Chapter 2
Non-current assets: Property, Plant
and equipment and Intangibles
Non-current assets: Property, Plant and
equipment and Intangibles
Learning objectives
• Measure the cost of a noncurrent asset
• Account for depreciation
• Account for the disposal of a non-current asset by sale or
exchange
• Account for the revaluation of a non-current asset
• Account for natural resources
• Account for intangible assets
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Introduction
• Property, plant and equipment (tangible assets) include assets
whose physical characteristics define their utility or usefulness,
such as buildings, desks and equipment
• Natural resources include assets that come from the ground and
can ultimately be used up. For example, oil, diamonds and coal
are all natural resource assets
• Intangible assets include assets whose value is not derived from
their physicality. For example, software programs on a CD are
intangible assets. The ‘physical’ CD is not the value, but the
knowledge/programs on the CD really represent the asset
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Introduction
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2.1. Measuring the cost of property,
plant and equipment
• The cost principle says to carry a non-current asset at its cost
• The cost of an asset is the sum of all the costs incurred to bring the
asset to its intended purpose, net of all discounts
• The cost of an item of property, plant or equipment is its purchase
price plus charges such as customs duty, purchase commissions
and all other amounts paid to ready the asset for its intended use
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2.1. Measuring the cost of property,
plant and equipment
Land and land improvements
• The cost of land is not depreciated
• It includes the following costs paid by the purchaser
— Purchase price
— Agent’s commission
— Government stamp duty and other charges
— Survey and legal fees
— Cost of clearing the land and removing any unwanted
buildings
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2.1. Measuring the cost of property,
plant and equipment
Land and land improvements
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2.1. Measuring the cost of property,
plant and equipment
Land and land improvements
• The cost of land does not include the following costs
— Fencing
— Paving
— Sprinkler systems
— Lighting
— Signs
• These separate assets, called land improvements, are subject to
depreciation
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2.1. Measuring the cost of property,
plant and equipment
Building
The cost of a building depends on whether the company is
constructing the building itself or is buying an existing one
Constructing a building Purchasing an existing building
architectural fees purchase price
building permits costs to renovate the building to ready
the building for use
contractor charges
payments for material,
labour and overhead
capitalised interest cost, if
self-constructed
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2.1. Measuring the cost of property,
plant and equipment
Machinery and equipment
• The cost of machinery and equipment includes its
— purchase price (less any discounts)
— transportation charges
— insurance while in transit
— customs duty or similar charges
— installation costs
— cost of testing the asset before it is used
• After the asset is up and operating, the company no longer debits
the cost of insurance, taxes, ordinary repairs and maintenance to the
Equipment account. From that point on, insurance, repairs and
maintenance costs are recorded as expenses
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2.1. Measuring the cost of property,
plant and equipment
Journalizing:
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2.1. Measuring the cost of property,
plant and equipment
Capitalising the cost of interest
• Businesses sometimes construct non-current assets themselves
and finance the construction with borrowed money
• Borrowing costs that are directly attributable to the acquisition,
construction or production of a qualifying asset form part of the
cost of that asset
• Other borrowing costs are recognised as an expense
• A qualifying asset is one that necessarily takes a substantial period
of time to get ready for its intended use
• To capitalise a cost means to debit an asset (instead of an
expense) account
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2.1. Measuring the cost of property,
plant and equipment
Capitalising the cost of interest
• On 1 January 2016, Smart Touch borrows $50,000 at 10% interest
to build a warehouse. The interest cost for the financial year to 30
June 2016 on this loan is $2,500 ($5,000 x 0.1 x6/12)
• Journal entries:
Jan-Jun
record the construction cost of warehouse
Jun 30
record the cost of interest capitalized
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2.1. Measuring the cost of property,
plant and equipment
A lump-sum (basket) purchase of assets
• Purchase a group of plant assets for a single price
• For accounting purposes, it is necessary to identify the cost of
each asset
• Assign cost to individual assets based on relative fair (market)
values
• Fair value is the amount for which an asset could be exchanged
between knowledgeable, willing parties in an arm’s-length
transaction
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2.1. Measuring the cost of property,
plant and equipment
Capital expenditures
• Capital expenditures are debited to an asset account because they
increase the asset’s capacity or efficiency, or extend the asset’s
useful life
• Examples of capital expenditures include the purchase price plus all
the other costs to bring an asset to its intended use, major overhaul
or modification that adds to the asset’s capacity or useful life
• Expenses, such as repair or maintenance expense, are not debited
to an asset account because they merely maintain the asset in
working order
• Expenses are immediately matched against revenue
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2.2. Depreciation
• Depreciation is the allocation of a non-current asset’s cost to
expense over its useful life
• It matches the expense against the revenue earnt by the asset to
measure profit
• It is not a process of valuation. Businesses do not record
depreciation based on the asset’s market (sales) value
• Depreciation does not mean that the business sets aside cash to
replace an asset when it is used up
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2.2. Depreciation
Measuring depreciation
• Depreciation of a non-current asset is based on capitalised cost,
estimated useful life, estimated residual value
• Capitalised cost includes all items spent for the asset to
perform its intended function
• Estimated useful life is the length of the service period
expected from the asset
• Estimated residual value is the asset’s expected cash value at
the end of its useful life
• Cost minus residual value is called depreciable amount
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Depreciation methods
Date Account title Dr Cr
Jun 30
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Depreciation methods
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2.2. Depreciation
Comparing depreciation methods
Year Straight line Units of production Reducing
balance
1 8 000 8 000 16 400
2 8 000 12 000 2 840
3 8 000 10 000 5 204
4 8 000 6 000 3 542
5 8 000 4 000 4 314
40 000 40 000 40 000
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2.2. Depreciation
Changing the useful life of a depreciable asset
• AASB 116 requires that the residual value and useful life of an asset
be reviewed at least annually and any changes reflected in changed
depreciation rates
• The details and the effects of any change in estimates must be
disclosed in the financial statements
• For a change in accounting estimate, the asset’s remaining carrying
amount (book value) is spread over the asset’s remaining life
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2.2. Depreciation
Using fully depreciated assets
• Asset has reached the end of its estimated life
• If still useful, a company will continue to use it
• Report book value on balance sheet
• Record no more depreciation
• Asset never reported below residual value
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2.3. Disposing of a non-current asset
• Step 1: Bring the depreciation up to date
• Step 2: Remove the old, disposed of asset from the books. Make
the Asset account equal zero by crediting the asset for its original
cost. Make the Accumulated depreciation account for the asset
equal zero by debiting it for all the depreciation taken to date on the
asset
• Step 3: Record the value of any cash (or other accounts) paid (or
received) for the asset
• Step 4: Determine the difference between the total debits and total
credits made in the journal entry. All gains and losses are reported
in the income statement
Gain(credit) = Sale proceed > Carrying amount
Loss (Debit) = Sale Proceed < Carrying amount
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2.3. Disposing of a non-current asset
E,g. 1 July 2013, purchased a truck with cost $41,000, residual value: $1,000, useful life =
5years. (financial year ended at 30 June for each year – using the straight line method)
At 30 Sep 2015, there are 3 situations about the truck:
1. Situation A: The truck is in an accident and its destroyed. The truck is completely worthless
and must be scrapped for $0. There are no insurance proceeds from the accident.
2. Situation B: Greg’s Tunes sells the truck to Bob’s Burger House for $10,000 cash.
3. Situation C: Greg’s Tunes trades the old truck in for a new Toyota truck. The fair market
value of the Toyota truck is $32,000.
(Preference on page 472,473)
Gain/ loss?????? Compare CARRYING AMOUNT vs DISPOSAL PRICE
If GAIN => Cr. Gain on disposal (R+)
If LOSS => Dr. Loss on disposal (E+)
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2.3. Disposing of a non-current asset
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2.3. Disposing of a non-current asset
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2.3. Disposing of a non-current asset
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2.4. Revaluation of non-current asset
Impairment of non-current assets
• Accounting Standard AASB 136, Impairment of Assets, requires that,
if the carrying amount of an asset is greater than its ‘recoverable
amount’, then the carrying amount must be reduced to that
recoverable amount
• Recoverable amount is the higher of an asset’s market selling value
and its value in use
• ‘Value in use’ means the cash flows expected to be gained from
using the asset, discounted to their present value
• The amount of the write-down, an ‘impairment loss’, is an expense
and is included in the income statement
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2.4. Revaluation of non-current asset
Impairment of non-current assets
• Ex 1: Suppose that some land, a non-depreciable asset, which cost
$100,000, is now believed to have a recoverable amount of only
$80,000.
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2.4. Revaluation of non-current asset
Impairment of non-current assets
• Ex 2: A building with a carrying amount of $15,000 (original cost,
$200,000, less accumulated depreciation, $50,000) has a
recoverable amount of only $120,000.
OR
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2.4. Revaluation of non-current asset
Revaluation of non-current assets
• A modification to the cost principle is that Accounting Standard
AASB 116, Property, Plant and Equipment, allows businesses to
record non-current assets using either the cost model or the
revaluation model
• The revaluation model records the asset at its fair value
• Assets recorded at fair value must be revalued regularly to ensure
that the carrying amount of each asset is maintained at its current
fair value
• A revaluation can increase the carrying amount of an asset (a
revaluation increment) or can decrease its carrying amount (a
revaluation decrement)
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2.4. Revaluation of non-current asset
Revaluation of non-current assets
• Ex 1: Suppose some land, a non-depreciable asset, which cost
$100,000 is revalued to $200,000.
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2.4. Revaluation of non-current asset
Revaluation of non-current assets
• Ex 2: A building with a carrying amount of $150,000 (original cost,
$200,000, less accumulated depreciation, $50,000) is revalued to
$400,000.
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2.4. Revaluation of non-current asset
Revaluation of non-current assets
• Ex 3: A building with a carrying amount of $150,000 (original cost,
$200,000, less accumulated depreciation, $50,000) is revalued
downwards by $30,000 to a value of $120,000.
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2.5. Accounting for natural resources
• Natural resources are non-current assets that come from the earth
• They are expensed through depletion
• Depletion expense is that portion of the cost of natural resources
that is used up in a particular period
Depletion Expense = Cost–Residual Value x 1/Estimated total units of
natural resources x Number of units removed
•Journal entry for Depletion:
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2.6. Accounting for intangible assets
• Intangible assets have no physical form
• Instead, these assets convey special rights from patents, copyrights,
trademarks
• The intangible is expensed through amortisation, the systematic
reduction of the asset’s carrying amount on the books
• Amortisation is calculated over the asset’s estimated useful life
• Some intangibles have indefinite lives. For them, the business
records no systematic amortisation each period. Instead, it accounts
for any decrease in the value of the intangible as an impairment
• Specific intangible assets: patents, Copy right, trademarks, brand
names, franchises, licences.
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2.6. Accounting for intangible assets
• Journal entry for amortization:
Ex: Suppose Greg’s Tunes pays $200,000 to acquire a patent on 1 July
201N. Greg’s Tunes believes this patent’s useful life is only five
years.
1 July 201N
30 Jun 201N+1
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2.6. Accounting for intangible assets
Accounting for goodwill
• Goodwill is the excess of the cost to purchase another business or
its net assets over the market value of its net assets (assets minus
liabilities)
• It is the value paid above the net worth of the business’ assets and
liabilities
• Internally generated goodwill shall not be recognised as an asset
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Summary: Chapter 2
• All costs spent to ready an asset to perform its intended function
are capitalised
• Depreciation recovers the cost invested in an asset over the
asset’s useful life
• Impairments recognise decline in an asset’s value for issues other
than normal depreciation
• Depletion is the word we use instead of depreciation to attach to
recovering the cost of natural resources
• Intangible assets are assets whose value is not represented by
their physical form but from their original creativity
• The cost invested in intangibles is recovered using amortisation
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Tasks in class
Textbook: Chapter 10
• Quick Check
• Starters
• Exercises
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Tasks at home
1/ Homework:
Textbook: Chapter 10
• Problems
• Apply
2/ Self-study:
Key References [2]: Chapter 13 and Chapter 14
Key References [3]: Chapter 4,5,6
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The end of Chapter 2
Non-current assets: Property, Plant
and equipment and Intangibles
Non-current assets: Property, Plant and
equipment and Intangibles
