired in the firsthalf of the year or sold in the second half. No expense is recorded when the asset is acquired in thesecond half of the year or sold in the first half.

Question 11–14A change in the service life of plant and equipment and finite-life intangible assets is

accounted for as a change in an estimate. The change is accounted for prospectively by simplydepreciating the remaining depreciable base of the asset (book value at date of change less estimatedresidual value) over the revised remaining service life.

Question 11–15A change in depreciation method is accounted for prospectively by simply depreciating the

remaining depreciable base of the asset (book value at date of change less estimated residual value)over the revised remaining service life using the new depreciation method, exactly as we would

account for a change in estimate. One difference is that most changes in estimate do not require acompany to justify the change. However, this change in estimate is a result of changing anaccounting principle and therefore requires a clear justification as to why the new method is preferable. A disclosure note reports the effect of the change on net income and earnings per sharealong with clear justification for changing depreciation methods.






Question 11–16If a material error is discovered in an accounting period subsequent to the period in which the

error is made, previous years’ financial statements that were incorrect as a result of the error areretrospectively restated to reflect the correction. Any account balances that are incorrect as a resultof the error are corrected by journal entry. If retained earnings is one of the incorrect accounts, thecorrection is reported as a prior period adjustment to the beginning balance in the statement ofshareholders’ equity. In addition, a disclosure note is needed to describe the nature of the error andthe impact of its correction on net income, income before extraordinary items, and earnings pershare.

Question 11–17Impairment of the value of property, plant, and equipment and intangible assets results when

there has been a significant decline in value below carrying value (book value). For property, plant,and equipment and intangible assets with finite useful lives, GAAP requires an entity to recognize animpairment loss only when the undiscounted sum of estimated future cash flows from an asset is lessthan the asset’s book value. The loss recognized is the amount by which the book value exceeds thefair value of the asset or group of assets when the fair value is readily determinable. If fair value isnot determinable, it must be estimated. One method of estimating fair value is to compute the present value of estimated future cash flows from the asset or group of assets.

For intangible assets with indefinite useful lives other than goodwill, if book value exceeds fairvalue, an impairment loss is recognized for the differences. For goodwill, an impairment loss isindicated if the fair value of the reporting unit is less than its book value. A goodwill impairmentloss is measured as the excess of book value of goodwill over its “implied” fair value.

For property, plant, and equipment and intangible assets held for sale, if book value exceeds

fair value, an impairment loss is recognized for the difference.

Question 11–18Repairs and maintenance are expenditures made to maintain a given level of benefits provided

by the asset and do not increase future benefits. Expenditures for these activities should beexpensed in the period incurred.

Additions involve adding a new major component to an existing asset. These expendituresusually are capitalized.

Improvements are expenditures for the replacement of a major component of plant andequipment. The costs of improvements usually are capitalized.

Rearrangements are expenditures to restructure plant and equipment without addition,replacement, or improvement. The objective is to create a new capability for the asset and notnecessarily to extend useful life. The costs of material rearrangements should be capitalized if theyclearly increase future benefits.





Answers to Questions (concluded)

Question 11–19

IFRS allows a company to value property, plant, and equipment (PP&E) and intangible assetssubsequent to initial valuation at (1) cost less accumulated depreciation/amortization or (2) fair value(revaluation). If a company chooses revaluation, all assets within a class of PP&E must be revaluedon a regular basis. U.S. GAAP prohibits revaluation.

Question 11–20Under U.S. GAAP, an impairment loss for property, plant, and equipment and finite-life

intangible assets is measured as the difference between book value and fair value. Under IFRS, animpairment loss is measured as the difference between book value and the recoverable amount. Therecoverable amount is the higher of the asset’s value in use (present value of estimated future cashflows) and fair value less costs to sell.

Question 11–21Under U.S. GAAP, the measurement of an impairment loss for goodwill is a two-step process.

In step one we compare the fair value of the reporting unit with its book value. A loss is indicated ifair value is less than book value. In step two, we measure the impairment loss as the excess of bookvalue over implied fair value.

Under IFRS, the measurement of an impairment loss for goodwill is a one-step process thatcompares the recoverable amount of the cash-generating unit to book value. If the recoverableamount is less, reduce goodwill first, then other assets. The recoverable amount is the higher of fairvalue less costs to sell and value-in-use (present value of estimated future cash flows).

Question 11–22Under IFRS, litigation costs to successfully defend an intangible right are expensed, except in

rare situations when the expenditure increases future benefits.





Brief Exercise 11–1

Depreciation is a process of cost allocation, not valuation. Koeplin should notrecord depreciation expense of $18,000 for year one of the machine’s life. Instead, itshould distribute the cost of the asset, less any anticipated residual value, over theestimated useful life in a systematic and rational manner that attempts to matchrevenues with the use of the asset, not the periodic decline in its value.

BRIEF EXERCISES






a. Straight-line:

$30,000 – 2,000= $7,000 per year

4 years

b. Sum-of-the-years’ digits:

Sum-of-the-digits is ([4 (4 + 1)] ÷ 2) = 10

2013 $28,000 x 4/10 = $11,200

2014 $28,000 x 3/10 = $ 8,400

c. Double-declining balance:

Straight-line rate is 25% (1 ÷ 4 years) x 2 = 50% DDB rate

2013 $30,000 x 50% = $15,000 2014 ($30,000 – 15,000) x 50% = $ 7,500

d. Units-of-production:

$30,000 – 2,000= $2.80 per unit depreciation rate

10,000 hours

2013 2,200 hours x $2.80 = $6,160 2014 3,000 hours x $2.80 = $8,400








Annual depreciation will equal the group rate multiplied by the depreciable baseof the group:

($425,000 – 40,000) x 18% = $69,300

Since depreciation records are not kept on an individual asset basis, dispositionsare recorded under the assumption that the book value of the disposed item exactlyequals any proceeds received and no gain or loss is recorded. Any actual gain or lossis implicitly included in the accumulated depreciation account.

Journal entry (not required):

Cash ................................................................................ 35,000Accumulated depreciation (difference) ............................ 7,000

Equipment (account balance) ......................................... 42,000


$8,250,000Depletion per ton = = $2.75 per foot

3,000,000 cubic feet

Year 1 depletion = $2.75 x 700,000 feet = $1,925,000Year 2 depletion = $2.75 x 800,000 feet = $2,200,000






Expenses for the year include:Amortization of the patent † = $400,000Amortization of the developed technology* = 300,000

Total $700,000

Goodwill is not amortized. In-process research and development is not amortized.

†Amortization of the patent:

($4,000,000 5) x 6/12 = $400,000

*Amortization of the developed technology:($3,000,000 5) x 6/12 = $300,000


Calculation of annual depreciation after the estimate change:

$9,000,000 Cost$320,000 Previous annual depreciation ($8 million ÷ 25 years)

x 2 years 640,000 Depreciation to date (2011–2012) 8,360,000 Undepreciated cost

500,000 Revised residual value7,860,000 Revised depreciable base

18 Estimated remaining life – 18 years (20 – 2)

$ 436,667 2013 depreciation






In general, we report voluntary changes in accounting principles retrospectivelyHowever, a change in depreciation method is considered a change in accountingestimate resulting from a change in accounting principle. In other words, a change inthe depreciation method reflects a change in the (a) estimated future benefits from theasset, (b) the pattern of receiving those benefits, or (c) the company’s knowledgeabout those benefits, and therefore the two events should be reported the same way.Accordingly, Robotics reports the change prospectively; previous financial statementsare not revised. Instead, the company simply employs the double-declining-balancemethod from now on. The undepreciated cost remaining at the time of the changewould be depreciated DDB over the remaining useful life. A disclosure note should

justify that the change is preferable and should describe the effect of the change on

any financial statement line items and per share amounts affected for all periodsreported.

Asset’s cost $9,000,000Accumulated depreciation to date* (640,000)Undepreciated cost, Jan. 1, 2013 $8,360,000

x 2/23 † Double-declining balance depreciation for 2013 $ 726,957

*$8,000,000 ÷ 25 = $320,000 x 2 years = $640,000

†Remaining life is 23 years. Twice the straight-line rate is 2/23.






If a material error is discovered in an accounting period subsequent to the periodin which the error is made, previous years’ financial statements that were incorrect asa result of the error are retrospectively restated to reflect the correction. Any account

balances that are incorrect as a result of the error are corrected by journal entry. Ifretained earnings is one of the incorrect accounts, the correction is reported as a prior

period adjustment to the beginning balance in the statement of shareholders’ equity.In addition, a disclosure note is needed to describe the nature of the error and theimpact of its correction on net income, income before extraordinary items, andearnings per share.

In this case, depreciation of $32,000 should have been $320,000 ($8,000,000

25 years). Therefore, 2011 income before tax is overstated by $288,000 ($320,000 –32,000) and accumulated depreciation is understated by the same amount. Thefollowing journal entry is needed in 2013 to record the error correction (ignoringincome tax):

Retained earnings ............................................................ 288,000Accumulated depreciation .......................................... 288,000

Depreciation for 2013 would be $320,000.


Because the undiscounted sum of future cash flows of $28 million exceeds bookvalue of $26.5 million, there is no impairment loss.


Because the undiscounted sum of future cash flows of $24 million is less than

book value of $26.5 million, there is an impairment loss. The impairment loss iscalculated as follows:

Book value $26.5 millionFair value 21.0 millionImpairment loss $ 5.5 million






Under IFRS, the impairment loss is the difference between book value and the

recoverable amount. The recoverable amount is $22 million, the higher of the value-in-use of $22 million (present value of estimated future cash flows) and the $21million fair value less costs to sell.

Book value $26.5 millionRecoverable amount 22.0 millionImpairment loss $ 4.5 million


Recoverability: Because the book value of SCC’s net assets of $42 millionexceeds the fair value of $40 million, an impairment loss is indicated.

Determination of implied value of goodwill:Fair value of SCC $40 millionLess: Fair value of SCC’s assets (excluding goodwill) 31 million

Implied goodwill $ 9 million

Measurement of impairment loss:Book value of goodwill $15 millionLess: Implied value of goodwill 9 million

Impairment loss $ 6 million


Recoverability: Because the book value of SCC’s net assets of $42 million is lessthan the fair value of $44 million, an impairment loss is not indicated.






Under IFRS, the impairment loss is the difference between book value and therecoverable amount of the cash-generating unit. The recoverable amount is $41million, the higher of the $41 million value-in-use (present value of estimated futurecash flows) and the $40 million fair value less costs to sell.

Book value $42 millionRecoverable amount 41 million



Annual maintenance on machinery, $5,400—This is an example of normalrepairs and maintenance. Future benefits are not increased; therefore, theexpenditure should be expensed in the period incurred.

Remodeling of offices, $22,000—This is an example of an improvement . Thecost of the remodeling should be capitalized and depreciated, either by (1)substitution, (2) direct capitalization of the cost, or (3) a reduction of accumulated

depreciation.

Rearrangement of the shipping and receiving area, $35,000—This is anexample of a rearrangement . Because the rearrangement increased productivity,the cost should be capitalized and depreciated.

Addition of a security system, $25,000—This is an example of an addition.The cost of the security system should be capitalized and depreciated.





Exercise 11–11. Straight-line:

$33,000 – 3,000= $6,000 per year

5 years

2. Sum-of-the-years’ digits:

Year

Depreciable

Base X

Depreciation

Rate per Year

= Depreciation2013 $30,000 515

$10,000

2014 30,000 415

8,000

2015 30,000 315

6,000

2016 30,000 215

4,000

2017 30,000 1

15

2,000

Total $30,000

EXERCISES





Exercise 11–1 (concluded)

3. Double-declining balance:

Straight-line rate of 20% (1 ÷ 5 years) x 2 = 40% DDB rate.

Year

Book ValueBeginningof Year X

DepreciationRate per

Year = DepreciationBook ValueEnd of Year

2013 $33,000 40% $ 13,200 $19,8002014 19,800 40% 7,920 11,8802015 11,880 40% 4,752 7,1282016 7,128 40% 2,851 4,2772017 4,277 * 1,277 * 3,000Total $30,000

* Amount necessary to reduce book value to residual value

4. Units-of-production:

$33,000 – 3,000= $.30 per mile depreciation rate

100,000 miles

Year

ActualMilesDriven X

DepreciationRate per

Mile = Depreciation

Book ValueEnd ofYear

2013 22,000 $.30 $6,600 $26,4002014 24,000 .30 7,200 19,2002015 15,000 .30 4,500 14,7002016 20,000 .30 6,000 8,7002017 21,000 * 5,700 * 3,000

Totals 102,000 $30,000

* Amount necessary to reduce book value to residual value






$115,000 – 5,000= $11,000 per year

10 years


Sum-of-the-digits is ([10 (10 + 1)] ÷ 2) = 55

2013 $110,000 x 10/55 = $20,000 2014 $110,000 x 9/55 = $18,000



2013 $115,000 x 20% = $23,000 2014 ($115,000 – 23,000) x 20% = $18,400

4. One hundred fifty percent declining balance:

Straight-line rate is 10% (1 ÷ 10 years) x 1.5 = 15% rate

2013 $115,000 x 15% = $17,250 2014 ($115,000 – 17,250) x 15% = $14,663


$115,000 – 5,000= $.50 per unit depreciation rate

220,000 units

2013 30,000 units x $.50 = $15,000 2014 25,000 units x $.50 = $12,500






$115,000 – 5,000

= $11,000 per year10 years

2013 $11,000 x 3/12 = $ 2,750 2014 $11,000 x 12/12 = $11,000


Sum-of-the-digits is {[10 (10 + 1)]/2} = 55

2013 $110,000 x 10/55 x 3/12 = $ 5,000

2014 $110,000 x 10/55 x 9/12 = $15,000+ $110,000 x 9/55 x 3/12 = 4,500

$19,500



2013 $115,000 x 20% x 3/12 = $5,750

2014 $115,000 x 20% x 9/12 = $17,250+ ($115,000 – 23,000) x 20% x 3/12 = 4,600

$21,850or,2014 ($115,000 – 5,750) x 20% = $21,850

4. One hundred fifty percent declining balance:

Straight-line rate is 10% (1 ÷ 10 years) x 1.5 = 15% rate

2013 $115,000 x 15% x 3/12 = $ 4,313

2014 $115,000 x 15% x 9/12 = $12,937+ ($115,000 – 17,250) x 15% x 3/12 = 3,666

$16,603Or,2014 ($115,000 – 4,313) x 15% = $16,603







$115,000 – 5,000= $.50 per unit depreciation rate

220,000 units

2013 10,000 units x $.50 = $ 5,000 2014 25,000 units x $.50 = $12,500

Exercise 11–4Building depreciation:

$5,000,000 – 200,000= $160,000 per year

30 years

Building addition depreciation:

Remaining useful life from June 30, 2013, is 27.5 years.

$1,650,000 = $60,000 per year27.5 years

2013 $60,000 x 6/12 = $30,000

2014 $60,000 x 12/12 = $60,000





Exercise 11–5Asset A: Straight-line rate is 20% (1 ÷ 5 years) x 2 = 40% DDB rate

$24,000= $60,000 = Book value at the beginning of year 2

.40

Cost – (Cost x 40%) = $60,000.60Cost = $60,000Cost = $100,000

Asset B: Sum-of-the-years’ digits is 36 {[8 (8 + 1)]÷2}

($40,000 – residual) x 7/36 = $7,000$280,000 – 7residual-------------------------- = $7,000

36

$280,000 – 7residual = $252,000

7residual = $28,000

Residual = $4,000

Asset C: $65,000 – 5,000= $6,000

Life

Life = 10 years

Asset D:$230,000 – 10,000 = $220,000 depreciable base$220,000 ÷ 10 years = $22,000 per year

Method used is straight line.Asset E: Straight-line rate is 12.5% (1 ÷ 8 years) x 1.5 = 18.75% rate

Year 1 $200,000 x 18.75% = $37,500Year 2 ($200,000 – 37,500) x 18.75% = $30,469





Exercise 11–6

Requirement 1

1. Straight-line:

$260,000 – 20,000= $40,000 per year

6 years

2013 $40,000 x 8/12 = $26,667 2014 $40,000 x 12/12 = $40,000


Sum-of-the-years’ digits is ([6 (6 + 1)] ÷ 2) = 21

2013 $240,000 x 6/21 x 8/12 = $45,714

2014 $240,000 x 6/21 x 4/12 = $22,857+ $240,000 x 5/21 x 8/12 = 38,095

$60,952


1/6 (the straight-line rate) x 2 = 1/3 DDB rate

2013 $260,000 x 1/3 x 8/12 = $57,778

2014 $260,000 x 1/3 x 4/12 = $28,889+ ($260,000 – 86,667) x 1/3 x 8/12 = 38,518

$67,407

or,2014 ($260,000 – 57,778) x 1/3 = $67,407





Exercise 11–7

Requirement 1

U.S. GAAP:

2013: $120,000 8 = $15,000 x 6/12 = $7,500

2014: $120,000 8 = $15,000

Requirement 2

IFRS:

2013: Machine:

$100,000 8 = $12,500 x 6/12 = $6,250

Drill:

$ 20,000 4 = $5,000 x 6/12 = 2,500Total $8,750

2014: Machine:

$100,000 8 = $12,500

Drill:

$ 20,000 4 = 5,000Total $17,500





Exercise 11–8

Requirement 1

Depreciation for 2013: $240,000 6 = $40,000 x 9/12 = $30,000

Requirement 2

($ in thousands) Before AfterRevaluation Revaluation

Equipment $240 x 220/210 = $251Accumulated depreciation 30 x 220/210 = 31

Book value $ 210 x 220/210 = $ 220

Equipment ($251,000 – 240,000) 11,000Accumulated depreciation ($31,000 – 30,000) 1,000Revaluation surplus–OCI ($220,000 – 210,000) 10,000

Requirement 3

Depreciation for 2014: $220,000 5.25 years = $41,905

Requirement 4

($ in thousands) Before AfterRevaluation Revaluation

Equipment $240 x 195/210 = $223Accumulated depreciation 30 x 195/210 = 28

Book value $ 210 x 195/210 = $195

Revaluation expense* ($195,000 – 210,000) 15,000Accumulated depreciation ($28,000 – 30,000) 2,000

Equipment ($223,000 – 240,000) 17,000

*If a revaluation surplus account relating to the same asset had existed, that accountwould have been debited up to the amount of its balance before debiting revaluationexpense.





Exercise 11–9

Requirement 1

Asset CostResidual

ValueDepreciable

BaseEstimatedLife(yrs.)

Depreciationper Year

(straight line)Stoves $15,000 $3,000 $12,000 6 $2,000Refrigerators 10,000 1,000 9,000 5 1,800Dishwashers 8,000 500 7,500 4 1,875

Totals $33,000 $4,500 $28,500 $5,675

$5,675Group depreciation rate = = 17.2% (rounded)$33,000

Group life = $28,500= 5.02 years (rounded)

$5,675Requirement 2

To record the purchase of new refrigerators.

Refrigerators .................................................................... 2,700Cash ............................................................................. 2,700

To record the sale of old refrigerators.

Cash ................................................................................. 200Accumulated depreciation (difference) ............................. 1,300

Refrigerators ................................................................ 1,500





Exercise 11–10

Requirement 1Cost of the equipment:

Purchase price $154,000Freight charges 2,000Installation charges 4,000

$160,000

Straight-line rate of 12.5% (1 ÷ 8 years) x 2 = 25% DDB rate.

Year

Book ValueBeginning

of Year X

Depreciation

Rate per Year

=

DepreciationBook ValueEnd of Year

2013 $160,000 25% $ 40,000 $120,0002014 120,000 25% 30,000 90,0002015 90,000 25% 22,500 67,5002016 67,500 25% 16,875 50,6252017 50,625 * 5,000 45,6252018 45,625 * 5,000 40,6252019 40,625 * 5,000 35,6252020 35,625 * 5,000 30,625

Total $129,375

* Switch to straight-line in 2017:

Straight-line depreciation:

$50,625 – 30,625= $5,000 per year

4 years

Requirement 2For plant and equipment used in the manufacture of a product, depreciation is a

product cost and is included in the cost of inventory. Eventually, when the product issold, depreciation will be included in cost of goods sold.





Exercise 11–11

Requirement 1$4,500,000

Depletion per ton = = $5.00 per ton900,000 tons

2013 depletion = $5.00 x 240,000 tons = $1,200,000

Requirement 2Depletion is part of product cost and is included in the cost of the inventory of

coal, just as the depreciation on manufacturing equipment is included in inventorycost. The depletion is then included in cost of goods sold in the income statementwhen the coal is sold.

Exercise 11–12

Timber tract:

$3,200,000 – 600,000 = $.52 per board foot5,000,000 board feet

500,000 x $.52 = $260,000 depletion

Logging roads:

$240,000 5,000,000 board feet = $.048 per board foot

500,000 x $.048 = $24,000 depreciation





Exercise 11–13

Requirement 1Cost of copper mine:

Mining site $1,000,000Development costs 600,000Restoration costs 303,939 †

$1,903,939

† $300,000 x 25% = $ 75,000400,000 x 40% = 160,000600,000 x 35% = 210,000

$445,000 x .68301* = $303,939

*Present value of $1, n = 4, i = 10% (Table 2)

Depletion: $1,903,939

Depletion per pound = = $.1904 per pound10,000,000 pounds

2013 depletion = $.1904 x 1,600,000 pounds = $304,6402014 depletion = $.1904 x 3,000,000 pounds = $571,200

Depreciation:

$120,000 – 20,000Depreciation per pound = = $.01 per pound

10,000,000 pounds

2013 depreciation = $.01 x 1,600,000 pounds = $16,0002014 depreciation = $.01 x 3,000,000 pounds = $30,000

Requirement 2

Depletion of natural resources and depreciation of assets used in the extraction ofnatural resources are part of product cost and are included in the cost of the inventoryof copper, just as the depreciation on manufacturing equipment is included ininventory cost. The depletion and depreciation are then included in cost of goods soldin the income statement when the copper is sold.





Exercise 11–14

Requirement 1a. To record the purchase of a patent.

January 1, 2011 Patent ............................................................................... 700,000

Cash ............................................................................. 700,000

To record amortization on the patent.

December 31, 2011 and 2012 Amortization expense ($700,000 ÷ 10 years) ...................... 70,000

Patent ........................................................................... 70,000

b. To record the purchase of a franchise.

2013 Franchise ......................................................................... 500,000

Cash ............................................................................. 500,000

c. To record research and development expenses.

2013 Research and development expense ................................ 380,000

Cash ............................................................................. 380,000







Exercise 11–15To record the purchase of a patent.

January 2, 2013 Patent ............................................................................... 500,000

Cash ............................................................................. 500,000

To record amortization of a patent for the year 2013.

Amortization expense ($500,000 ÷ 8 years) ........................ 62,500Patent ........................................................................... 62,500

To record amortization of the patent for the year 2014.

Amortization expense ($500,000 ÷ 8 years) ........................ 62,500Patent ........................................................................... 62,500

To record costs of successfully defending a patent infringement suit.

January, 2015 Patent ............................................................................... 45,000

Cash ............................................................................. 45,000






To record amortization of patent for the year 2015.

Amortization expense (determined below) ......................... 70,000Patent .......................................................................... 70,000

Calculation of revised annual amortization:($ in thousands)

$500 Cost$62.5 Previous annual amortization ($500 ÷ 8 years)

x 2 years 125 Amortization to date (2013–2014)

375 Unamortized cost (balance in the patent account)

45 Add420 New unamortized cost

÷ 6 Estimated remaining life (8 years – 2 years) $ 70 New annual amortization

Exercise 11–16

($ in millions) Amortization expense (determined below) ......................... 2.5

Patent .......................................................................... 2.5

Calculation of annual amortization after the estimate change:$ in millions)

$9 Cost$1 Previous annual amortization ($9 ÷ 9 years)

x 4 years 4 Amortization to date (2009–2012) 5 Unamortized cost (balance in the patent account)

÷ 2 Estimated remaining life (6 years – 4 years)

$2.5 New annual amortization





Exercise 11–17

Requirement 1

2013 amortization: $1,200,000 ÷ 10 = $120,000 x 6/12 = $60,000

Requirement 2

Franchise ($1,180,000 – [$1,200,000 – 60,000]) 40,000Revaluation surplus – OCI 40,000

Requirement 3

2014 amortization: $1,180,000 ÷ 9.5 = $124,211





Exercise 11–18

Requirement 1

Depreciation expense (determined below) .......................... 3,088Accumulated depreciation—computer ....................... 3,088


$40,000 Cost$7,200 Previous annual depreciation ($36,000 ÷ 5 years)

x 2 years 14,400 Depreciation to date (2011–2012)

25,600 Undepreciated cost900 Revised residual value

24,700 Revised depreciable base÷ 8 Estimated remaining life (10 years – 2 years)

$ 3,088 New annual depreciation

Requirement 2

Depreciation expense (determined below) .......................... 3,889

Accumulated depreciation—computer ....................... 3,889


$40,000 CostPrevious depreciation:

$12,000 2011 – ($36,000 x 5/15) 9,600 2012 – ($36,000 x 4/15)

21,600 Depreciation to date (2011–2012)

18,400 Undepreciated cost900 Revised residual value

17,500 Revised depreciable basex 8/36 Estimated remaining life – 8 years

$ 3,889 2013 depreciation





Exercise 11–19SYD depreciation

[10 + 9 + 8 x ($1.5 – .3) million] = $589,09155

$1,500,000 Cost589,091 Depreciation to date, SYD (2010–2012)910,909 Undepreciated cost as of 1/1/13300,000 Less residual value610,909 Depreciable base÷ 7 yrs. Remaining life (10 years – 3 years)


Adjusting entry (2013 depreciation):

Depreciation expense (calculated above) ............................ 87,273Accumulated depreciation ........................................... 87,273







Exercise 11–21

Requirement 1Analysis:

Correct Incorrect(Should Have Been Recorded) (As Recorded)

2010 Machine 350,000 Expense 350,000Cash 350,000 Cash 350,000

2010 Expense 70,000 Depreciation entry omittedAccum. deprec. 70,000



During the three-year period, depreciation expense was understated by$210,000, but other expenses were overstated by $350,000, so net incomeduring the period was understated by $140,000, which means retainedearnings is currently understated by that amount.

During the three-year period, accumulated depreciation was understated, andcontinues to be understated by $210,000.

To correct incorrect accounts Machine .............................................................. 350,000

Accumulated depreciation ($70,000 x 3 years) ... 210,000Retained earnings ($350,000 – 210,000) ............. 140,000

Requirement 2Correcting entry:

Assuming that the machine had been disposed of, no correcting entry would berequired because, after five years, the accounts would show appropriate

balances.





Exercise 11–22

Requirement 1Book value $6.5 million

Fair value 3.5 millionImpairment loss $3.0 million

Requirement 2Because the undiscounted sum of future cash flows of $6.8 million exceeds book

value of $6.5 million, there is no impairment loss.





Exercise 11–23

Requirement 1IFRS requires an impairment loss to be recognized when an asset’s book value

exceeds the higher of the asset’s value-in-use (present value of estimated future cashflows) and fair value less costs to sell. In this case, value-in-use and fair value lesscosts to sell are the same, $3.5 million. Because book value ($6.5 million) exceedsthis amount, a loss is indicated. The loss is the difference between book value and therecoverable amount, which also is the higher of the asset’s value-in-use (present valueof estimated future cash flows) and fair value less costs to sell. Therefore, the amountof impairment loss is the same as under U.S. GAAP, $3 million.

Book value $6.5 millionRecoverable amount 3.5 millionImpairment loss $3.0 million

Requirement 2An impairment loss also is indicated because book value ($6.5 million) exceeds

fair value less costs to sell/value-in-use ($5 million). The amount of impairment lossis $1.5 million.

Book value $6.5 millionRecoverable amount 5.0 millionImpairment loss $1.5 million

Under U.S. GAAP, because the undiscounted sum of future cash flows of $6.8million exceeds book value of $6.5 million, there is no impairment loss.





Exercise 11–24

Requirement 1IFRS requires an impairment loss to be recognized when an asset’s book value

exceeds the higher of the asset’s value-in-use (present value of estimated future cashflows) and fair value less costs to sell. In this case, value-in-use of £150 million ishigher. Because book value (£220 million) exceeds this amount, a loss is indicated.The loss is the difference between book value and the recoverable amount, which alsois the higher of the asset’s value-in-use (present value of estimated future cash flows)and fair value less costs to sell. The amount of impairment loss is £70 million.

Book value £220 millionRecoverable amount 150 millionImpairment loss £ 70 million

Requirement 2U.S. GAAP requires an impairment loss to be recognized when an asset’s book

value exceeds the undiscounted sum of estimated future cash flows. In this case, aloss is indicated because the book value of £220 million exceeds the undiscountedsum of estimated future cash flows of £210 million. The loss is the difference between

book value and fair value, or $75 million in this case.

Book value £220 millionFair value 145 millionImpairment loss £ 75 million





Exercise 11–25

Requirement 1An impairment loss is indicated because the estimated undiscounted sum of

future cash flows of $15 million is less than the book value of $18.3 million.

The amount of the loss to be reported is calculated using the estimated fair valuerather than the undiscounted future cash flows:

Book value $18,300,000Estimated fair value 11,000,000Impairment loss $ 7,300,000

Requirement 2

The loss would appear in the income statement along with other operatingexpenses.

Requirement 3

Loss on impairment ............................................ 7,300,000Accumulated depreciation .................................. 14,200,000

Plant assets ...................................................... 21,500,000

Requirement 4An impairment loss is indicated because the estimated undiscounted sum of

future cash flows of $12 million is less than the book value of $18.3 million.

The amount of the loss to be reported is calculated using the estimated fair valuerather than the undiscounted future cash flows:

Book value $18,300,000Estimated fair value 11,000,000Impairment loss $ 7,300,000

Requirement 5Because the estimated undiscounted sum of future cash flows of $19 million

exceeds the book value of $18.3 million, no impairment loss is indicated.





Exercise 11–26

Requirement 1

Determination of implied goodwill:Fair value of Centerpoint, Inc. $220 millionFair value of Centerpoint’s net assets (excluding goodwill) 200 millionImplied value of goodwill $ 20 million

Measurement of impairment loss:Book value of goodwill $50 millionImplied value of goodwill 20 millionImpairment loss $30 million

Requirement 2Because the fair value of the reporting unit, $270 million, exceeds book value

$250 million, there is no impairment loss.

Exercise 11–27

Under IFRS, the impairment loss is the difference between book value and the

recoverable amount of the cash-generating unit. The recoverable amount is $225million, the higher of the $225 million value-in-use (present value of estimated futurecash flows) and the $220 million fair value less costs to sell.

Book value $250 millionRecoverable amount 225 millionImpairment loss $ 25 million





Exercise 11–28

Requirement 1

Calculation of goodwill:

Consideration exchanged $420 millionLess fair value of net assets:

Assets $512 millionLess: Liabilities assumed (150) million (362) million

Goodwill $ 58 million

Requirement 2

Because the book value of the net assets ($410 million) exceeds fair value ($400million), an impairment loss is indicated.

Determination of implied goodwill:Fair value of Harman, Inc. $400 millionFair value of Harman’s net assets (excluding goodwill) 370 million

Implied value of goodwill $ 30 million

Measurement of impairment loss:Book value of goodwill (determined in requirement 1) $ 58 millionImplied value of goodwill 30 million


Requirement 3

Entry to record the impairment loss:($ in millions)

Loss on impairment of goodwill ........................ 28Goodwill ......................................................... 28





Exercise 11–29

Requirement 1

The Codification topic number that provides guidance on accounting for theimpairment of long-lived assets is FASB ASC 360: “Property, Plant, and Equipment.”

Requirement 2

The specific citation that discusses the disclosures required in the notes to thefinancial statements for the impairment of long-lived assets classified as held and usedis FASB ASC 360–10–50–2: “Property, Plant, and Equipment–Overall–Disclosure–Impairment or Disposal of Long-Lived Assets.”

Requirement 3

All of the following information shall be disclosed in the notes to financialstatements that include the period in which an impairment loss is recognized:

a. A description of the impaired long-lived asset (asset group) and the facts andcircumstances leading to the impairment

b. If not separately presented on the face of the statement, the amount of the

impairment loss and the caption in the income statement or the statement ofactivities that includes that loss

c. The method or methods for determining fair value (whether based on aquoted market price, prices for similar assets, or another valuation technique)

d. If applicable, the segment in which the impaired long-lived asset (assetgroup) is reported under Topic 280.





Exercise 11–30

The FASB Accounting Standards Codification represents the single source of

authoritative U.S. generally accepted accounting principles. The specificcitation for each of the following items is:

1. Depreciation involves a systematic and rational allocation of costrather than a process of valuation:

FASB ASC 360–10–35–4: “Property, Plant, and Equipment–Overall–Subsequent Measurement–Depreciation.”The cost of a productive facility is one of the costs of the services itrenders during its useful economic life. Generally accepted accounting

principles (GAAP) require that this cost be spread over the expecteduseful life of the facility in such a way as to allocate it as equitably as possible to the periods during which services are obtained from the use ofthe facility. This procedure is known as depreciation accounting, asystem of accounting that aims to distribute the cost or other basic valueof tangible capital assets, less salvage (if any), over the estimated usefullife of the unit (which may be a group of assets) in a systematic andrational manner. It is a process of allocation, not of valuation.

2. The calculation of an impairment loss for property, plant, and

equipment:FASB ASC 360–10–35–17: “Property, Plant, and Equipment–Overall–Subsequent Measurement.”An impairment loss shall be recognized only if the carrying amount of along-lived asset (asset group) is not recoverable and exceeds its fairvalue. The carrying amount of a long-lived asset (asset group) is notrecoverable if it exceeds the sum of the undiscounted cash flows expectedto result from the use and eventual disposition of the asset (asset group).That assessment shall be based on the carrying amount of the asset (asset

group) at the date it is tested for recoverability, whether in use or underdevelopment. An impairment loss shall be measured as the amount bywhich the carrying amount of a long-lived asset (asset group) exceeds itsfair value.






3. Accounting for a change in depreciation method:

FASB ASC 250–10–45–18: “Accounting Changes and ErrorCorrection–Overall–Other Presentation Matters.”Distinguishing between a change in an accounting principle and a changein an accounting estimate is sometimes difficult. In some cases, a changein accounting estimate is effected by a change in accounting principle.One example of this type of change is a change in method ofdepreciation, amortization, or depletion for long-lived, nonfinancialassets (hereinafter referred to as depreciation method). The newdepreciation method is adopted in partial or complete recognition of a

change in the estimated future benefits inherent in the asset, the pattern ofconsumption of those benefits, or the information available to the entityabout those benefits. The effect of the change in accounting principle, orthe method of applying it, may be inseparable from the effect of thechange in accounting estimate. Changes of that type often are related tothe continuing process of obtaining additional information and revisingestimates and, therefore, shall be considered changes in estimates for

purposes of applying this subtopic.

4. Goodwill should not be amortized:

FASB ASC 350–20–35–1: “Intangibles-Goodwill and Other–Goodwill–Subsequent Measurement.”Goodwill shall not be amortized. Instead, goodwill shall be tested forimpairment at a level of reporting referred to as a reporting unit.





Exercise 11–311. To record the replacement of the heating system.

Accumulated depreciation—building ............................. 250,000Cash ............................................................................. 250,000

2. To record the addition to the building.

Building ........................................................................... 750,000Cash ............................................................................. 750,000

3. To expense annual maintenance costs.

Maintenance expense ...................................................... 14,000Cash ............................................................................. 14,000

4. To capitalize rearrangement costs.

Machinery ....................................................................... 50,000Cash ............................................................................. 50,000





Exercise 11–32

Requirement 1

2011 amortization: $6,000,000 10 = $600,000 x 3/12 = $150,000 2012 amortization: $6,000,000 10 = $600,000

Requirement 2

Patent 500,000Cash 500,000

Requirement 3

Calculation of revised annual amortization:

$6,000,000 Cost750,000 Amortization to date (above)

5,250,000 Unamortized cost (balance in the patent account)

500,000 Add5,750,000 New unamortized cost

÷ 8 3/4 Estimated remaining life (10 years – 1 1/4 years) $ 657,143 New annual amortization

Requirement 4

Requirement 2:

Litigation expense 500,000Cash 500,000

Requirement 3:

2013 amortization: $6,000,000 10 = $600,000





Exercise 11–33

Requirement 1

Cash ................................................................................. 17,000Accumulated depreciation—lathe (determined below) ....... 56,250Loss on sale (difference) .................................................... 6,750

Lathe (balance) .............................................................. 80,000

Accumulated depreciation:

$80,000 – 5,000

Annual depreciation = = $15,0005 years

2009 $15,000 x 1/2 = $ 7,5002010 15,0002011 15,0002012 15,0002013 $15,000 x 1/4 = 3,750Total $56,250







Exercise 11–34

List A List B

g 1. Depreciation a. Cost allocation for natural resource.d 2. Service life b. Accounted for prospectively.f 3. Depreciable base c. When there has been a significant

decline in value.e 4. Activity-based method d. The amount of use expected from

plant and equipment and finite-lifeintangible assets.

m 5. Time-based method e. Estimates service life in units of output.h 6. Double-declining balance f. Cost less residual value.

j 7. Group method g. Cost allocation for plant and equipment.

k 8. Composite method h. Does not subtract residual value from cost.a 9. Depletion i. Accounted for the same way as a change in

estimate.l 10. Amortization j. Aggregates assets that are similar.

b 11. Change in useful life k. Aggregates assets that are physicallyunified.

i 12. Change in depreciation l. Cost allocation for an intangible asset.method

c 13. Write-down of asset m. Estimates service life in years.





Exercise 11–35

Requirement 1

To record the acquisition of small tools.

2011 Small tools ..................................................................... 8,000

Cash ............................................................................ 8,000

To record additional small tool acquisitions.

2013 Small tools ...................................................................... 2,500

Cash ............................................................................ 2,500

To record the sale/depreciation of small tools.

2013

Cash ............................................................................... 250Depreciation expense (difference) .................................... 1,750

Small tools .................................................................. 2,000






Requirement 2To record the acquisition of small tools.

2011 Small tools ...................................................................... 8,000

Cash ............................................................................. 8,000

To record the replacement/depreciation of small tools.

2013 Depreciation expense ..................................................... 2,500

Cash ............................................................................. 2,500

To record the sale of small tools.

2013 Cash ................................................................................ 250

Depreciation expense .................................................. 250





CPA / CMA REVIEW QUESTIONS

CPA Exam Questions

1. a. Double-declining-balance depreciation rate = 2 x 1/8 = ¼ or 25%

First year depreciation will be $7,500 x 0.25 = $1,875

Second year depreciation will be ($7,500 – 1,875) x 0.25 = $1,406

2. b. The depreciation method used must be straight line because year 1depreciation is $7,400 (($40,000 – 3,000) / 5 = $7,400). Year 2 depreciationwould also be $7,400.

3. b. $20,000/5,000,000 gallons = $0.004/gallon

($0.004/gallon) x (250,000 gallons) = $1,000

4. d. Goodwill is an indefinite life intangible asset and is therefore not amortized.

5. c. $50,000 10 years = $5,000 per year in amortization. $50,000 – 5,000 =$45,000. The 3% franchise fee is a period expense and is not capitalized.

6. c. First two years = ($60,000 – 0) 10 = $6,000 per year

Year 2013 = [$60,000 – (2 x $6,000) – 3,000] 3 = $15,000

7. d. The book value of the stamping machine is its cost less accumulateddepreciation. Depreciation taken through 2013 was [($22,000,000 –4,000,000) / 12] x 7 = $10,500,000 so book value is ($22,000,000 –10,500,000) = $11,500,000. Because the $11,500,000 book value is morethan expected future cash flows of [(5 x $1,500,000) + 1,000,000] =$8,500,000, the stamping machine is impaired.

8. d. $147,000. All of the expenditures are capitalized.





CPA Exam Questions (concluded)

9. c. $12,000.

$80,000 10 years = $ 8,000

20,000 5 years = 4,000

Total depreciation = $12,000

10. a. When as asset is revalued, the entire class of property, plant, and equipmentto which the asset belongs must be revalued.

11. b. A decrease in income. If book value is higher than fair value, the differenceis reported as an expense in the income statement.

12. b. An active market must exist for an intangible asset to be revalued.

13. c. $70 million. Book value of $400 million – 330 million recoverable amount(higher of fair value less costs to sell and present value of future cash flows).

14. d. $45 million. Book value of $500 million – 455 million recoverable amount(higher of fair value less costs to sell and present value of future cash flows).





CMA Exam Questions

1. d. Because 50% of the original estimate of quality ore was recovered duringthe years 2004 through 2011, recorded depletion of $250,000 [50% x($600,000 – 100,000 salvage value)]. In 2012, the earlier depletion of$250,000 is deducted from the $600,000 cost along with the $100,000salvage value. The remaining depletable cost of $250,000 will be allocatedover the 250,000 tons believed to remain in the mine. The $1 per tondepletion is then multiplied times the tons mined each year.

2. a. Given that the company paid $6,000,000 for net assets acquired with a fairvalue of $5,496,000, goodwill was $504,000. According to GAAP, acquiredgoodwill is not amortized but is qualitatively assessed and/or tested annuallyfor impairment.

3. a. The cost should be amortized over the remaining legal life or useful life,whichever is shorter. In addition to the initial costs of obtaining a patent,legal fees incurred in the successful defense of a patent should be capitalizedas part of the cost, whether it was internally developed or purchased from aninventor. The legal fees capitalized then should be amortized over theremaining useful life of the patent.







Problem 11–2

Requirement 1CORD COMPANY

Analysis of Changes in Plant AssetsFor the Year Ending December 31, 2013

Balance Balance12/31/12 Increase Decrease 12/31/13

Land $ 175,000 $ 312,500 [1] $ -- $ 487,500Land improvements -- 192,000 -- 192,000Buildings 1,500,000 937,500 [1] -- 2,437,500Machinery and equipment 1,125,000 385,000 [2] 17,000 1,493,000Automobiles and trucks 172,000 12,500 24,000 160,500Leasehold improvements 216,000 -- -- 216,000

$3,188,000 $1,839,500 $41,000 $4,986,500

Explanations of Amounts:

[1] Plant facility acquired from King 1/6/13—allocation to Land and Building:Fair value—25,000 shares of Cord commonstock at $50 per share fair value $1,250,000

Allocation in proportion to appraised values at date of exchange:% of

Amount Total Land $187,500 25Building 562,500 75

$750,000 100

Land $1,250,000 x 25% = $ 312,500Building $1,250,000 x 75% = 937,500

$1,250,000

[2] Machinery and equipment purchased 7/1/13:Invoice cost $325,000Delivery cost 10,000Installation cost 50,000

Total acquisition cost $385,000





Problem 11–2 (continued)

Requirement 2CORD COMPANY

Depreciation and Amortization Expense

For the Year Ended December 31, 2013Land Improvements:

Cost $192,000Straight-line rate (1 ÷ 12 years) x 8 1/3%Annual depreciation 16,000Depreciation on land improvements for 2013:(3/25 to 12/31/13) x 3/4 $ 12,000

Buildings: Book value, 1/1/13 ($1,500,000 – 328,900) $1,171,100

Building acquired 1/6/13 937,500Total amount subject to depreciation 2,108,600150% declining balance rate:

(1 ÷ 25 years = 4% x 1.5) x 6% $ 126,516

Machinery and equipment: Balance, 1/1/13 $1,125,000Straight-line rate (1 ÷ 10 years) x 10% 112,500

Purchased on 7/1/13 385,000Depreciation for one-half year x 5% 19,250

Depreciation on machinery and equipment for 2013 $ 131,750

Automobiles and trucks: Book value, 1/1/13 ($172,000 – 100,325) $71,675

Deduct 1/1/13 book value of truck soldon 9/30 ($9,100 + 2,650) (11,750)

Amount subject to depreciation 59,925150% declining balance rate:(1 ÷ 5 years = 20% x 1.5) x 30% 17,978

Automobile purchased 8/30/13 12,500

Depreciation for 2013 (30% x 4/12) x 10% 1,250Truck sold on 9/30/13 – depreciation (given) 2,650

Depreciation on automobiles and trucks $ 21,878





Problem 11–2 (concluded)

Leasehold improvements: Book value, 1/1/13 ($216,000 – 108,000) $108,000Amortization period (1/1/13 to 12/31/17) ÷ 5 yearsAmortization of leasehold improvements for 2013 $ 21,600

Total depreciation and amortization expense for 2013 $313,744

Problem 11–3

PELL CORPORATIONDepreciation Expense

For the Year Ended December 31, 2013

Land improvements: Cost $ 180,000Straight-line rate (1 ÷ 15 years) x 6 2/3% $ 12,000

Building: Book value 12/31/12 ($1,500,000 – 350,000) $1,150,000150% declining balance rate:

(1 ÷ 20 years = 5% x 1.5) x 7.5% $ 86,250

Machinery and Equipment: Balance, 12/31/12 $1,158,000Deduct machine sold (58,000) $1,100,000Straight-line rate (1 ÷ 10 years) x 10% 110,000

Purchased 1/2/13 287,000Depreciation x 10% 28,700

Machine sold 3/31/13 58,000Depreciation for three months x 2.5% 1,450

Total depreciation on machinery and equipment $140,150

Automobiles: Book value on 12/31/12 ($150,000 – 112,000) $38,000150% declining balance rate:

(1 ÷ 3 years = 33.333% x 1.5) x 50% $ 19,000Total depreciation expense for 2013 $257,400





Problem 11–41. Depreciation for 2011 and 2012.

December 31, 2011 Depreciation expense ($48,000 ÷ 8 years x 9/12) ................. 4,500

Accumulated depreciation—equipment ...................... 4,500

December 31, 2012 Depreciation expense ($48,000 ÷ 8 years) .......................... 6,000


2. The year 2013 expenditure.

January 4, 2013 Repair and maintenance expense .................................... 2,000Equipment ....................................................................... 10,350

Cash ............................................................................. 12,350

3. Depreciation for the year 2013.

December 31, 2013 Depreciation expense (determined below) .......................... 5,800



$ 48,000 Cost

10,500 Depreciation to date ($4,500 + 6,000)37,500 Undepreciated cost10,350 Asset addition47,850 New depreciable base

÷ 8 1/4 Estimated remaining life (10 years – 1 3/4 years)






Problem 11–5(1) $65,000

Allocation in proportion to appraised values at date of exchange:

% ofAmount Total Land $72,000 8Building 828,000 92

$900,000 100

Land $812,500 x 8% = $ 65,000Building $812,500 x 92% = 747,500

$812,500(2) $747,500 [From (1)]

(3) 50 years $747,500 – 47,500

$14,000 annual depreciation

(4) $ 14,000 Same as prior year, since method used is straight line.

(5) $ 85,400 3,000 shares x $25 per share = $75,000Plus demolition of old building 10,400

$85,400(6) None No depreciation before use.

(7) $ 16,000 Fair value.

(8) $ 2,400 $16,000 x 15% (1.5 x Straight-line rate of 10%).

(9) $ 2,040 ($16,000 – 2,400) x 15%.

(10) $ 99,000 Total cost of $110,000 – 11,000 in normal repairs.

(11) $ 17,000 ($99,000 – 5,500) x 10/55.

(12) $ 5,100 ($99,000 – 5,500) x 9/55 x 4/12.

(13) $ 30,840 PVAD = $4,000 (7.71008 * )* Present value of an annuity due of $1: n = 11, i = 8% (from Table 6)

(14) $ 2,056 $30,840

15 years





Problem 11–6

Requirement 1Building:

$500,000= $20,000 per year x 9/12 = $15,000

25 years

Machinery:

$240,000 – (10% x $240,000)= $27,000 per year x 9/12 = $20,250

8 years

Equipment:

Sum-of-the-digits is ([6 (6 + 1)]÷2) = 21

($160,000 – 13,000) x 6/21 = $42,000 x 9/12 = $31,500

Requirement 2(1)

June 29, 2014 Depreciation expense (determined below) .......................... 5,625

Accumulated depreciation—machinery ...................... 5,625

$100,000 – (10% x $100,000)= $11,250 x 6/12 = $5,625

8 years






(2)

June 29, 2014 Cash ................................................................................ 80,000Accumulated depreciation—machinery (below) ............. 14,063

Loss on sale of machinery (difference) ............................. 5,937

Machinery ................................................................... 100,000

Accumulated depreciation on machinery sold:

2013 depreciation = $11,250 x 9/12 = $ 8,438

2014 depreciation = $11,250 x 6/12 5,625Total $14,063


$500,000= $20,000

25 years

Machinery:

$140,000 – (10% x $140,000)= $15,750

8 years

Equipment:

($160,000 – 13,000) x 6/21 = $42,000 x 3/12 = $10,500+ ($160,000 – 13,000) x 5/21 = $35,000 x 9/12 = 26,250

$36,750





Problem 11–7

Requirement 1Cost of mineral mine:

Purchase price $1,600,000Development costs 600,000

$2,200,000

Depletion:

$2,200,000 – 100,000Depletion per ton = = $5.25 per ton

400,000 tons

2013 depletion = $5.25 x 50,000 tons = $262,500

2014 depletion:Revised depletion rate = ($2,200,000 – 262,500) – 100,000

= $4.20487,500 – 50,000 tons

2014 depletion = $4.20 x 80,000 tons = $336,000

Depreciation:

Structures: $150,000

Depreciation per ton = = $.375 per ton400,000 tons

2013 depreciation = $.375 x 50,000 tons = $18,750

2014 depreciation:Revised depreciation rate = $150,000 – 18,750

= $.30 per ton487,500 – 50,000 tons







Equipment: $80,000 – 4,000

Depreciation per ton = = $.19 per ton400,000 tons


2014 depreciation:Revised depreciation rate = ($80,000 – 9,500) – 4,000

= $.152 per ton487,500 – 50,000 tons


Requirement 2Mineral mine: Cost $ 2,200,000Less accumulated depletion:

2013 depletion $262,5002014 depletion 336,000 598,500

Book value, 12/31/14 $1,601,500

Structures:

Cost $ 150,000Less accumulated depreciation:

2013 depreciation $18,7502014 depreciation 24,000 42,750

Book value, 12/31/14 $107,250

Equipment: Cost $ 80,000Less accumulated depreciation:2013 depreciation $ 9,5002014 depreciation 12,160 21,660

Book value, 12/31/14 $58,340






Requirement 3Depletion of natural resources and depreciation of assets used in the extraction of

natural resources are part of product cost and are included in the cost of the inventoryof the mineral, just as the depreciation on manufacturing equipment is included ininventory cost. The depletion and depreciation are then included in cost of goods soldin the income statement when the mineral is sold.

In 2013, since all of the ore was sold, all of 2013’s depletion and depreciation isincluded in cost of goods sold. In 2014, since not all of the extracted ore was sold, a

portion of both 2014’s depletion and depreciation remains in inventory.








Requirement 2Intangible assets:

Goodwill $300,000 [1]Patent 75,000 [2]Franchise 195,000 [3]

Total intangibles $570,000

[1] $300,000[2] $ 80,000 – 5,000[3] $200,000 – 5,000





Problem 11–9

Requirement 1Machine 101:

$70,000 – 7,000= $6,300 per year x 3 years = $ 18,900

10 years

Machine 102:

$80,000 – 8,000= $9,000 per year x 1.5 years = 13,500

8 years

Machine 103:

$30,000 – 3,000= $3,000 per year x 4/12 = 1,000

9 years

Accumulated depreciation, 12/31/12 $33,400

Requirement 2To record depreciation on machine 102 through date of sale.

March 31, 2013 Depreciation expense ($9,000 per year x 3/12) .................... 2,250

Accumulated depreciation—equipment ..................... 2,250

To record sale of equipment.

March 31, 2013 Cash ................................................................................ 52,500Accumulated depreciation ($13,500 + 2,250) .................... 15,750Loss on sale of equipment (determined below) .................. 11,750

Equipment ................................................................... 80,000






Loss on sale of machine 102: Proceeds $52,500Less book value on 3/31/13:Cost $80,000Less accumulated depreciation:Depreciation through 12/31/12 $13,500Depreciation from 1/1/13 to

3/31/13 ($9,000 x 3/12) 2,250 15,750 64,250Loss on sale $11,750


Useful life of the building:

$200,000= $40,000 in depreciation per year

5 years(2008–2012)

$840,000 – $40,000= 20-year useful life

$40,000

To record depreciation on the building.

Depreciation expense [($840,000 – 40,000) ÷ 20 years] ........ 40,000Accumulated depreciation—building ......................... 40,000







Problem 11–10a. This is a change in estimate.

No entry is needed to record the change.

2013 adjusting entry:Depreciation expense (determined below) ......................... 370,000

Accumulated depreciation .......................................... 370,000


$10,000,000 Cost$250,000 Previous depreciation ($10,000,000 ÷ 40 years)

x 3 yrs (750,000) Depreciation to date (2010–2012)

9,250,000 Undepreciated cost÷ 25 yrs. Estimated remaining life (25 years: 2013–2037)


A disclosure note should describe the effect of a change in estimate on income before extraordinary items, net income, and related per-share amounts for the current period.






b. This is a change in accounting principle that is accounted for as a change inestimate.

Depreciation expense (below) ...................... 21,000Accumulated depreciation ............ 21,000

SYD2009 depreciation $ 60,000 ($330,000 x 10/55)

2010 depreciation 54,000 ($330,000 x 9/55)

2011 depreciation 48,000 ($330,000 x 8/55)

2012 depreciation 42,000 ($330,000 x 7/55)

Accumulated depreciation $204,000

$330,000 Cost204,000 Depreciation to date, SYD (above)126,000 Undepreciated cost as of 1/1/13

0 Less residual value126,000 Depreciable base÷ 6 yrs. Remaining life (10 years – 4 years)


A disclosure note reports the effect of the change on net income and earnings per share along with clear justification for changing depreciation methods.

c. This is a change in accounting principle accounted for as a change in estimate.

Because the change will be effective only for assets placed in service after thedate of change, depreciation schedules do not require revision because the changedoes not affect assets depreciated in prior periods. A disclosure note still is requiredto provide justification for the change and to report the effect of the change on currentyear’s income.





Problem 11–11

Requirement 1

Analysis:Correct Incorrect

(Should Have Been Recorded) (As Recorded)

2011 Equipment 1,900,000 Equipment 2,000,000Expense 100,000 Cash 2,000,000

Cash 2,000,000

2011 Expense 475,000 [1] Expense 500,000 [2] Accum. deprec. 475,000 Accum. deprec. 500,000

2012 Expense 356,250 [3] Expense 375,000 [4] Accum. deprec. 356,250 Accum. deprec. 375,000

[1] $1,900,000 x 25% (2 times the straight-line rate of 12.5%)[2] $2,000,000 x 25%[3] ($1,900,000 – 475,000) x 25%[4] ($2,000,000 – 500,000 ) x 25%

During the two-year period, depreciation expense was overstated by $43,750,

but other expenses were understated by $100,000, so net income during the period was overstated by $56,250, which means retained earnings is currentlyoverstated by that amount.

During the two-year period, accumulated depreciation was overstated, andcontinues to be overstated by $43,750.

To correct incorrect accounts Retained earnings ................................................. 56,250

Accumulated depreciation.................................................

43,750Equipment ........................................................ 100,000






Requirement 2This is a change in accounting principle accounted for as a change in estimate.

No entry is needed to record the change.

2013 adjusting entry:Depreciation expense (determined below) .................. 178,125

Accumulated depreciation ...................................... 178,125

A change in depreciation method is considered a change in accounting estimateresulting from a change in accounting principle. Accordingly, the Collins Corporationreports the change prospectively; previous financial statements are not revised.Instead, the company simply employs the straight-line method from now on. Theundepreciated cost remaining at the time of the change is depreciated straight line overthe remaining useful life.

Asset’s cost (after correction) $1,900,000Accumulated depreciation to date ($475,000 + 356,250) (831,250)Undepreciated cost, Jan. 1, 2013 1,068,750Estimated residual value (0)

To be depreciated over remaining 6 years 1,068,750÷ 6 years

Annual straight-line depreciation 2013–2018 $ 178,125





Problem 11–12

Requirement 1Plant and equipment: Depreciation to date:

$150 million 10 years = $15 million per year x 3 years = $45 million

Book value: $150 million – 45 million = $105 million

Patent: Amortization to date:

$40 million 5 years = $8 million per year x 3 years = $24 million

Book value: $40 million – 24 million = $16 million

Requirement 2Property, plant, and equipment and finite-life intangible assets are tested for

impairment only when events or changes in circumstances indicate book value maynot be recoverable.

Requirement 3Goodwill should be tested for impairment on an annual basis and in between

annual test dates if events or circumstances indicate that the fair value of the reportingunit is below its book value. A company has the option of avoiding annual testing bymaking qualitative evaluations of the likelihood of goodwill impairment to determine

if step one is necessary.

Requirement 4Plant and equipment: An impairment loss is indicated because the book value of the assets, $105

million, is greater than the $80 undiscounted sum of future cash flows. The amount ofthe impairment loss is determined as follows:

Book value $105 millionFair value (60) million

Impairment loss 45 million

Patent: There is no impairment loss because the undiscounted sum of future cash flows,

$20 million, exceeds book value of $16 million.






Goodwill: An impairment loss is indicated because the book value of the assets of the

reporting unit, $470 million, is greater than the $450 million fair value of the reportingunit. The amount of the impairment loss is determined as follows:

Determination of implied goodwill:Fair value of Ellison Technology $450 millionFair value of Ellison’s net assets (excluding goodwill) (390) millionImplied value of goodwill $ 60 million

Measurement of impairment loss:Book value of goodwill $100 million

Implied value of goodwill (60) millionImpairment loss $ 40 million





Problem 11–13

Requirement 1

Hecala’s cost of the mineral mine is $13,721,871, determined as follows:

Mining site $10,000,000Development costs 3,200,000Restoration costs 521,871 †

$13,721,871

† $600,000 x 30% = $180,000700,000 x 30% = 210,000800,000 x 40% = 320,000

$710,000 x .73503* = $521,871

*Present value of $1, n = 4, i = 8%

Requirement 2

Depletion:

$13,721,871 800,000 tons = $17.1523 per ton

120,000 tons x $17.1523 = $2,058,276

Depreciation of machinery:

$140,000 – 10,000 = $.1625 per ton800,000 tons

120,000 tons x $.1625 = $19,500

Depreciation of structures:

$68,000 800,000 tons = $.085 per ton

120,000 tons x $.085 = $10,200






Requirement 3

2013 accretion expense:$521,871 x .08 x 8/12 = $27,833

Requirement 4Depletion of natural resources and depreciation of assets used in the extraction of

natural resources are part of product cost and therefore are included in the cost of theinventory of the mineral, just as the depreciation on manufacturing equipment isincluded in inventory cost. The depletion and depreciation are then included in cost ofgoods sold in the income statement when the mineral is sold.

Requirement 5A change in the service life of plant and equipment and finite-life intangible

assets is accounted for as a change in an estimate. The change is accounted for prospectively by simply depreciating/depleting the remaining depreciable/depletable base of the asset (book value at date of change less estimated residual value) over therevised remaining service life (tons of ore in this case).

2014 Depletion:

Original cost $13,721,871Less: 2013 depletion (2,058,276)

Remaining depletable cost $11,663,595

Revised estimate of tonsremaining (1,000,000 – 120,000) 880,000 tons

Depletion rate $13.2541 per tonx Tons extracted 150,000 tons2014 depletion $1,988,115






2014 Depreciation of machinery:

Original cost $140,000Less: 2013 depreciation (19,500)

$120,500Less: residual value (10,000)

Remaining depreciable cost $110,500

Revised estimate of tonsremaining (1,000,000 – 120,000) 880,000 tons

Depreciation rate $.1256 per tonx Tons extracted 150,000 tons2014 depreciation $18,840

2014 Depreciation of structures:

Original cost $68,000Less: 2013 depreciation (10,200)

Remaining depreciable cost $57,800

Revised estimate of tons

remaining (1,000,000 – 120,000) 880,000 tonsDepreciation rate $.0657 per tonx Tons extracted 150,000 tons2014 depreciation $9,855







Communication Case 11–2Suggested Grading Concepts and Grading Scheme:

Content (70%) ______ 50 Explains the concept of depreciation as a process of

cost allocation, not valuation. ____ Rational match versus market fluctuations. ____ Numerical example.

______ 10 Purpose of the balance sheet is to provide information aboutfinancial position, not to directly measure company value.

______ 10 Purpose of the income statement is to provide cash flowinformation, not to directly measure the change in company

value. ____ ______ 70 points

Writing (30%) ______ 6 Terminology and tone appropriate to the audience of

a company president.

______ 12 Organization permits ease of understanding. ____ Introduction that states purpose.

____ Paragraphs that separate main points.

______ 12 English ____ Sentences grammatically clear and well organized,

concise. ____ Word selection. ____ Spelling. ____ Grammar and punctuation.

____ ______ 30 points





Judgment Case 11–3

Requirement 1Portland should have selected the straight-line depreciation method when

approximately the same amount of an asset’s service potential is used up each periodIf the reasons for the decline in service potential are unclear, then the selection of thestraight-line method could be influenced by the ease of recordkeeping, its use forsimilar assets, and its use by others in the industry.

Requirement 2a. By associating depreciation with a group of machines instead of each

individual machine, Portland’s bookkeeping process is greatly simplified. Also, sinceactual machine lives vary from the average depreciable life, unrecognized net losseson early dispositions are expected to be offset by continuing depreciation on machines

usable beyond the average depreciable life. Periodic income does not fluctuate as aresult of recognizing gains and losses on machine dispositions.

b. Portland should divide the depreciable base of each machine by its estimatedlife to obtain its annual depreciation. The sum of the individual annual depreciationamounts should then be divided by the sum of the individual capitalized costs toobtain the annual composite depreciation rate.







Communication Case 11–6There is no right or wrong answer to this case. Both views, expense and

capitalize, can be defended once consideration is given to the materiality issue. The process of developing and synthesizing the arguments will likely be more beneficia

than any single solution. Each student should benefit from participating in the process, interacting first with his or her partner, then with the class as a whole. It isimportant that each student actively participate in the process. Domination by one ortwo individuals should be discouraged.

A significant benefit of this case is that it is forcing students to consider thesubjective nature of materiality when applying GAAP.





Integrating Case 11–7

Requirement 1

a. ($ in millions)

Inventory (understatement of 2014 beginning inventory) ......... 10Retained earnings (understatement of 2013 income) ......... 10

Note: The 2012 error requires no adjustment because it has self-corrected by 2014.

b. Retained earnings (2012–2013 patent amortization) ............. 6

Patent [($18 million ÷ 6 years) x 2]................................... 6

2014 adjusting entry:Patent amortization expense ($18 million ÷ 6 years) ......... 3

Patent ......................................................................... 3

c. 2014 adjusting entry:Depreciation expense (below) .......................................... 4

Accumulated depreciation ......................................... 4

($ in millions)

SYD2012 depreciation $10 ($30 x 5/15)

2013 depreciation 8 ($30 x 4/15)

Accumulated depreciation $18

$30 Cost18 Depreciation to date, SYD (above)12 Undepreciated cost as of 1/1/14

0 Less residual value12 Depreciable base

÷ 3 yrs. Remaining life (5 years – 2 years)$ 4 New annual depreciation





Case 11–7 (concluded)

Requirement 2Shareholders’ Net

Assets Liabilities Equity Income Expenses

2012 $640 $330 $310 $210 $1502012 inventory (12) (12) (12) 12Patent amortization (3) (3) (3) 3Depreciation no adjustments to prior years

____ ____ ____ ____ ____$625 $330 $295 $195 $165

2013 $820 $400 $420 $230 $175

2012 inventory 12 (12)2013 inventory 10 10 10 (10)Patent amortization (6) (6) (3) 3 Depreciation no adjustments to prior years

____ ____ ____ ____ ____

$824 $400 $424 $249 $156






Requirement 1A change from the sum-of-the-years’-digits method of depreciation to the

straight-line method for previously recorded assets is a change in accounting principlethat is accounted for as a change in estimate. Both the sum-of-the-years’-digitsmethod and the straight-line method are generally accepted. A change in accounting

principle results from the adoption of a generally accepted accounting principledifferent from the generally accepted principle used previously for reporting purposes.

Requirement 2A change in the expected service life of an asset arising because of more

experience with the asset is a change in accounting estimate. A change in accountingestimate occurs because future events and their effects cannot be perceived with

certainty. Estimates are an inherent part of the accounting process. Therefore,accounting and reporting for certain financial statement elements requires the exerciseof judgment, subject to revision based on experience.





Research Case 11–9

Requirement 1The reference locations for the impairment of property, plant, and equipment and

intangible assets include: FASB ASC 360–10: “Property, Plant and Equipment–Overall,” and FASB ASC 350–20: “Intangibles–Goodwill and Other–Goodwill.”

Requirement 2Property, plant, and equipment and finite-life intangible assets are tested for

impairment only when events or changes in circumstances indicate book value maynot be recoverable.

Intangible assets with indefinite useful lives, including goodwill, should be testedfor impairment on an annual basis and in between annual test dates if events orcircumstances indicate that the fair value of the reporting unit is below its book value.Goodwill, however, may first be qualitatively assessed to determine the likelihood thatfair value is less than book value before conducting step one of the goodwillimpairment test.

Requirement 3Property, plant, and equipment and finite-life intangible assets:

Determining whether to record an impairment loss and actually recording the lossis a two-step process. The first step is a recoverability test—an impairment loss isrequired only when the undiscounted sum of estimated future cash flows from an assetis less than the asset’s book value. The measurement of impairment loss—step two—is the difference between the asset’s book value and its fair value.Intangible assets with indefinite useful lives (other than goodwill):

The measurement of an impairment loss for indefinite-life intangible assets otherthan goodwill is a one-step process. We compare the fair value of the asset with its

book value. If book value exceeds fair value, an impairment loss is recognized for thedifference.Goodwill:

Determining whether to record an impairment loss and actually recording the lossis a two-step process. Step 1: A goodwill impairment loss is indicated when the fairvalue of the reporting unit is less than its book value. Step 2: A goodwill impairment

loss is measured as the excess of the book value of the goodwill over its “implied” fairvalue. The implied fair value of goodwill is calculated in the same way that goodwillis determined in a business combination. That is, it’s a residual amount measured bysubtracting the fair value of all identifiable net assets from the considerationexchanged using the unit’s previously determined fair value as the considerationexchanged.






Requirement 4

Property, plant, and equipment and intangible assets to be sold should beclassified as held-for-sale in the period in which all of the following criteria are met:

a. Management, having the authority to approve the action, commits to a plan tosell the asset.

b. The asset or asset group is available for immediate sale in its present condition.c. An active program to locate a buyer and other actions required to complete the

plan to sell the asset or asset group have been initiated.d. The sale is probable.e. The asset or asset group is being actively marketed for sale at a price that is

reasonable in relation to its current fair value.f. Actions required to complete the plan indicate that it is unlikely that significant

changes to the plan will be made or that the plan will be withdrawn.

The specific reference for these criteria is FASB ASC 360–10–45–9.

Requirement 5Property, plant, and equipment and intangible assets or groups of these assets

classified as held-for-sale is measured at the lower of its (a) book value or (b) fairvalue less cost to sell. An impairment loss is recognized for any write-down to fair

value less cost to sell.





Ethics Case 11–10

Requirement 12013 expense using CEO's approach:

$42,000,000 Cost$4,200,000 Previous annual depreciation ($42,000,000 ÷ 10 years)

x 2 years 8,400,000 Depreciation to date (2011–2012) 33,600,000 Book value

÷ 3 Estimated remaining life (2013–2015)

$11,200,000 New annual depreciation

2013 income would include only depreciation expense of $11,200,000.

2013 expense using Heather's approach:

$42,000,000 Cost$4,200,000 Previous annual depreciation ($42,000,000 ÷ 10 years)

x 2 years 8,400,000 Depreciation to date (2011–2012) 33,600,000 Book value12,900,000 Write-down20,700,000 New depreciable base

÷ 3 Estimated remaining life (2013–2015)

$ 6,900,000 New annual depreciation

2013 income would include depreciation expense of $6,900,000 and an asset write-down of $12,900,000 for a total income reduction of $19,800,000.

Using Heather's approach, 2013's before tax income would be lower by $8,600,000($19,800,000 – 11,200,000).






Requirement 2Discussion should include these elements.

Facts:GAAP provides guidance for recording impairment losses on partial write-downs

of property, plant, and equipment and intangible assets remaining in use. Assetsshould be written down if there has been a significant impairment of value such as indecreased product demand and full recovery of book value through use or resale is notexpected. Although the decision and computation to record an impairment loss oftenis very subjective and difficult to measure, Heather is able to estimate an equipmentimpairment of $12,900,000, presumably using the best information available. Thesimple revision in service life approach is clearly an effort to enhance net income on

the part of the CEO.

Ethical Dilemma:Is Heather's obligation to challenge the questionable application of revision in

service life more important than her obligation to her boss and to the company's effortto reflect a favorable net income?

Who is affected?

Heather

CEO and other managersOther employeesShareholdersPotential shareholdersCreditorsCompany auditors






Requirement 1By changing its depreciation method, a company can shift reported income

between periods. For example, a shift from an accelerated method to the straight-linemethod increases income in the year of the change. However, in some future periodor periods, income will be lower than it would have been if the change had not beenmade.

This is not an effective way to manage earnings because the effect on income ofswitching from one method to another must be disclosed.

Requirement 2A company can manage earnings by changing the estimated useful lives of

depreciable assets. For example, reducing useful lives causes a decrease in income in

one or more years including the year of the change, and increases income in somefuture years.

This is not an effective way to manage earnings because the effect on income ofchanging useful lives, if material, must be disclosed.

Requirement 3One possible approach to answering this question is to assume a company

overstates its impairment loss. For example, assume that the book value ofdepreciable assets is $20 million. The fair value of these assets is estimated to be $13million, indicating an impairment loss of $7 million. If these assets are written down

to $8 million, the company has effectively shifted $5 million in pre-tax income fromthe current period to future periods. By writing down the assets to $8 million insteadof $13 million, future depreciation is $5 million less than it would have been with amore appropriate write-down.






Transaction Disposition

1. Transaction is correctly recorded as repairs and maintenanceexpense.


3. Transaction is incorrectly recorded. The amount should becapitalized as part of the cost of the plant.

4. Transaction is incorrectly recorded. The amount should becapitalized either as part of the cost of the plant or as a

reduction in the accumulated depreciation of the plant.



7. Transaction is incorrectly recorded. The amount should becapitalized as equipment.






Real World Case 11–13

Requirement 1($ in millions) Property, plant and equipment (Cost):

Balance, beginning of 2010 $24,221Add: Acquisitions during 2010 2,586Less: Balance end of 2010 (24,906)Dispositions during 2010 $ 1,901

Property, plant, and equipment (Accumulated depreciation):

Balance, beginning of 2010 $ 11,835

Add: Depreciation for 2010 2,220Less: Balance end of 2010 (12,367)Accumulated depreciation of 2010 dispositions $ 1,688

Gain (loss) on 2010 dispositions:

Cost of dispositions $1,901Less: Accumulated depreciation of dispositions (1,688)Book value of dispositions $ 213

Proceeds from dispositions $1,469Less: Book value of dispositions (213)Gain on 2010 dispositions $1,256

Requirement 22010 depreciable assets:

Property, plant, and equipment $24,906Less: Land (682)Cost of depreciable assets $24,224

Assuming that Caterpillar uses the straight-line depreciation method,

$24,224 ÷ $2,220 (2010 depreciation) = 10.91 years.

The approximate average service life of Caterpillar's depreciable assets is 11 years.





Real World Case 11–14

Requirement 3The following was taken from the company’s 2010 financial statements. Your

results could differ if the company changes any of its policies in years after 2010.a. The company's depreciation and depletion policies, disclosed in Note 1.

Summary of Significant Account Policies, are as follows:Depreciation and depletion of all capitalized costs of proved crude oil andnatural gas producing properties, except mineral interests, are expensed usingthe unit-of-production method generally by individual field as the proveddeveloped reserves are produced. Depletion expenses for capitalized costs of

proved mineral interests are recognized using the unit-of-production method by individual field as the related proved reserves are produced. Periodicvaluation provisions for impairment of capitalized costs of unproved mineralinterests are expensed.

Depreciation and depletion expenses for mining assets are determined usingthe unit-of-production method as the proven reserves are produced. Thecapitalized costs of all other plant and equipment are depreciated or amortizedover their estimated useful lives. In general, the declining-balance method isused to depreciate plant and equipment in the United States; the straight-linemethod generally is used to depreciate international plant and equipment andto amortize all capitalized leased assets.

b. Expenditures for maintenance (including those for planned major maintenance projects), repairs, and minor renewals to maintain facilities in operatingcondition are generally expensed as incurred. Major replacements andrenewals are capitalized.





IFRS Case 11–15

Requirement 2GlaxoSmithKline values its property, plant, and equipment at cost less provision

for depreciation and impairment. IFRS also allows the valuation of these assets at fairvalue (revaluation). If revaluation is chosen, all assets within a class of PP&E must berevalued on a regular basis. U.S. GAAP does not allow the revaluation optionProperty, plant, and equipment must be valued at cost less accumulated depreciationand impairment.

Requirement 3For goodwill, impairments of goodwill are not reversed. U.S. GAAP also does

not allow for reversals of goodwill impairment.Impairment losses on other noncurrent assets are only reversed if there has been a

change in estimates used to determine recoverable amounts and only to the extent thatthe revised recoverable amounts do not exceed the carrying values that would haveexisted, net of depreciation or amoritzation, had no impairments been recognizedU.S. GAAP does not allow reversals of impairment losses.





Analysis Case 11–16

Requirement 1The statement of cash flows reports depreciation and amortization of $970

million.

Requirement 2Dell uses the straight-line depreciation method over the estimated economic lives

of the assets, which range from 10 to 30 years for buildings and two to five years forall other assets.





Air France–KLM Case

Requirement 1(€ in millions)

March 31, 2011 Before After Revaluation Revaluation

Flight equipment €18,486 x 12,000/11,040 = €20,093

Accumulated depreciation 7,446 x 12,000/11,040 = 8,093

Book value €11,040 x 12,000/11,040 = €12,000

The entry to revalue the flight equipment and the accumulated depreciation accounts

(and thus the book value) is:

Flight equipment (€20,093 – 18,486) 1,607Accumulated depreciation (€8,093 – 7,446) 647

Revaluation surplus—OCI (€12,000 – 11,040) 960

Requirement 2Under U.S. GAAP, property, plant, and equipment is valued at cost less

accumulated depreciation. U.S. GAAP prohibits revaluation.

Requirement 3

IFRS requires that each component of an item of property, plant, and equipmentmust be depreciated separately if its cost is significant in relation to the total cost of

the item. AF uses this approach with its flight equipment. Note 3.13.2 states, “Any

major airframes and engines (excluding parts with limited useful lives) are treated as a

separate asset component with the cost capitalized and depreciated over the period

between the date of acquisition and the next major overhaul.”

In the United States, component depreciation is allowed but is not often used in

practice.



Air France-KLM Case (concluded)

Requirement 4Per Note 3.14, fixed assets are tested for when there is an indication of

impairment.

This approach is similar to U.S. GAAP. However, under IFRS, assets must be

assessed for indicators of impairment at the end of each reporting period.

Requirement 5In Note 3.14, AF states that the company deems the recoverable value of the asset

to be the higher of market value less cost of disposal and its value in use. The later is

determined according to the discounted future cash flow method. While not stated,

AF then compares the recoverable amount to book value. If book value is higher, animpairment loss is recognized for the difference.

Under U.S. GAAP, the measurement of an impairment loss is a two-step process.

Step one, recoverability, requires an impairment loss to be recognized only when an

asset’s book value exceeds the undiscounted sum of the asset’s estimated future cash

flows. If a loss is required, step two measures the loss as the difference between book

value and fair value of the asset.

Requirement 6( € in millions)

Revaluation expense 13

Other intangible assets (€373 – 360) 13

Documents

11sol_7e_final.pdf