Operational Assets Utilization and Impairment Sid Glandon DBA

Operational Assets: Utilization and Impairment Sid Glandon, DBA, CPA Assistant Professor of Accounting

Depreciation, Depletion and Amortization Means of cost allocation ¡ Not a method of valuation ¡ Matching Principle ¡ l Allocation of cost in systematic and rational manner to the accounting periods expected to benefit from use of the asset

Measuring Cost Allocation Estimated service life ¡ Depreciable base ¡ l ¡ Original cost less salvage value Allocation method l l Time-based methods Activity-based methods

Time-Based: Straight-Line Method ¡ Calculate depreciable base l l Original cost Less: salvage or disposal value Determine estimated service life ¡ Divide depreciable base by number of years in estimated service life ¡ Equals annual depreciation expense ¡

Time-Based: Declining Balance Multiply the straight-line rate by factor (2 Xs = double declining) ¡ Current year depreciation ¡ l Multiply the result times the beginning book value of the asset Reduce book value by current year depreciation ¡ Repeat the process ¡

Time-Based: Sum of the Years Digits Sum the years ¡ Create fraction ¡ l l ¡ Numerator-declining number with first year as the largest number Denominator-the sum of the years Multiply the declining fraction by the depreciable base

Example: Fact Pattern

Straight Line Depreciation

Double Declining Balance

Sum of the Years Digits

Activity-Based ¡ Output based l ¡ Units of production Input based l l Number of hours of service Number of miles of service

Activity-Based Methods Determine depreciable base ¡ Determine units of measurement ¡ Divide depreciable base by units of measurement ¡ Equals depreciation per unit ¡ Determine number of units in year ¡ Multiply number of units in year by depreciation per unit ¡

Activity Based Depreciation

Depletion of Natural Resources Cost basis expensing of natural resources ¡ Natural resources ¡ l l Complete removal of asset Replacement only by an act of nature

Depletion Activity-based method ¡ Divide depletion base by estimated number of units to be extracted ¡ Equals, depletion per unit ¡

Amortization of Intangible Assets Finite useful life intangible assets ¡ Useful life ¡ l ¡ Residual value l ¡ Legal, regulatory, or contractual Usually zero Allocation method l Usually straight line ¡ Exception-software development costs

Intangible Assets Not Subject to Amortization Indefinite life intangible assets ¡ Goodwill ¡

Partial Year Depreciation ¡ If asset is placed in service during year l l ¡ Calculate depreciation for full year Allocate between years Half-year convention

Revision of Depreciation Estimates ¡ Initial estimates change l l ¡ Life Salvage value Apply prospectively l l Recompute current year depreciation Changes do not affect prior periods

Change in Depreciation Method Change in accounting principle resulting in a change in estimate ¡ Apply prospectively ¡ l l Recompute current year depreciation Changes do not affect prior periods

Correction of an Error Restate all prior periods presented in the financial statements ¡ Prior period adjustment to retained earnings for the earliest period reported ¡

Impairment of Value ¡ Carrying value of asset is not recoverable l l l Operational assets held and used in operations Operational assets held for sale Intangibles with finite life

Tangible Operational Assets Finite Life Intangible Assets ¡ Recovery Test l ¡ If undiscounted sum of future cash flows is less than book value an impairment loss is indicated Fair Value Test l The measurement of the impairment loss is the book value less the fair value

Fair Value Market value if there is a market ¡ Fair value estimate if there is no market ¡ l Present value of the estimated future cash flows

Indefinite Life Intangible Assets Should be tested for impairment at least annually ¡ Impairment loss ¡ l Book value exceeds fair value

Goodwill Should be tested for impairment at least annually ¡ Impairment loss ¡ l Book value of the reporting unit exceeds its implied fair value

Operational Assets Held for Sale Impairment when classified as held for sale ¡ Impairment loss ¡ l Book value exceeds fair value less cost of disposal

Expenditures Subsequent to Acquisition ¡ Repairs and Maintenance l ¡ Additions l ¡ Capitalized and depreciated over remaining service life Improvements l ¡ Expensed as incurred Capitalized and depreciated over remaining service life Rearrangements l Capitalized if they increase future benefits

Cost of Defending Intangible Rights Successful defense is capitalized and amortized over remaining service life ¡ Unsuccessful defense is expensed ¡