Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

CHAPTER 7
LONG-LIVED NONMONETARY ASSETS
AND THEIR AMORTIZATION
Changes from Twelfth Edition
Updated from Twelfth Edition. Two new cases Silic and WorldCom have been added.
Approach
Students find it difficult to accept the basic fact that deprecation is a process of writing off an assets cost,
rather than a process that has something to do with asset valuation. (A great many business people have
the same difficulty.) Instinctively, they think depreciation is related to some physical change in the asset,
or to changes in its market value. Basically, this point is made only after repeated emphasis of it.
Since the text summarizes APB Opinion No. 17 on goodwill, FASB Statement No. 2 on research and
development, FASB Statement No. 13 on leases, FASB Statement No. 86 on computer software, and FASB
Statement No 142 on goodwill and other intangible assets, instructors may wish to refer to this material
for additional background.
Cases
Stern Corporation (B) is a straightforward problem in analyzing fixed asset transactions.
Joan Holtz (C) describes several debatable items that might or might not be included in the asset amounts.
Stafford Press describes a series of transactions related to amounts to be capitalized. The case probably
cannot be covered in one session and, therefore, either the case should be used for two days or the
instructor should assign only about half the transactions.
Silic: Choosing Cost or Fair Value on Adoption of IFRSI requires students to decide if a French, real
estate investment firm should use the fair value or cost method to report its real estate investments.
Accounting Fraud at WorldCom describes the events leading up to WorldComs overstatement of income
and its subsequent bankruptcy.

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Problems
Problem 7-1
With units-of-production depreciation, one finds the cost of one production unit, and then multiplies this
by the units used in a year to determine the years depreciation:
Cost of one unit

Years
1
2
3
4
5
6

Units
930,000
800,000
580,000
500,000
415,000
300,000
3,525,000

x
x
x
x
x
x
x

$.08
$.08
.08
.08
.08
.08
.08

$300,000 - $18,000
$.08
3,525,000

=
=
=
=
=
=
=

Units of
Production
Depreciation
$ 74,400
64,000
46,400
40,000
33,200
24,000
$282,000

SYD
Charge
$80,571
67,143
53,714
40,286
26,857
13,429
282,000

(6/21 x $282,000)
(5/21 x 282,000)
(4/21 x 282,000)
(3/21 x 282,000)
(2/21 x 282,000)
(1/21 x 282,000)

Problem 7-2
Equipment ID #103

Dr. Cash....................................................................................................................................................................................
14,300
Accumulated Depreciation...................................................................................................................................................
59,755*
Cr. Equipment.................................................................................................................................................................
70,300
Gain on Sale of Equipment........................................................................................................................................
3,755
*(70,300 / 10) x 8 years = $59,755.

Equipment ID #415

Dr. Cash....................................................................................................................................................................................
63,000
Accumulated Deprecation....................................................................................................................................................
26,640*
Loss on Sale of Equipment..................................................................................................................................................
6,360
Cr. Equipment.................................................................................................................................................................
96,000
*Year 1, ($96,000 x 30%)( year) = $14,400.
*Year 2, ($81,600 x 30%)( year) = 12,240.

Equipment ID #573

Dr. Cash....................................................................................................................................................................................
38,000
Accumulated Depreciation...................................................................................................................................................
49,500*
Loss on Sale of Equipment..................................................................................................................................................
7,000
Cr. Equipment.................................................................................................................................................................
94,500
*$94,500 x 11/21 = $49,500.

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Problem 7-3

Automobile (new)..............................................................................................................................................................
9,900
Accumulated Depreciation (old)........................................................................................................................................
14,500
Automobile (old).........................................................................................................................................................
16,000
Cash.............................................................................................................................................................................
8,400
(No gain or loss was involved, because the two assets were of like kind.)
Furniture.............................................................................................................................................................................
8,850
Accumulated Depreciation.................................................................................................................................................
13,610
Loss on Disposal of Truck..................................................................................................................................................
750
Truck............................................................................................................................................................................
19,860
Cash.............................................................................................................................................................................
3,350
Problem 7-4

(1) Land.........................................................................................................................................................................
80,600
Cash...................................................................................................................................................................
80,600

(2) Building....................................................................................................................................................................
138,000
Common Stock...................................................................................................................................................
90,000
Notes Payable.....................................................................................................................................................
16,000
Cash...................................................................................................................................................................
32,000

(3) Desks and Chairs (80% x $8,700)............................................................................................................................

6,960
Bookcases (80% x $2,200).......................................................................................................................................
1,760
Filing Cabinets (80% x $1,100)................................................................................................................................
880
Cash...................................................................................................................................................................
9,600
The above does not treat the equipment purchase as a fortunate acquisition. An argument can be made to
record the equipment as a fortunate acquisition, giving rise to this entry instead:
Desks and Chairs......................................................................................................................................................
8,700
Bookcases................................................................................................................................................................
2,200
Filing Cabinets.........................................................................................................................................................
1,100
Cash...................................................................................................................................................................
9,600
Retained Earnings..............................................................................................................................................
2,400
Problem 7-5

Depletable Assets
Land...................................................................................................................................................................................
$ 21,700,000
Tests successful ..............................................................................................................................................................
35,250
Tests unsuccessful...........................................................................................................................................................
116,250
Permits...............................................................................................................................................................................
41,000
$ 21,892,500
Salvage value.....................................................................................................................................................................
(2,325,000)
Net Cost.............................................................................................................................................................................
$19,567,500
Unit depletion = $19,567,500/800,000 tons = $24.46/ton.
Depreciation year 1 = $24.46 x 30,000 tons = $733,800
Depreciation year 2 = $24.46 x 70,000 tons = $1,712,200
Depreciation year 3 = $24.46 x 75,000 tons = $1,834,500
Land Improvements
$387,500/10 years = $38,750/year amortization.
Amortization year 1 = $38,750

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Amortization year 2 = 38,750

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Amortization year 3 = 38,750

Buildings
$271,250/10 years = $27,125/year depreciation
Deprecation year 1 = $27,125
Deprecation year 2 = 27,125
Deprecation year 3 = 27,125
Machinery
Depreciation year 1 = $1,162,500 x 10/55 = $211,364
Depreciation year 2 = $1,162,500 x 9/55 = $190,227
Depreciation year 3 = $1,162,500 x 8/55 = $169,091

Cases
*

Case 7- 1: Stern Corporation (B)

Note: This case is updated from the Twelfth Edition.

Approach
This is a straightforward problem, designed for use in connection with study of the text. I find it useful to
put T-accounts on the board or on a Vugraph and post entries to them as they are given. The account titles
given in the balance sheet should be used.
The case assumes individual unit depreciation. It may be desirable to ask at some point what the entries
would be if composite or group depreciation were used.
Comments on Questions

This teaching note was prepared by Robert N. Anthony. Copyright Robert N. Anthony.

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Question 1
1.

2.

3.

(a)

(b)

4.
5.

6.

(a)

(b)

7.

Cash.............................................................................................................................................................................
3,866
Accumulated Depreciation, Factory Machinery ..........................................................................................................
27,367
Factory Machinery .................................................................................................................................................
31,233
Tools Used (Expense) .................................................................................................................................................
7,850
Tools
7,850
(Note the contrast between depreciation and a direct write-off.)
Depreciation Expense..................................................................................................................................................
278
Accumulated Depreciation, Automotive Equipment...............................................................................................
278
(The additional depreciation is 1/6 x .20 x $8,354. Note that the half-year
convention is not used. Note that if the depreciation incurred in 2006 is
disregarded, the loss will be overstated.)
Cash.............................................................................................................................................................................
2,336
Accumulated Depreciation, Automotive Equipment....................................................................................................
5,458
Loss on Sale of Other Assets........................................................................................................................................
560
Automotive Equipment...........................................................................................................................................
8,354
(There can be a discussion of the proper showing of the loss on the income
statement.)
Patent Amortization Expense.......................................................................................................................................
11,250
Patent......................................................................................................................................................................
11,250
Cash.............................................................................................................................................................................
75
Accumulated Depreciation, Office Machines..............................................................................................................
1,027
Gain on Sale of Other Assets..................................................................................................................................
75
Office Machines......................................................................................................................................................
1,027
(The gain is preferably combined with the loss on Item 3, with entries to a
Loss or Gain account. It is shown separately here for clarity.)
Depreciation Expense.............................................................................................................................................
37
Accumulated Depreciation...............................................................................................................................
37
(.75 x .10 x $490)
Cash .......................................................................................................................................................................
80
Accumulated Depreciation, Furniture and Fixtures.................................................................................................
432
Furniture and Fixtures......................................................................................................................................
490
Gain on Sale of Other Assets............................................................................................................................
22
Depreciation Expense.............................................................................................................................................
398,779
Accumulated Depreciation, Building................................................................................................................
48,105
Accumulated Depreciation, Factory Machinery...............................................................................................
330,935
Accumulated Depreciation, Furniture and Fixtures..........................................................................................
5,599
Accumulated Depreciation, Automotive
Equipment........................................................................................................................................................
9,989
Accumulated Depreciation, Office Machines...................................................................................................
4,151
(Note that depreciation is calculated after the earlier entries have been recorded and that
depreciation on factory machinery is not calculated on the $85,000 of fully depreciated assets.)

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Question 2

Accumulated
Gross
Depreciation
Net
Land...........................................................................................................................................................................
$ 186,563
$ 186,563
Building.....................................................................................................................................................................
2,405,259
$ 711,484
1,693,775
Factory machinery ....................................................................................................................................................
3,394,352
1,945,926
1,448,426
Furniture and fixtures ................................................................................................................................................
55,994
45,604
10,390
Automotive equipment ..............................................................................................................................................
49,944
41,965
7,979
Office machines ........................................................................................................................................................
41,507
31,129
10,378
Tools .........................................................................................................................................................................
53,444
53,444
Patent.........................................................................................................................................................................
45,000
_________
45,000
Total....................................................................................................................................................................
$6,232,063
$2,776,108
$3,455,955
Case 7- 3: Strafford Press*
Note: This case is updated from the Twelfth Edition.
Approach
This case is, in effect, a series of short problems dealing with various aspects of fixed asset accounting.
The problems illustrate issues of asset valuation, disposal gains and losses, and expense versus
capitalization of certain items. In class I have students discuss the items sequentially, describing treatment
of each transaction with a journal entry. I try to keep income tax treatment out of the discussion; or, if it
does enter in, to keep it clearly distinguished from the financial reporting issues of the case.
Comments on Questions
1.

2.

The journal entry recording this disposal would be:

Cash.......................................................................................................................................................................
149,860
Accumulated Depreciation (bldgs.)........................................................................................................................
199,056
Loss on Sale of Fixed Assets..................................................................................................................................
35,182
Land..................................................................................................................................................................
34,034
Buildings...........................................................................................................................................................
350,064

The $35,182 is a plug figure; that is, it is determined as a result of the following
sequence: (1) the cost of the old land and building must be removed from the books
(credits); (2) the accumulated depreciation on the building must also be removed (debit);
(3) the cash consideration must be recorded (debit); (4) the balancing debit is $35,182,
representing the difference between the net book value of the assets disposed of and the
cash proceeds from the disposal. Although extraordinary items have not yet been covered in
the text, it should be made clear that such gains or losses on disposal of fixed assets are not
extraordinary items.
The entry for this disposal is completely analogous to the previous one, except in this instance
there is a gain instead of a loss:
Cash.......................................................................................................................................................................
35,200
Accumulated Depreciation (eqpt.) .........................................................................................................................
40,890
Equipment.........................................................................................................................................................
73,645
Gain on Sale of Fixed Assets.............................................................................................................................
2,445

This teaching note was prepared by Robert N. Anthony. Copyright Robert N. Anthony.

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

3.

4.

The purchase price should probably be recorded at $109,868, although the companys policy
may be to treat all cash discounts separately, in which case the cost would be $112,110. The
$450 delivery cost should be capitalized, as should installation costs. The question on the latter
is the appropriate hourly rate; I feel the 60 hours should be costed at $27.15, the retail billing
rate less profit, for a total of $1,629. Others will argue for the $15 rate, or $900. One possible
entry therefore is:
Equipment (109,868 + 450 + 1,629)...................................................................................................................................
111,947
Cash (possibly other items)............................................................................................................................................
111,947
The company paid $140,000 to purchase the land for the new plant.
Land....................................................................................................................................................................................
140,000
Cash ..............................................................................................................................................................................
140,000
As stated in the text, the cost of land includes the cost of tearing down existing structures so as
to make the land ready for its intended use.
Land....................................................................................................................................................................................
21,235
Cash ..............................................................................................................................................................................
21,235
In either case, the drainage installation is an additional cost that should be capitalized, as
follows:
Land....................................................................................................................................................................................
13,950
Cash ..............................................................................................................................................................................
13,950
STAFFORD PRESS
Condensed Balance Sheet
(Revised to Reflect Move)
Assets

Liabilities and Owners Equity

Current assets:
Current liabilities.........................................................................
$ 160,223
Cash...............................................................................................................................................................................................
$ 121,912
Long-term liabilities....................................................................
425,000
Other current assets........................................................................................................................................................................
251,790
Common stock.............................................................................
400,000
Total current Assets.....................................................................................................................................................................
373,702
Retained earnings........................................................................
310,857
Plant and equipment:.........................................................................................................................................................................
Land...............................................................................................................................................................................................
175,185
Buildings .......................................................................................................................................................................................
$561,000
Less accumulated........................................................................................................................................................................
Depreciation............................................................................................................................................................................
0
561,000
Equipment.........................................................................................................................................................................................
319,025
Less: accumulated
depreciation ...................................................................................................................................................................................
132,832
186,193
_________
Total liabilities and
Total assets........................................................................................................................................................................................
$1,296,080
owners equity..........................................................................
$1,296,080
5.

The item was intentionally stated ambiguously in the case so that the issue of similar (likekind) trade-ins can be discussed. If the equipment traded in was similar, then the journal entry
is constructed so that no gain or loss on disposal is recorded:
Equipment (new) (20,830 + 6,800).....................................................................................................................................
27,630
Accumulated Depreciation (old).........................................................................................................................................
5,200
Cash...............................................................................................................................................................................
20,830
Equipment (old).............................................................................................................................................................
12,000
On the other hand, if it is assumed that the trade-in was not similar, the entry is as follows:
Equipment (new) (20,830 + 6,050).....................................................................................................................................
26,880
Accumulated Depreciation (old).........................................................................................................................................
5,200

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Loss on Sale of Fixed Assets..................................................................................................................................

750
Cash...................................................................................................................................................................
20,830
Equipment (old).................................................................................................................................................
12,000
Note that in either case the nominal trade-in allowance $7,200 is irrelevant. In the second
treatment, the $750 loss is the difference between the fair value of the trade-in, $6,050, and its
$6,800 net book value.
6.

This is straightforward as given:

Buildings................................................................................................................................................................
561,000
Cash...................................................................................................................................................................
136,000
Mortgage Payable..............................................................................................................................................
425,000

7.

Some might argue that these moving costs should be capitalized, on the grounds that there are
future benefits associated with the move (that was the owners motivation in moving). In
response, I ask, How would you feel if the move had been made out of necessity--say, the old
property had been condemned or taken by eminent domain? The response in that case usually is
that the moving costs should not be capitalized. Since the benefits are speculative and (more
importantly), since changing the location of equipment through a move does not alter its future
productive capacity or useful life, I see no strong argument for capitalization. Thus, the entry
would be (again using $27.15 per hour for the workers time, consistent with item 3):
Moving Expense (8,440 + 3,394).........................................................................................................................
11,834
Cash...................................................................................................................................................................
11,834
(There would be labor, over and above this 125 hours, charged to moving expense, but the
total number of workers hours devoted to the move is not given.)

8.

The repair of the damage during the move has not improved the equipment so as to constitute a
betterment; thus it is expensed:
Maintenance (or Moving) Expense........................................................................................................................
3,220
Cash....................................................................................................................................................................
3,220
The decrease in salvage value, $660, could be expensed immediately with an entry such as:
Moving Expense (or Deprec. Expense)....................................................................................................................
660
Equipment (or Accum. Deprec.).........................................................................................................................
660
However, I dont think an event that changes a fixed assets future salvage value is any more
relevant, in terms of the cost concept, than an event that changes its current market value. Thus,
in my view, rather than adjusting the cost of the asset, it is better to amortize the reduction in
salvage value by adjusting the depreciation charge for the rest of the equipments useful life,
which constitutes a change in an estimate. Since the accumulated depreciation was $3,220, and
annual depreciation was $805, the asset was 4 years old, and thus had 6 years left of useful life.
The amount of remaining depreciation is the net book value at the end of 4 years, $6,780, less
the newly estimated S1,290 salvage value, or $5,490. Divided by 6 years, the new annual
depreciation expense on this item would be $915. (Easier, though not quite as thorough: the
$660 lesser salvage value, spread over 6 years, is $110 per year, added to the current
depreciation charge of $805, makes a total of $915.)

The revised balance sheet reflecting the above transactions is shown above.

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Chapter 07 - Long-Lived Nonmonetary Assets and Their Amortization

Case 7- 4: Silic (A) and (B): Choosing Cost or Fair Value on Adoption of IFRS *
Note: This case is new with the Thirteenth Edition. Please see the printed Instructors Resource Manual
for the Harvard Teaching Notes.Case 7-5: Accounting Fraud at WorldCom*
Note: This case is new with the Thirteenth Edition. Please see the printed Instructors Resource Manual
for the Harvard Teaching Notes.

This note was prepared by Professors David F, Hawkins and Edward J. Riedl, and Vincent Dessain, and Andrew
Barron. Copyright 2008 President Fellows of Harvard College. Harvard Business School Teaching Note 108-078.
*
This note was prepared by Professor Robert S. Kaplan. Copyright 2005 President and Fellows of Harvard
College. Harvard Business School Teaching Note 105-083.

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