Financial Accounting

Eleventh Edition
Global Edition

Chapter 7
PPE

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Long-Lived Assets and Related
Expense Accounts

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Learning Objectives (1 of 2)
7.1 Understand the different types of long-term assets
7.2 Determine the cost of PPE on initial recognition
7.3 Understand when to capitalize or expense
subsequent costs
7.4 Measure and record depreciation

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Learning Objective 7.1
Understand the different types of long-term assets

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Understand the different types of
long-term assets
Property, Plant and Equipment (PPE):
The cost of any asset is the sum of all the costs
incurred to bring the asset to its intended use.
• Costs include:
‒ Purchase price
‒ Taxes
‒ Commissions
‒ Other costs to make the asset ready for use

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Learning Objective 7.2
Determine the cost of PPE on initial recognition

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (1 of 11)
Land
• Costs include:
– Purchase price
– Brokerage commission
– Survey fees
– Legal fees
– Back property taxes
– Expenditures for grading and clearing land
– Removing any unwanted buildings

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (2 of 11)
Land Improvements and Leasehold Improvements
• Cost of land improvements:
– Driveways signs
– Fences
– Sprinkler systems
– Other similar items

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (3 of 11)
Land Improvements and Leasehold Improvements
• Leasehold improvements:
– Improvements made to leased property
– Depreciated or amortized over the lease term

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (4 of 11)
Airbus signs a €300,000 note payable to purchase a parcel
of land for a new logistic site. Airbus also pays €10,000 for
real estate commission, €13,000 of stamp duty, a €1,000
land survey fee, and €16,000 to pave the parking lot—all in
cash. What should Airbus recognize as the cost of this
land?

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (5 of 11)
Airbus signs a €300,000 note payable to purchase a
parcel of land for a new logistic site. Airbus also pays
€10,000 for real estate commission, €13,000 of stamp
duty, a €1,000 land survey fee, and €16,000 to pave the
parking lot—all in cash.

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (6 of 11)
Building, Machinery, and Equipment
• Cost of constructing a building includes:
– Architectural fees
– Building permits
– Contractors’ charges
– Payment for material, labor, and overhead
– Interest on money borrowed to finance
construction

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (7 of 11)
Building, Machinery, and Equipment
• Cost of purchasing a building includes:
– Purchase price
– Brokerage commission
– Sales and other taxes
– Expenditures to repair and renovate building for its
intended purpose

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Determine the cost of PPE on initial
recognition (8 of 11)
Building, Machinery, and Equipment
• Cost of equipment:
– Purchase price (less any discounts)
– Transportation from the seller
– Insurance while in transit
– Sales and other taxes
– Purchase commission
– Installation costs
– Expenditures to test the asset before it’s placed in
service
– Cost of any special platforms
Copyright © 2018 Pearson Education, Inc. All Rights Reserved.
Learning Objective 7.3
Understand when to capitalize or expense subsequent
costs

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Understand when to capitalize or
expense subsequent costs
• Capital expenditure → increase the asset’s capacity
or extends its useful life
• Capitalized means the cost is added to an asset
account rather than being expensed immediately

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-4 Capital Expenditure or
Immediate Expense for Costs
Associated with a Delivery Truck

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Learning Objective 7.4
Measure and record depreciation

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Measure and Record Depreciation
(1 of 2)

Book Value
Plant assets are recorded on the balance sheet at their
book value.
Book Value = Cost − Accumulated Depreciation

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Measure and Record Depreciation
(2 of 2)

• Depreciation
– Process of allocating a plant asset’s cost to
expense over its life
– Necessary as plant assets wear out, grow
obsolete, and lose value over time
– Allocates cost against revenue it helps earn each
period
– Depreciation expense is reported on the income
statement
– Land is not depreciated

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-5 Allocating Cost of Assets Over
Useful Life

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Measure and Record Depreciation
(3 of 2)

• Cost
‒ Purchase price and all costs to get plant asset
ready for use, known amount
• Estimated Useful Life
‒ Length of service expected from using the asset,
estimated amount
• Estimated Residual Value
‒ Expected cash value of an asset at the end of its
useful life, estimated amount

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (1 of 6)
• Three main depreciation methods:
– Constant allocation (straight line)
– By actual usages (units of production)
– Accelerated allocation (double-declining balance)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-6 Data for Depreciation
Computations (1 of 4)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (2 of 6)
• Straight-Line Method
– Equal amount of depreciation assigned each
period
– Depreciable cost divided by useful life to determine
annual depreciation expense

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-6 Data for Depreciation
Computations (2 of 4)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (3 of 6)
Straight-Line Method

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-7 Straight-Line Depreciation
Schedule

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (4 of 6)
• Units-of-Production Method
– Fixed amount of depreciation is assigned to each
unit of output produced by the asset
– Depreciable cost is divided by useful life–in units of
production–to determine fixed amount per unit
– Per-unit amount then multiplied by number of units
produced each period to compute depreciation
expense

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-6 Data for Depreciation
Computations (3 of 4)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-8 Units-of-Production (UOP)
Depreciation Schedule
Assume that Airbus expects to drive the truck 20,000
miles during the first year, 30,000 during the second,
25,000 during the third, 15,000 during the fourth, and
10,000 during the fifth. Exhibit 7-8 shows the UOP
depreciation schedule.

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (5 of 6)
• Double-Declining-Balance Method
– Writes off a larger amount of cost near the start of
asset’s useful life
– Most frequently used accelerated depreciation
method
– Multiplies asset’s declining book value at the
beginning of the year by a constant percentage,
two times the straight-line depreciation rate

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-6 Data for Depreciation
Computations (4 of 4)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-9 Double-Declining-Balance
(DDB) Depreciation Schedule

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation Methods (6 of 6)
• DDB method differs from others in two ways:
– Residual value is ignored initially
– Final year depreciation is a “plug”

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Comparing Depreciation Methods (1 of 2)
• Straight-line
‒ Best for plant assets that generate revenue evenly
over time
• Units-of-production
‒ Best for assets that wear out because of use
• Double-declining-balance
‒ Best for assets that generate more revenue earlier
in their useful life

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Comparing Depreciation Methods (2 of 2)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-10 Depreciation Patterns
Through Time

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Exhibit 7-11 Depreciation Methods
Used by 170 Companies

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Other Issues in Accounting for Plant
Assets
• Plant assets are complex because
– They have long lives
– Depreciation affects income taxes
– Companies may have gains or losses when they
sell plant assets
– Possible international accounting changes in the
future

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation for Tax Purposes
• Most companies use straight-line depreciation for
financial reporting, but the double-declining-balance
method for tax purposes.
• Accelerated depreciation provides fastest tax
deductions → Tax deductions reduce income taxes →
Reduced income taxes helps conserve cash

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Depreciation for Partial Years
Suppose Airbus purchases a warehouse building on
April 1 for €500,000. The building’s estimated life is 20
years, and its estimated residual value is €80,000.
Airbus’s fiscal year-end is December 31.

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Learning Objective 7.5
Account for PPE disposals

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (1 of 8)
• Before accounting for disposal, the business should
bring the depreciation up to date to:
– Update the asset’s final book value
– Record the expense up to the date of disposal

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (2 of 8)
Disposing of a Fully Depreciated Asset for No
Proceeds. Suppose the final year’s depreciation
expense has just been recorded for a machine that cost
$60,000 and has a residual value of zero.

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (3 of 8)
Disposing of a Not Fully Depreciated Asset for No
Proceeds. Suppose FedEx disposes of equipment that
cost $60,000. This asset only has $50,000 of
accumulated depreciation and a book value of $10,000.

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (4 of 8)
Selling a PPE. Suppose Zar Zar Trading sells equipment
on September 30, 20X8 for $7,300 cash. The equipment
cost $10,000 when purchased on January 1, 20X5 and
has been depreciated straight-line. It had an estimated
life of 10 years with no residual value. The depreciation
entry on September 30, 20X8 is:

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (5 of 8)

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.

Account for PPE disposals (6 of 8)
Selling a PPE. Suppose Zar Zar Trading sells
equipment on September 30, 20X8 for $7,300 cash.
The equipment cost $10,000 when purchased on
January 1, 20X5 and has been depreciated straight-line.
It had an estimated life of 10 years with no residual
value. The entry to record the sale is:

Copyright © 2018 Pearson Education, Inc. All Rights Reserved.