Chapter 10

Plant Assets, Natural Resources,

and Intangible Assets

10-1
 10 Plant Assets, Natural Resources,
and Intangible Assets

Learning Objectives
1 Explain the accounting for plant asset expenditures.

2 Apply depreciation methods to plant assets.

3 Explain how to account for the disposal of plant assets.

Describe how to account for natural resources and

4 intangible assets.
Discuss how plant assets, natural resources, and
5 intangible assets are reported and analyzed.
10-2
LEARNING Explain the accounting for plant asset
OBJECTIVE
1
expenditures.

Plant assets are resources that have

 physical substance (a definite size and shape),

 are used in the operations of a business,

 are not intended for sale to customers,

 are expected to be of use to the company for a number of

years.

Referred to as property, plant, and equipment; plant and

equipment; and fixed assets.

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 Plant Assets

Plant assets are critical to a company’s success

Illustration 10-1

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 Determining the Cost of Plant Assets

Historical Cost Principle requires that companies record

plant assets at cost.

Cost consists of all expenditures necessary to acquire

an asset and make it ready for its intended use.

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 Determining the Cost of Plant Assets

LAND
All necessary costs incurred in making the land ready for
its intended use increase (debit) the Land account.

Costs typically include:

1. cash purchase price,

2. closing costs such as title and attorney’s fees,

3. real estate brokers’ commissions, and

4. accrued property taxes and other liens on the land

assumed by the purchaser.

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 Determining the Cost of Plant Assets

Illustration: Hayes Company acquires real estate at a cash

cost of $100,000. The property contains an old warehouse that
is razed at a net cost of $6,000 ($7,500 in costs less $1,500
proceeds from salvaged materials). Additional expenditures are
the attorney’s fee, $1,000, and the real estate broker’s
commission, $8,000.

Required: Determine the amount to be reported as the cost of

the land.

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 Determining the Cost of Plant Assets

Required: Determine amount to be reported as the cost of the

land.
Land
Cash price of property ($100,000) $100,000
Net removal cost of warehouse ($7,500-$1,500) 6,000
Attorney's fees ($1,000) 1,000
Real estate broker’s commission ($8,000) 8,000
Cost of Land $115,000
Illustration 10-2
Computation of cost of land

10-8 LO 1
 Determining the Cost of Plant Assets

BUILDINGS
Includes all costs related directly to purchase or construction.

Purchase costs:
 Purchase price, closing costs (attorney’s fees, title
insurance, etc.) and real estate broker’s commission.
 Remodeling and replacing or repairing the roof, floors,
electrical wiring, and plumbing.
Construction costs:
 Contract price plus payments for architects’ fees, building
permits, and excavation costs.
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 Determining the Cost of Plant Assets

EQUIPMENT
Include all costs incurred in acquiring the equipment and
preparing it for use.

Costs typically include:

 Cash purchase price.

 Sales taxes.
 Freight charges.
 Insurance during transit paid by the purchaser.
 Expenditures required in assembling, installing, and testing
the unit.
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 Determining the Cost of Plant Assets

Illustration: Lenard Company purchases a delivery truck at a

cash price of $22,000. Related expenditures are sales taxes
$1,320, painting and lettering $500, motor vehicle license $80,
and a three-year accident insurance policy $1,600. Compute
the cost of the delivery truck.
Truck
Cash price $22,000
Sales taxes 1,320
Painting and lettering 500

Illustration 10-4
Computation of cost of
delivery truck Cost of Delivery Truck $23,820

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 Determining the Cost of Plant Assets

Illustration: Lenard Company purchases a delivery truck at a

cash price of $22,000. Related expenditures are sales taxes
$1,320, painting and lettering $500, motor vehicle license $80,
and a three-year accident insurance policy $1,600. Prepare the
journal entry to record these costs.

Equipment 23,820
License Expense 80
Prepaid Insurance 1,600
Cash 25,500

10-12 LO 1
 Motor vehicle licensing is where you pay a fee to
use your vehicle on public roads. The fee helps to
pay for roading projects and road safety
programmes, must renew when expires
The payments for insurance and the license are
operating costs and therefore are expensed.

10-13
 Expenditures During Useful Life

Ordinary Repairs are expenditures to maintain the operating

efficiency and productive life of the unit.
 Debit to Maintenance and Repair Expense.
 Referred to as revenue expenditures.

Additions and Improvements are costs incurred to

increase the operating efficiency, productive capacity, or
useful life of a plant asset.
 Debit the plant asset affected.
 Referred to as capital expenditures.

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 ANATOMY OF A FRAUD

Bernie Ebers was the founder and CEO of the phone company WorldCom. The
company engaged in a series of increasingly large, debt-financed acquisitions of other
companies. These acquisitions made the company grow quickly, which made the stock price
increase dramatically. However, because the acquired companies all had different accounting
systems, WorldCom’s financial records were a mess. When WorldCom’s performance started
to flatten out, Bernie coerced WorldCom’s accountants to engage in a number of fraudulent
activities to make net income look better than it really was and thus prop up the stock price.
One of these frauds involved treating $7 billion of line costs as capital expenditures. The line
costs, which were rental fees paid to other phone companies to use their phone lines, had
always been properly expensed in previous years. Capitalization delayed expense recognition
to future periods and thus boosted current-period profits.

Total take: $7 billion

THE MISSING CONTROLS
Documentation procedures. The company’s accounting system was a disorganized collection
of non-integrated systems, which resulted from a series of corporate acquisitions. Top
management took advantage of this disorganization to conceal its fraudulent activities.
Independent internal verification. A fraud of this size should have been detected by a routine
comparison of the actual physical assets with the list of physical assets shown in the accounting
records.

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 LEARNING Apply depreciation methods to plant
OBJECTIVE
2
assets.

Depreciation
Process of allocating to expense the cost of a plant asset
over its useful (service) life in a rational and systematic
manner.

 Process of cost allocation, not asset valuation.

 Applies to land improvements, buildings, and equipment,

not land.

 Depreciable because the revenue-producing ability of

asset will decline over the asset’s useful life.

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 Factors in Computing Depreciation

Illustration 10-6
Three factors in computing
Helpful Hint
depreciation
Depreciation expense is reported on
the income statement. Accumulated
depreciation is reported on the balance
Alternative Terminology
sheet as a deduction from plant assets.
Another term sometimes used for
salvage value is residual value.

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 Depreciation Methods

Management selects the method it believes best measures

an asset’s contribution to revenue over its useful life.

Examples include:
1. Straight-line method
2. Units-of-activity method
3. Declining-balance method

Illustration 10-8
Use of depreciation methods
in major U.S. companies

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 Depreciation Methods

Illustration: Barb’s Florists purchased a small delivery truck on

January 1, 2017.
Illustration 10-7
Delivery truck data
Cost $13,000
Expected salvage value $1,000
Estimated useful life in years 5
Estimated useful life in miles 100,000

Required: Compute depreciation using the following.

(a) Straight-Line (b) Units-of-Activity (c) Declining Balance

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 Depreciation Methods

STRAIGHT-LINE METHOD
 Expense is same amount for each year.
 Depreciable cost = Cost less salvage value.

Illustration 10-9
Formula for straight-line
method

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 Depreciation Methods

Illustration: (Straight-Line)
Illustration 10-10
Annual
Depreciable Depreciation Accumulated Book
Year Cost x Rate = Expense Depreciation Value
2017 $ 12,000 20% $ 2,400 $ 2,400 $ 10,600 *
2018 12,000 20 2,400 4,800 8,200
2019 12,000 20 2,400 7,200 5,800
2020 12,000 20 2,400 9,600 3,400
2021 12,000 20 2,400 12,000 1,000

2017 Depreciation expense 2,400

Journal Accumulated depreciation 2,400
Entry

10-21 * Book value = Cost - Accumulated depreciation = ($13,000 - $2,400). LO 2

 Depreciation Methods Partial
Year
Illustration: (Straight-Line)
Assume the delivery truck was purchased on April 1, 2017.
Annual Current
Depreciable Depreciation Partial Year Accumulated
Year Cost Rate Expense Year Expense Depreciation
2017 $ 12,000 x 20% = $ 2,400 x 9/12 = $ 1,800 $ 1,800
2018 12,000 x 20% = 2,400 2,400 4,200
2019 12,000 x 20% = 2,400 2,400 6,600
2020 12,000 x 20% = 2,400 2,400 9,000
2021 12,000 x 20% = 2,400 2,400 11,400
2022 12,000 x 20% = 2,400 x 3/12 = 600 12,000
$ 12,000
Journal entry:
2017 Depreciation expense 1,800
Accumulated depreciation 1,800
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 DO IT! 2 Straight-Line Depreciation

On January 1, 2017, Iron Mountain Ski Corporation purchased a

new snow-grooming machine for $50,000. The machine is
estimated to have a 10-year life with a $2,000 salvage value.
What journal entry would Iron Mountain Ski Corporation make at
December 31, 2017, if it uses the straight-line method of
depreciation?

Solution

Depreciation expense 4,800

Accumulated depreciation 4,800

($50,000 - $2,000) ÷ 10 = $4,800

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 Depreciation Methods

UNITS-OF-ACTIVITY METHOD
 Companies estimate total units of activity to calculate
depreciation cost per unit.

 Expense varies based on units of activity.

 Depreciable cost is cost less salvage value.

Alternative Terminology
Another term often used
is the units-of-production
method.

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 Depreciation Methods

UNITS-OF-ACTIVITY METHOD

Illustration 10-11
Formula for units-of-activity method

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 Depreciation Methods

Illustration: (Units-of-Activity)
Illustration 10-12
Cost Annual
Miles per Depreciation Accumulated Book
Year Driven x Unit = Expense Depreciation Value

2017 15,000 $ 0.12 $ 1,800 $ 1,800 $ 11,200

2018 30,000 0.12 3,600 5,400 7,600
2019 20,000 0.12 2,400 7,800 5,200
2020 25,000 0.12 3,000 10,800 2,200
2021 10,000 0.12 1,200 12,000 1,000

2017 Depreciation expense 1,800

Journal Accumulated depreciation 1,800
Entry
10-26 LO 2
 Depreciation Methods

DECLINING-BALANCE METHOD
 Accelerated method.

 Decreasing annual depreciation expense over the asset’s

useful life.

 Twice the straight-line rate with Double-Declining-Balance.

 Rate applied to book value.

Illustration 10-13

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 Depreciation Methods
Illustration: (Declining-Balance)
Illustration 10-14
Declining Annual
Beginning Balance Depreciation Accumulated Book
Year Book value x Rate = Expense Depreciation Value

2017 $13,000 40% $ 5,200 $ 5,200 $ 7,800

2018 7,800 40 3,120 8,320 4,680
2019 4,680 40 1,872 10,192 2,808
2020 2,808 40 1,123 11,315 1,685
2021 1,685 40 685* 12,000 1,000

2017 Depreciation expense 5,200

Journal Accumulated depreciation 5,200
Entry

10-28 * Computation of $674 ($1,685 x 40%) is adjusted to $685. LO 2

 Depreciation Methods Partial
Year
Illustration: (Declining-Balance)
Declining Annual Current
Beginning Balance Depreciation Partial Year Accumulated
Year Book Value Rate Expense Year Expense Depreciation
2017 $ 13,000 x 40% = $ 5,200 x 9/12 = $ 3,900 $ 3,900
2018 9,100 x 40% = 3,640 3,640 7,540
2019 5,460 x 40% = 2,184 2,184 9,724
2020 3,276 x 40% = 1,310 1,310 11,034
2021 1,966 x 40% = 786 786 11,820
2022 1,180 x 40% = 472 Plug 180 12,000
$ 12,000
Journal entry:

2017 Depreciation expense 3,900

Accumulated depreciation 3,900

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 Depreciation Methods
Illustration 10-15

COMPARISON
OF METHODS

Illustration 10-16

Helpful Hint
Under any method,
depreciation stops
when the asset’s book
value equals expected
salvage value.

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 Presentation

Illustration 10-22

Illustration 10-23
Owens-Illinois’ presentation of
property, plant, and equipment,
and intangible assets

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 Retirement of Plant Assets

Illustration: Hobart Enterprises retires its computer

printers, which cost $32,000. The accumulated
depreciation on these printers is $32,000. Prepare the
entry to record this retirement.

Accumulated Depreciation 32,000

Equipment 32,000

Question: What happens if a fully depreciated plant asset

is still useful to the company?
Company continues to use the asset with no additional
depreciation being recorded as the asset is fully
10-32 depreciated. LO 3
 Retirement of Plant Assets

Illustration: Sunset Company discards delivery

equipment that cost $18,000 and has accumulated
depreciation of $14,000. The journal entry is?

Accumulated Depreciation 14,000

Loss on Disposal of Plant Assets 4,000
Equipment 18,000

Companies report a loss on disposal in the “Other

expenses and losses” section of the income statement.

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 Sale of Plant Assets

Compare the book value of the asset with the proceeds

received from the sale.
 If proceeds exceed the book value, a gain on
disposal occurs.

 If proceeds are less than the book value, a loss on

disposal occurs.

10-34 LO 3
 Sale of Plant Assets

GAIN ON SALE
Illustration: On July 1, 2017, Wright Company sells office
furniture for $16,000 cash. The office furniture originally
cost $60,000. As of January 1, 2017, it had accumulated
depreciation of $41,000. Depreciation for the first six
months of 2017 is $8,000. Prepare the journal entry to
record depreciation expense up to the date of sale.

July 1 Depreciation Expense 8,000

Accumulated Depreciation 8,000

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 GAIN ON SALE Illustration 10-19
Computation of gain
on disposal

Illustration: Wright records the sale as follows.

July 1 Cash 16,000

Accumulated Depreciation 49,000
Equipment 60,000
Gain on Disposal of Plant Assets 5,000

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 LOSS ON SALE

Illustration: Assume that instead of selling the office

furniture for $16,000, Wright sells it for $9,000.
Illustration 10-20
Computation of
loss on disposal

July 1 Cash 9,000

Accumulated Depreciation 49,000
Loss on Disposal of Plant Assets 2,000
Equipment 60,000
10-37 LO 3
 Recognition of the elements of
financial statements
Items which meet the definition of assets or liabilities
may still not be recognised in financial statements
because they must also meet certain recognition
criteria.
Recognition. The process of incorporating in the
statement of financial position or statement of profit or
loss and other comprehensive income an item that
meets the definition of an element and satisfies the
following criteria for recognition:
(a) It is probable that any future economic benefit
associated with the item will flow to or from the entity
(b) The item has a cost or value that can be measured
with reliability
10-38
 Intangible Assets

Intangible assets are rights, privileges, and competitive

advantages that result from ownership of long-lived assets
that do not possess physical substance.

Limited life or indefinite life.

Common types of intangibles:

 Patents  Trademarks and Trade

Names
 Copyrights
 Franchises
 Goodwill

10-39 LO 4
 Accounting for Intangible Assets

Limited-Life Intangibles:
Helpful Hint
 Amortization is to
Amortize to expense.
intangibles what
depreciation is to plant
 Credit asset account.
assets and depletion is
to
natural resources.
Indefinite-Life Intangibles:
 No foreseeable limit on time the asset is expected to
provide cash flows.
 No amortization.

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 Accounting for Intangible Assets

PATENTS
 Exclusive right to manufacture, sell, or otherwise
control an invention for a period of 20 years from the
date of the grant.

 Capitalize costs of purchasing a patent and amortize

over its 20-year life or its useful life, whichever is
shorter.

 Expense any R&D costs in developing a patent.

 Legal fees incurred successfully defending a patent

are capitalized to the Patent account.
10-41 LO 4
 Accounting for Intangible Assets

Illustration: National Labs purchases a patent at a cost of

$60,000. National estimates the useful life of the patent to
be eight years. Prepare the journal entry to record the
annual amortization expense.

Cost $60,000
Useful life ÷ 8
Annual expense $ 7,500

Amortization Expense 7,500

Patents 7,500

10-42 LO 4
 Accounting for Intangible Assets

COPYRIGHTS
 Give the owner the exclusive right to reproduce and
sell an artistic or published work.

 Extend for the life of the creator plus 70 years.

 Cost of the copyright is the cost of acquiring and

defending it.

 Amortized to expense over useful life.

10-43 LO 4
 Accounting for Intangible Assets

TRADEMARKS AND TRADE NAMES

 Word, phrase, jingle, or symbol that identifies a
particular enterprise or product.

► Wheaties, Monopoly, Kleenex, Coca-Cola, Big

Mac, and Jeep.

 Legal protection for indefinite number of 20 year

renewal periods.

 Capitalize acquisition costs.

 No amortization.

10-44 LO 4
 Accounting for Intangible Assets

FRANCHISES
 Contractual arrangement between a franchisor and a
franchisee.

► Shell, Subway, and Rent-A-Wreck are franchises.

 Franchise (or license) with a limited life should be

amortized to expense over its useful life.

 If the life is indefinite, the cost is not amortized.

10-45 LO 4
 Accounting for Intangible Assets

GOODWILL
 Includes exceptional management, desirable location,
good customer relations, skilled employees, high-
quality products, etc.

 Only recorded when an entire business is

purchased.

 Goodwill is recorded as the excess of purchase price

over the fair value of the net assets acquired.

 Not amortized.

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 Research and Development Costs

Expenditures that may lead to

 patents, All R & D costs
are expensed
 copyrights, when incurred.
 new processes, and

 new products. Helpful Hint

Research and development
(R&D) costs are not
intangible assets. But
because they may lead to
patents and copyrights, we
discuss them in this section.

10-47 LO 4
 Example for R&D

Laser Scanner Company spent $3 million on R&D that

resulted in two highly sucessful patents. It spent
$20,000 on legal fees for the patents. The company
would add the lawyers’ fees to the Patents account.
The R&D costs, however, cannot be included in the
cost of the patents. Instead the company would record
the R&D costs as an expense when incurred.
Argue for: capitalizing these costs will lead to highly
speculative assets on B/S
Argue against: expensing R&D costs leads to
understated assets and net income.

10-48
 Analysis

Illustration: P&G’s net sales for 2013 were $84,167 million.

Its total ending assets were $139,263 million, and beginning
assets were $132,244 million. Illustration 10-24
Asset turnover formula and computation

Each dollar invested in assets produced $0.62 in sales. If a

company is using its assets efficiently, each dollar of assets
will create a high amount of sales.
10-49 LO 5
 DO IT!5 Asset Turnover

Paramour Company reported net income of $180,000, net

sales of $420,000, and had total assets of $460,000 on
January 1, 2017, and total assets on December 31, 2017, of
$540,000 billion. Determine Paramour’s asset turnover for
2017.

Solution
The asset turnover for Paramour Company is computed as follows.
Net Sales ÷ Average Total Assets = Asset Turnover

$420,000 ÷ $460,000 + $540,000 = .84

2

10-50 LO 5