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Chapter 7

COMMERCE 1AA3 Chapter Notes - Chapter 7: Book Value, Lump Sum

Course Code
Aadil Merali Juma

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Long lived assets: Used in business, not held for sale
o Tangible: Have physical form, ex. Buildings, equipment
o Intangible: Special rights, no physical form, ex. Patents, copyrights, trademarks
For goodwill: Impairment loss
Cost of asset is sum of all costs to bring asset to intended location and use
Land: Purchase price, real estate commission, survey fees, legal, fees, back property taxes,
cost to grade and clear land
Buildings, Machinery, Equipment:
o Constructed Buildings: Architectural fees, building permits, contractor's charges,
material, labour, overhead and interest
o Existing Buildings: Purchase price, brokerage commission, taxes, repairs
o Machinery & Equipment: Price, transportation, transit insurance, taxes, commission,
installation costs, trial run costs, special equipment platforms
Land Improvements and Leasehold Improvements:
o Land Improvements: Eventually deteriorate, ex, fencing, paving, sprinkler systems,
lighting, parking lots, driveways
o Leasehold improvements: Improvements to leased assets, cost should be
depreciated over lease or life of asset, whichever is shorter
Basket Purchase of Assets: Purchase of several assets using a lump-sum
o Cost of individual asset = Ratio of each asset's market value to market value of all
assets x Lump sum purchase price
Capital Expenditure: Increases asset's productivity or extend its useful life
o Debit asset
Costs that maintain or restore assets are expenses
Depreciation: Process of allocating asset's cost over its useful life
o Not valuation, not setting aside cash
Needed: Cost, estimated useful life, residual value (cash value at end of useful life)
Accumulated Depreciation: Contra-asset, portion of cost that has already been expensed
o Carrying value = Cost - Accumulated Depreciation
Straight Line: (Cost-Residual Value)/Useful life in years
o Equal amounts of expense each year
Units of Production: (Cost-Residual Value)/Useful life in units of production
o Fixed amount for each unit of output
o Depreciation depends on output level
Diminishing Balance: Carrying value x (2/Useful life in years)
o An accelerated depreciation method: Amortizes more in early years, less in later
o Residual value not considered until last year
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Cost never amortized below residual value
Sum of Years Digits: n*(n+1)/2
o Dep. Expense: (Years Left/SYD) * Amortizable Cost7
o Also accelerated
Total depreciation always the same
Finite lives: Amortization recorded
Indefinite lives: No amortization, but impairment tests needed
Patents: Exclusive right to manufacture/sell an invention for 20 years
Copyrights: Exclusive right to reproduce/sell artistic work or software,
extend 50 years beyond author's life
Trademarks: Exclusive right to use name, symbol, etc.
o Can have finite or indefinite useful lives
Franchises and Licenses: Permission given to sell product or service,
indefinite life
Goodwill: Excess of cost of acquired company over market value of net
Subject to impairment when recoverable amount less than carrying
Research and development costs must be expensed when incurred
o Some development costs can be capitalized, expensed over life of
Net Profit Margin: Net Income/Net Sales
o Measures how much each dollar generates in profits
o Can be increased by increasing sale volume/price, reducing
Total Asset Turnover: Net Sales/Average Total Assets
o Measures how many sales dollars generated for each dollar of
o Can be increased by increasing sale volume/price, keeping less
inventory on hand, closing unproductive facilities, selling idle
assets, consolidating
ROA = Net Profit Margin x Total Asset Turnover
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