M8-1 LO1, 3, 6
Classifying Long-Lived Assets and Related Cost Allocation Concepts
For each of the following long-lived assets, indicate its nature and related cost allocation concept. Use the following symbols:
Nature Cost Allocation Concept
LLand&nbs p;DRDepreciation
BBuilding& nbsp;DPDepletion
EEquipment&n bsp;AAmortization
NRNatural resourcesNONo cost allocation
IIntangible ; OOther
OOther
Asset&nb sp;NatureCost Allocation
1.Copy right ------
2.Land held for use&nb sp;------
3.& nbsp;Warehouse ------
4.Oil well ------
5.New engine for old machine ------
6.Operation license&n bsp;------
7.Land held for sale&nbs p;------
8.Delivery vans& nbsp;------
9.Timber tract&nb sp;------
10.Production plant&n bsp;------
Allocation Concept
(1) / Copyright / I / A
(2) / Land held for use / L / NO
(3) / Warehouse / B / DR
(4) / Oil well / NR / DP
(5) / New engine for old machine / E / DR
(6) / Operating license / I / A
(7) / Land held for sale / O (investment) / NO
(8) / Delivery vans / E / DR
(9) / Timber tract / NR / DP
(10) / Production plant / B / DR
M8-2 LO1
Computing and Evaluating the Fixed Asset Turnover Ratio
The following information was reported by Cutter’s Air Cargo Services for 2007:
Net fixed assets (beginning of year)$1,500,000
Net fixed assets (end of year) 2,300,000
Net sales for the year ;3,300,000
Net income for the year1,600,000
Compute the company’s fixed asset turnover ratio for the year. What can you say about Cutter’s ratio when compared to Southwest’s 2007 ratio?
Cutter’s fixed asset turnover ratio is
= Net sales
[(Beginning net fixed asset balance + Ending net fixed asset balance) ¸ 2]
=
= 1.74
Cutter’s ratio is higher than Delta’s 2007 ratio of 0.94 indicating that Cutter may be somewhat more efficient in its use of fixed assets.
M8-3 LO2
Indentifying Capital and Revenue Expenditures
For each of the following items, enter the correct letter to the left to show the type of expenditure. Use the following:
Type of Expenditure Transactions
CCapital expenditure ----- (1) Paid $400 for ordinary repairs
RRevenue expenditure----- (2) Paid $6,000 for extraordinary repairs
NNeither----- (3) Paid $20,000, for addition to old building
----- (4) Paid for routine maintenance, $200, on credit
------(5) Purchased a machine, $7,000; gave long-term note
&n bsp;----- (6) Paid three-year insurance premium, $900.
&n bsp;----- (7) Purchased a patent, $4,300 cash.
&n bsp;___ (8) Paid $10,000 for monthly salaries.
&nbs p;____ (9) Paid cash dividends, $20,000
(1) R; (2) C; (3) C; (4) R ; (5) C; (6) N; (7) C; (8) R; (9) N.
M8-4 LO3
Computing Book Value (Straight-Line Depreciation) (Show your work)
Calculate the book value of a three-year-old machine that cost $21,000, has an estimated residual value of $1,000, and has an estimated useful life of four years. The company uses straight-line depreciation.
Machinery (original cost) $21,000
Accumulated depreciation at end of third year
Depreciation expense =
($21,000 cost – $1,000 residual value) x 1/4 years = $5,000
Accumulated depreciation = $5,000 annual depreciation expense x 3 yrs = 15,000
Net book value at the end of the third year $6,000
M8-6 L03
Computing Book Value (Units-of-Production Depreciation) (Show your work)
Calculate the book value of a four-year-old machine that cost $21,000, has an estimated residual value of $1,000, and has an estimated useful life of 20,000 machine hours. The company uses units-of-production depreciation and ran the machine 3,200 hours in year 1,7,050 hours in year 2,7,500 hours in year 3
Machinery (original cost) $21,000
Accumulated depreciation at end of third year
Depreciation expense per machine hour
= = $1
Accumulated depreciation Yr 1 Yr 2 Yr 3
= $1 depreciation expense per machine hr x (3,200+7,050+7,500) hrs = 17,750
Net book value at end of third year $3,250
M8-8LO5
Recording the Disposal of a Long-Lived Asset (Straight-Line Depreciation)(Show your work)
As part of a major renovation at the beginning of the year, Mullin’s Pharmacy, Inc., sold shelving units (store fixtures) that were 10 years old for $3,000 cash. The original cost of the shelves was $6,000 and had been depreciated on a straight-line basis over an estimated useful life of 13 years with an estimated residual value of $800. Record the sale of the shelving units.
Store fixtures (original cost) $6,000
Accumulated depreciation at end of tenth year
Depreciation expense =
($6,000 cost – $800 residual value) x 1/13 years = $400
Accumulated depreciation = $400 annual depreciation expense x 10 yrs = 4,000
Net book value at end of tenth year (i.e., NBV immediately prior to sale) $2,000
Journal entry to record the disposal is as follows.
Cash (+A) 3,000
Accumulated depreciation, store fixtures (-XA, +A) 4,000
Store fixtures (-A) 6,000
Gain on sale of store fixtures (+Gain, +SE) 1,000
E8-11 LO3, 7
Computing Depreciation and Book Value for Two Years Using Alternative Depreciation Methods and Interpreting the Impact on Cash Flows
Daisy Company brought a machine for $66,000 cash. The estimated useful life was four years, and the estimated residual value was $6,000. Assume that the estimated useful life in productive units is 120,000. Units actually produced were 43,000 in year 1 and 45,000 in year 2
Required:
1.Determine the appropriate amounts to complete the following schedule. Show computations, and round to the nearest dollar.
Depreciation Expense forNet Book Value at the End of
Method of DepreciationYear 1Year 2Year 1 Year 2
Straight-line
Units –of-production
Double-declining-balance
Method of Depreciation / Year 1 / Year 2 / Year 1 / Year 2
Straight-line / $15,000 / $15,000 / $51,000 / $36,000
Units-of-production / 21,500 / 22,500 / 44,500 / 22,000
Double-declining-balance / 33,000 / 16,500 / 33,000 / 16,500
Computations:
Amount to be depreciated: $66,000 – $6,000 = $60,000:
Straight-line: $60,000 ¸ 4 years = $15,000 per year
Units-of-production: $60,000 ¸ 120,000 units = $.50 per unit
Year 1: / 43,000 x $.50 / = / $21,500Year 2: / 45,000 x $.50 / = / $22,500
Double-declining-balance (Rate: 2 x the straight line rate of 25% (2/4) = 50%):
Year 1: / $66,000 x 50% = $33,000Year 2: / ($66,000 – $33,000) x 50% = $16,500
2. Which method would result in the lowest EPS for year 1?For year 2?
The double-declining balance method would result in the lowest EPS for Year 1 because it produced the highest depreciation expense and therefore the lowest income (from Requirement 1 above). In Year 2, the units-of-production method would result in the lowest EPS because it produced the highest depreciation expense and therefore the lowest income in that year.
3. Which method would result in the highest amount of cash outflows in year 1? Why?
Depreciation is a noncash expense; that is, no cash is paid when depreciation is recognized. Ignoring income tax implications, all methods have the same impact on cash flows in year 1. Assuming a method is applied for tax determination, the straight-line method will result in the lowest expense, highest net income, highest tax liability, and therefore the highest amount of cash outflows in year 1. Companies will select methods for tax purposes that reduce tax obligations.
4. Indicate the effects of (a) acquiring the machine and (b) recording annual depreciation on the operating and investing activities sections of the statement of cash flows (indirect method) for year 1 (assume the straight-line method).
The machine acquisition would decrease cash provided by investing activities by the purchase cost of $66,000. As a noncash expense, the annual depreciation should have no overall effect on cash provided by operating activities—however, because it is originally subtracted to arrive at net income, an adjustment needs to be made to reverse this effect for cash flows. Hence, $15,000 (the annual straight-line depreciation) must be added back to net income in the operating section of the statement of cash flows.
E8-12 LO4, 5
Inferring Asset Impairment and Recording Disposal of an Asset
United Parcel Service state in a recent 10-K report, “We are the world’s largest package delivery company and a leading global provider of specialized transportation and logistics services,” The following note and data were reported:
Note 1-Summary of Accounting Policies
Impairment of Long-Lived Assets
We review long-lived assets for impairment when circumstances indicate the carrying amount of an asset may not be recoverable based on the undiscounted future cash flows of the asset….In December (of a recent year), we permanently removed from service a number of Boeing 727 and DC-8 aircraft. As a result, we conducted an impairment evaluation, which result in…
&nb sp;Dollars in Million
Cost of property and equipment (beginning of Year)$25,361
Cost of property and equipment (ending of year)26,915
Capital expenditures during the year1,947
Accumulated depreciation (beginning of year)11, 749
Accumulated depreciation (ending of year) 13,007
Depreciation expense during the year1,549
Cost of property and equipment sold during the year318
Accumulated depreciation on property sold291
Cash received on property sold 118
Required:
1.Reconstruct the journal entry for the disposal of property and equipment during the year.
Beg. Bal / 25,361 / 318 / Property sold
Capital expenditures / 1,947 / 75 / Write-offs
End. Bal. / 26,915
Accumulated Depreciation
Property sold / 291 / 11,749 / Beg. bal.
1,549 / Depreciation expense
13,007 / End. bal.
Disposal of property and equipment:
Cash (+A) / 118Accumulated depreciation (-XA, +A) / 291
Property and equipment (-A) / 318
Gain on sale of property and equipment (+Gain, +SE) / 91
2.Compute the amount of property and equipment that United Parcel wrote off as impaired during the year. (Hint: Set up T-accounts)
Amount of property and equipment written off as impaired during the year:
Beginning balance / $25,361+ Capital expenditures during year / 1,947
- Cost of property sold during year / (318)
- Impairment loss during year / (?)
Ending balance / $26,915
Impairment loss = $75