P Account Analysis of Fixed Assets

P Account Analysis of Fixed Assets

• This is a very important concept to understand to compute two accounts for the statement of cash flows:

  • Depreciation Expense
  • Purchases of Fixed Assets

• These two accounts are what companies invest in.

• The examples done so far in class have given the depreciation expense and purchases of fixed assets. However, eventually, these will need to be computed.

Example

• A company sold equipment with a $150,000$ cost and $40,000$ of accumulated depreciation for $125,000$. The company has a $15,000$ gain.
  • Cost of $150,000$ less accumulated depreciation of $40,000$ gives a net book value of $110,000$.
  • Selling it for $125,000$ gives a $15,000$ gain.
• At the time of the sale, the company's PP&E (Property, Plant, and Equipment) account had beginning and ending balances of $245,000$ and $300,000$ respectively.
• The company's accumulated depreciation accounts had beginning and ending balances of $100,000$ and $98,000$ respectively.
• Questions to answer:
  • How much property, plant, and equipment did the company purchase during the year?
  • What was the company's depreciation expense?

T Account Setup

• The sale of a fixed asset for cash of $125,000$ is given.
• The accumulated depreciation of $40,000$ is debited.
• PP&E is sold for $150,000$.
• Given a credit for $150,000$ in the PP&E account and $40,000$ write-off in accumulated depreciation, determine how much the company purchased in fixed assets and what the depreciation expense is.
• From the sale entry, there is a credit for $150,000$.
• The company started with balances of $245,000$ and ended with $300,000$.
• The company had to write off $40,000$ of accumulated depreciation in that entry.
• Get cash at $125,000$, between the two accounts, and give up a net book value of $110,000$, with a gain of $15,000$.
• The amounts to focus on are the $150,000$ and $110,000$.

Property, Plant, and Equipment Account

• Beginning balance: $245,000$
• Ending balance: $300,000$
• Sale: $150,000$
• The goal is to determine the debit, which equals the purchases.

Depreciation Expense

• The entry to record depreciation expense is debit depreciation and credit accumulated depreciation.
• Figure out the credit to accumulated depreciation to determine the depreciation expense.
• Using the three quarters rule, the number in the T account should be $205,000$.
• Check: $245,000 + 205,000 = 450,000 - 150,000 = 300,000$

Accumulated Depreciation

• Accumulated depreciation account starts at $100,000$.
• Write off $40,000$, which takes it down to $60,000$, but it ends up with $98,000$.
• There must have been a credit in the accumulated depreciation account for $38,000$.

Conclusion

• The sale entry and the beginning and ending balances are always given in the property, plant, and equipment and the accumulated depreciation account.
• You have to figure out how much equipment the company purchased and what the depreciation expense is.
• These both go into the statement of cash flows.
• Work backwards through the property, plant, and equipment account to figure out the purchases.
• Using the three quarters rule:
  • Purchases come at $205,000$.
  • Depreciation expense comes to $38,000$.