Exercise 11-1



Exercise 11-1

1. Straight-line:

$22,000 - 2,000

= $4,000 per year

5 years

2. Sum-of-the-years’ digits:

| | | | | | |

| | | | | | |

| |Depreciable | |Depreciation | | |

|Year |Base |X |Rate per Year |= |Depreciation |

|2003 |$20,000 | | | |$6,667 |

|2004 |20,000 | | | |5,333 |

|2005 |20,000 | | | |4,000 |

|2006 |20,000 | | | |2,667 |

|2007 |20,000 | | | | 1,333 |

| Total | | | | |$20,000 |

| | | | | | |

Exercise 11-1 (concluded)

3. Double-declining balance:

Straight-line rate of 20% (1 ÷ 5 years) x 2 = 40% DDB rate.

| | | | | |

| |Book Value Beginning |Depreciation | | |

| |of Year X |Rate per | |Book Value |

|Year | |Year = |Depreciation |End of Year |

|2003 |$22,000 |40% |$ 8,800 |$13,200 |

|2004 | 13,200 |40% | 5,280 | 7,920 |

|2005 | 7,920 |40% | 3,168 | 4,752 |

|2006 | 4,752 |40% | 1,901 | 2,851 |

|2007 | 2,851 |* | 851 * | 2,000 |

|Total | | |$20,000 | |

| | | | | |

|* Amount necessary to reduce book value to residual value | | | | |

| | | | | |

4. Units-of-production:

$22,000 - 2,000

= $.20 per mile depreciation rate

100,000 miles

| | | | | |

| | Actual |Depreciation | |Book Value |

| |Miles |Rate per | |End of |

|Year |Driven X |Mile = |Depreciation |Year |

|2003 | 22,000 |$.20 |$4,400 |$17,600 |

|2004 | 24,000 | .20 | 4,800 | 12,800 |

|2005 | 15,000 | .20 | 3,000 | 9,800 |

|2006 | 20,000 | .20 | 4,000 | 5,800 |

|2007 | 21,000 | * | 3,800 * | 2,000 |

|Totals |102,000 | |$20,000 | |

| | | | | |

|* Amount necessary to reduce book value to residual value | | | | |

| | | | | |

Exercise 11-2

1. Straight-line:

$115,000 - 5,000

= $11,000 per year

10 years

2. Sum-of-the-years’ digits:

Sum-of-the-digits is {[10 (10 + 1)]÷2} = 55

2003 $110,000 x 10/55 = $20,000

2004 $110,000 x 9/55 = 18,000

3. Double-declining balance:

Straight-line rate is 10% (1 ÷ 10 years) x 2 = 20% DDB rate

2003 $115,000 x 20% = $23,000

2004 ($115,000 - 23,000) x 20% = $18,400

4. One hundred fifty percent declining balance:

Straight-line rate is 10% (1 ÷ 10 years) x 1.5 = 15% rate

2003 $115,000 x 15% = $17,250

2004 ($115,000 - 17,250) x 15% = $14,663

5. Units-of-production:

$115,000 - 5,000

= $.50 per unit depreciation rate

220,000 units

2003 30,000 units x $.50 = $15,000

2004 25,000 units x $.50 = $12,500

Exercise 11-8

Requirement 1

Cost of the equipment:

Purchase price $135,000

Freight charges 1,000

Installation charges 4,000

$140,000

Straight-line rate of 12.5% (1 ÷ 8 years) x 2 = 25% DDB rate.

| | | | | | | |

| |Book Value Beginning of| | | | | |

| |Year | |Depreciation | | |Book Value |

|Year | |X |Rate per Year |= |Depreciation |End of Year |

|2003 |$140,000 | |25% | |$ 35,000 |$105,000 |

|2004 | 105,000 | |25% | | 26,250 | 78,750 |

|2005 | 78,750 | |25% | | 19,688 | 59,062 |

|2006 | 59,062 | |25% | | 14,766 | 44,296 |

|2007 | 44,296 | |* | | 3,574 | 40,722 |

|2008 | 40,722 | |* | | 3,574 | 37,148 |

|2009 | 37,148 | |* | | 3,574 | 33,574 |

|2010 | 33,574 | |* | | 3,574 | 30,000 |

|Total | | | | |$110,000 | |

| | | | | | | |

|* Switch to straight-line in 2007: | | | | | | |

| | | | | | | |

|Straight-line depreciation: | | | | | | |

| | | | | | | |

|$44,296 - 30,000 | | | | | | |

|= $3,574 per year | | | | | | |

|4 years | | | | | | |

| | | | | | | |

Requirement 2

For plant and equipment used in the manufacture of a product, depreciation is a product cost and is included in the cost of inventory. Eventually, when the product is sold, depreciation will be included in cost of goods sold.

Exercise 11-11

Requirement 1

a. To record the purchase of a patent.

January 1, 2001

Patent 600,000

Cash 600,000

To record amortization on the patent.

December 31, 2001 and 2002

Amortization expense ($600,000 ÷ 10 years) 60,000

Patent 60,000

b. To record the purchase of a franchise.

2003

Franchise 500,000

Cash 500,000

c. To record research and development expenses.

2003

Research and development expense 380,000

Cash 380,000

Exercise 11-11 (concluded)

Year-end adjusting entries

Patent: To record amortization on the patent.

December 31, 2003

Amortization expense (determined below) 96,000

Patent 96,000

Calculation of annual amortization after the estimate change:

($ in thousands)

$600 Cost

$60 Old annual amortization ($600 ÷ 10 years)

x 2 years 120 Amortization to date (2001-2002)

480 Unamortized cost (balance in the patent account)

÷ 5 Estimated remaining life

$ 96 New annual amortization

Franchise: To record amortization of franchise.

December 31, 2003

Amortization expense ($500,000 ÷ 10 years) 50,000

Franchise 50,000

Requirement 2

Intangible assets:

Patent $384,000 [1]

Franchise 450,000 [2]

Total intangibles $834,000

[1] $480,000 - 96,000

[2] $500,000 - 50,000

Exercise 11-17

Requirement 1

Correct Incorrect

(Should Have Been Recorded) (As Recorded)

2000 Machine 350,000 Expense 350,000

Cash 350,000 Cash 350,000

2000 Expense 70,000 Depreciation entry omitted

Accum. deprec. 70,000

2001 Expense 70,000 Depreciation entry omitted

Accum. deprec. 70,000

2002 Expense 70,000 Depreciation entry omitted

Accum. deprec. 70,000

During the three-year period, depreciation expense was understated by $210,000, but other expenses were overstated by $350,000, so net income during the period was understated by $140,000, which means retained earnings is currently understated by that amount.

During the three-year period, accumulated depreciation was understated, and continues to be understated by $210,000.

To correct incorrect accounts

Machine 350,000

Accumulated depreciation ($70,000 x 3 years) 210,000

Retained earnings ($350,000 – 210,000) 140,000

Requirement 2

Correcting entry:

Assuming that the machine had been disposed of, no correcting entry would be required because, after five years, the accounts would show appropriate balances.

Exercise 11-18

Requirement 1

Book value $6.2 million

Fair value 3.5 million

Impairment loss 2.7 million

Requirement 2

Because the undiscounted sum of future cash flows of $6.5 million exceeds book value of $6.2 million, there is no impairment loss.

Exercise 11-19

Requirement 1

Determination of implied goodwill:

Fair value of Centerpoint, Inc. $220 million

Fair value of Centerpoint’s net assets (excluding goodwill) 200 million

Implied value of goodwill $ 20 million

Measurement of impairment loss:

Book value of goodwill $50 million

Implied value of goodwill 20 million

Impairment loss $30 million

Requirement 2

Because the fair value of the reporting unit, $270 million, exceeds book value, $250 million, there is no impairment loss.

Problem 11-10

a. This is a change in estimate.

No entry is needed to record the change.

2003 adjusting entry:

Depreciation expense (determined below) 37,500

Accumulated depreciation 37,500

Calculation of annual depreciation after the estimate change:

$1,000,000 Cost

$25,000 Old depreciation ($1,000,000 ÷ 40 years)

x 3 yrs (75,000) Depreciation to date (2000-2002)

925,000 Undepreciated cost

(700,000) New estimated salvage value

225,000 To be depreciated

÷ 6 Estimated remaining life (6 years: 2003-2008)

$ 37,500 New annual depreciation

A disclosure note should describe the effect of a change in estimate on income before extraordinary items, net income, and related per-share amounts for the current period.

Problem 11-10 (concluded)

b. This is a change in accounting principle.

To record the change:

Accumulated depreciation (determined below) 72,000

Cumulative effect of accounting change * 72,000

*Cumulative effect of the change: ($ in 000s)

SYD Straight-line

1999 depreciation $60 ($330 x 10/55) $33 ($330 ÷ 10)

2000 depreciation 54 ($330 x 9/55) 33 ($330 ÷ 10)

2001 depreciation 48 ($330 x 8/55) 33 ($330 ÷ 10)

2002 depreciation 42 ($330 x 7/55) 33 ($330 ÷ 10)

Accumulated depreciation and

1999-02 reduction in income $204 ( ($132

difference

$72

2003 adjusting entry:

Depreciation expense ($330,000 ÷ 10 years) 33,000

Accumulated depreciation 33,000

The cumulative income effect, net of income taxes, is reported as a separate item of income between extraordinary items and net income. The effect of the change on certain key income numbers should be disclosed for the current period and on a pro forma basis for the financial statements of all prior periods that are included for comparison with the current financial statements. Also, the nature of and justification for the change should be described in the disclosure notes.

c. This is a change in accounting principle.

Because the change will be effective only for assets placed in service after the date of change, there would be no cumulative effect on prior years’ earnings because the change doesn’t affect assets depreciated in prior periods.

The nature of and justification for the change should be described in the disclosure notes. Also, the effect of the change on the current period’s income before extraordinary items, net income, and related per-share amounts should be disclosed.

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