- Advanced PP&E Issues/Natural Resources/Intangibles. - Your goals for this "advanced PP&E issues, natural resources, and intangibles". - PP&E COSTS SUBSEQUENT TO ASSET ACQUISITION. - PP&E COSTS INCURRED AFTER ACQUISITION: Think about an automobile. - most items of PP&E will require substantial ongoing costs to keep them in good order. - (i.e., put them on the balance sheet as an asset of some type) if future economic benefits result from the expenditure. - But that interpretation would be a misconstruing of the intent of the rule. - In essence, the replacing of the engine represents a "restoration". - of some of the original condition (akin to "undepreciating". - a portion of the truck). - The effect is to increase the net book value of the asset by reducing its accumulated depreciation on the balance sheet. - the asset beyond its original condition (sometimes termed a "betterment". - such costs would be capitalized by debiting the asset account, as follows:. - equipment not previously installed on the. - DISPOSAL OF PP&E. - PP&E DISPOSAL Assets may be abandoned, sold, or exchanged. - Then, and only then, would the asset disposal be recorded.. - If the asset is simply being scrapped (abandoned), the journal entry entails only the elimination of the cost of the asset from the books, removing the related accumulated depreciation, and. - On the other hand, an asset may be disposed of by sale, in which case the journal entry would need to be modified to include the proceeds of the sale. - Logically, the loss would be reduced by this amount, and the entry would be as follows:. - depreciated on the date of sale.. - which gives rise to the loss of $15,000.. - This would be a classic "exchange". - Exchanges are often motivated by tax rules because neither company may be required to recognize a taxable event on the exchange. - (future cash flows of the entity are expected to change because of the exchange) should be accounted for at fair value.. - FAIR VALUE APPROACH: This approach will ordinarily result in recognition of a gain or loss because the fair value will typically differ from the recorded book value for the swapped assets.. - There is deemed to be a culmination of the earnings process when assets are swapped. - The fair value of the old truck is $150,000 (which is also deemed to be the fair value of the boat). - The boat should be recorded at fair value. - since that amount is less than the net book value of the old truck, a loss is recorded (for the difference):. - To remove all accounts related to the old truck, set up the new boat at its fair value, and record the balancing loss.. - The fair value of the old truck is $350,000 (which is also deemed to be the fair value of the boat).. - since that amount is more than the net book value of the old truck, a gain is recorded (for the difference):. - To remove all accounts related to the old truck, set up the new boat at its fair value, and record the balancing gain.. - account (typically Cash) to the journal entry. - For instance, assume Example A is amended to add the following facts: Company A also gave $50,000 cash along with the old truck, because the old truck was only worth $100,000:. - To remove all accounts related to the old truck and cash, set up the new boat at its fair value, and record the balancing loss.. - The loss is the balancing amount, and reflects that. - and no gain is to be recorded. - The green cars are simply recorded at the cost of the red cars (a loss might be recorded if impairment is suggested). - If an exchange lacking commercial substance also entails the receipt of boot, a proportionate amount of gain in relation to the cash portion of the deal might be recognized. - ASSET IMPAIRMENTS: When the carrying amount of a long-lived asset (or group of assets as appropriate) is not recoverable from its expected future cash flows, it is deemed to be "impaired.". - That is to say, the owner of the asset no longer expects to be able to generate returns of cash from the asset sufficient to recapture its recorded net book value. - When this scenario occurs, a loss must be recognized for the amount needed to reduce the asset to its fair value (i.e., debit loss and credit the asset). - Factors such as the following should be taken into account in considering whether an impairment exists: there has been a significant decrease in market value of an asset, the physical condition of the asset has declined unexpectedly, the asset is no longer being used as intended, legal or regulatory issues have impeded the asset, cost overruns are associated with the asset's acquisition, the overall business seems threatened by unsuccessful performance, or the asset is now expected to be disposed of ahead of schedule.. - things are already bad, so where is the harm? And, more to the point, future periods' income will be buoyed by this action because the write-off will leave less assets that will need to be depreciated in the future. - NATURAL RESOURCES. - Once the cost basis is properly established, it must be allocated over the periods benefited through a process known as. - DEPLETION CALCULATIONS: The cost of a natural resource (less any expected residual value) must be divided by the estimated units in the resource deposit. - If all of the resources extracted during a period are sold, then depletion expense equals depletion per unit times the number of units extracted and sold. - If a portion of the extracted resources are unsold resources, then the cost of those units (i.e., number of units times depletion per unit) should be carried on the balance sheet as inventory.. - Assume the site is estimated to contain 5,000,000 tons of the targeted ore. - At completion of the operation, the site will be water flooded and sold as a recreational lake site for an estimated $2,000,000. - But where does that cost go? If 750,000 tons are sold and the other 250,000 tons are simply held in inventory of extracted material, then would go to Cost of Goods Sold and the other $500,000 would go to the balance sheet as inventory. - Cost of Goods Sold 1,500,000. - To record annual depletion charge reflecting assignment of depletion cost to inventory (250,000 X $2) and cost of. - Sometimes the useful life of such PP&E is tied directly to the natural resource life, even though its actual physical life is much longer. - As a result, the track would be depreciated over the life of the mine. - Conversely, the train that runs on the track can be relocated and used elsewhere. - as such it would likely be depreciated over the life of the train rather than the life of the mine.. - INTANGIBLE ASSETS: The defining characteristic of an intangible is the lack of physical existence. - Nevertheless, such assets contribute to the earnings capability of a company. - A company develops many such items via ongoing business processes, and those internally developed intangibles may not appear on the corporate accounts. - Those intangible benefits represent an invisible asset of the company.. - On the other hand, intangibles may be purchased from another party. - When intangibles are purchased, the cost is recorded as an intangible asset. - (amortization is the term to describe the allocation of the cost of an intangible. - depreciation describes the allocation of the cost of PP&E). - If they are never found to be impaired, they will permanently remain on the balance sheet. - The unamortized/unimpaired cost of intangible assets is positioned in a separate balance sheet section immediately following Property, Plant, and Equipment.. - $50,000, estimating its useful life to be five years. - Unlike PP&E, notice that the above annual amortization entry credits the asset account directly;. - The Domain Name would be recorded at its initial cost, and not be subjected to annual. - However, should a periodic review (conducted at least once each year) reveal that the fair value of the asset is no longer at least $50,000, it will be necessary to record a loss and reduce the asset.. - caused the fair value of purchased domain name to be reduced. - The cost of a patent should be amortized over its useful life (not to exceed its legal life of 20 years).. - Importantly, the cost of a patent does not include the research and development costs incurred in seeking the knowledge necessary for the patent. - The amount included in the Patent account includes only the cost of a purchased patent and/or incidental costs related to the registration of a patent (like legal fees).. - A copyright has a legal life equal to the life of the creator plus 70 years. - The economic life is the period of time over which the cost of a copyright should be amortized.. - The cost of a franchise is reported as an intangible asset, and should be amortized over the estimated useful life.. - Remember from Chapter 9, that goodwill is the excess of the purchase price paid for another company over the fair value of the net identifiable assets acquired. - Such excess may be paid because of the acquired company's outstanding
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