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Overview
This chapter and the one that follows address the measurement and reporting issues involving
property, plant, and equipment and intangible assets, the tangible and intangible long-lived assets
that are used in the production of goods and services.
This chapter covers the valuation at date of acquisition and the disposition of these assets. In
Chapter 11 we discuss the allocation of the cost of property, plant, and equipment and intangible
assets to the periods benefited by their use, the treatment of expenditures made over the life of these
assets to maintain and improve them, and impairment.
Learning Objectives
LO10-1 Identify the various costs included in the initial cost of property, plant, and equipment,
natural resources, and intangible assets.
LO10-2 Determine the initial cost of individual property, plant, and equipment and intangible assets
acquired as a group for a lump-sum purchase price.
LO10-3 Determine the initial cost of property, plant, and equipment and intangible assets acquired
in exchange for a deferred payment contract.
LO10-4 Determine the initial cost of property, plant, and equipment and intangible assets acquired
in exchange for equity securities, or through donation.
LO10-5 Calculate the fixed-asset turnover ratio used by analysts to measure how effectively
managers use property, plant, and equipment.
LO10-6 Explain how to account for dispositions and exchanges for other nonmonetary assets
LO10-7 Identify the items included in the cost of a self-constructed asset and determine the amount
of capitalized interest.
LO10-8 Explain the difference in the accounting treatment of costs incurred to purchase intangible
assets versus the costs incurred to internally develop intangible assets.
LO10-9 Discuss the primary differences between U.S. GAAP and IFRS with respect to the
acquisition and disposition of property, plant, and equipment and intangible assets.
Lecture Outline
Part A: Valuation at Date of Acquisition
I. Types of Assets
A. For financial reporting purposes, long-lived, revenue-producing assets typically are
classified in two categories: (T10-1)
1. Property, plant, and equipment.
2. Intangible assets.
B. In practice, some companies report intangible assets as part of property, plant, and
equipment, and others include them with the other assets category.
II. Costs to Be Capitalized (T10-2)
10-2 Intermediate Accounting, 8/e
A. Property, plant, and equipment and intangible assets can be acquired through purchase,
exchange, lease, donation, self-construction, or a business combination.
B. The initial cost of an asset includes all necessary cost to bring the asset to its condition and
location for use.
C. Costs are capitalized, rather than expensed, if they are expected to produce benefits
beyond the current period.
D. Property, plant, and equipment can be acquired through purchase.
1. The cost of equipment (machinery, computers and other office equipment, vehicles,
furniture, and fixtures) includes the purchase price plus any sales tax, transportation
costs, expenditures for installation, testing, legal fees to establish title, and any other
cost of bringing the asset to its condition and location for use. (T10-3)
2. The cost of land includes the purchase price plus closing costs such as fees for the
attorney, title and title search, and recording. In addition, any expenditures needed to
prepare the land for its intended use are included as part of the cost of land. (T10-4)
3. The cost of land improvements (parking lots, driveways, private roads, fences, lawns,
and sprinkler systems) must be separated from the cost of land because land has an
indefinite life and land improvements usually do not. (T10-5)
E. Intangible assets generally represent exclusive rights that provide benefits to the owner.
Intangible assets with finite useful lives are amortized; intangible assets with indefinite
useful lives are not amortized. (T10-7)
1. Purchased intangibles are valued at their original cost to include the purchase price and
all other necessary costs to bring the asset to condition and location for use. (T10-8)
2. A patent is an exclusive right to manufacture a product or to use a process.
3. A copyright is an exclusive right of protection given to a creator of a published work
such as a song, film, painting, photograph, or book.
4. A trademark, also called tradename, is an exclusive right to display a word, a
slogan, a symbol, or an emblem that distinctively identifies a company, product, or a
service.
5. A franchise is a contractual agreement under which the franchisor grants the
franchisee the exclusive right to use the franchisor’s trademark or tradename within a
geographical area usually for a specified period of time.
5. Goodwill is a unique intangible asset in that it can only be purchased through the
acquisition of another company. Goodwill is the excess of the consideration
exchanged (purchase price) over the fair value of the net assets acquired. (T10-9)
III. Lump-Sum Purchases
A. If a group of assets that are indistinguishable is acquired for a single sum, valuation is
obvious.
B. However, if the lump-sum purchase involves different assets, the purchase price must be
allocated usually in proportion to the individual assets’ relative market values. (T10-10)
IV. Noncash Acquisitions
A. Assets acquired in noncash transactions generally are valued at the fair value of the assets
given or the fair value of the assets received, whichever is more clearly evident.
B. Assets acquired in exchange for a deferred payment contract are valued at the fair value of
the items exchanged, either: (T10-11)
1. The fair value of the note payable by computing the present value of the cash
payments at the appropriate interest rate.
2. The fair value of the asset acquired.
C. Assets acquired by issuing equity securities are valued at the fair value of the securities or
the fair value of the assets, whichever is more clearly evident. (T10-12)
Decision Makers’ Perspective
A. The property, plant, and equipment and intangible asset acquisition decision, often
referred to as capital budgeting, is among the most significant decisions that management
must make.
B. The fixed-asset turnover ratio, calculated by dividing net sales by average fixed assets,
measures a company’s effectiveness in managing property, plant, and equipment. (T10-
15)
Part B: Dispositions and Exchanges
A. When an asset is sold, a gain or loss is recognized for the difference between the
consideration received and the asset’s book value. (T10-16)
B. An asset acquired in a nonmonetary exchange generally is recorded at the cash equivalent
value of the assets exchanged. (T10-17)
1. If we can’t determine the fair value of either asset in the exchange, the asset received is
valued at the book value of the asset given.
2. In exchanges that lack commercial substance, the acquired asset is valued at the book
value of the asset given.
10-4 Intermediate Accounting, 8/e
Part C: Self-Constructed Assets and Research and Development
I. Self-Constructed Assets
A. The cost of a self-constructed asset includes identifiable materials and labor and a portion
of the company’s manufacturing overhead.
1. The incremental approach to overhead allocation includes only those additional costs
that are incurred because of the decision to construct the asset.
2. By the full-cost approach, all overhead costs are allocated both to production and to
self-constructed assets based on the relative amount of a chosen cost driver incurred.
This is the generally accepted approach.
B. Interest is capitalized during the construction period for (a) assets built for a company’s
own use as well as for (b) assets constructed as discrete projects for sale or lease. (T10-18)
1. Interest is not capitalized on inventories that are routinely manufactured in large
quantities on a repetitive basis.
2. Only interest incurred during the construction period is eligible for capitalization.
3. The interest capitalization period begins when construction begins and the first
expenditure is made as long as interest costs are actually being incurred.
4. The first step in the capitalization procedure is to determine average accumulated
expenditures. This amount approximates the average debt necessary for construction.
a. If expenditures are made fairly evenly throughout the construction period, the
average accumulated expenditures can be determined as a simple average of
accumulated expenditures at the beginning and end of the period.
5. The second step is to determine the amount of interest capitalized by multiplying an
interest rate or rates by the average accumulated expenditures.
a. The specific interest method uses rates from specific construction loans to the
extent of specific borrowings and then applies the weighted-average rate on all
6. The third step in the procedure is to compare calculated capitalized interest with actual
interest incurred during the period. Capitalized interest is limited to the amount of
interest incurred. (T10-19)
7. If material, the amount of interest capitalized during the period must be disclosed in a
note.
II. Research and Development (R&D) (T10-20)
A. In 1974 the FASB issued SFAS No. 2 which requires all research and development costs to
be charged to expense when incurred.
2. It is difficult to match R&D costs with future revenues.
B. Research is planned search or critical investigation aimed at the discovery of new
knowledge and development is the translation of research findings or other knowledge into
a plan or design for a new product or process or for significant improvement to an existing
product or process.
1. R&D costs include labor costs, materials, depreciation and amortization of assets used
2. In general, costs incurred before the start of commercial production are all expensed as
R&D.
C. GAAP requires disclosure of total R&D expense incurred during the period.
D. R&D costs incurred for others under contract are capitalized as inventory and carried
forward into future years until the project is complete. Income can be recognized using
either the percentage-of-completion method or the completed contract method.
E. Start-up costs, including organization costs, are expensed in the period incurred.
F. An exception to expensing all R&D costs exists for the computer software industry.
(T10-22)
1. Computer software companies expense R&D costs until technological feasibility is
achieved.
3. The periodic amortization of capitalized computer software development costs is the
greater of (1) the ratio of current revenues to current and anticipated revenues or (2)
the straight-line percentage over the useful life of the asset.
G. International Financial Reporting Standards draw a distinction between research activities
and development activities. Research expenditures are expensed in the period incurred.
However, development expenditures that meet specified criteria are capitalized. (T10-23)
H. Under IFRS, the U.S. approach for amortizing computer software development costs is
allowed, but not required. (T10-24)
I. When one company buys another, we assign fair values to the tangible and intangible
assets, as well as to developed technology and in-process research and development.
1. The amount allocated to developed technology is capitalized and amortized as any
other intangible asset.
2. GAAP requires the capitalization of in-process R&D as an indefinite life intangible
asset. If the research project is completed successfully, the amount capitalized is
10-6 Intermediate Accounting, 8/e
Appendix 10: Oil and Gas Accounting
A. There are two generally accepted methods that companies can use to account for oil and
gas exploration costs. (T10-25)
1. The successful efforts method requires that exploration costs that are known not to
have resulted in the discovery of oil or gas (sometimes referred to as dry holes) be
included as expenses in the period the expenditures are made.
B. The method used must be disclosed in a note.
PowerPoint Slides
A PowerPoint presentation of the chapter is available in the Connect library.
Teaching Transparency Masters
The following can be reproduced on transparency film as they appear here, or
you can first modify them to suit your particular needs or preferences. In addition,
all illustrations in the chapter are separately available in the Connect library.
TYPES OF ASSETS
➢ For financial reporting purposes, long-lived, revenue-
producing assets typically are classified in two categories:
Property, plant, and equipment. Assets in this
category include land, buildings, equipment, furniture,
autos, and trucks. Natural resources such as oil and gas
deposits, timber tracts, and mineral deposits also are
included.
Intangible assets. Unlike property, plant, and
equipment and natural resources, these assets lack
T10-1
10-8 Intermediate Accounting, 8/e
COSTS TO BE CAPITALIZED
➢ Property, plant, and equipment and intangible assets can be
acquired through purchase, exchange, lease, donation, self-
construction, or a business combination.
➢ If purchased, the initial cost includes the purchase price and
all expenditures necessary to bring the asset to its desired
condition and location for use.
➢ Costs are capitalized, rather than expensed, if they are
expected to produce benefits beyond the current period.
COST OF EQUIPMENT
➢ The cost of equipment includes:
The purchase price (less any discounts received from the
seller).
Transportation costs paid by the buyer to transport the
asset to the location in which it will be used.
Expenditures for installation and testing.
T10-3
10-10 Intermediate Accounting, 8/e
COST OF EQUIPMENT
(continued)
Central Machine Tools purchased an industrial lathe to be used in
its manufacturing process. The purchase price was $62,000.
Central paid a freight company $1,000 to transport the machine to
its plant location plus $300 shipping insurance. In addition, the
machine had to be installed and mounted on a special platform
built specifically for the machine at a cost of $1,200. After
installation, several trial runs were made to ensure proper
operation. The cost of these trials including wasted materials was
$600. At what amount should Central capitalize the lathe?
Purchase price $62,000
Freight and handling 1,000
Insurance during shipping 300
Illustration 10–4
T10-3 (continued)
COST OF LAND
➢ The cost of land includes:
The purchase price plus closing costs such as fees for the
attorney, title and title search, and recording.
Back taxes, liens, mortgages, or other obligations.
Clearing, filling, and draining.
T10-4
10-12 Intermediate Accounting, 8/e
COST OF LAND
(continued)
The Byers Structural Metal Company purchased a six-acre tract of land and an
existing building for $500,000. The company plans to raze the old building and
construct a new office building on the site. In addition to the purchase price, the
company made the following expenditures at closing of the purchase:
Title insurance $ 3,000
Capitalized cost of land:
Purchase price of land (and building to be razed) $500,000
Title insurance 3,000
Illustration 10-5
LAND IMPROVEMENTS
➢ It’s important to distinguish between the cost of land and the
cost of land improvements because land has an indefinite life
and land improvements usually do not.
➢ Land improvements include the cost of parking lots,
driveways, and private roads and the costs of fences and lawn
and garden sprinkler systems.
➢ Costs are separately identified and capitalized.
➢ Cost depreciates over periods benefited by their use.
T10-5
10-14 Intermediate Accounting, 8/e
COST OF NATURAL RESOURCES
➢ Natural resources include timber tracts, mineral deposits, and
oil and gas deposits.
➢ Benefits are derived from their physical consumption, rather
than through their use in the production of goods and services.
➢ Initial valuation can include
Acquisition costs — Amounts paid to acquire the rights
to explore for undiscovered natural resources or to
extract proven natural resources.
Exploration costs — Such as drilling a well or
excavating a mine as well as any other costs of searching
for natural resources.
T10-6
COST OF NATURAL RESOURCES
(continued)
The Jackson Mining Company paid $1,000,000 for the right to explore for a coal deposit on 500
acres of land in Pennsylvania. Costs of exploring for the coal deposit totaled $800,000 and
intangible development costs incurred in digging and erecting the mine shaft were $500,000. In
addition, Jackson purchased new excavation equipment for the project at a cost of $600,000. After
the coal is removed from the site, the equipment will be sold.
Jackson is required by its contract to restore the land to a condition suitable for recreational use
after it extracts the coal. The company has provided the following three cash flow possibilities (A,
B and C) for the restoration costs to be paid in three years, after extraction is completed:
Cash Outflow Probability
Total capitalized cost for the coal deposit is:
Purchase of rights to explore $1,000,000
Illustration 10-6
T10-6 (continued)
10-16 Intermediate Accounting, 8/e
COST OF NATURAL RESOURCES
(continued)
The cost of the natural resource will be allocated to future
periods as depletion by calculating a depletion rate based on
the estimated amount of coal discovered.
The $600,000 cost of the excavation equipment is recorded as
a plant asset and depreciated.
The difference between the asset retirement liability of
The journal entry to record accretion expense for the first year is:
Accretion expense …………………………..…………………….…………. 37,469
T10-6 (continued)
INTANGIBLE ASSETS
➢ Intangible assets generally represent exclusive rights that
provide benefits to the owner.
➢ Intangible assets include:
Patents
Copyrights
Trademarks
Franchises
Goodwill
➢ Despite their lack of physical existence, these assets can be
extremely valuable resources for a company.
➢ The future benefits that we attribute to intangible assets
usually are much less certain than for tangible assets.
T10-7
10-18 Intermediate Accounting, 8/e
PURCHASED INTANGIBLES
➢ Valued at their original cost to include the purchase price and
all other necessary costs to bring the asset to condition and
location for use.
Patent — Exclusive right to manufacture a product or to
use a process (granted by the U.S. Patent Office for a
period of 20 years).
Attorney fees and other costs of successfully defending a
patent are added.
When a patent is developed internally, the research and
development costs of doing so are expensed as incurred.
Trademark (also called tradename) — Exclusive right
to display a word, a slogan, a symbol, or an emblem that
distinctively identifies a company, product, or a service.
T10-8
Franchise — Contractual arrangement providing the
exclusive right to use the franchisor’s trademark or
tradename within a geographical area usually for a
specified period of time.
The initial franchise fee plus any legal costs associated with
the contract agreement are capitalized and then amortized
over the life of the franchise agreement.
T10-8 (continued)
10-20 Intermediate Accounting, 8/e
GOODWILL
➢ A unique intangible asset in that its cost can’t be directly
associated with any specifically identifiable right and is not
separable from the company as a whole.
Represents the unique value of the company as a whole
over and above all identifiable tangible and intangible
assets.
T10-9