CH 09

Kimmel, Weygandt, Kieso, Trenholm
Financial Accounting, Third Canadian Edition
CHAPTER 9
Reporting and Analyzing Long-Lived Assets
ASSIGNMENT CLASSIFICATION TABLE
Study Objectives 1. Describe how the cost principle applies to property, plant, and equipment. Questions 1, 2, 3 Brief Exercises 1, 2, 3 Exercises 1, 8 A Problems 1A, 2A B Problems 1B, 2B
2.
Explain the concept of, 4, 5, 6 and calculate, amortization. Describe other account- 7, 8, 9, 10 ing issues related to amortization. Explain how to account for the disposal of property, plant, and equipment. 11, 12, 13
2, 3, 8, *12 3, 4
3A, 4A, 5A 3B, 4B, 6A, *11A, 5B, 6B, *12A *11B, *12B 5A 5B
3.
4.
6, 7
4A, 6A
4B, 6B
5.
Identify the basic issues 14, 15, 16 related to accounting for intangible assets. Indicate how long-lived assets are reported in the financial statements. 17, 18
8, 9
6, 7, 8
7A, 8A
7B, 8B
6.
9, 10, 11
6, 9
4A, 8A
4B, 8B
7.
Describe the methods 19, 20, 21 for evaluating the use of assets. *22, *23
12
10
9A, 10A
9B, 10B
*8. Calculate amortization using the declining-balance method and the units-of-activity method (Appendix 9A).
*13, *14
*11, *12
*11A, *12A *11B, *12B
Solutions Manual 9-1 Chapter 9 Copyright 2006 John Wiley & Sons Canada, Ltd. Unauthorized copying, distribution, or transmission of this page is strictly prohibited.
ASSIGNMENT CHARACTERISTICS TABLE

Problem Number 1A 2A 3A 4A 5A 6A 7A 8A 9A 10A *11A *12A 1B 2B 3B 4B 5B Description Analyze and record property transactions. Classify operating and capital expenditures. Calculate straight-line amortization and compare effects of different methods. Record property, plant, and equipment transactions; prepare partial balance sheet. Calculate amortization; discuss revision of estimate. Record acquisition, amortization, and disposal of equipment. Correct errors in recording intangible asset transactions. Record intangible asset transactions; prepare partial balance sheet. Calculate and evaluate ratios. Evaluate ratios. Calculate and compare amortization under straightline and declining-balance methods. Calculate and compare amortization under straightline and units-of-activity methods. Analyze and record property transactions. Classify operating and capital expenditures. Calculate straight-line amortization and compare effects of different methods. Record property, plant, and equipment transactions; prepare partial balance sheet. Calculate amortization; discuss revision of estimate. Difficulty Level Simple Moderate Moderate Moderate Moderate Simple Moderate Moderate Moderate Moderate Moderate Moderate Simple Moderate Moderate Moderate Moderate Time Allotted (min.) 20-30 15-20 40-50 30-40 10-15 15-20 30-40 30-40 30-40 20-30 30-40 30-40 20-30 15-20 40-50 30-40 10-15
Problem Number 6B 7B 8B 9B 10B *11B *12B
Description Record acquisition, amortization, and disposal of equipment. Correct errors in recording intangible asset transactions. Record intangible asset transactions; prepare partial balance sheet. Calculate and evaluate ratios. Evaluate ratios. Calculate and compare amortization under straightline and declining-balance methods. Calculate and compare amortization under straightline and units-of-activity methods.
Difficulty Level Simple Moderate Moderate Moderate Moderate Moderate Moderate
Time Allotted (min.) 15-20 30-40 30-40 30-40 20-30 30-40 30-40
ANSWERS TO QUESTIONS
1.
For long-lived assets, the cost principle requires that long-lived assets be recorded at cost, which consists of all expenditures necessary to acquire the asset and make it ready for its intended use. The matching principle requires that the cost of a long-lived asset be amortized to expense over the assets useful life. RIM added $20 million in legal defence costs to its Patent account because the costs were considered necessary to prove the patents validity. The costs were not recorded as an operating cost because they benefit future periods of RIM. The main advantages of leasing are (1) reduced risk of obsolescence, (2) 100 percent financing, (3) income tax advantages, and (4) reduced recorded assets and liabilities. You should explain to the president that amortization is a process of allocating the cost of a long-lived asset to expense over its service (useful) life in a rational and systematic manner. Recognition of amortization is not intended to result in the accumulation of cash for replacement of the asset. The effects of the three methods on annual amortization expense are: Straight-line results in a constant amount of amortization expense over the life of the asset. Units-ofactivity results in varying amounts of amortization expense, which changes with the level of activity so it is difficult to predict the effects in any year. Declining-balance results in decreasing amounts of amortization expense. So the amortization expense is high in the early years and declines over time. All three methods will charge the same total amount to amortization expense over the life of the assets, it is just the allocation of expense each period that varies. The effects of the three methods on net earnings are: Straight-line results in a constant net earnings since amortization expense is the same each year. Units-of-activity will result in a variable net earnings since amortization expense will change with the level of activity in each year. Declining-balance results in lower net earnings in the early years since amortization expense is higher and higher net earnings in the later years since amortization expense declines over the life of the asset. All three methods will result in the same total net earnings over the life of the assets, it is just the amount of expense and resultant net earnings that varies each period. (The answer to Question 5 is continued on the next page.)
2.
3.
4.
5.
Questions (Continued)
5. (Continued) The effects of the three methods on the book value are: Straight-line results in a declining book value at a constant rate each year since amortization expense and the amount added to the accumulated amortization account is the same. Recall that book value is cost less accumulated amortization. Units-of-activity will also result in a declining book value but at a variable amount since the amortization expense and amount added to the accumulated amortization account each year will also vary. Declining-balance will also result in a declining book value but at an increasing amount in the early years and a decreasing amount in the later years since amortization expense and the amount added to the accumulated amortization account each year is higher in the early years. All three methods will end up with the same book value at the end of the assets useful life, it is just the allocation of expense each period that varies. Since Morgan uses the straight-line amortization method, its amortization expense will be lower in the early years of an assets useful life as compared to using an accelerated method. Petruniks amortization expense in the early years of an assets useful life will be higher as compared to the straight-line method. Morgans net earnings will be higher than Petruniks in the first few years of the assets useful life. These differences will impact the amortization expense, accumulated amortization and net earnings of the companies making comparison of their results and financial position difficult. In reality, the choice of amortization method results in an artificial, timing difference only and should be ignored, if possible, in comparing financial positions. Yes, income tax regulations require a company to use a different amortization method (the single-declining-balance method), regardless of which method is used in preparing financial statements. Lucien Corporations motivation for using the straight-line method for financial reporting is to ensure that the amortization method selected provides the best matching of expense to revenue. An impairment loss is a permanent decline in the market value of an asset. This may happen when a machine has become obsolete, or the market for a product made by a machine has dried up or has become very competitive. Unlike inventories, the application of the lower of cost and market rule does not apply automatically to property, plant, and equipment. Because inventory is expected to be converted into cash within the year, it is important to value it annually at the lesser of its cost and market, or saleable value. In contrast, property, plant, and equipment are used in operations over a longer term and are not available for resale. The going concern assumption assumes that a company will recover at least the cost of its long-lived assets. It is only when a permanent impairment occurs in the value of the asset that long-lived assets are written down to market.
6.
7.
8.
9.
10. A revision of amortization is made in current and future years but not retroactively. The rationale is that continual restatement of prior periods for what is merely a change in estimate would adversely affect the readers confidence in the financial statements.
11. Amortization must be updated from the last time adjusting entries were recorded to the date of the sale because the amortization expense must be properly matched to the revenue earned in the period the asset was still in use. Updating amortization also aids in determining the amount of the gain or loss on disposition. 12. In a sale of long-lived assets, the net book value of the asset is compared to the proceeds received from the sale. If the proceeds of the sale exceed the net book value of the asset, a gain on disposal occurs. If the proceeds of the sale are less than the net book value of the asset sold, a loss on disposal occurs. The calculation is the same for an asset that is retired except that there are no proceeds received. Since no proceeds are received in a retirement, a gain will never occur. 13. The machine and related accumulated amortization should continue to be reported on the balance sheet without further amortization or adjustment until the asset is retired. Reporting the asset and related accumulated amortization on the balance sheet informs the reader of the financial statements that the company is still using the asset. Once an asset is fully amortized, even if it is still being used, no additional amortization should be taken on this asset. In no situation, can the accumulated amortization on the asset exceed the cost of the asset. 14. Only intangible assets with limited lives such as patents and copyrights are amortized because their cost benefits a limited period of time. Intangibles with unlimited lives such as trademarks are not amortized because their cost benefits an unlimited period of time, but their book value is assessed annually for impairment and a loss recognized if a decline in value has occurred.
15.
The student is not correct. The cost of intangibles with limited lives should be amortized over the shorter of that asset's useful life (the period of time when operations are benefited by use of the asset) or its legal life.
16. Goodwill is the value of many favourable attributes that are intertwined in the business enterprise. Goodwill can be identified only with the business as a whole and, unlike other assets, cannot be sold separately. Goodwill can only be sold if the entire business is sold.
17. (a) Long-lived assets are normally reported on the balance sheet under the headings property, plant, and equipment and intangible assets. The balances of the major classes of assets should be disclosed, as well as the accumulated amortization for amortizable assets, either on the balance sheet or in the notes to the financial statements. The statement of earnings reports amortization expense and any gain or loss on disposal of long-lived assets. The statement of earnings also reports any impairment losses, when the market value of a long-lived asset permanently declines below its cost. The cash flow statement reports any cash paid to purchase long-lived assets and any cash received on their disposal in the investing activities section.
(b)
(c)
18. The notes to financial statements should disclose the balance of the major classes of assets as well as the accumulated amortization for amortizable assets. The amortization method(s) used must also be described and any impairment losses. 19. (a) (b) Grocery stores usually have a high asset turnover and a low profit margin. Car dealerships normally have a low asset turnover and a high profit margin.
20. ($ in U.S. millions) Return on assets: $247.5 =24.8% $997.6 Asset turnover: $995.6 =1.0 times 21. The return on $997.6 assets ratio measures the return being generated by each dollar invested in the business (net earnings average total assets). The return on assets can also be calculated by multiplying the profit margin by the asset turnover ratio. The profit margin measures how effective the business is at generating earnings from its sales and the asset turnover measures how well the company can generate sales from a given level of assets. Together, the two ratios can be combined to measure how effective a company is at generating earnings from a given level of assets (return on assets). Therefore if a company wants to improve its return on assets, it can do so either by increasing the margin it generates from each dollar of sales (profit margin) or by increasing the volume of goods that is sells (asset turnover).
*22. Straight-line and units-of-activity measures apply the amortization criteria to the original cost of the assets over a fixed period (in years or in units), which must be reduced by salvage value to get an accurate representation of the amortizable cost of the assets to the company. Because the declining-balance method applies the amortization criteria, not to the original cost, but to a declining book value, the original cost is used instead of the amortizable cost. Applying a fixed percentage rate to a declining balance will always result in an ending, residual amount. Salvage value is considered in the declining-balance method in that the asset is never amortized below its salvage value, so in effect; this residual amount is adjusted to equal salvage value. *23. The straight-line and declining-balance methods use annual amortization rates in their amortization calculations. Therefore, the result must be adjusted for any period less than one year. The units-of-activity method does not need to be adjusted for partial periods as this method multiplies the total production output by the actual production for the period. This already reflects how much the asset was used during the period. For example, if an asset was purchased July 1 and produced 10,000 units for the period July through December, it already produces a result for that six month period (the company could not have produced units before it purchased the asset) and therefore does not need to be adjusted for the half year ownership period.
SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 9-1
All of the expenditures, except the fence, should be included in the cost of the land. Therefore, the cost of the land is $56,000 ($50,000 + $2,500 + $3,500). The fence would be included in the cost of land improvements.
BRIEF EXERCISE 9-2

The cost of the truck is $28,400 (cash price $28,000 + painting and lettering $400). The expenditures for insurance and motor vehicle licence should be expensed, not added to the cost of the truck.
BRIEF EXERCISE 9-3

(a) (b) (c) (d) (e) (f) (g) (h) (i) (j) O C C O C O O C C O
BRIEF EXERCISE 9-4

The amortizable cost is $40,000 ($42,000 $2,000). With a 4-year useful life, annual amortization is $10,000 ($40,000 4). Under the straight-line method, amortization expense is the same each year, but must be prorated for the initial year. Thus, amortization expense for 2005 is $6,667 ($10,000 X 8/12) and $10,000 for 2006.
BRIEF EXERCISE 9-5

Net book value ($90,000 - $54,000) Market value Impairment loss $36,000 30,000 $ 6,000
The journal entry to record the impairment loss, assuming the decline in value is permanent is: Loss on Impairment Accumulated Amortization (To record the impairment loss on machinery) 6,000 6,000
BRIEF EXERCISE 9-6

(a) (b) Amortization Expense (($72,000 - $2,000) 5) X 9/12)............ Accumulated AmortizationOffice Equipment.................... Cash........................................................................................... Accumulated AmortizationOffice Equipment.......................... Gain on Disposal............................................................... Office Equipment............................................................... Cost of office equipment Less: Accumulated amortization Book value at date of disposal Proceeds from sale Gain on disposal * Amortization Jan. 1, 2003 Dec. 31, 2005 ($72,000 - $2,000) 5 X 3 years Amortization Jan. 1, 2006 Sept. 30, 2006 Accumulated amortization 10,500 10,500 21,000 52,500 1,500 72,000 $72,000 52,500* 19,500 21,000 $ 1,500 $42,000 10,500 $52,500
BRIEF EXERCISE 9-7

(a) (b) Accumulated AmortizationDelivery Equipment...................... Delivery Equipment............................................................... Accumulated AmortizationDelivery Equipment...................... Loss on Disposal........................................................................ Delivery Equipment............................................................... Cost of delivery equipment Less: Accumulated amortization Book value at date of disposal Proceeds from sale Loss on disposal $42,000 40,000 2,000 0 $ 2,000 42,000 42,000 40,000 2,000 42,000
BRIEF EXERCISE 9-8

Goodwill is an intangible asset with an indefinite useful life. Intangible assets with indefinite useful lives are not amortized but their value must be reviewed annually and an impairment loss recorded if the assets market value permanently falls below its book value. If the decline in value of Royal Bank of Canadas goodwill is assessed as being permanent an impairment loss of $130 million should be recorded on the companys statement of earnings and the goodwill should be reported at $4,416 ($4,546 - $130) million.
BRIEF EXERCISE 9-9

(a) (1) Jan. 2 Patents.................................................................. Cash.............................................................. (2) Dec. 31 Amortization Expense ($180,000 10)................ Accumulated AmortizationPatents............ (b) SURKIS CORPORATION Balance Sheet (Partial) December 31, 2006 Assets Intangible assets Patents Less: Accumulated amortization Net book value $180,000 18,000 $162,000 180,000 18,000 180,000 18,000
BRIEF EXERCISE 9-10

(a) (b) (c) (d) (e) PPE I NA (current asset) NA (shareholders equity) PPE (f) NA (investment) (g) I (h) NA (current asset) (i) I (j) PPE (k) PPE (l) I (m) NA (expense) (n) I
BRIEF EXERCISE 9-11

CANADIAN TIRE CORPORATION, LIMITED Balance Sheet (Partial) January 1, 2005 (in millions) Property, plant, and equipment Land............................................................................... Buildings........................................................................ Less: Accumulated amortizationbuildings................. Furniture and equipment............................................... Less: Accumulated amortizationfixtures and equipment.................................................... Leasehold improvements.............................................. Less: Accumulated amortization leasehold improvements.............................. Other property, plant, and equipment, net.................... Total property, plant, and equipment......................... Intangibles Marks Work Wearhouse store brands and banners..... Marks Work Wearhouse franchise agreements........... Goodwill......................................................................... Total intangibles........................................................ $ 672.1 $1,987.5 652.5 $470.2 316.4 $201.0 69.0 1,335.0 153.8 132.0 292.3 2,585.2
$50.0 2.0
52.0 41.7 93.7
BRIEF EXERCISE 9-12

($ in U.S. millions) Return on assets $692 = 6.4% ($11,609 + $9,864) 2
Asset turnover $20,653 = 1.9 times ($11,609 + $9,864 ) 2
*BRIEF EXERCISE 9-13

The declining-balance rate is 25% (1/4 X 1) and this rate is applied to book value at the beginning of the year. The calculations are: Book Value 2005 2006 $42,000 $42,000 $7,000 X Rate 25% x 8/12 25% = Amortization Expense $7,000 $8,750
*BRIEF EXERCISE 9-14

The amortizable cost per unit is $0.10 per km. calculated as follows: Amortizable cost ($33,000 $500) 325,000 = $0.10 2005 2006 expense 125,000 km X $0.10 105,000 km X $0.10 = $12,500 amortization expense = $10,500 amortization
SOLUTIONS TO EXERCISES
EXERCISE 9-1 (a) Under the cost principle, the acquisition cost for property, plant, and equipment includes
all expenditures necessary to acquire the asset and make it ready for its intended use. For example, the cost of factory machinery includes the purchase price, freight costs paid by the purchaser, insurance costs during transit, and installation costs. (b) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Delivery Truck Delivery Truck Licence Expense Prepaid Insurance Land Land Land Improvements Land Machinery Machinery
EXERCISE 9-2
(a) 2005 amortization = $15,600 X 9/12 = $11,700 2006 amortization = $15,600 $90,000 - $12,000 Straight-line method: =$15,600 per year 5 (b) If Costello used the declining-balance method instead of the straight-line method the straight-line method would result in the highest book value for the first two years and the highest net earnings. There would be no difference in the cash flow.
EXERCISE 9-3
(a) Cost, January 1, 2003 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($115,000 5) Dec. 31 (b) (c) Equipment $120,000 5,000 $115,000 5 $23,000 23,000 23,000
Amortization Expense........................................... Accumulated Amortization............................
The accumulated amortization on December 31, 2005 will be $46,000 ($23,000 X 2 years). If the company accepts Lindys proposed changes in useful life and salvage value, the amortization expense will be higher, due to the proposed shorter useful life and lower salvage value. Although students have not been asked to calculate the revised amortization expense, and there is insufficient information in the textbook to enable them to do so, the calculation follows if you wish to expand on this concept in class: ($120,000 $46,000) $3,600 = $35,200 2006 amortization expense 42
The revised salvage value is deducted from t he net book vale in the numerator. In the denominator the remaining useful life, 2 years, is used. Note that two years have already past.
EXERCISE 9-4
(a) Cost, January 1, 2004 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($850,000 5) Equipment $900,000 50,000 $850,000 5 $170,000
The equipments book value on December 31, 2006 will be $390,000 [($900,000 ($170,000 X 3 years)]. (b) Book value ($900,000 - $510,000) Market value Impairment loss $390,000 340,000 $ 50,000
The journal entry to record the impairment loss, since the decline in value is permanent is: Loss on Impairment Accumulated Amortization (To record the impairment loss on equipment) (c) 50,000 50,000
The impairment loss should be reported in the statement of earnings as part of earnings from continuing operations. Often, the loss is combined with amortization expense for reporting purposes.
EXERCISE 9-5
Jan. 1 Loss on Retirement......................................................... Accumulated AmortizationMachinery ($62,000 10 X 9) Machinery............................................................... Amortization Expense ($5,475 3 X 6/12)..................... Accumulated AmortizationComputer.................. Cash................................................................................ Accumulated AmortizationComputer.......................... ($5,475 3 X 2 = $3,650; $3,650 + $913) Loss on Disposal [$500 - ($5,475 - $4,653)].................. Computer........................................................ Amortization Expense [($27,000 - $3,000) 4].............. Accumulated AmortizationTruck......................... Cash................................................................................ Accumulated AmortizationTruck................................. [($27,000 - $3,000) 4 X 3] Gain on Disposal............................................ Truck............................................................... 6,200 55,800 62,000 913 913 500 4,563 412 5,475 6,000 6,000 10,000 18,000 1,000 27,000
June 30
30
Dec. 31 31
EXERCISE 9-6
(a) Jan. April July Sept. 2 1 1 1 30 Dec. 31 Patents ......................................................................... Cash......................................................................... Goodwill ......................................................................... Cash......................................................................... Franchise ......................................................................... Cash......................................................................... Research Expense........................................................... Cash......................................................................... Development Expense..................................................... Cash......................................................................... Amortization ExpensePatents ($40,000 5)................. Amortization ExpenseFranchise [($250,000 10) X 6/12] Accumulated AmortizationPatents....................... Accumulated AmortizationFranchise................... 40,000 40,000 300,000 300,000 250,000 250,000 150,000 150,000 50,000 50,000 8,000 12,500 8,000 12,500
31
Given that market value exceeded book value in all cases, no impairment loss is recognized.
(b) COLLINS LTD. Balance Sheet (Partial) December 31, 2006 Intangibles Finite-life intangibles Patents.................................................................. Less: Accumulated amortizationpatents........... Franchise............................................................... Less: Accumulated amortizationfranchise......... Goodwill..................................................................... Total intangibles...........................................................
$40,000 8,000 $250,000 12,500
$ 32,000 237,500 269,500 300,000 $569,500
EXERCISE 9-7
MEMO To: From: Date: Client Financial Advisor Today
The change in the amortization policy will increase the period in cases where the contracted exhibition period is greater than two years. This will have the effect of spreading the cost over a longer period and in the short term increasing net earnings. It will be more difficult to compare the current years results with previous years because of the change in estimated useful life. In evaluating Alliances performance you would want to make an adjustment for this change in estimated life. If the contracted exhibition period is a good measure of the useful life of the broadcast rights and the revenue potential is consistent over this period, then the policy is reasonable.
EXERCISE 9-8
1. Amortization is the process of allocating the cost of a long-lived asset to expense over the assets useful life. Because the value of land generally does not decline with time and usage, its usefulness and revenue producing ability does not decline. In addition, the useful life of land is indefinite. Therefore it would be incorrect for the student to amortize the land. Goodwill is an intangible asset with an indefinite life. According to generally accepted accounting principles, goodwill is not amortized but reviewed annually for impairment. If a permanent decline in value has occurred, the goodwill is written down and an impairment loss is recorded on the statement of earnings. Therefore the amortization entry should be reversed and no decline in value recorded until an impairment in value occurs. This is a violation of the cost principle. Because current market values are subjective and not reliable, they are not used to increase the recorded value of an asset after acquisition. The appropriate accounting treatment is to leave the building on the books at its zero book value.
2.
3.
EXERCISE 9-9
(a) Account Accumulated amortization buildings Accumulated amortization finite-life intangible assets Accumulated amortization machinery and equipment Accumulated amortization other property, plant, and equipment Accumulated amortization satellites Accumulated amortization telecommunication assets Amortization expense Buildings Cash paid for capital expenditures Finite-life intangible assets Goodwill Indefinite-life intangible assets Land Machinery and equipment Other property, plant, and equipment Plant under construction Financial Statement Balance Sheet Balance Sheet Balance Sheet Balance Sheet Balance Sheet Balance Sheet Statement of Earnings Balance Sheet Cash Flow Statement Balance Sheet Balance Sheet Balance Sheet Balance Sheet Balance Sheet Balance Sheet Balance Sheet Section Property, plant, and equipment Intangibles Property, plant, and equipment Property, plant, and equipment Property, plant, and equipment Property, plant, and equipment Operating expenses Property, plant, and equipment Investing activities Intangibles Intangibles Intangibles Property, plant, and equipment Property, plant, and equipment Property, plant, and equipment Property, plant, and equipment
EXERCISE 9-9 (Continued)

(a) (Continued) Account Satellites Telecommunications assets (b) BCE INC. Balance Sheet (Partial) December 31, 2004 (in millions) Property, plant, and equipment Land .......................................................................................... Buildings..................................................................................... Less: Accumulated amortization................................................ Plant under construction............................................................ Machinery and equipment.......................................................... Less: Accumulated amortization................................................ Satellites..................................................................................... Less: Accumulated amortization................................................ Telecommunications assets....................................................... Less: Accumulated amortization................................................ Other property, plant, and equipment........................................ Less: Accumulated amortization................................................ Total property, plant, and equipment Intangible assets Finite-life intangible assets......................................................... Less: Accumulated amortization................................................ Indefinite-life intangible assets (other than goodwill)................. Goodwill...................................................................................... Total intangible assets...................................................... Financial Statement Balance Sheet Balance Sheet Section Property, plant, and Equipment Property, plant, and equipment
$ $2,682 1,384 $5,529 3,039 $1,769 758 $35,481 23,469 $278 97
95 1,298 1,605 2,490 1,011
12,012 181 18,692
$4,124 1,418
2,706 2,916 8,413 14,035
EXERCISE 9-10
(a) ($ in millions) (1) Return on assets $173.1 = 3.8% ($4,681.7 + $4,516.1) 2
(2) Asset turnover $11,046.8 = 2.4 times ($4,681.7 + $4,516.1) 2 (3) Profit margin $173.1 $11,046.8 = 1.6%
(b)
Profit Margin X Asset Turnover = Return on Assets = 1.6% X 2.4 times = 3.8%
(c)
Asset turnover and profit margin vary considerably across industries. Therefore, when you have a diverse group of businesses from several industry types combined into one company, such as in Empire Company, the ability to compare these ratios to other businesses becomes very difficult. Empire Company would almost need to calculate ratios for each of the separate industry segments to allow for a meaningful analysis.
*EXERCISE 9-11 (a) Year 2005 2006 Units-of-Activity $10,140 14,040 Double Declining-Balance $27,000 25,200
Calculations: Units-of-Activity Method $90,000 - $12,000 = $7.80 per hour 10,000 hours 2005 amortization expense = 1,300 hours X $7.80 = $10,140 2006 amortization expense = 1,800 hours X $7.80 = $14,040 Calculations: Double Declining-Balance Method The declining-balance rate is 1/5 X 2 = 40% 2005 amortization expense = $90,000 X 40% X 9/12 = $27,000 Book value January 1, 2006 = $90,000 $27,000 = $63,000 2006 amortization expense = $63,000 X 40% = $25,200 (b) The matching principle dictates that the cost of a long-lived asset should be matched to the revenue produced by that asset. Since the pattern of revenue production is different for each type of asset, each amortization method should be chosen based on the revenue pattern of the specific asset. For an asset that generates revenues fairly constantly over time, the straight-line method is appropriate. The declining-balance method best fits assets that are more productive (will generate more revenue) in the earlier years of their life. The units-of-activity method best fits assets whose usage varies over time.
*EXERCISE 9-12
(a) (1) Straight-line method
$5,000 $500 = $1,125 each year 4 (2) Double declining-balance (DDB) method
DDB Rate: x 2 = 50% Year 1: $5,000 x 50% Year 2: $5,000 - $2,500 = $2,500 x 50% = $1,250 Year 3: $5,000 - $2,500 - $1,250 = $1,250 x 50% = $625 Straight-Line Amortization Net Book Expense Value $1,125 $3,875 1,125 2,750 1,125 1,625 $3,375 Straight-line method Double Declining-Balance Amortization Net Book Expense Value $2,500 $2,500 1,250 1,250 625 625 $4,375 = $2,500
Year 1 Year 2 Year 3 Total (b) (1)
Proceeds - book value = Gain (loss) $1,225 - $1,625 = ($400) (2) Double declining-balance method
Proceeds - book value = Gain (loss) $1,225 - $625 = $600 (c) (1) Straight-line method Amortization expense: $3,375 + Loss: $400 = $3,775 (2) Double-declining balance method Amortization expense: $4,375 - (Gain: $600) = $3,775 Note: There is no difference in the total expense over the life of the asset.
SOLUTIONS TO PROBLEMS
PROBLEM 9-1A
(a) Item 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Land $280,000 3,800 $ 4,200 19,000 $ 23,000 18,000 600,000 15,000 10,000 (5,000) $297,800 $14,200 $656,000 Land Improvements Building
(b) Land................................................................. Land Improvements.......................................... Building............................................................. Cash......................................................... 297,800 14,200 656,000 968,000
Note: Students could also have prepared individual journal entries for each transaction.
PROBLEM 9-2A
Account Debited 1. 2. 3. 4. Equipment Land improvements Building Repair expense Explanation Cost to prepare the equipment for use. Non-permanent land expenditure. Improvement or betterment expenditure, which makes the factory office more productive. Does not benefit future periods. If the loss was considered to be significant, it would be recorded separately as a loss due to labour dispute, rather than as repair expense. 5. 6. Equipment Repair expense Cost to prepare the equipment for use. Does not benefit future periods. If the damage was covered by insurance, a receivable (from the insurance company) account would be debited. If the loss was considered to be significant, it would be recorded separately as a loss due to damages, rather than as repair expense. 7. Repair expense Does not benefit future periods.
PROBLEM 9-3A
(a) Cost: Purchase price Delivery costs Installation and testing Total cost
$180,000 900 3,300 $184,200
The one-year insurance policy is not included as it benefits only the current period. It would be recorded as Prepaid Insurance and allocated to Insurance Expense throughout the period. (b) STRAIGHT-LINE AMORTIZATION Calculation Amortizable Amortization Amortization Cost X Rate = Expense $172,700* 172,700 172,700 172,700 172,700 172,700 20%** X 8/12 20% 20% 20% 20% 20% X 4/12 $23,027 034,540 034,540 034,540 034,540 11,513 End of Year Accumulated Net Book Amortization Value $ 23,027 57,567 092,107 126,647 161,187 172,700 $161,173 126,633 92,093 57,553 23,013 11,500
Year 2006 2007 2008 2009 2010 2011
* Amortizable cost = $184,200 - $11,500 = $172,700 ** 1 5 years = 20%
PROBLEM 9-3A (Continued) (c) Straight-line amortization results in a constant amount of amortization expense each period. The declining-balance method results in a higher amortization expense in the early years and lower amortization expense in the later years. In comparing these two methods, straight-line amortization would result in a lower amount of amortization expense than that produced by the declining-balance method in the early years and a higher amount in the later years. This would consequently affect net earnings inversely. That is, net earnings would be higher for straight-line amortization in the early years and lower in the later years. Over the six-year useful life of the machine, both methods would result in the same total amortization expense (equal to the amortizable cost) and same total net earnings. Because amortization expense would be lower in the early years for straight-line amortization, net book value (cost less accumulated amortization) would be higher in the early years than the result produced by the declining-balance method of amortization and lower in the later years. Of course, at the end of the six-year life, both methods would end up with the same net book value, $11,500. (d) It is difficult to compare the straight-line and units-of-activity methods of amortization. Straight-line amortization results in a constant amount of amortization expense and net earnings. The units-of-activity method will result in varying amount of amortization expense and resultant net earnings, depending on the actual amount of production activity in each particular period. Nonetheless, over the life of the asset, both methods result in the same total net earnings and will end up with the same net book value, $11,500. The matching principle dictates that the cost of a long-lived asset should be matched to the revenue produced by that asset. Since the pattern of revenue production is different for each type of asset, each amortization method should be chosen based on the revenue pattern of the specific asset.
(e)
PROBLEM 9-4A
(a) April 1 Land......................................................... 2,200,000 Cash.................................................. 440,000 Note Payable..................................... 1,760,000 Amortization Expense................................ Accumulated Amortization Equipment ($600,000 X 1/10 X 4/12) Cash.......................................................... Accumulated AmortizationEquipment.... Equipment..................................... Gain on Disposal.......................... Cost Accumulated amortizationequipment [($600,000 X 1/10) X 7 + $20,000)] Book value Cash proceeds Gain on disposal June 1 20,000 20,000 200,000 440,000 600,000 40,000 $600,000 440,000 160,000 200,000 $ 40,000
May
Cash.......................................................... 360,000 Note Receivable........................................ 1,440,000 Land.................................................... 500,000 Gain on Disposal................................ 1,300,000 Equipment................................................. 1,100,000 Cash................................................... 1,100,000 Amortization Expense................................ Accumulated Amortization Equipment ($500,000 X 1/10)......... 50,000 50,000
July
Dec. 31
PROBLEM 9-4A (Continued) (a) (Continued) Dec. 31 Accumulated AmortizationEquipment.... Equipment..................................... Cost Accumulated amortizationequipment ($500,000 X 1/10 X 10) Book value Cash proceeds Gain (loss) on disposal (b) Dec. 31 Amortization Expense............................. Accumulated Amortization Buildings ($26,500,000 X 1/40).... 500,000 500,000 $500,000 500,000 0 0 $ 0 662,500 662,500
31
Amortization Expense............................. 3,945,000 Accumulated AmortizationEquipment 3,945,000 ($38,900,000* X 1/10) [($1,100,000 X 1/10) X 6/12] $3,890,000 55,000 $3,945,000
*$40,000,000 - $600,000 - $500,000 = $38,900,000 31 Interest Expense..................................... Interest Payable............................... ($1,760,000 X 6% X 9/12) Interest Receivable................................. Interest Revenue.............................. ($1,440,000 X 5% X 7/12) 79,200 79,200 42,000 42,000
31
PROBLEM 9-4A (Continued)
(c)
HAMSMITH CORPORATION Balance Sheet (Partial) December 31, 2006 Property, plant, and equipment* Land........................................................ Buildings.................................................. $26,500,000 Less: Accumulated amortization buildings.............................................. 12,762,500 Equipment............................................... $40,000,000 Less: Accumulated amortization............. equipment............................................ 8,075,000 Total property, plant, and equipment. $ 4,700,000 13,737,500 31,925,000 $50,362,500
*See T accounts on the following page.
PROBLEM 9-4A (Continued) Land Dec. 31, 2005 April 1, 2006 Dec. 31, 2006 3,000,000 2,200,000 Bal. 4,700,000 Buildings Dec. 31, 2005 Dec. 31, 2006 26,500,000 Bal. 26,500,000 Equipment Dec. 31, 2005 July 1, 2006 Dec. 31, 2006 40,000,000 1,100,000 Bal. 40,000,000 Accumulated AmortizationBuildings Dec. 31, 2005 Dec. 31, 2006 Dec. 31, 2006 Accumulated AmortizationEquipment May 1, 2006 Dec. 31, 2006 440,000 500,000 Dec. 31, 2005 May 1, 2006 Dec. 31, 2006 Dec. 31, 2006 Dec. 31, 2006 5,000,000 20,000 50,000 3,945,000 Bal. 8,075,000 12,100,000 662,500 Bal. 12,762,500 May 1, 2006 Dec. 31, 2006 600,000 500,000 June 1, 2006 500,000
PROBLEM 9-5A
(a) Cost, January 1, 2004 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($62,000 8) Equipment $65,000 3,000 $62,000 8 $ 7,750
The equipments book value on January 1, 2006 will be $49,500 [$65,000 ($7,750 X 2 years)].
(b) You would expect the amortization expense to increase in 2006 after the
change in useful life because the amortizable cost will be expensed over a shorter period of time.
(c)
The change in the useful life should only affect current and future periods. The rationale for this is that the original estimate was based on information known at the time the asset was purchased and the revision is based on new information and should only affect future periods. In addition, if prior periods where regularly restated users would feel less confident about financial statements.
(d) If the company had not revised the remaining useful life, the total amortization expense over the equipments life would be the amortizable cost of $62,000. The accumulated amortization at the end of the equipments useful life would be $62,000 and the net book value would be $3,000.
(e)
The total amortization expense would not change after the useful life has been revised. There would be no changes to the accumulated amortization or the net book value at the end of the equipments useful life.
PROBLEM 9-6A
(a) 2004 July 1 Equipment................................................. Cash................................................... 65,000 65,000
(b)
Cost, January 1, 2004 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($60,000 5) 2004 Dec. 31
$65,000 5,000 $60,000 5 $12,000
Amortization Expense................................ Accumulated Amortization Equipment ($12,000 X 6/12)........... Amortization Expense................................ Accumulated Amortization Equipment ($12,000 X 12/12)......... Amortization Expense................................ Accumulated Amortization Equipment ($12,000 X 9/12)..........
6,000 6,000 12,000 12,000 9,000 9,000
2005 Dec. 31
2006 Sept. 30
PROBLEM 9-6A (Continued) (c) (1) Sept. 30 Loss on Disposal....................................... Cash.......................................................... Accumulated AmortizationEquipment ($6,000 + $12,000 + $9,000).................. Equipment......................................... Cost..................................................... Accumulated amortizationEquipment Book value........................................... Cash proceeds.................................... Loss on disposal.................................. $65,000 27,000 38,000 37,000 $ 1,000 40,000 27,000 2,000 65,000 1,000 37,000 27,000 65,000
(2) Sept. 30 Cash.......................................................... Accumulated AmortizationEquipment.... Gain on Disposal............................... Equipment......................................... Cost..................................................... Accum. amort.Equipment................. Book value........................................... Cash proceeds.................................... Gain on disposal.................................. $65,000 27,000 38,000 40,000 $ 2,000
(3) Sept. 30 Accumulated AmortizationEquipment.... Loss on Disposal....................................... Equipment......................................... Cost..................................................... Accum. amort.Equipment................. Book value........................................... Cash proceeds.................................... Loss on disposal.................................. $65,000 27,000 38,000 0 $38,000
27,000 38,000 65,000
PROBLEM 9-7A
1. Research Expense ($120,000 X 55%).......... Patents.................................................. Accumulated AmortizationPatents............ Amortization Expense........................... ($66,000 X 1/15) 2. 66,000 66,000 4,400 4,400
Because goodwill has an indefinite life it is not amortized. Instead goodwill should be review annually for any impairment in value. Therefore any amortization expense recorded must be reversed. Accumulated AmortizationGoodwill.......... Amortization Expense............................ ($160,000 X 1/40 X 6/12) 2,000 2,000
3.
Impairment losses should only be recorded if the impairment is considered permanent. Trademark..................................................... Impairment Loss................................... 2,500 2,500
4.
The donations should be recorded as an expense. Donations Expense..................................... Goodwill................................................ 6,000 6,000
PROBLEM 9-8A
(a) Jan. July 5 Trade Name................................................. Cash....................................................... 7,000 7,000 210,000 50,000 60,000 180,000 40,000
1 Research Expense...................................... 210,000 Cash....................................................... 1 Patent (Development Costs)........................ 50,000 Cash.......................................................
Sept. 1 Advertising Expense.................................... 60,000 Cash....................................................... Oct. 1 Copyright #2................................................ 180,000 Cash.......................................................
Dec. 31 Impairment Loss ($125,000 - $85,000)........ 40,000 Goodwill................................................. (b) Dec. 31 Amortization Expense ($36,000 3)............ 12,000 Accumulated AmortizationCopyright #1 31 Amortization Expense.................................. 15,000 Accumulated AmortizationCopyright #2 ($180,000 3 x 3/12 = $15,000) 31 Amortization Expense.................................. Accumulated AmortizationPatent....... ($50,000 20 x 6/12 = $1,250) 1,250
12,000 15,000
1,250
PROBLEM 9-8A (Continued) (c) GHANI CORPORATION Balance Sheet (Partial) December 31, 2006 Intangible assets Limited life intangibles Patent........................................................ $50,000 Accumulated amortization......................... 1,250 Copyrights................................................. $216,0001 Accumulated amortization......................... 51,0002 Indefinite life intangibles Trade name.................................................................. Goodwill....................................................................... Total intangible assets........................................
1
$ 48,750 165,000 67,0003 85,0004 $365,750
Copyrights: $36,000 + $180,000 = $216,000 Accumulated amortization Copyright #1: $12,000 X 3 years = Copyright #2: $36,000 15,000 $51,000
Trade name: $60,000 + $7,000 = $67,000 Goodwill: $125,000 - $40,000 = $85,000
PROBLEM 9-9A
(a) (U.S. $ in millions) 1. Profit margin Green Mountain......................Starbucks $7.8 =5.7% $137.4 $391.8 =7.4% $5,294.2
2. Return on assets $7.8 =11.3% ($78.3+$60.0) 2 $391.8 =12.9% ($3,328.2 + $2,729.7) 2
3. Asset turnover $137.4 =2.0 times ($78.3 + $60.0) 2 $5,294.2 =1.7 times ($3,328.2 + $2,729.7)
(b) Based on profit margin we can see that Starbucks is slightly more profitable than Green Mountain. Green Mountains profit margin at 5.7% is lower then the average company in the industry (7.3%). However, this could be due to the fact that Green Mountain is smaller in size than the other companies and may be at a competitive disadvantage. The return on assets ratio indicates that Starbucks is generating a better return than Green Mountain based on the amount of assets invested in the business. Based on the industry average of 11.7% Starbucks is generating a higher return on their assets than most other companies in the industry.
PROBLEM 9-9A (Continued) (b) (Continued) The asset turnover measures how efficiently a company uses its assets to generate sales. It shows the dollars of sales generated by each dollar invested in assets. Green Mountains asset turnover ratio (2.0) was higher than Starbucks (1.7) in 2004. Therefore, it could be concluded that, in 2004, Green Mountain was more efficient than Starbucks in utilizing assets to generate sales. Green Mountain is higher than the industry average of 1.7 times and Starbucks is on par with the industry average. Overall, it appears that Green Mountain is focusing its sales strategy on generating volume whereas Starbucks seems to be more focused on profitability. The ability to compare the two companies is complicated by the fact that Starbucks is significantly larger than Green Mountain Coffee. However, this fact doesnt appear to have impeded Green Mountains efficiency.
PROBLEM 9-10A
(a) It is the companys low volume that appears to be causing its return on assets to be lower than that of other companies in the industry. Based on the profit margin ratio, 12.0% compared to 6.4%, we can see that the company appears to be significantly more profitable then most others in the industry. However, as evidenced by the difference in the asset turnover ratio, other companies in the industry appear to be better able to generate sales based on a given level of investment in assets. The company might be able to improve its asset turnover in one of two ways: 1. By improving its sales revenue. This could be done by increasing the selling price of its menu items. However, the restaurant would have to be careful to not price itself out of the market. 2. By improving its volume. This would be accomplished by increasing the volume of customers using the restaurant. To increase volume, the restaurant could change its hours of operations, offer a wider menu choice, or target its marketing efforts to under represented groups in its customer base. Both of these suggested changes would result in increased sales, leading to increased net earnings. An improved profit margin would result. Return on assets would also improve because net earnings would increase while total assets would not change at all with the first option, and only slightly with the second option (increased inventory).
(b)
*PROBLEM 9-11A
(a) STRAIGHT-LINE AMORTIZATION Amortizable Year Cost X 2006 2007 2008 2009 $150,000* 0,150,000 0,150,000 , ,150,000 Calculation End of Year Amortization Amortization Accumulated Book Rate (1/4) = Expense Amortization Value 25% 25% 25% 25% $37,500 37,500 37,500 37,500 $ 37,500 $132,500 75,000 95,000 112,500 57,500 150,000 20,000
*$170,000 - $20,000 = $150,000 DOUBLE DECLINING-BALANCE AMORTIZATION Calculation Book Value Beginning Year of Year X 2006 2007 2008 2009 $170,000 85,000 42,500 21,250 End of Year
Amortization Amortization Accumulated Book Rate = Expense Amortization Value 50%* ,,50% ,,,,,,,,,,,,,50% ,,,,,,,,,,,,,50% $85,000 42,500 21,250 1,250** $ 85,000 127,500 148,750 150,000 $85,000 42,500 21,250 20,000
* 1/4 X 2 = 50% **Adjusted so ending book value will equal salvage value ($21,250 X 50% = $10,625; $21,250 - $20,000 = $1,250). Note to instructors: You might wish to point out to students that the double declining-balance method will result in odd amounts of amortization at the end of the assets useful life in order to adjust to salvage value. Often, this is not done in practice. Instead, the asset continues to be amortized as long as it is in use.
*PROBLEM 9-11A (Continued) (b) Straight-line amortization results in the lower amount of amortization expense compared to the double declining-balance method in 2006. Therefore, it would result in the higher net earnings in 2006. Over the four-year period, both methods result in the same total amortization expense and, therefore, the same total earnings. Straight-line amortization results in the lower amount of amortization expense and accumulated amortization compared to the double decliningbalance method in 2006. Therefore, it would result in the higher net book value in 2006, as shown in (a). Over the four-year period, both methods result in the same total amortization and, therefore, the same ending net book value. Amortization is a non-cash expense. Therefore cash flow would be the same regardless of the method chosen. In choosing an amortization method, management needs to consider the pattern of revenue production and choose the amortization method that best matches this.
(c)
(d) (e)
*PROBLEM 9-12A
(a) Straight-Line Amortization Year Expense 1 2 3 Total $10,000 10,000 10,000 $30,000 Book Value $21,000 11,000 1,000 Units-of-Activity Amortization Expense $12,000 10,000 8,000 $30,000 Book Value $19,000 9,000 1,000
STRAIGHT-LINE AMORTIZATION Amortizable Year Cost X 1 2 3 $30,000* ,,30,000 ,,30,000 Calculation Amortization Rate (1/3) 1/3 1/3 1/3 End of Year Amortization Accumulated Book Expense Amortization Value $ 10,000 10,000 10,000 $10,000 20,000 30,000 $21,000 11,000 1,000
*$31,000 - $1,000 = $30,000 UNITS-OF-ACTIVITY AMORTIZATION Units-ofActivity 12,000 10,000 8,000 Calculation End of Year Amortization Amortization Accumulated Book 1 X Cost/Unit = Expense Amortization Value $1 1 1 $12,000 10,000 8,000 $12,000 22,000 30,000 $19,000 9,000 1,000
Year 1 2 3
1
Amortizable cost per unit = ($31,000 - $1,000) 30,000 units = $1 per unit.
*PROBLEM 9-12A (Continued) (b) 1. Cost..................................................... Accumulated amortization................... Net book value.................................... Cash proceeds.................................... Gain (loss) on disposal........................ 2. Amortization expense.......................... Add loss/Deduct gain on disposal....... Net expense........................................ $20,000 1,000 $21,000 $22,000 (1,000) $21,000 StraightLine $31,000 20,000 11,000 10,000 $(1,000) Units-ofActivity $31,000 22,000 9,000 10,000 $ 1,000
In total, the effect on net earnings is exactly the same under both methods. This is because the method of amortization only affects the timing of the expense recognition. In total, over the life of the asset the expense recognized is the same. Any difference between the proceeds and net book value at the time of disposal is adjusted through the gain (which reduces expense) or loss (which increases expense).
PROBLEM 9-1B
(a) Item 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Land $220,000 4,000 21,000 $ 20,000 7,000 15,000 650,000 16,000 $34,000 (10,500) $241,500 $34,000 $701,00 0 241,500 34,000 701,000 976,500 Land Improvements Building
(b) Land............................................................................ Land Improvements.................................................... Building....................................................................... Cash.................................................................
Note: Students could also have prepared individual journal entries for each transaction.
PROBLEM 9-2B
Account Debited 1. 2. 3. 4. 5. Equipment Repairs Expense Equipment Repairs Expense Training Expense Explanation Improvement or betterment expenditure, which makes the equipment more productive. Does not make the equipment more productive. Likely benefits only the current period. Improvement or betterment expenditure, which makes the equipment more productive. Does not make the equipment more productive. Does not increase the productivity of the equipmentand current accounting policies do not recognize the cost of human capital. Does not make the equipment more productive. Painting is a recurring expense. Benefits the current period only.
6. 7.
Repairs Expense Prepaid Insurance
PROBLEM 9-3B
(a) Cost: Cash price Delivery costs Installation and testing Total cost $85,000 400 2,500 $87,900
The one-year insurance policy is not included as it benefits only the current period. (b) STRAIGHT-LINE AMORTIZATION Calculation Year 2006 2007 2008 2009 2010 Amortizable Amortization Amortization Cost X Rate = Expense $81,900* 81,900 81,900 81,900 81,900 25%** X 2/12 25% 25% 25% 25% X 10/12 $3,412 20,475 202020,475 20,475 17,063 End of Year Accumulated Amortization $ 3,412 23,887 44,362 6 64,837 81,900 Net Book Value $84,488 64,013 43,538 23,063 6,000
* Amortizable cost = $87,900 - $6,000 = $81,900 ** 1 4 years = 25%
PROBLEM 9-3B (Continued) (c) Straight-line amortization results in a constant amount of amortization expense each period. The declining-balance method results in a higher amortization expense in the early years and lower amortization expense in the later years. In comparing these two methods, straight-line amortization would result in a lower amount of amortization expense than that produced by the declining-balance method in the early years and a higher amount in the later years. This would consequently affect net earnings inversely. That is, net earnings would be higher for straight-line amortization in the early years and lower in the later years. Over the four-year useful life of the machine, both methods would result in the same total amortization expense (equal to the amortizable cost) and same total net earnings. Because amortization expense would be lower in the early years for straight-line amortization, net book value (cost less accumulated amortization) would be higher in the early years than the result produced by the declining-balance method of amortization and lower in the later years. Of course, at the end of the four-year life, both methods would end up with the same net book value, $6,000. (d) It is difficult to compare the straight-line and units-of-activity methods of amortization. Straight-line amortization results in a constant amount of amortization expense and net earnings. The units-of-activity method will result in varying amount of amortization expense and resultant net earnings, depending on the actual amount of production activity in each particular period. Nonetheless, over the life of the asset, both methods result in the same total net earnings and will end up with the same net book value, $6,000. The matching principle dictates that the cost of a long-lived asset should be matched to the revenue produced by that asset. Since the pattern of revenue production is different for each type of asset, each amortization method should be chosen based on the revenue pattern of the specific asset.
(e)
PROBLEM 9-4B
(a) April 1 Land......................................................... 2,630,000 Cash.................................................. 630,000 Note Payable..................................... 2,000,000 Amortization Expense................................ Accumulated Amortization Equipment ($750,000 X 1/10 X 4/12) Cash.......................................................... Accumulated AmortizationEquipment.... Loss on Disposal....................................... Equipment..................................... Cost Accumulated amortizationEquipment [($750,000 X 1/10) X 4 + $25,000)] Net book value Cash proceeds Loss on disposal June 1 25,000 25,000 350,000 325,000 75,000 750,000 $750,000 325,000 425,000 350,000 $ (75,000)
May
Cash.......................................................... 180,000 Note Receivable........................................ 1,620,000 Land.................................................... 300,000 Gain on Disposal................................ 1,500,000 Equipment................................................. 1,000,000 Accounts Payable............................... 1,000,000 Amortization Expense................................ Accumulated Amortization Equipment ($470,000 X 1/10)......... Accumulated AmortizationEquipment.... Equipment..................................... 47,000 47,000 470,000 470,000
July
Dec. 31
31
PROBLEM 9-4B (Continued) (b) Dec. 31 Amortization Expense............................. Accumulated Amortization Buildings ($28,500,000 40)........ 712,500 712,500
31
Amortization Expense............................. 4,728,000 Accumulated Amortization Equipment.................................... 4,728,000 $46,780,000* 10 $1,000,000 10 X 6/12 $4,678,000 50,000 $4,728,000
*$48,000,000 - $750,000 - $470,000 = $46,780,000 31 Interest Expense..................................... Interest Payable............................... ($2,000,000 X 6% X 9/12) = $90,000 Interest Receivable................................. Interest Revenue.............................. ($1,620,000 X 6% X 7/12) = $56,700 YOUNT CORPORATION Balance Sheet (Partial) December 31, 2006 Property, plant, and equipment* Land........................................................ Buildings.................................................. $28,500,000 Less: Accumulated amortization buildings.............................................. 12,812,500 Equipment............................................... $47,780,000 Less: Accumulated amortization equipment............................................ 19,005,000 Total property, plant, and equipment. *See T accounts on the following page. $ 6,330,000 15,687,500 28,775,000 $50,792,500 90,000 90,000 56,700 56,700
31
(c)
PROBLEM 9-4B (Continued) (c) (Continued)

Land Dec. 31, 2005 April 1, 2006 Dec. 31, 2006 4,000,000 2,630,000 Bal. 6,330,000 Buildings Dec. 31, 2005 Dec. 31, 2006 28,500,000 Bal. 28,500,000 Equipment Dec. 31, 2005 July 1, 2006 Dec. 31, 2006 48,000,000 1,000,000 Bal. 47,780,000 Accumulated AmortizationBuildings Dec. 31, 2005 Dec. 31, 2006 Dec. 31, 2006 Accumulated AmortizationEquipment May 1, 2006 Dec. 31, 2006 325,000 470,000 Dec. 31, 2005 May 1, 2006 Dec. 31, 2006 Dec. 31, 2006 Dec. 31, 2006 15,000,000 25,000 47,000 4,728,000 Bal. 19,005,000 12,100,000 712,500 Bal. 12,812,500 May 1, 2006 Dec. 31, 2006 750,000 470,000 June 1, 2006 300,000
PROBLEM 9-5B
Equipment $60,000 4,500 $55,500 5 $11,100
(a) Cost, January 1, 2004 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($55,500 5)
The equipments book value on January 1, 2006 will be $37,800 [$60,000 ($11,100 X 2 years)]. (b) You would expect the amortization expense to decrease in 2006 after the change in useful life because the amortizable cost will be expensed through amortization over a longer period of time. The change in the useful life should only affect current and future periods. The rationale for this is that the original estimate was based on information known at the time the asset was purchased and the revision is based on new information and should only affect future periods. In addition, if prior periods where regularly restated users would feel less confident in the financial statements. If they had not revised the remaining useful life, the total amortization expense over the equipments life would be the amortizable cost of $55,500. The accumulated amortization at the end of the equipments useful life would be $55,500 and the net book value would be $4,500 The total amortization expense would not change after the useful life has been revised. There would be no changes to the accumulated amortization or the net book value at the end of the equipments useful life.
(c)
(d)
(e)
PROBLEM 9-6B
(a) 2004 Mar. 1 Furniture.................................................... Cash................................................... $85,000 1,000 $84,000 5 $16,800 14,000 14,000 16,800 16,800 8,400 8,400 85,000 85,000
(b)
Cost, January 1, 2004 Less: Salvage value Amortizable cost Useful life in years Annual amortization ($84,000 5) 2004 Dec. 31
Amortization Expense................................ Accumulated Amortization Furniture ($16,800 X 10/12)............ Amortization Expense................................ Accumulated Amortization Furniture.......................................... Amortization Expense................................ Accumulated Amortization Furniture ($16,800 X 6/12)..............
2005 Dec. 31
2006 July 2
PROBLEM 9-6B (Continued) (c) (1) July 2 Cash.......................................................... Accumulated Amortization1 ....................... Equipment......................................... Gain on Disposal...............................
1
50,000 39,200 85,000 4,200
$14,000 + $16,800 + $8,400 = $39,200 Cost.......................................................... Accumulated amortizationEquipment... Book value............................................... Cash proceeds......................................... Gain on disposal...................................... $85,000 39,200 45,800 50,000 $ 4,200 45,000 39,200 800 85,000
(2)
July 2 Cash.......................................................... Accumulated AmortizationEquipment.... Loss on Disposal....................................... Equipment......................................... Cost.......................................................... Accumulated amortizationequipment. . . Book value............................................... Cash proceeds......................................... Loss on disposal...................................... $85,000 39,200 45,800 45,000 $ 800
(3)
July 2 Accumulated AmortizationEquipment.... Loss on Disposal....................................... Equipment......................................... Cost.......................................................... Accumulated amortizationequipment. . . Book value............................................... Cash proceeds......................................... Loss on disposal...................................... $85,000 39,200 45,800 0 $45,800
39,200 45,800 85,000
PROBLEM 9-7B
1. Research Expense........................................ Patent................................................. Patent............................................................ Legal Fees Expense.......................... Patent............................................................ Legal Fees Expense.......................... Patent............................................................ Revenue from Cyber Shoe Rights..... Accumulated AmortizationPatent.............. Amortization Expense........................ 60,000 60,000 21,000 21,000 38,000 38,000 50,000 50,000 2,250 2,250
2.
3.
4.
5.
Amortization Expense................................... 18,800 Accumulated AmortizationPatent... [($35,000 + $21,000 + $38,000) 5] = $18,800 6. Impairment Loss............................................ Patent................................................. Cost ($35,000 + $21,000 + $38,000) Accumulated amortization Net book value Market value Impairment loss 5,200
18,800
5,200 $94,000 18,800 75,200 70,000 $ 5,200
PROBLEM 9-8B
1. Jan. 1 Patent #1...................................................... Cash....................................................... 22,500 22,500
July
1 Research Expense...................................... 220,000 Cash....................................................... 1 Patent #2 (Development Costs)................... 60,000 Cash.......................................................
220,000 60,000 11,000 16,000 35,000 9,166
Sept. 1 Advertising Expense.................................... 11,000 Cash....................................................... Oct. 1 Copyright #2................................................ 16,000 Cash.......................................................
Dec. 31 Impairment Loss ($175,000 - $210,000)...... 35,000 Goodwill................................................. (b) Dec. 31 Amortization Expense (given)...................... Accumulated AmortizationPatent #1. . 31 Amortization Expense.................................. Accumulated AmortizationPatent #2. . ($60,000 20 x 6/12 = $1,500) 9,166 1,500
1,500
31 Amortization Expense.................................. 4,800 Accumulated AmortizationCopyright #1 ($48,000 10 = $4,800) 31 Amortization Expense.................................. Accumulated AmortizationCopyright #2 ($16,000 5 x 3/12 = $800) 800
4,800
800
PROBLEM 9-8B (Continued) (c) IP INC. Balance Sheet (partial) December 31, 2006 Intangible assets Limited life intangibles Patent........................................................ $152,5001 Accumulated amortization......................... 24,6662 Copyrights................................................. $64,0003 Accumulated amortization......................... 29,6004 Indefinite life intangibles Goodwill....................................................................... Total intangible assets........................................ Patents: $70,000 + $22,500 + $60,000 = $152,500 Accumulated amortization Patent #1: ($70,000 10 X 2) + $9,166 = $23,166 Patent #2: 1,500 $24,666 Copyrights: $48,000 + $16,000 = $64,000 Accumulated amortization Copyright #1: $4,800 X 6 years = Copyright #2: $28,800 800 $29,600
$127,834 34,400 175,0005 $337,234
Goodwill: $210,000 - $35,000 = $175,000
PROBLEM 9-9B
(a) ($ in millions) Profit margin Sleeman Breweries.............Big Rock Brewery $14.4 = 6.7% $213.4 $6.8 = 17.5% $38.8
Return on assets $14.4 ($300.2 + $242.8) 2 = 5.3% Asset turnover $213.4 ($300.2 + $242.8) 2 = 0.79 times $38.8 ($40.9 + $40.8) 2 = 0.95 times $6.8 ($40.9 + $40.8) 2 = 16.6%
PROBLEM 9-9B (Continued) (b) Based on profit margin we can see that Big Rock is substantially more profitable than Sleeman. Sleeman has profit margins below the industry average of 10.9%, which indicates that they are less profitable than the average brewery. Big Rocks profit margin is also significantly higher than the average brewery indicating that they are much more profitable. The return on assets ratio indicates that Big Rock is generating a better return then Sleeman based on the amount of assets invested in the business. In addition, based on the industry average of 7.8% Sleeman is generating a lower return on their assets than most other companies in the industry, and Big Rock is generating a much higher return on assets. The asset turnover ratio measures how efficiently a company uses its assets to generate sales. It shows the dollars of sales generated by each dollar invested in assets. Sleemans asset turnover ratio (0.79) was lower than Big Rocks (0.95) in 2004. Therefore, it could be concluded that Big Rock was more efficient than Sleeman during 2004 in utilizing assets to generate sales. Both companies are above the industry average of 0.7 times. The ability to compare the two companies is complicated by the fact that Sleeman Breweries is far larger than Big Rock Brewery. Its size, and resulting economies of scale, should allow Sleeman to be more profitable. Further investigation would be required to determine why Sleemans performance is so far below Big Rocks.
PROBLEM 9-10B
(a) As evidenced by the low profit margin compared to the high asset turnover (when compared to other companies in the industry), the company is focusing its efforts on having a high volume of sales versus maximizing profits. The company could be maximizing asset turnover by charging a lower selling price for its products, by focusing on cost control or some combination of both. The companys strategy appears to be to sell a high number of low-end computers. It appears to be accepting a higher volume of sales (as evidenced by the high asset turnover ratio) to the detriment of profit margin. Given the companys lower return on asset ratio, this strategy does not appear to be very successful.
(b)
*PROBLEM 9-11B
(a) STRAIGHT-LINE AMORTIZATION Amortizable Year Cost X 2006 $240,000a 2007 240,000 2008 240,000 2009 240,000 2010 240,000
a b
Calculation End of Year Amortization Amortization Accumulated Book Rate = Expense Amortization Value 20%b 20% 20% 20% 20% $48,000 48,000 48,000 48,000 48,000 $ 48,000 $212,000 96,000 164,000 144,000 116,000 192,000 68,000 240,000 20,000
$260,000 $20,000 = $240,000 1/5 = 20% DOUBLE DECLINING-BALANCE AMORTIZATION Calculation End of Year Book Value Beginning Amortization Amortization Accumulated Book of Year X Rate = Expense Amortization Value $260,000 156,000 93,600 56,160 33,696 40%c 40% 40% 40% 40% $104,000 62,400 37,440 22,464 13,696d $104,000 $156,000 166,400 93,600 203,840 56,160 226,304 33,696 240,000 20,000
Year 2006 2007 2008 2009 2010

c d
1/5 X 2 = 40% Adjusted so ending book value will equal salvage value ($33,696 X 40% = $13,478; $33,696 - $20,000 = $13,696)
*PROBLEM 9-11B (Continued) (b) Straight-line amortization provides the lower amount for 2006 amortization expense and, therefore, the higher 2006 earnings. Over the five-year period, both methods result in the same total amortization expense ($240,000) and, therefore, the same total earnings. Note to instructors: You might wish to point out to students that the double declining-balance method will result in odd amounts of amortization at the end of the assets useful life in order to adjust to salvage value. Often, this is not done in practice. Instead, the asset continues to be amortized as long as it is in use. (c) Straight-line amortization results in the higher net book value at the end of 2006. At the end of the five-year period, both methods result in the same net book value. Amortization is a noncash expense. Therefore cash flow would be the same regardless of the method chosen. In choosing an amortization method, management needs to consider the pattern of revenue production and choose the amortization method that best matches this.
(d) (e)
*PROBLEM 9-12B
(a) STRAIGHT-LINE AMORTIZATION Amortizable Year Cost X 1 2 3 $72,000* ,72,000 ,,72,000 Calculation Amortization Rate (1/3) 1/3 1/3 1/3 End of Year Amortization Accumulated Book Expense Amortization Value $ 24,000 24,000 24,000 $24,000 48,000 72,000 $56,000 32,000 8,000
*$80,000 - $8,000 = $72,000 UNITS-OF-ACTIVITY AMORTIZATION Units-ofActivity 120,000 100,000 80,000

1
Year 1 2 3
Calculation End of Year Amortization Amortization Accumulated Book 1 Cost/Unit = Expense Amortization Value $0.24 0.24 0.24 $28,800 24,000 19,200 $28,800 52,800 72,000 $51,200 27,200 8,000
Amortizable cost per unit = ($80,000 - $8,000) 300,000 km = $0.24 per kilometre.
*PROBLEM 9-12B (Continued) (b) 1. Cost..................................................... Accumulated amortization................... Book value........................................... Cash proceeds.................................... Gain (loss) on disposal........................ 2. Amortization expense.......................... Add: Loss on disposal........................ Net expense........................................ $48,000 7,000 $55,000 $52,800 2,200 $55,000 Straight -Line $80,000 48,000 32,000 25,000 $ (7,000) Units-of -Activity $80,000 52,800 27,200 25,000 $ (2,200)
In total, the effect on net earnings is exactly the same under both methods. This is because the method of amortization only affects the timing of the expense recognition. In total, over the life of the asset the expense recognized is the same. Any difference between the proceeds and net book value at the time of disposal is adjusted through the gain (which reduces expense) or loss (which increases expense) on disposal.
BYP 9-1 FINANCIAL REPORTING PROBLEM

in millions) (a)
($
Amortization is calculated principally on the straight-line basis over the estimated useful lives of the assets. Buildings are amortized over a period from 20 to 40 years and its equipment and fixtures over a period of 3 to 10 years. It amortizes its leasehold improvements over the lesser of the assets applicable useful life and the lease term plus one renewal period to a maximum of 10 years Cost of fixed assets: 2003, $9,010, 2002, $7,857 Accumulated amortization: 2003, $2,588, 2002, $2,270 Net book value: 2003, $6,422, 2002, $5,587.
(b)
(c)
Amortization (depreciation) expense: 2003, $393; 2002, $354. Accumulated amortization (depreciation): 2002; $2,588, 2003, $2,270. The change in the accumulated amortization ($2,588 - $2,270 = $318) between 2003 and 2002 is not equal to the amortization expense ($393) for 2003 because of the adjustment for disposals.
(d)
The amount of cash received from fixed asset sales in 2003 was $35. The amount of cash spent for the purchase of fixed assets in 2003 was $1,271. The purchases of fixed assets were: 2003, $1271; 2002, $1,079.
(e) (f)
Loblaw has Goodwill and Franchise Investments. Loblaw did not report any impairment losses in 2003.
BYP 9-2 COMPARATIVE ANALYSIS PROBLEM

millions) (a) 1. Profit margin Loblaw.........................................Sobeys $845 =3.4% $25,220 $167.5 = 1.5% $11,046.8
($ in
2.
Return on assets $845 = 7.3% ($12,177+$11,110) 2 $167.5 =5.2% ($3,274.7+$3,192.5) 2
3.
Asset turnover $25,220 =2.2 times ($12,177 + $11,110) 2 $11,046.8 =3.4 times ($3,274.7 + $3,192.5) 2
(b)
Based on profit margin we can see that Loblaw is more profitable than Sobeys. However, both retailers have profit margins above the industry average of 0.6%, which indicates that both Sobeys and Loblaw are more profitable than the average grocery retailer. The return on assets ratio indicates that Sobeys is generating a slightly worse return than Loblaw based on the amount of assets invested in the business. However, again, based on the industry average of 1.3% both companies are generating a better return on their assets than most other retailers in the industry. The asset turnover measures how efficiently a company uses its assets to generate sales. It shows the dollars of sales generated by each dollar invested in assets. Sobeys asset turnover (3.4) was 54% higher than Loblaws (2.2). Therefore, it could be concluded that Sobeys was more efficient than Loblaw in utilizing assets to generate sales. Loblaw is a little under the industry average of 2.5 times but this could be attributed to the rapid growth the company has been undergoing in the past several years.
(a)
Intangible assets include brands, technology, contracts, artistic assets, customer lists and marketing-related assets. Intangible asset value as a percent of overall asset value is approximately 75% of overall asset value for Canadian technology, financial, communications and non-cyclical consumer companies; approximately 50% for industrial, energy, base metal and consumer cyclical companies; approximately 25% for the utility sector. Brand value as a percentage of market value 10.6% 26.0% 20.5% N/A 31.4%
BYP 9-3 RESEARCH CASE
(b) Company Royal Bank of Canada Canadian Tire Molson McCain Foods Sobeys Brand Value $4,418,000,000 1,358,000,000 1,081,000,000 1,009,000,000 834,000,000
(c)
The cost principle requires that property, plant, and equipment, goodwill and intangible assets be recorded at cost, their cash-equivalent prices on the date that they are acquired. Brand value is the price that the brand would fetch in the open market today. Investors expect a return (income earned) on their investments. The higher the asset values and value of their investments, the more income that will have to be earned to achieve the targeted return. For example, in 2004 almost 50% of investors buying into a company expected a return of greater than 14%. Venture capitalists (VCs) expect a higher rate of return. In 2004, over 70% of VCs expected a return on investment greater than 14%.
(d)
(a)
The $110 million investment should be treated as a capital expenditure. This will result in the creation of an asset that will have a long life and the cost will be matched with the revenue it generates through annual amortization charges. Maple Leaf could use the straight-line, declining-balance or the units-of-activity method to amortize the property, plant, and equipment associated with its Saskatchewan plant. The straight-line method is simple to use and if the assets are used at a consistent level will match costs with revenue. Declining-balance is appropriate in cases where the benefits are greater in the early years of an assets life. The units-of-activity method would be the most appropriate in this case as the levels of production vary widely. The units-of activity method will provide the best matching of costs with revenue. If the units-of-activity method is chosen and the plant moves to a double-shift operation and processes additional hogs, the amortization expense will increase substantially as the number of hogs processed increases.
BYP 9-4 INTERPRETING FINANCIAL STATEMENTS
(b)
(c)
(a)
Vivendis recording of impairment losses appears to be similar to accounting practices in Canada. The company recorded an impairment loss for goodwill and other assets after assessing their market values. Impairment Loss Goodwill................................. Impairment Loss Other intangible assets.......... Goodwill................................................... Other intangible assets............................ 26 million 5 million
BYP 9-5 INTERPRETING FINANCIAL STATEMENTS
(b)
26 million 5 million
(c)
This write-down will cause Vivendis intangible assets and shareholders equity (through retained earnings) to be lower. Current earnings are also lower (which reduces retained earnings on the balance sheet). This should not impact future earnings unless further write-downs are required.
Due to the frequency of change with regard to information available on the world wide web, the Accounting on the Web cases are updated as required. Their suggested solutions are also updated whenever necessary, and can be found online in the Instructor Resources section of our home page <www.wiley.com/canada/kimmel>.
BYP 9-6 FINANCIAL ANALYSIS ON THE WEB
(a)
Ty CorporationStraight-line method
*BYP 9-7 COLLABORATIVE LEARNING ACTIVITY

$10,000 20,000 $30,000 $90,000
Annual amortization Building [($320,000 - $20,000) 30]................................................ Equipment [($110,000 - $10,000) 5]............................................. Total annual amortization................................................................. Total accumulated amortization ($30,000 X 3)........................................... Hamline Corporation Double Declining-Balance Building: Calculation Book Value Beginning of Year $320,000 298,560 278,556 Amortization Rate* 6.7% 6.7% 6.7% Amortization Expense $21,440 20,004 18,663
End of Year Accumulated Amortization $ 21,440 41,444 60,107 Book Value $298,560 278,556 259,893
Year 2004 2005 2006
*Rate: 1/30 X 2 = 6.7% Equipment: Calculation Book Value Beginning of Year $110,000 66,000 39,600 Amortization Rate 40% 40% 40% Amortization Expense $44,000 26,400 15,840 End of Year Accumulated Amortization $ 44,000 70,400 86,240 Book Value $66,000 39,600 23,760
Year 2004 2005 2006
*Rate: 1/5 X 2 = 40% Total Accumulated Amortization = $60,107 + $86,240 = $146,347
BYP 9-7 (Continued)

(b) Year Ty Corporation Net Earnings Hamline Corporation Net Earnings As Adjusted $103,440 92,404 89,503 $285,347
Calculations for Hamline Corporation $68,000 + $65,4401 - $30,000 = $103,440 $76,000 + $46,4042 - $30,000 = $92,404 $85,000 + $34,5033 - $30,000 = $89,503
2004 $ 84,000 2005 88,400 2006 0 90,000 Total net earnings $262,400
1 2 3
$21,440 + $44,000 = $65,440 $20,004 + $26,400 = $46,404 $18,663 + $15,840 = $34,503 As shown above, when the two companies use the same amortization method, Hamline is more profitable than Ty. Based on the above analysis, Ms. Tucci should invest in Hamline Corporation because it is more profitable.
(c)
BYP 9-8 COMMUNICATION ACTIVITY

Memorandum
To: From: Date: Re: President, Accounting Standards Board President, Research Inc. Today R&D Accounting Standards
We would like to provide the following comments for your consideration as you review the current accounting standards for research and development costs. Our company is in favour of capitalizing all research and development costs.
Some relatively small companies may spend less on R&D because they must expense
these costs. Requiring companies to expense R&D costs instead of allowing them to be capitalized leaves Canadian companies such as ours at a competitive disadvantage as compared to non-Canadian companies. Canadian companies may be more reluctant to invest millions of dollars on research and development since the costs would negatively impact their financial statements in the short-run.
R&D is an important part of our base of knowledge assets. Without capitalizing them,
we are understating our balance sheet and future potential because we are not presenting to the users of financial statements the intrinsic value of our company, much of which is tied to successful research and development. We believe expensing R&D costs to be an excessive application of the conservatism concept. The conservatism concept dictates that when reasonable doubt exists, a company should choose the option that has the least favourable effect on earnings. Expensing R&D costs is an example of applying the conservatism concept without regard for reality. We hope these comments assist you in your revision of this standard. We would be pleased to elaborate further on any of the above points at your convenience.
(a)
The stakeholders in this situation are: Benny Benson, president of Imporia Container Ltd. Yeoh Siew Poon, controller. The shareholders of Imporia Container Ltd. Potential investors in Imporia Container Ltd. Earnings before income taxes in the year of change will increase by implementing the presidents proposed changes because increasing the useful life will decrease the amortization expense. Note to instructor: Students are not expected to, nor are able to, calculate the impact of this change. However, the following calculations have been included in case you wish to expand upon this topic. Old Estimates Asset cost Estimated salvage Amortizable cost Amortization per year ($2,800,000 5) $3,000,000 200,000 2,800,000 $ 560,000 Revised Estimates Asset cost Estimated salvage Amortizable cost Amortization taken to date ($560,000 X 2) Remaining useful life in years Amortization per year $3,000,000 200,000 2,800,000 1,120,000 1,680,000 5 years $ 336,000
BYP 9-9 ETHICS CASE
(b)
(c)
Earnings management is a strategy used by the management of a company to deliberately manipulate the company's earnings so the figures match a pre-determined target. The proposed change is an attempt at earnings management by the president because he is requesting the change in amortization entirely for the purpose of reducing net earnings.
BYP 9-9 (Continued)

(d) The intentional misstatement of the life of an asset is unethical for whatever the reason and would represent an attempt at earnings management. There is nothing per se unethical about changing the estimate either of the life of an asset or of an assets salvage value if the change is an attempt to better match cost and revenues and is a better allocation of the assets amortizable cost over the assets useful life. In this case, it appears from the controllers reaction that the revisions in the life are intended only to improve earnings which would be unethical. The fact that the competition uses a longer life on its equipment is not necessarily relevant. The competitions maintenance and repair policies and activities may be different. The competition may use its equipment fewer hours a year (e.g., one shift rather than two shifts daily) than Imporia Container Ltd.
*BYP 9-10 SERIAL PROBLEM

(a) Purchase price Painting Shelving Total cost of van (1) Straight-line amortization Year 2006 2007 2008 2009 2010 2011 Amortizable Cost $30,000 30,000 30,000 30,000 30,000 30,000 Amortization Rate 20% * 4/12 20% 20% 20% 20% 20% * 8/12 Amortization Expense $ 2,000 6,000 6,000 6,000 6,000 4,000 $30,000 Accumulated Amortization $ 2,000 8,000 14,000 20,000 26,000 30,000 Net Book Value $36,500 34,500 28,500 22,500 16,500 10,500 6,500 $32,500 2,500 1,500 $36,500
(b)
(2) Double declining-balance amortization Net Book Value (beginning of year) $36,500 31,633 18,980 11,388 6,833 6,500
Year 2006 2007 2008 2009 2010 2011
Amortization Rate 40% * 4/12 40% 40% 40% 40% 40%
Amortization Expense $ 4,867 12,653 7,592 4,555 3331 0 $30,000
Accumulated Amortization $ 4,867 17,520 25,112 29,667 30,000 30,000
Net Book Value $36,500 31,633 18,980 11,388 6,833 6,500 6,500
Note that amortization in 2010 is limited to the amount that will bring the residual value to $6,500. Consequently, no further amortization is deducted in 2011.
BYP 9-10 (Continued)

(b) (Continued) (3) Units-of-activity amortization Units-of-Activity 15,000 45,000 50,000 45,000 35,000 10,000 Amortizable Cost per Unit (see below) $0.15 0.15 0.15 0.15 0.15 0.15 Amortization Expense $ 2,250 6,750 7,500 6,750 5,250 1,500 $30,000 Accumulated Amortization $ 2,250 9,000 16,500 23,250 28,500 30,000 Net Book Value $36,500 34,250 27,500 20,000 13,250 8,000 6,500
Year 2006 2007 2008 2009 2010 2011
Note: $30,000 200,000 = $0.15 per km (c) Impact on Cookie Creation Ltd.'s balance sheet and statement of earnings in 2006:
Cost of asset Accumulated amortization Net book value Amortization expense
Straight-Line $36,500 2,000 $34,500 $2,000
Double Declining-Balance $36,500 4,867 $31,633 $4,867
Units-of-Activity $36,500 2,250 $34,250 $2,250
The double declining-balance method of amortization will result in the lowest amount of earnings reported, the lowest amount of retained earnings and the lowest net book value of the asset reported.
The straight line method of amortization will result in the greatest amount of earnings reported, the greatest amount of retained earnings and the greatest net book value of the asset reported.
(d)
Over the van's five year useful life the total amortization will be $30,000 under each of
the methods. The impact will affect the timing of the amortization expense recognized each year only. (e) The choice of amortization method will not affect the cash flow. A reduction in cash flow occurs with the initial purchase of the van. Amortization is the systematic allocation of asset costs over the asset's useful life.
BYP 9-10 (Continued)

(f) The units of activity method may provide Natalie with a more accurate assessment of usage of the van in relation to the amount of revenue earned. As long as Natalie is willing to track the number of kilometres driven over the course of the year, then this would be the method recommended.
(g)
Advantages of leasing the van: Reduced risk of obsolescence. The lease term can provide for replacing the van before it physically wears out. 100% financing. There is no need to borrow and come up with a down payment on the purchase of the van. (Down payments are usually up to 20% of purchase price) Income tax advantages. In some cases the entire amount of the lease payment may be deductible for tax purposes. Off-balance sheet financing. If the lease is classified as an operating lease then both the asset and liability are not recorded on the balance sheet. Disadvantages of leasing the van: Natalie wishes to take out the back seat and install some shelves in the van. Under a lease agreement this may not be possible. Some lease agreements require a monthly minimum payment based upon mileage. If the mileage is exceeded then an additional charge is added onto the monthly minimum. Some lease agreements can prove to be more expensive in terms of cost of financing than borrowing from a bank.
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Copyright
Copyright 2006 by John Wiley & Sons Canada, Ltd. or related companies. All rights reserved. The data contained in these files are protected by copyright. This manual is furnished under licence and may be used only in accordance with the terms of such licence. The material provided herein may not be downloaded, reproduced, stored in a retrieval system, modified, made available on a network, used to create derivative works, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise without the prior written permission of John Wiley & Sons Canada, Ltd.

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Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

*11A, *12A *11B, *12B

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

ASSIGNMENT CHARACTERISTICS TABLE

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Problem Number 6B 7B 8B 9B 10B *11B *12B

Difficulty Level Simple Moderate Moderate Moderate Moderate Moderate Moderate

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 9-2

BRIEF EXERCISE 9-3

BRIEF EXERCISE 9-4

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

BRIEF EXERCISE 9-5

BRIEF EXERCISE 9-6

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

BRIEF EXERCISE 9-7

BRIEF EXERCISE 9-8

BRIEF EXERCISE 9-9

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

BRIEF EXERCISE 9-10

BRIEF EXERCISE 9-11

52.0 41.7 93.7

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

BRIEF EXERCISE 9-12

Asset turnover $20,653 = 1.9 times ($11,609 + $9,864 ) 2

*BRIEF EXERCISE 9-13

*BRIEF EXERCISE 9-14

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Amortization Expense........................................... Accumulated Amortization............................

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

$40,000 8,000 $250,000 12,500

$ 32,000 237,500 269,500 300,000 $569,500

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

Kimmel, Weygandt, Kieso, Trenholm

Financial Accounting, Third Canadian Edition

11A, 12A 11B, 12B

Problem Number 6B 7B 8B 9B 10B 11B 12B