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Chapter 9

Chapter 9 BU227.docx

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Carolyn Mac Tavish

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BU227 Chapter 9 – Reporting and Interpreting Property, Plant, an Equipment; Week 8 Natural Resources and Intangibles Acquisition and Maintenance of Plant and Equipment Classification of Long-Lived Assets -Long lived assets – are tangible or intangible resources owned by a business and used in its operations to produce benefits over several years -Long-lived assets are acquired, constructed, or developed or use on a continuing basis -Long-lived assets have the following characteristics: 1. Tangible assets -Tangible assets – have physical substance a. Land – land does not become obsolete b. Buildings, fixtures, and equipment c. Natural resources 2. Intangible assets -Intangible assets – have property ownership rights but not physical substance -Ex. Name, logo, slogans, computer software, etc. -Often, intangible assets arise from intellectual effort and are known as intellectual property – copyrights, patents, licenses, trademarks, software, franchises, etc. Measuring and Recording Acquisition Cost -The cost principle requires that all reasonable and necessary costs incurred in acquiring a long-lived asset, placing in its operational setting, and preparing it for use should be recorded in a designated asset account -Acquisition cost – the net cash equivalent amount paid or to be paid for the asset -Ex. Purchasing an old building – renovation and repair costs must be included Various Acquisition Methods For Cash For Debt For Equity By Construction -In some cases, a company may construct an asset for use instead of buying it from a manufacturer -The acquisition cost of this self-constructed asset will comprise of all direct and indirect costs of construction, including interest on any loans obtained to construct the asset -Capitalized interest – represents interest on borrowed funds directly attributable to construction until the asset is ready for its intended use As a Basket Purchase of Assets -Basket purchase – an acquisition of two or more asses in a single transaction for a single lump sum -The cost of each asset must be measured and recorded separately Repairs, Maintenance, and Betterments -Most assets require substantial expenditures during their useful lives to maintain or enhance productive capacity -These expenditures include cash outlays for ordinary repairs and maintenance, major repairs, BU227 Chapter 9 – Reporting and Interpreting Property, Plant, an Equipment; Week 8 Natural Resources and Intangibles replacements, and additions -An expenditure is the payment of money to acquire goods and services -Ordinary repairs and maintenance – expenditures for normal operating upkeep of long-lived assets -Revenue expenditures – maintain the productive capacity of the asset during the current accounting period only and are recorded as expenses -Expenditures that are made after an asset is acquired are classified as follows: 1. Ordinary repairs and maintenance – expenditures that maintain the productive capacity of the asset during the current accounting period only. These expenses are recurring in nature, involve relatively small amounts and do not lengthen the useful life of the asset 2. Extraordinary repairs and betterments – expenditures that increase the productive life, operating efficiency, or capacity of the asset. These capital expenditures provide benefits to the company over a number of accounting periods, are added to the appropriate asset accounts. Ex. additions -Extraordinary repairs – infrequent expenditures that increase the asset’s economic usefulness in the future -Betterments – costs incurred to enhance the productive or service potential of a long-lived asset -Capital expenditures – increase the productive life, operating efficiency, or capacity of the asset and are recorded as increases in asset accounts, not as expenses -In many cases, no clear line distinguishes capital expenditures from revenue expenditures Use, Impairment, and Disposal of Plant and Equipment Depreciation Concepts -Depreciation – the process of allocating the acquisition cost of property, plant, and equipment (but not land) over their useful life by using a systematic and rational method -Depreciation is a process of cost allocation -The calculation of depreciation expense requires three amounts for each depreciable asset: 1. Acquisition cost 2. Estimated useful life to the company 3. Estimated residual value at the end of the asset’s useful life to the company -Depreciation expense is an estimate -Estimated useful life – the expected service life of an asset to the present owner -The determination of estimated useful life of a long-lived asset must conform to the continuity assumption -Residual value – the estimated amount to be recovered, less disposal costs, at the end of the estimated useful life of an asset Alternative Depreciation Methods -Three most common depreciation methods: straight-line, units-of-production, declining balance Straight-Line Method -The method that allocates the cost of an asset in equal periodic amounts over its useful life Depreciation Expense = (Cost – Residual Value) x 1/Useful life -Depreciation expense is a constant amount for each year -Accumulated depreciation increases by an equal amount each year -Carrying amount decreases by the same amount e
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