Chapter 9 – Plant Assets, Natural Resources, and Intangible Assets

Learning Objective 1 – Accounting for Plant-Asset Expenditures

• Definition of plant assets (a.k.a. property, plant & equipment, fixed assets)
– Have physical substance (definite size/shape)
– Used in operations, not held for resale
– Expected to benefit the company for multiple years
• Historical-Cost Principle
– Record at cash or cash-equivalent price paid to acquire and prepare for intended use
– “Cost” = all necessary & reasonable expenditures (purchase price, legal fees, shipping, installation, etc.)

Cost of Specific Plant-Asset Classes

• Land
– Debit Land for: purchase price; closing costs (title, attorney fees); broker commissions; assumed liens/taxes; net demolition costs of old structures (demolition – salvage).
– Example: Hayes acquired land $100{,}000$, net warehouse raze $6{,}000$, attorney $1{,}000$, broker $8{,}000$ → Land $115{,}000$
• Land Improvements
– Structural additions with limited life (driveways, parking lots, fences, landscaping, sprinklers)
– Capitalize & depreciate over useful life
• Buildings
– Purchase: price + closing costs + broker + remodeling/repairs 🡒 cost
– Construction: contract price + architect, permits, excavation, interest during construction
• Equipment
– Capitalize: cash price, sales tax, freight, insurance in transit, assembly, installation, testing
– Exclude recurring annual items (licenses, annual insurance)
• Illustration – Delivery Truck (Lenard Co.)
– Cash price $22{,}000$, tax $1{,}320$, painting $500$ ⇢ Equipment $23{,}820$
– Motor-vehicle license $80$ → License Expense
– 3-yr insurance $1{,}600$ → Prepaid Insurance

Subsequent Expenditures during Useful Life

• Ordinary Repairs → revenue expenditures → Debit Maintenance & Repairs Expense
• Additions & Improvements → capital expenditures → Debit related Plant Asset (increase capacity, efficiency, or life)

Fraud Insight – WorldCom (Bernie Ebers)

• Capitalized $7 billion$ of line-cost rentals (should have been expensed) → artificially boosted net income.
• Missing controls: documentation procedures & independent internal verification.

Leasing Facts

• 33 % of annual U.S. equipment investment (~$264 billion$) via leases.
• Motives for leasing: favorable taxes, financing, flexibility, obsolescence risk reduction, less balance-sheet debt.

DO IT 1 – Truck Cost Example (Drummond Heating)

• Capitalize $15{,}000 + 900 + 500 + 200 = 16{,}600$.
• Prepaid insurance $600$; License expense $80$.

Learning Objective 2 – Depreciation of Plant Assets

• Depreciation = systematic cost allocation (NOT valuation) over useful life.
• Applies to buildings, equipment, land improvements (not land).

Factors Needed

• Cost • Useful (service) life • Salvage (residual) value

Major Depreciation Methods

1. Straight-Line (SL)
   – Annual expense $=\dfrac{\text{Cost − Salvage}}{\text{Useful Life}}$
   – Produces equal expense each period.

2. Units-of-Activity (Units-of-Production)
   – Step 1: $\text{Rate per unit}=\dfrac{\text{Cost − Salvage}}{\text{Total estimated units}}$
   – Step 2: Expense = Rate × units used this period.

3. Declining-Balance (DB) / Double-Declining-Balance (DDB)
   – Accelerated; Rate = $2 \times$ SL percentage.
   – Expense = Rate × Book Value (cost − accum dep) at beginning of year.

Illustration – Barb’s Florists Truck (Cost $13,000$; SV $1,000$; Life 5 yrs/100,000 mi)

• SL: $\frac{13,000-1,000}{5}=2,400$ per year.
• Units: Rate $=\frac{12,000}{100,000}=0.12$/mile; Year 1 (15,000 mi) exp $1,800$.
• DDB: SL rate = 20 %; DDB = 40 % × $13,000$ = $5,200$ in Year 1.
• Cumulative comparison table (2022-2026) shows all three reach total $12,000$.

Tax Depreciation

• IRS accepts SL or MACRS (accelerated); MACRS ≠ GAAP.

Revising Estimates (Change in Depreciation)

• Prospective only (current & future years).
• Steps: 1 Compute new depreciable cost (Book Value − New Salvage). 2 Divide by remaining life.
• Example: After 3 yrs, BV $5,800$; new SV $2,200$; remaining life 3 yrs → new annual expense $\frac{5,800-2,200}{3}=1,200$.

DO IT 2a – Iron Mountain Ski Machine (SL)

• Annual dep $\frac{50,000-2,000}{10}=4,800$.
• Dec 31 entry: Dep Exp 4,800 / Accum Dep 4,800.

Learning Objective 3 – Disposal of Plant Assets

• Three forms: Sale, Retirement, Exchange.
• Before disposal: record dep’n up to date; then remove asset (credit asset, debit Accum Dep).

Sale

• Gain if proceeds > Book Value; Loss if proceeds < Book Value.
• Example (Wright Co.): Cost $60,000$, Acc Dep $49,000$ (after updating).
– Sold for $16,000$ → Gain $5,000$.
– Sold for $9,000$ → Loss $2,000$.

Retirement (no cash received)

• If fully depreciated and disposed: Debit Accum Dep, Credit Asset (no gain/loss).
• If BV ≠ 0: difference → Loss.
• Example: Printers cost $32,000$, Acc Dep $32,000$ → just remove.
• Example: Delivery equipment cost $18,000$, Acc Dep $14,000$ → Loss $4,000$.

DO IT 3

• Sale for $17,000$ on truck (BV $14,000$) → Gain $3,000$.
• Retire worthless truck (BV $14,000$) → Loss $14,000$.

Learning Objective 4 – Accounting for Natural Resources & Intangibles

Natural Resources

• Examples: timber, oil, gas, mineral deposits.
• Characteristics: physically extracted; replaceable only by nature.
• Cost = acquisition + preparation.
• Depletion (usually Units-of-Activity)
– Rate $=\frac{\text{Cost − Salvage}}{\text{Total Estimated Units}}$
– Expense = Rate × units extracted.
– Example: Lane Coal – $5\text{ M}/1\text{ M tons}=\$5$/ton; Year1 250k tons → depletion $1.25\text{ M}$.

Intangible Assets

• Non-physical rights/privileges; may have limited or indefinite life.
• Types & accounting:
– Patents: 20-yr federal grant; capitalize purchase + successful legal defense; amortize over shorter of legal or useful life; expense R&D.
– Copyrights: life of creator +70 yrs; capitalize cost & defense; amortize useful life.
– Trademarks/Trade Names: renewable 20-yr periods indefinitely; capitalize acquisition; no amortization (indefinite life).
– Franchises & Licenses: limited-life → amortize; indefinite → no amortization.
– Goodwill: record only when purchasing a business; $\text{Goodwill}=\text{Purchase Price}−\text{FV(Net Assets)}$; no amortization, test & write-down if impaired.
• R&D Costs: always expensed when incurred under GAAP (not an intangible).
• Helpful Hint: Depreciation ≈ plant assets, Depletion ≈ natural resources, Amortization ≈ intangibles.

Amortization Entry Example (Patent)

• Cost $60,000$, life 8 yrs → annual $7,500$; six months $3,750$
• Dr Amortization Exp 3,750 / Cr Patent 3,750.

“Glass” Trademark Case (Google)

• Attempt to trademark “Glass” met regulatory opposition (too descriptive/similar).
• If successful, trademark would appear under Intangible Assets on balance sheet.

DO IT 4 – Classification Quick Check

1 Depletion, 2 Intangible Assets, 3 Copyrights, 4 Franchise, 5 R&D Costs.

Learning Objective 5 – Reporting & Analysis

• Balance-Sheet Presentation
– Combine plant assets + natural resources as “Property, Plant & Equipment.”
– List Intangible Assets separately.
• Asset Turnover Ratio
– Measures efficiency: $\text{Asset Turnover}=\frac{\text{Net Sales}}{\frac{\text{Beg Assets}+\text{End Assets}}{2}}$
– P&G example: $\frac{76{,}279}{\frac{144{,}266+129{,}495}{2}}≈0.56$ – each $1$ of assets generated $0.56$ sales.
• DO IT 5 (Paramour)
– Average assets $=\frac{460,000+540,000}{2}=500,000$; Turnover $=\frac{420,000}{500,000}=0.84$.

Learning Objective 6 – Exchanges of Plant Assets

• Record gain/loss because exchanges usually have commercial substance (future cash flows change).
• Loss Example (Roland)
– Old trucks BV $42,000$, FV $26,000$; cash paid $17,000$; Loss $16,000$.
– Entry: Dr Equip(new) $43,000$, Dr Acc Dep $22,000$, Dr Loss $16,000$ / Cr Equip(old) $64,000$, Cr Cash $17,000$.
• Gain Example (Mark Express)
– Old equip BV $12,000$, FV $19,000$; cash paid $3,000$; Gain $7,000$.
– Entry: Dr Equip(new) $22,000$, Dr Acc Dep $28,000$ / Cr Equip(old) $40,000$, Cr Cash $3,000$, Cr Gain $7,000$.

Learning Objective 7 – GAAP vs. IFRS for Long-Lived Assets

Similarities

• Definitions of plant assets & intangibles; historical cost at acquisition.
• Interest during construction capitalized.
• Same depreciation methods; changes in estimates handled prospectively.
• Subsequent expenditures & disposals treated similarly.
• Natural-resource accounting similar.
• Exchange gains recognized when exchange has commercial substance (recent convergence).

Differences

• Terminology: IFRS says “residual value” vs. GAAP “salvage value.”
• Revaluation Model: IFRS allows periodic revaluation to fair value for PPE & intangibles (except goodwill); GAAP prohibits.
• Component Depreciation: required under IFRS; optional (rare) under GAAP.
• R&D:
– Research phase expensed under both.
– Development phase capitalized under IFRS once technological feasibility reached; expensed under GAAP.

IFRS Self-Test Highlights

• Revaluation – Correct answer: IFRS permits revaluation of PPE & intangibles (except goodwill).
• R&D – Under GAAP, costs are expensed (development capitalized under IFRS).

Key Formulas & Numerical References (LaTeX)

• Straight-Line Depreciation $\text{Annual SL Expense}=\frac{\text{Cost−Salvage}}{\text{Useful Life}}$
• Units-of-Activity Rate $\text{Rate per Unit}=\frac{\text{Cost−Salvage}}{\text{Total Estimated Units}}$
• Double-Declining-Balance $\text{DDB Expense}=2\times\text{SL Rate}\times\text{Book Value}_{\text{Beg of Year}}$
• Revised Depreciation $\text{New Annual Expense}=\frac{\text{Book Value}−\text{New Salvage}}{\text{Remaining Life}}$
• Depletion $\text{Depletion per Unit}=\frac{\text{Cost−Salvage}}{\text{Total Units}}$
• Asset Turnover $\text{Asset Turnover}=\frac{\text{Net Sales}}{\frac{\text{Beg Assets}+\text{End Assets}}{2}}$

Ethical, Practical, & Real-World Connections

• WorldCom case demonstrates risk of misclassifying expenses as capital expenditures; proper documentation & verification controls are essential.
• Leasing prevalence in airlines, hotels underscores strategic asset-acquisition choices (taxes, obsolescence, balance-sheet optics).
• Google’s failed attempt to trademark “Glass” illustrates legal hurdles in securing indefinite-life intangible assets.
• IFRS vs. GAAP differences affect cross-border financial-statement analysis (revaluation surplus, component depreciation, development costs).