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CHAPTER 10

Acquisition and Disposition of Property, Plant, and Equipment


ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC)
Topics 1. Valuation and classification of land, buildings, and equipment. 2. Self-constructed assets, capitalization of overhead. 3. Capitalization of interest. 4. Exchanges of assets Questions 1, 2, 3, 4, 6, 7, 12, 13, 21 5, 8, 20, 21 8, 9, 10, 11, 2, 3, 4 13, 21 12, 16, 17 8, 9, 10, 11, 12 5, 6, 7 Brief Exercises 1 Exercises 1, 2, 3, 4, 5, 13 4, 6, 12, 16 4, 5, 7, 8, 9, 10, 16 3, 11, 16, 17, 18, 19, 20 1, 5, 6, 7 4, 8, 9, 10, 11 Problems 1, 2, 3, 5 Concepts for Analysis 1, 6, 7

2 3, 4 5

5. Lump-sum purchases, issuance of stock, deferredpayment contracts. 6. Costs subsequent to acquisition. 7. Alternative valuations. 8. Disposition of assets.

12, 14, 15

3, 6, 11, 12, 2, 11 13, 14, 15, 16 21, 22, 23 3 1

18, 19 22 23

13

14, 15

24, 25

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ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE)


Brief Exercises

Learning Objectives 1. 2. 3. 4. 5. Describe property, plant, and equipment. Identify the costs to include in initial valuation of property, plant, and equipment. Describe the accounting problems associated with self-constructed assets. Describe the accounting problems associated with interest capitalization. Understand accounting issues related to acquiring and valuing plant assets. Describe the accounting treatment for costs subsequent to acquisition. Describe the accounting treatment for the disposal of property, plant, and equipment.

Exercises

Problems

1, 2, 3, 4, 5, 11, 12, 13 4, 5, 6, 11, 12

1, 2, 3, 4, 5, 6, 11 3 5, 6, 7, 8, 9, 10, 11 3, 4

2, 3, 4 5, 6, 7, 8, 9, 10, 11, 12 13 14, 15

5, 6, 7, 8, 9, 10 11, 12, 13, 14, 15, 16, 17, 18, 19, 20 21, 22, 23 24, 25

6. 7.

2, 4, 11

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Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

ASSIGNMENT CHARACTERISTICS TABLE


It e m E10-1 E10-2 E10-3 E10-4 E10-5 E10-6 E10-7 E10-8 E10-9 E10-10 E10-11 E10-12 E10-13 E10-14 E10-15 E10-16 E10-17 E10-18 E10-19 E10-20 E10-21 E10-22 E10-23 E10-24 E10-25 P10-1 P10-2 P10-3 P10-4 P10-5 P10-6 P10-7 P10-8 P10-9 P10-10 P10-11 Description Level of Difficulty Time (minutes)

Acquisition costs of realty. Acquisition costs of realty. Acquisition costs of trucks. Purchase and self-constructed cost of assets. Treatment of various costs. Correction of improper cost entries. Capitalization of interest. Capitalization of interest. Capitalization of interest. Capitalization of interest. Entries for equipment acquisitions. Entries for asset acquisition, including self-construction. Entries for acquisition of assets. Purchase of equipment with zero-interest-bearing debt. Purchase of computer with zero-interest-bearing debt. Asset acquisition. Nonmonetary exchange. Nonmonetary exchange. Nonmonetary exchange. Nonmonetary exchange. Analysis of subsequent expenditures. Analysis of subsequent expenditures. Analysis of subsequent expenditures. Entries for disposition of assets. Disposition of assets. Classification of acquisition and other asset costs. Classification of acquisition costs. Classification of land and building costs. Dispositions, including condemnation, demolition, and trade-in. Classification of costs and interest capitalization. Interest during construction. Capitalization of interest. Nonmonetary exchanges. Nonmonetary exchanges. Nonmonetary exchanges. Purchases by deferred payment, lump-sum, and nonmonetary exchanges.

Moderate Simple Simple Moderate Moderate Moderate Moderate Moderate Moderate Moderate Simple Simple Simple Moderate Moderate Moderate Simple Moderate Moderate Moderate Moderate Simple Simple Moderate Simple Moderate Moderate Moderate Moderate Moderate Moderate Moderate Moderate Moderate Moderate Moderate

1520 1015 1015 2025 3040 1520 2025 2025 2025 2025 1015 1520 2025 1520 1520 2535 1015 2025 1520 1520 2025 1520 1015 2025 1520 3540 4055 3545 3540 2030 2535 2030 3545 3040 3040 3545

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Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

ASSIGNMENT CHARACTERISTICS TABLE (Continued)


It e m CA10-1 CA10-2 CA10-3 CA10-4 CA10-5 CA10-6 CA10-7 Description Level of Difficulty Time (minutes)

Acquisition, improvements, and sale of realty. Accounting for self-constructed assets. Capitalization of interest. Capitalization of interest. Nonmonetary exchanges. Costs of acquisition. Cost of land vs. buildingethics.

Moderate Moderate Simple Moderate Moderate Simple Moderate

2025 2025 2025 3040 3040 2025 2025

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LEARNING OBJECTIVES
1. 2. 3. 4. 5. 6. 7. Describe property, plant and equipment. Identify the costs to include in initial valuation of property, plant, and equipment. Describe the accounting problems associated with self-constructed assets. Describe the accounting problems associated with interest capitalization. Understand accounting issues related to acquiring and valuing plant assets. Describe the accounting treatment for costs subsequent to acquisition. Describe the accounting treatment for the disposal of property, plant, and equipment.

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CHAPTER REVIEW
1. Chapter 10 presents a discussion of the basic accounting problems associated with the incurrence of costs related to property, plant, and equipment; and the accounting methods used to retire or dispose of these costs. These assets, also referred to as fixed assets, are of a durable nature and include land, building structures, and equipment. Fixed assets are an important part of the operations of most business organizations. They provide the major means of support for the production and/or distribution of a companys product or service. 2. (S.O. 1)Property, plant, and equipment possess certain characteristics that distinguish them from other assets owned by a business enterprise. These characteristics may be expressed as follows: (a) acquired for use in operations and not for resale, (b) long-term in nature and usually depreciated, and (c) possess physical substance. An asset must be used in the normal business operations to be classified as a fixed asset. These assets last for a number of years and their costs must be allocated to the periods which benefit from their use. Acquisition of Property, Plant, and Equipment 3. (S.O. 2)Property, plant and equipment are valued in the accounts at their historical cost. Historical cost is measured by the cash or cash equivalent price of obtaining the asset and bringing it to the location and condition necessary for its intended use. Thus, charges associated with freight costs and installation are considered a part of the assets cost. The process of allocating the historical cost of property, plant, and equipment to the periods benefited by those assets is known as depreciation. The topic of depreciation is presented in Chapter 11. 4. With minor exceptions, use of a method other than historical cost in valuing property, plant, and equipment represents a departure from generally accepted accounting principles. This position is justified on the grounds that: (a) cost reflects fair value on the date of acquisition, (b) historical cost involves actual, not hypothetical transactions, and (c) gains and losses should not be anticipated but should be recognized when the asset is sold. 5. The assets normally classified on the balance sheet as property, plant, and equipment include land, buildings, and various kinds of machinery and equipment. The cost of each item includes the acquisition price plus those expenditures incurred in getting the asset ready for its intended use. In the case of land, cost typically includes (a) purchase price; (b) closing costs such as title, attorney, and recording fees; (c) cost of grading, filling, draining, and clearing the property; (d) assumption of any liens, mortgages, or encumbrances on the property; and (e) any additional land improvements that have an indefinite life. The cost of removing an old building from land purchased for the purpose of constructing a new building is properly charged to the land account. Also, when improvements that have a limited life (fences, driveways, etc.) are made to the land they should be set up in a separate Land Improvements account so they can be depreciated over their estimated useful life. 6. Building costs include materials, labor, and overhead costs incurred during construction. Also, any fees such as those incurred for building permits or the services of an attorney are included in acquisition cost. In general, all costs incurred from excavation of the site to completion of the building are considered part of the building costs.
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7. With respect to equipment, cost includes purchase price plus all expenditures related to the purchase that occur subsequent to acquisition but prior to actual use. These related costs would include such items as freight charges, insurance charges on the asset while in transit, assembly and installation, special preparation of facilities, and asset testing costs. Self-Constructed Assets 8. (S.O. 3)When machinery and equipment to be used by an entity are constructed rather than purchased, a problem exists concerning the allocation of overhead costs. These costs may be handled in one of two ways: (a) assign no fixed overhead to the cost of the constructed asset, or (b) assign a portion of all overhead to the construction process. The second method called a full-costing approach appears preferable because of its consistency with the historical cost principle. It should be noted that the cost recorded for a constructed asset can never exceed the price charged by an outside producer. Interest Costs 9. (S.O. 4)Capitalization of interest cost incurred in connection with financing the construction or acquisition of property, plant, and equipment generally follows the rule of capitalizing only the actual interest costs incurred during construction. While some modification to this general rule occurs, its adoption is consistent with the concept that the historical cost of acquiring an asset includes all costs incurred to bring the asset to the condition and location necessary for its intended use. 10. To qualify for interest capitalization, assets must require a period of time to get them ready for their intended use. Assets that qualify for interest cost capitalization include assets under construction for an enterprises own use (such as buildings, plants, and machinery) and assets intended for sale or lease that are constructed or otherwise produced as discrete projects (like ships or real estate developments). The period during which interest must be capitalized begins when three conditions are present: (a) expenditures for the asset have been made; (b) activities that are necessary to get the asset ready for its intended use are in progress; and (c) interest cost is being incurred. 11. The amount of interest to capitalize is limited to the lower of (a) actual interest cost incurred during the period or (b) the amount of interest cost incurred during the period that theoretically could have been avoided if the expenditure for the asset had not been made (avoidable interest). The potential amount of interest that may be capitalized during an accounting period is determined by multiplying interest rate(s) by the weighted-average amount of accumulated expenditures for qualifying assets during the period. 12. Examples which demonstrate computation of the weighted-average accumulated expenditures and selecting the appropriate interest rate are included in the chapter. Also, a comprehensive illustration of interest capitalization is shown in the text. This illustration includes both the computations and the related journal entries that should be made in a situation when an asset is constructed and capitalizable interest is a part of the transaction.

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13. Two special issues relate to interest capitalization. If a company purchases land as a site for a structure, interest costs capitalized during the period of construction are part of the cost of the plant, not the land. In addition, companies should generally not net or offset interest revenue against interest cost. Acquisition and Valuation 14. (S.O. 5)A number of accounting problems are involved in the acquisition and valuation of fixed assets. In general, an asset should be recorded at the fair market value of what is given up to acquire it or its own fair market value, whichever is more clearly evident. This appears to be a rather straight forward approach that can be easily followed. However, determining fair market value is not always as easy as it might appear. Some of the problems one encounters in determining proper valuation are discussed in the paragraphs that follow. 15. The purchase of a plant asset is often accompanied by a cash discount for prompt payment. If the discount is taken, it results in a reduction in the purchase price of the asset. However, when the discount is allowed to lapse, should a loss be recorded or should the asset be recorded at a higher purchase price? Currently, while the loss approach is preferred, both methods are employed in practice. 16. Plant assets purchased on long-term credit contracts should be accounted for at the present value of the consideration exchanged on the date of purchase. When the obligation stipulates no interest rate, or the rate is unreasonable, an imputed rate of interest must be determined for use in calculating the present value. Factors to be considered in imputing an interest rate are the borrowers credit rating, the amount and maturity date of the note, and prevailing interest rates. If determinable, the cash exchange price of the asset acquired should be used as the basis for recording the asset and measuring the interest element. 17. In some instances a company may purchase a group of plant assets at a single lump sum price. The best way to allocate the purchase price of the assets to the individual items is the relative fair values of the assets acquired. To determine fair value, an appraisal for insurance purposes, the assessed valuation for property taxes, or simply an independent appraisal by a qualified appraiser might be used. When assets are acquired for an entitys stock, the best measure of cost is the fair value of the stock issued. Exchanges of Property, Plant, and Equipment 18. Nonmonetary assets such as inventory or property, plant, and equipment are items whose price may change over time. Controversy exists in regard to the accounting for these assets when one nonmonetary asset is exchanged for another nonmonetary asset.

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19. As stated previously, ordinarily companies account for the exchange of nonmonetary assets on the basis of the fair value of the asset given up or the fair value of the asset received, whichever is clearly more evident. Thus, companies should recognize immediately any gains or losses on the exchange. The rationale for immediate recognition is that most transactions have commercial substance and therefore should be recognized. An exchange has commercial substance if the future cash flows change as a result of the transaction. An exchange of trucks with different useful lives might have commercial substance while an exchange of trucks with no significant difference in useful lives would probably not. 20. Companies immediately recognize losses they incur on all exchanges. The accounting for gains depends on whether the exchange has commercial substance. If the exchange has commercial substance, the company recognizes the gain immediately. However, the rule for immediate recognition of a gain when an exchange lacks commercial substance is treated differently. If the company receives no cash (boot) in such an exchange, it defers recognition of a gain. If the company receives cash in such an exchange, it recognizes part of the gain immediately. The portion to be recognized is equal to the ratio of the cash received to the total consideration received times the total gain indicated. 21. To summarize these concepts, when a transaction involves an exchange of nonmonetary assets, losses are always recognized. Gains are recognized if the exchange has commercial substance. However, gains are deferred (not immediately recognized) if the exchange has no commercial substance, unless cash or some other form of monetary consideration is received, in which case a partial gain is recognized. Also, a gain or loss on the exchange on nonmonetary assets is computed by comparing the book value of the asset given up with the fair value of that same asset. The examples shown below are designed to demonstrate the various situations where exchanges of nonmonetary assets are included. Exchange with Commercial Substance Al Company exchanged a used machine with a book value of $26,000 (cost $54,000 less $28,000 accumulated depreciation) and cash of $8,000 for a delivery truck. The machine is estimated to have a fair market value of $36,000. Cost of truck: Fair value of machine exchanged................... Cash paid........................................................ Cost of truck.................................................... Journal entry: Truck................................................................ Accumulated DepreciationMachine............. Machine................................................... Gain on Machine Disposal...................... Cash........................................................

$36,000 8,000 $44,000

$44,000 28,000 54,000 10,000 8,000

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Exchange with No Commercial Substance Al Company trades drill press A for drill press B from another company. Drill Press A has a book value of $11,000 (cost $32,000 less $21,000 accumulated depreciation) and a fair market value of $8,000. Drill press B has a list price of $38,000, and the seller has allowed a trade-in allowance of $15,000 on the press. Cost of new machine: List price of drill press B................................... Less trade-in allowance................................... Cash payment due........................................... Fair value of drill press A................................. Cost of drill press B.......................................... Journal entry: Equipment........................................................ Accumulated depreciation............................... Loss on disposal of equipment........................ Equipment................................................ Cash........................................................ Loss verification: Book value of drill press A............................... Fair value of drill press A................................. Loss on disposal of drill press A......................

$38,000 15,000 23,000 8,000 $31,000

31,000 21,000 3,000 32,000 23,000

$11,000 8,000 $ 3,000

Exchange with No Commercial Substance Al Company contracts with Peg Company to exchange delivery vans. Al Company will trade four Dodge Caravans for four Ford Freestars owned by Peg Company. The fair value of the Caravans is $51,000 with a book value of $38,000 (cost $65,000 less $27,000 accumulated depreciation). The Freestars have a fair value of $66,000 and Al Company gives $15,000 in cash in addition to the Caravans. Computation of Gain: Fair value of Caravans..................................... Book value, of Caravans.................................. Total gain (unrecognized)................................ Basis of new vans to Al Company: Fair value of Freestars..................................... Less gain deferred........................................... Basis of Freestar vans.....................................

$51,000 38,000 $13,000

$66,000 13,000 $53,000

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OR Book value of Caravans............................... Cash paid..................................................... Basis of Freestar vans................................. Al Company journal entry: Freestar vans............................................... Accumulated depreciation............................ Caravan vans....................................... Cash..................................................... $38,000 15,000 $53,000

53,000 27,000 65,000 15,000

Exchange with No Commercial Substance-Gain Situation (Some Cash Received) From the previous example, assume the book value of the Freestar Vans exchanged by Peg Company was $52,000 (cost $75,000 less $23,000 of accumulated depreciation). Thus, the total gain on the exchange to Peg Company is as follows: Fair value of vans exchanged.................................. Book value of vans exchanged................................ Total gain................................................................. Recognized gain due to cash received: $15,000/($15,000 + $51,000) X $14,000 = $3,182 Deferred gain: $14,000 $3,182 = $10,818 Basis of new vans to Peg Company: Fair value of Caravans........................... Less gain deferred................................. Basis of Caravans.................................. Peg Company journal entry: Cash....................................................... Caravan vans......................................... Accumulated depreciation...................... Freestar vans................................. Gain on disposal of vans................ $66,000 52,000 $14,000

$51,000 (10,818) $40,182

15,000 40,182 23,000 75,000 3,182

22. Many companies receive assets through donations from other organizations, individuals, or the federal government. These transactions are known as nonreciprocal transfers. When an asset is received through donation, the appraisal or fair market value of the asset should be used to establish its value on the books. In theory, the credit for this transaction could be made to (1) a Donated Capital account that would appear in stockholders equity, or (2) revenue. A FASB standard states that, in general, contributions received should be recorded as revenue.
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Other Asset Valuation Methods 23. Valuation of property, plant, and equipment on a basis other than historical cost has been widely discussed by those concerned with the financial reporting process. However, historical cost continues to be recognized as the accepted method for valuing these assets in the financial statements. One valuation approach that is sometimes allowed and not considered a violation of historical cost is a method referred to as prudent cost. This concept holds that if for some reason you were ignorant about a certain price and paid too much for an asset originally, it is theoretically preferable to charge a loss immediately. Costs Subsequent to Acquisition 24. (S.O. 6)Costs related to plant assets that are incurred after the asset is placed in use are either added to the asset account (capitalized) or charged against operations (expensed) when incurred. In general, costs incurred to achieve greater future benefits from the asset should be capitalized, whereas expenditures that simply maintain a given level of service should be expensed. For the costs to be capitalized, one of three conditions must be present: (a) the useful life of the asset must be increased, (b) the quantity of service produced from the asset must be increased, or (c) the quality of the units produced must be enhanced. In many instances, a considerable amount of judgment is required in deciding whether to capitalize or expense an item. However, consistent application of a capital/expense policy is normally more important than attempting to provide theoretical guidelines. 25. Generally, expenditures related to plant assets being used in a productive capacity may be classified as: (a) additions, (b) improvements and replacements, (c) reinstallation and rearrangement, and (d) repairs. Because additions result in the creation of new assets, they should be capitalized. 26. Improvements and replacements are substitutions of one asset for another. Improvements substitute a better asset for the one currently used, whereas a replacement substitutes a similar asset. The major problem in accounting for improvements and replacements concerns differentiating these expenditures from normal repairs. If an improvement or replacement increases the future service potential of the asset, it should be capitalized. Capitalization may be accomplished by: (a) substituting the cost of the new asset for the cost of the asset replaced, (b) capitalizing the new cost without eliminating the cost of the asset replaced, or (c) debiting the expenditure to accumulated depreciation. The specific facts related to the situation will aid in determining the most appropriate method to use. 27. Rearrangement and reinstallation costs are generally carried forward as a separate asset and amortized against future income. Ordinary repairs are expenditures made to maintain plant assets in operating condition. They are charged to an expense account in the period in which they are incurred. Dispositions of Plant Assets 28. (S.O. 7)When a plant asset is disposed of, the accounting records should be relieved of the cost and accumulated depreciation associated with the asset. Depreciation should be recorded on the asset up to the date of disposal, and any resulting gains or losses should be reported. Plant assets may be retired voluntarily or disposed of by sale, exchange, involuntary conversion, or abandonment.

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LECTURE OUTLINE
Chapter 10 presents issues related to the acquisition and disposition of plant assets. The chapter, which can generally be covered in three class sessions, deals with three major topics: 1. General principles involved in accounting for the acquisition and disposition of plant assets:Students should be familiar with these from elementary accounting courses. 2. Capitalization of interest cost during construction:Students generally have difficulty with the computational procedures required. 3. Nonmonetary exchanges:This is a difficult topic for some students. Students should be encouraged to understand the meaning of commercial substance. The following lecture outline is appropriate for this chapter. A. (L.O. 1)Characteristics of Property, Plant, and Equipment. 1. 2. 3. Acquired for use and not resale. Long-term in nature and subject to depreciation, except for land. Possess physical substance.

B. (L.O. 2)Acquisition and Valuation of Property, Plant, and Equipment. 1. Historical cost is the usual basis for valuation. This is the cash or cash equivalent price of obtaining the asset and getting it ready for its intended use. 2. Components of cost. a. Cost of Land:All expenditures made to acquire the land and prepare it for use are included in the cost of the land. Special assessments for relatively permanent improvements such as pavements and drainage systems are included in the land account. Improvements with limited lives are recorded separately as Land Improvements and depreciated over their estimated lives. Cost of Buildings:All expenditures related directly to acquisition or construction are capitalized. This includes attorneys and architects fees, building permits, and all costs incurred beginning with excavation and ending with completion of the building. Cost of Equipment:All expenditures incurred in acquiring the equipment and preparing it for use are included. This includes freight charges, insurance while in transit, assembly costs, and the cost of conducting trial runs. (L.O. 3)Self-Constructed Assets:Such assets may cause valuation problems because of the assignment of overhead. The options are to assign a portion of all overhead, or assign no fixed overhead. The first option is preferred.

b.

c.

d.

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C. (L.O. 4)Interest Costs During Construction. 1. Basic principle:Interest cost incurred during construction of plant assets is part of the cost of acquiring the assets and preparing them for their intended use. Like other acquisition costs, interest cost should be capitalized and depreciated over the expected useful life of the assets involved. 2. Describe the computational steps involved in determining the amount of interest to be capitalized. TEACHING TIP Illustration 10-1 provides a step-by-step description of interest capitalization. a. b. c. d. e. Determine which assets qualify for capitalization of interest. Determine the capitalization period. Compute the expenditures made during the capitalization period. Compute the weighted-average accumulated expenditures. Compute avoidable interest.Typically, this computation is difficult for students. They must pay attention to the dates of construction expenditures and to the date of specific construction loans and other outstanding general debt. Compute the actual interest cost incurred. Determine the interest cost to be capitalized. TEACHING TIP Illustration 10-2 provides a numerical example of interest capitalization for self-constructed special-purpose equipment. Illustration 10-3 provides a flowchart diagram of the requirements of FASB Statement No. 34. 3. Special issues related to interest capitalization. a. Interest costs incurred in the purchase of land to be used for a building site are part of the buildings cost, not the land. Interest costs incurred on land being developed for lot sales, are part of the lands cost. Interest revenue earned on funds borrowed to finance construction of assets is not netted against the interest expense incurred.
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f. g.

b. c.

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D. (L.O. 5)Means of Acquisition and Valuation. 1. Cash Discounts:The asset should be recorded at the current cash equivalent price at the date of acquisition. It is preferable to exclude the cash discount from the recorded cost of the asset, whether the discount is taken or not. Any discount not taken should be recorded as an expense. 2. Deferred-Payment Contracts:Assets purchased on long-term credit contracts should be accounted for at the present value of the consideration exchanged. When no interest rate is stated, or if the specified rate is unreasonable, an appropriate rate should be imputed. (At this point, it would be useful to review the procedure for computing the present value of a note.) 3. Lump Sum Purchases:Total cost should be allocated on the basis of relative fair values. Insurance appraisals, property tax assessments, or independent appraisals may be used as indicators of relative fair values. 4. Issuance of Stock:Market value of stock issued is used as an indication of the cost of the property acquired. If the stocks market value is not determinable, use the fair value of the property acquired. 5. Exchanges of property, plant, and equipment (nonmonetary assets). In presenting this topic, it is important to emphasize both the basic accounting procedures and the basic accounting principles involved. a. b. Commercial substance is the basis for immediate recognition of any gain or loss on the exchange. Basic accounting procedures. TEACHING TIP Illustration 10-4 provides a description of the accounting procedures employed for the exchange of nonmonetary assets. Illustration 10-5 puts these accounting procedures into a flowchart. (1) Compute the net book value of the old asset. (2) Compute the realized gain or loss. (3) Determine the amount of gain or loss to be recognized. (4) Prepare the journal entry to record the exchange. Remind students to ensure that their entry balances; this is frequently overlooked. TEACHING TIP Illustration 10-6 provides a numerical example of an exchange that lacks commercial substance with cash paid and received.

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6.

Acquisition and disposition of contributions (nonreciprocal transfers). a. Acquisition:The fair value of the asset should be used to record the asset on the companys books. A strict application of the cost principle would not result in a reasonable valuation of the asset. The corresponding credit which the company will record is revenue in the amount of the assets fair value. Disposition:When a plant asset is contributed, two types of income statement accounts may be affected. (1) Contribution expense should be recorded at the fair value of the asset. (2) A gain or loss should be recorded for the difference between the fair value and the book value of the asset.

b.

7.

Other Asset Valuation Method. The prudent cost concept states that it is theoretically preferable to charge a loss immediately if a company ignorantly paid too much for an asset originally.

E. (L.O. 6)Costs Subsequent to Acquisition.Students have some difficulty in distinguishing the different natures of costs subsequent to acquisition such as additions, improvements and replacements, reinstallation and rearrangement, and ordinary and major repairs. 1. In order to capitalize costs, one of three conditions must be present: a. b. c. The useful life of the asset must be increased. The quantity of units produced from the asset must be increased. The quality of the units produced must be enhanced. TEACHING TIP Illustration 10-7 provides a comparative summary of costs subsequent to the acquisition of property, plant, and equipment. 2. 3. Additions.Any additions should be capitalized. Improvements and Replacements.The proper accounting treatment depends on whether the carrying value of the old component is known or unknown. Reinstallation and Rearrangement.The proper accounting treatment depends on whether the carrying value of the original installation is known or unknown.

4.

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5.

Repairs. a. b. Ordinary repairs should be expensed in the period incurred. Major repairs should be treated as an addition, improvement, or replacement.

F. (L.O. 7)Dispositions of Plant Assets.Depreciation up to the date of disposition must be recorded. The cost and accumulated depreciation of the asset must be removed from the books, any cash received must be recorded, and a gain or loss is recognized. 1. 2. Sale of Plant Assets. Involuntary Conversion.Gains or losses are the same in any other type of disposition regardless of whether any resulting cash proceeds are going to be reinvested in replacement assets. Abandonment.

3.

Key difference between iGAAP and GAAP relating to property, plant, and equipment is: I. Under iGAAP, capitalization of interest on borrowing costs incurred during construction of assets can be either expensed or capitalized.

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ILLUSTRATION 10-1 CAPITALIZATION OF INTEREST COST

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ILLUSTRATION 10-1 (continued)

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ILLUSTRATION 10-2 CAPITALIZATION OF INTEREST EXAMPLE

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ILLUSTRATION 10-2 (continued)

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ILLUSTRATION 10-3 FLOWCHART FOR DETERMINING CAPITALIZATION OF INTEREST COST

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ILLUSTRATION 10-4 ACCOUNTING FOR NONMONETARY EXCHANGES

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Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

ILLUSTRATION 10-5 NONMONETARY EXCHANGE FLOWCHART

Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

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ILLUSTRATION 10-6 EXCHANGE OF NONMONETARY ASSETS (WITH AND WITHOUT BOOT)

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Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

ILLUSTRATION 10-6 (continued)

Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

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ILLUSTRATION 10-7 SUMMARY OF COSTS SUBSEQUENT TO ACQUISITION OF PROPERTY, PLANT, AND EQUIPMENT

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Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

Copyright 2010 John Wiley & Sons, Inc.Kieso, Intermediate Accounting, 13/e Instructors Manual (For Instructor Use Only)

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