Glossary—Chapter 10

additions Increase or extension of existing assets, such as adding a wing to a hospital. Companies capitalize any addition to plant assets because a new asset is created. (p. 509).

avoidable interest The amount of interest cost in a period that a company could theoretically avoid if it had not made expenditures for an asset. When a company capitalizes interest expense, the amount of interest to capitalize is limited to the lower of actual interest cost incurred during the period or the amount of avoidable interest. (p. 494).

capital expenditure Expenditure whose purpose is to create a new asset or to increase an asset’s future benefits. Such expenditures are to be capitalized, rather than expensed. (p. 508).

capitalization period The period of time during which a company must capitalize interest. The period lasts for as long as three conditions are present: expenditures for the asset have been made, activities needed to prepare the asset for its intended use are in progress, and interest cost is being incurred. (p. 494).

commercial substance In accounting for exchanges of nonmonetary assets, the basis for measuring the gain or loss on an exchange. If the future cash flows change (if the two parties’ economic positions change) as a result of the transaction, the transaction is said to have commercial substance and the parties to the exchange recognize a gain or loss on the exchange. (p. 501).

fixed assets Assets of a durable nature used in the regular operations of a business. Also called property, plant, and equipment and plant assets. (p. 490).

historical cost The cash or cash equivalent price of obtaining an asset and bringing it to the location and condition necessary for its intended use. Most companies use historical cost as the basis for valuing property, plant, and equipment. Historical cost typically includes the purchase price, freight costs, sales taxes, installation costs, and any related costs incurred after the asset’s acquisition (such as additions or improvements) if they provide future service potential. Historical cost is allocated to future periods through depreciation. (p. 490).

improvements (betterments) The substitution of a better asset for the one currently used (say, a concrete floor in a factory for a wooden floor). If the expenditure for an improvement increases future service potential of an asset, the company capitalizes the cost of the improvement. (p. 509).

involuntary conversion The termination of an asset’s service as a result of some type of unwanted or unexpected event, such as fire, flood, theft, or condemnation. Companies report the difference between the amount recovered from the involuntary conversion, if any, and the asset’s book value as a gain or loss. In rare cases, these gains or losses are reported as extraordinary items in the income statement. (p. 512).

lump-sum price A single amount paid for a group of plant assets. To determine the cost for the individual assets acquired in a lump-sum purchase, the company allocates the total cost among the various assets on the basis of their relative fair values. (p. 500).

major repairs Significant expenditures, such as an overhaul, whose purpose it to maintain assets in operating condition. Several periods benefit from major repairs, and companies should depreciate the cost of such repairs as they would the costs for an addition, improvement, or replacement. (p. 510).

nonmonetary assets Fixed assets such as property, plant, and equipment. Ordinarily companies account for the exchange of nonmonetary assets by recognizing immediately any gains or losses on the exchange, using the fair value of the asset given up or the fair value of the asset received, whichever is clearly more evident. The accounting for exchanges of nonmonetary assets with a gain involves assessing whether the transaction has commercial substance. (p. 501).

nonreciprocal transfers Contributions (donations or gifts of cash, securities, land, buildings, or use of facilities) that transfer assets in only one direction. Companies that receive contributions should record the transferred asset at its fair value. In general, companies should recognize contributions as revenue in the period received. (p. 506).

ordinary repairs Routine expenditures to maintain plant assets in operating condition. Examples are replacing minor parts, lubricating and adjusting equipment, repainting, and cleaning. Companies treat ordinary repairs as operating expenses and charge these amounts to an expense account in the period incurred. (p. 510).

plant assets Assets of a durable nature used in the regular operations of a business. Also called property, plant, and equipment and fixed assets. (p. 490).

property, plant, and equipment Assets of a durable nature used in the regular operations of a business. Also called fixed assets and plant assets. (p. 490).

prudent cost A concept that states that if for some reason a company ignorantly paid too much for an asset originally, it is theoretically preferable to charge a loss immediately. (p. 507).

rearrangement and reinstallation costs The costs of moving assets from one location to another. Companies incur such costs to benefit future periods. If a company can determine or estimate the original installation cost and the accumulated depreciation to date, it handles the rearrangement and reinstallation cost as a replacement. If not, the company capitalizes the new costs. If these costs are immaterial or if they cannot be separated from other operating expenses, the company should immediately expense them. (p. 510).

replacements The substitution of a similar asset for an existing asset (e.g., a new wooden floor for an old wooden floor). If the expenditure for the replacement increases the service potential, a company should capitalize the cost of the replacement. (p. 509).

revenue expenditure Expenditure whose purpose is to maintain a given level of services (or revenues generated from these expenditures). Ordinary repairs are an example. Revenue expenditures are expensed in the period in which they take place. (p. 508).


Glossary, Chapter 10 (cont’d.)

self-constructed asset An asset that a company constructs on its own. Without a purchase price or contract price, the company must allocate costs and expenses to arrive at the cost of the self-constructed asset. Materials and direct labor used in construction come directly from work and material orders related to the asset. To account for indirect overhead costs for the constructed asset, the company assigns a portion of all overhead to the construction process. (p. 492).

weighted-average accumulated expenditures A measure used in determining the amount of interest that can be capitalized. Computed by weighting construction expenditures by the amount of time (e.g., fraction of a year) that a company can incur interest cost on the expenditure. (p. 495).