Survey of Accounting 5th Edition

Edmonds Solutions Manual

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ANSWERS TO QUESTIONS - CHAPTER 6

1. Long-term operational assets are those assets that are used by a

business to generate revenue. In contrast, investments are simply
held for the production of interest and dividends and/or for price
appreciation.

2. Tangible assets are those assets that have a physical existence.

Some examples include buildings and equipment. Intangible assets
are those assets that represent some rights and privileges associated
with owning the asset. Some examples include copyrights, leases,
and trademarks.

3. Specifically identifiable intangible assets are those assets that are

purchased for a specific value or have a known value. Examples
include patents, leases, and copyrights. Intangible assets that are not
specifically identifiable are those purchased as part of the purchase of
a whole business or group of assets. The value of these assets are
determined by the excess of the purchase price of the group over the
value of the specifically identifiable assets. The most common asset
in this group is goodwill..

4. Depreciation is the systematic allocation of the cost of property, plant,

and equipment to the accounting periods over which they are to be
used. Some examples of assets that are depreciated include
buildings, machinery, and office equipment.

5. Natural resources are assets that are produced by nature. Some

examples include oil, coal, minerals, timber, etc. They are expensed
as they are extracted or used up.

6. Land is not a depreciable asset because land has an infinite life. Land
is not destroyed by its use. Natural resources can be removed but the
land will remain. When land and natural resources are purchased
together, the cost of each must be accounted for separately.

7. Amortization is the systematic allocation of the cost of intangible

assets over their estimated useful lives. Examples of intangible
assets that are amortized include patents, franchises, and copyrights.

8. The historical cost concept requires that long-term operational assets

be recorded at the amount paid for them. This is the amount that will
6-1
 be shown on the balance sheet as long as the asset is owned. As time
passes the asset may increase or decline in value, but this change is
not reflected on the books of the company. However, the historical
cost of assets may be reduced by depreciation over their lives.

9. The cost of a building includes the amount paid for the building plus
any amounts that are paid to put it to its intended use. Some common
costs include the purchase price, title search fee, legal fees, sales
commissions, remodeling, and improvements.

10. A basket purchase of assets is the purchase of a group of assets for a

single purchase price. For example, building, land, and equipment
could be purchased for one price, $80,000. When a group of assets
are purchased together, the purchase price must be allocated among
the different assets. One of the more common methods of making the
allocation is the relative fair market value method. The fair market
value of each asset is determined and then its ratio to the total fair
market value of all assets is applied to the total purchase price.

11. The life cycle of a long-term operational asset simply describes the
process of acquiring, using, and retiring the asset. This process
includes obtaining the funding to acquire the asset, acquiring the
asset, using the asset, and disposing of the asset.

12. Straight-line depreciation. This method allocates an equal amount of

depreciation to each period over the useful life of the asset. Example:
Asset cost of $4,000 with a 4-year life and no salvage value would
produce a depreciation expense of $1,000 per year. This method is
appropriate when the usefulness of an asset is consistent over the
asset's life.

Units-of-production depreciation. When this method of depreciation is

used, depreciation is calculated for each estimated unit of use, e.g.
cost per mile. This estimated unit cost is then applied to the actual
use of the asset for the period. Example: Asset cost of $4,000 with
estimated use of 20,000 miles would produce a cost per mile of $.20.
If the asset was used 4,000 miles in the year, the depreciation would
be $800 ($.20 x 4,000). This method is more appropriate when the
usefulness of an asset is related to the amount of use.

Double-declining-balance depreciation. This is an accelerated

depreciation method that allocates more of the cost of an asset to
6-2
 expense in the early years of the asset's life. It is called double-
declining-balance because the method applies twice the straight-line
rate to the book value of the asset.

Example: Asset cost of $4,000 with an estimated useful life of 4 years

would produce an expense of $2,000 in the first year [$4,000 x (2 x
.25)]. The amount of depreciation expense will decrease each year of
the asset's life. This method is appropriate when the usefulness of an
asset decreases more in the early years of life than it does in the later
years of the asset's life.

13. Recognition of depreciation expense reduces total assets; while the

asset account containing the asset that is being depreciated is not
changed, the contra asset account, accumulated depreciation, is
increased which, in turn, reduces total assets. Total equity is
decreased when an expense is recognized.

14. The recognition of depreciation expense does not affect cash flows.
Depreciation recognition is simply the allocation of part of a
previously acquired asset to expense. Cash is affected when the
asset is purchased, when an improvement is made to the asset, and
when it is sold.

15. Total assets will be lower at the end of the first year of the asset’s life
if MalMax chooses the double-declining-balance method of computing
depreciation rather than straight-line. This results because more
expense is recognized in the early years of an asset’s life when
double-declining-balance is used. However, at the end of the asset’s
life, total assets will be the same regardless of the method chosen
because the amount of total depreciation recognized over the asset’s
life is the same regardless of the depreciation method chosen.

16. When the total cost of an asset is expensed in the year acquired, total
expense will be overstated and net income will be understated.
Because all of a plant asset's cost is erroneously expensed, assets
will be understated and retained earnings will be understated because
net income was understated.

17. Salvage value is the estimated value of a plant asset at the end of its
useful life to the business.

6-3
18. Accumulated depreciation is a contra asset account. As the cost of a
plant asset is expensed, a contra asset account is increased, rather
than a direct reduction of the related asset account. This method is
used because the cost allocation is an estimate, not an exact amount.
In addition, this method provides more information to financial
information users, in that the original cost is shown in the asset
account and the allocated cost is shown as accumulated depreciation.

19. Book value of an asset is its historical cost less any accumulated
depreciation.

20. Recording the depreciation recognized in the contra asset account

allows the total cost of the asset and the total amount expensed to be
shown in the accounts and on the balance sheet. This provides more
information to the reader of the financial statements, e.g., some
judgment can be made about the age and use of the asset. The use of
the contra account is also required by GAAP.

21. Book value is computed as the cost of the equipment less the
accumulated depreciation of that equipment, $5,000 − $3,000 = $2,000.
This does not represent the fair market value of the equipment
because the accumulated depreciation is only an allocation of the cost
based on estimates. In addition, the market value of the equipment
may not be related to its original cost.

22. The method of depreciation chosen for a particular piece of

equipment should represent as closely as possible the pattern of its
usage of that piece of equipment. For instance, double-declining-
balance may be used for that piece of equipment whose usefulness
declines more in the early years of its life. Straight-line depreciation
should be used for that piece of equipment whose usefulness
declines at a constant rate over its useful life.

23. When an asset is purchased and put into service, an estimate is

made of the expected useful life of the asset. However, as the asset
is used, it may become apparent that the estimate was incorrect or
circumstances may have changed (e.g., the asset is used more than
expected) to cause the estimate to be incorrect. When these
situations arise, it is necessary to revise the estimated useful life of
the asset and, consequently, the amount of depreciation expense per
period. The revised estimated useful life will affect the amount of

6-4
 depreciation per year. If the estimated life is longer than originally
expected, the amount of depreciation per year will decrease; if the
estimated useful life is shorter than originally expected, the amount
of depreciation per year will be larger.

24. When an expenditure improves the quality of an asset, this

improvement is accounted for as if a new asset is purchased; the
equipment account is debited. The improvement is depreciated over
the remaining life of the original asset since the life of the asset is not
extended; only the quality is improved.

When an expenditure extends the life of the asset, this expenditure in

effect reduces some of the depreciation already taken on the asset.
This is accomplished by reducing the accumulated depreciation
account (a decrease to accumulated depreciation). Depreciation is
recalculated by spreading the remaining book value, reduced by
salvage value, over the remaining estimated life of the asset.

25. When a long-term operational asset is sold for a gain, total assets and
equity increase by the amount of the gain. The gain is the amount the
asset is sold for over the book value of the asset. However, the cash
flow from the sale of the equipment is the amount the asset is sold for
(assuming it is sold for cash). The total amount of cash received is
shown as a cash inflow in the investing section of the statement of
cash flows.

26. Depletion is the process of systematically allocating the cost of

natural resources to expense based on estimated production of the
asset. The most common method used to calculate depletion is units-
of-production. An estimated cost per unit of resource is determined
by dividing the cost of the asset by the estimated production. The
amount of expense for each period is based on the number of units
extracted and sold.

27. Some of the most common intangible assets include patents,

copyrights, and goodwill. Amortization is generally based on the legal
life of the asset, the useful life of the asset, or, in the case of goodwill,
the amount of any impairment. The asset is generally amortized over
the shortest of these possible lives. The period over which an
intangible asset can be amortized for tax purposes is generally
determined according to terms specified by tax law. These terms are
generally different from those used for financial accounting.
6-5
28. The estimated useful life and salvage of an asset is determined based
on the judgment and estimation of the accountant or management.
Because the length of time of actual use and the actual value at
disposal is not known, these amounts are based on the best judgment
of the accountant. If the useful period is estimated to be too long,
then the amount of depreciation expenses each period will be less
than the actual use. If the useful period is estimated too short, then
more cost will be depreciated than is actually used. There are several
acceptable methods available to make these estimates, such as prior
use of similar assets.

6-6
SOLUTIONS TO EXERCISES - CHAPTER 6

EXERCISE 6-1

Note: There are many possibilities for answers to this question. The
answers given are only a few examples of long-term operational assets
that these companies may own. Also note that even though the
companies have very different business activities, they may have some of
the same kinds of long-term operational assets.

(a) Caterpillar:

Buildings, Office Equipment, Manufacturing Equipment, Land,

Trucks, etc.

(b) Amtrak:

Trains, Office Equipment, Buildings, Computer Equipment, etc.

(c) Facebook:

Information Technology Assets, Land and Buildings, Furniture and

Fixtures, etc.

(d) Bank of America:

Office Equipment, Buildings, Land, etc.

6-7
EXERCISE 6-2

Long-Term Operational Assets:

Yes/No
a. No
b. Yes
c. Yes
d. No
e. No
f. Yes
g. Yes
h. Yes
i. Yes
j. No
k. Yes
l. Yes

6-8
EXERCISE 6-3

No. Tangible (T), Intangible (I)

a. Pizza Oven T
b. Land T
c. Franchise I
d. Filing Cabinet T
e. Copyright I
f. Silver Mine T
g. Office Building T
h. Drill Press T
i. Patent I
j. Oil Well T
k. Desk T
l. Goodwill I

6-9
EXERCISE 6-4

Costs that are to be capitalized:

List Price $140,000
Less: Discount (5,600)*
Freight Cost 1,200
Specialist Fee 1,800
Total Costs $137,400

*$140,000 x 4% = $5,600

The operator salary and increase in insurance are operating expenses.

6-10
EXERCISE 6-5

a. Basket Purchase

b. % of* Purchase Allocated

Total Appraised Value App. Val. Price Cost
Land $320,000 .40 x $700,000 = $280,000
Building 480,000 .60 x 700,000 = 420,000
Total $800,000 $700,000
*Land: $320,000 ÷ $800,000 = .40; Building: $480,000 ÷ $800,000 = .60

c. No, the historical cost concept requires that assets be recorded at

the amount paid for them.

d.
Balance Sheet Income Statement Statemt. of
Assets = Liab. + Equity Rev. − Exp. = Net Inc. Cash Flows
Cash + Land + Bldg. = +
(700,000) + 280,000 + 420,000 = NA + NA NA − NA = NA (700,000) IA

6-11
EXERCISE 6-6
a.
Asset Appraised Percent of Purchase Allocated
Value Appraised Value Price Cost
Land $180,000 30% x $500,000 = $150,000
Building 300,000 50% x 500,000 = 250,000
Furniture 120,000 20% x 500,000 = 100,000
Total $600,000 100% $500,000

b.
Assets = Equity Rev. − Exp. = Net. Inc. Cash Flow
Cash + Land + Building + Furn. =
(500,000) + 150,000 + 250,000 + 100,000 = NA NA − NA = NA (500,000) IA

6-12
 EXERCISE 6-7

a.
Balance Sheet Income Statement Statement of
Assets =
Equity Rev. − Exp. = Net Inc. Cash Flows
Com. + Ret.
Event Cash + Equip. − A. Depr. = Stock Earn.
1. 60,000 NA NA 60,000 NA NA NA NA 60,000 FA
2. (40,000) 40,000 NA NA NA NA NA NA (40,000) IA
3. 72,000 NA NA NA 72,000 72,000 NA 72,000 72,000 OA
4. (25,000) NA NA NA (25,000) NA 25,000 (25,000) (25,000) OA
5.* NA NA 9,000 NA (9,000) NA 9,000 (9,000) NA
Bal. 67,000 + 40,000 − 9,000 = 60,000 + 38,000 72,000 − 34,000 = 38,000 67,000 NC

*Cost − Salvage value) ÷ useful life = Depreciation expense per year

$40,000 − $4,000 = $36,000; $36,000 ÷ 4 = $9,000 per year

b. $9,000

c. $18,000 ($9,000 deprecation for 2018 + $9,000 depreciation for 2019)

d. No; depreciation expense is a non-cash activity.

6-13
 EXERCISE 6-8

Depreciation Calculation: (Cost − Accumulated Depr.) x (2 x SL Rate)

SL Rate = 1 ÷ 6 = .16667
Year 1 ($120,000 − $ -0-) x (2 x .16667) = $40,000*
Year 2 ($120,000 − $40,000) x (2 x .16667) = $26,667*
*rounded

a.
Balance Sheet Income Statement Statement of
Assets = Equity Rev. − Exp. = Net Inc. Cash Flows
Event Com. + Ret.
2018 Cash + Equip. − A. Depr. = Stock Earn.
Issue stock 150,000 NA NA 150,000 NA NA NA NA 150,000 FA
Pur. Equip. (120,000) 120,000 NA NA NA NA NA NA (120,000) IA
Rev. 72,000 NA NA NA 72,000 72,000 NA 72,000 72,000 OA
Depr. Exp. NA NA 40,000 NA (40,000) NA 40,000 (40,000) NA
Bal. 102,000 + 120,000 − 40,000 = 150,000 + 32,000 72,000 − 40,000 = 32,000 102,000 NC

Balance Sheet Income Statement Statemt. of

Assets = Equity Rev. − Exp. = Net Inc. Cash Flows
Event Com. Ret.
2019 Cash + Equip. − A. Depr. = Stock + Earn.
Bal. 102,000 120,000 40,000 150,000 32,000
Rev. 83,000 NA NA NA 83,000 83,000 NA 83,000 83,000 OA
Depr. Exp. NA NA 26,667 NA (26,667) NA 26,667 (26,667) NA
Bal. 185,000 + 120,000 − 66,667 = 150,000 + 88,333 83,000 − 26,667 = 56,333 83,000 NC

6-14
EXERCISE 6-8 (cont.)

Golden Manufacturing Company

Financial Statements
2018 2019
Income Statements
Sales Revenue 72,000 $83,000
Depreciation Expense (40,000) (26,667)
Net Income $32,000 $56,333
Balance Sheets
Assets
Cash $ 102,000 $185,000
Equipment 120,000 120,000
Accumulated Depreciation (40,000) (66,667)
Total Assets $182,000 $238,333
Stockholders’ Equity
Common Stock $150,000 $150,000
Retained Earnings 32,000 88,333
Total Stockholders’ Equity $182,000 $238,333
Statements of Cash Flows
Cash Flows From Operating Activities:
Inflow from Customers $ 72,000 $ 83,000
Cash Flows From Investing Activities:
Outflow to Purchase Equipment (120,000) -0-
Cash Flows From Financing Activities:
Inflow from Stock Issue 150,000 -0-
Net Change in Cash 102,000 83,000
Plus: Beginning Cash Balance -0- 102,000
Ending Cash Balance $102,000 $185,000

6-15
EXERCISE 6-9
a.
1. Straight-Line Calculation:
Cost $52,000
Less: Salvage ( 7,000)
Cost to Be Depreciated $45,000 ÷ 5 = $9,000 depr. per year

2. Double-Declining-Balance Calculation:
(Cost − Accumulated Depreciation) x (2 x Straight-Line Rate)
Straight-Line Rate = 1 ÷ 5 = .20
Year 1 ($52,000 − $0 ) x (2 x .20) = $20,800
Year 2 ($52,000 − $20,800) x (2 x .20) = 12,480
Year 3 ($52,000 − $33,280) x (2 x .20) = 7,488
Year 4 ($52,000 − $40,768) x (2 x .20) = 4,493 4,232*
Year 5 ($52,000 − $45,000) x (2 x .20) = 2,800 -0-*
Total $45,000

*The total depreciable cost is $45,000 ($52,000 − $7,000). The depreciation

taken in Year 4 is limited to $4,232 [$45,000 − ($20,800 + $12,480 + $7,488)].
There will be no depreciation expense in Year 5 as the salvage value
limitation was attained in Year 4.

b.
Copeland Drugstore
Statements Model

Balance Sheet Income Statement

Assets = Equity Rev − Exp. = Net Inc. Cash Flow
Cash + Book Value of Comp. = Ret. Ear.
(52,000) + 52,000 = NA NA − NA = NA (52,000) IA

Straight-Line Depreciation
NA + (9,000) = (9,000) NA − 9,000 = (9,000) NA

DDB Depreciation
NA + (20,800) = (20,800) NA − 20,800 = (20,800) NA

6-16
EXERCISE 6-10

a. Double-Declining-Balance

(Cost − Accum. Depr.) x (2 x SL Rate) = Depr. Exp. Per Year

SL Rate = 1 ÷ 4 = .25

2018: ($38,000 − $0) x (2 x .25) = $19,000

2019: ($38,000 − $19,000) x (2 x .25) = 9,500
2020: ($38,000 − $28,500) x (2 x .25) = 4,750
2021: ($38,000 − $33,250) x (2 x .25) = 2,375 1,250*
Total Accumulated Depreciation $34,500

*The total depreciable cost is $34,500 ($38,000 − $3,500). The depreciation

taken in 2021 is limited to $1,250 [$34,500 − ($19,000 + $9,500 + $4,750)].

b. Units-of-Production

(Cost − Salvage) ÷ Estimated Production = Depr. Cost per Unit

$38,000 − $3,500 = $34,500

$34,500 ÷ 1,500,000 = $.023 cost per page

Annual Depreciation = Depr. Cost per Page x Actual Annual Units

2018: $.023 x 390,000 = $ 8,970

2019: $.023 x 410,000 = 9,430
2020: $.023 x 420,000 = 9,660
2021: $.023 x 300,000 = 6,900 6,440*
Total Accumulated Depr. $34,500

*The total depreciable cost is $34,500 ($38,000 − $3,500). The

depreciation taken in 2021 is limited to $6,440 [$34,500 − ($8,970 +
$9,430 + $9,660)].

6-17
EXERCISE 6-10 (cont.)

c. Calculation of Book Value

Double-Declining-Balance

Cost $38,000
Less: Accumulated Depr. (34,500)
Book Value $ 3,500

Units-of-Production

Cost $38,000
Less: Accumulated Depr. (34,500)
Book Value $ 3,500

Calculation of Gain (Loss)

Units-of-
DDB Production
Sales Price $1,650 $1,650
Book Value (3,500) (3,500)
Gain (Loss) $ (1,850) $ (1,850)

6-18
EXERCISE 6-11

a. Calculation of Depreciation:
Taxi Cost $36,000
Sales Tax & Title Fees 1,200
Total Cost $37,200

Depreciable Cost: $37,200 − $4,000 = $33,200

Depreciation: $33,200 ÷ 5 years = $6,640 per year

2018 Depreciation: $6,640

2019 Depreciation: $6,640

b. Cost $37,200
Less: Accumulated Depreciation (13,280) ($6,640 x 2)
Book Value, 1/1/2020 $23,920

Loss on Sale = Selling price; $21,000 − Book Value; $23,920 =

($2,920)

6-19
EXERCISE 6-12

a. Historical Cost $23,000

Less: Accumulated Depreciation (12,000)
Book Value $11,000

b. Sales Price $14,000

Less: Book Value (11,000)
Gain on Sale $ 3,000

c. Net income would increase by $3,000.

d. Total assets would increase by $3,000. Cash would increase by

$14,000; plant assets would decrease by $23,000; and accumulated
depreciation would decrease by $12,000.

e. Cash would increase by $14,000 (Inflow from Investing Activities).

6-20
EXERCISE 6-13

Prairie Enterprises
2020 Accounting Equation

Assets = Stockholders’ Equity

Common Retained
Event Cash Land = Stock + Earnings

a.1 29,500 (28,000) = 1,500

Common Retained
Cash Land = Stock + Earnings
b.1 24,000 (28,000) = (4,000)

a. (1) See above.

(2) Gain of $1,500 ($29,500 sales price − $28,000 cost).

(3) Cash inflow from investing activities, $29,500.

b. (1) See above.

(2) Loss of $4,000 ($24,000 sales price − $28,000 cost).

(3) Cash inflow from investing activities, $24,000.

6-21
EXERCISE 6-14

Depreciation
Expense
2018: $42,000 − $3,000 = $39,000; $39,000 ÷ 3 = $13,000

2019: (Same as year 2018.) $13,000

2020:
Cost $42,000
Less: Acc.Depr. (26,000)
Book Value $16,000
(2,000)*
New Book Value: $14,000 ÷ 2** = $7,000
*revised salvage
**revised remaining life

2021 (Same as year 2020.) $7,000

6-22
EXERCISE 6-15

Tow Truck:
Book value would still be $6,500; the $1,550 repair cost will be
expensed.

Building:
$65,000 will be the new book value. Old book value was $53,000
($85,000 − $32,000), plus the $12,000 cost of the new roof that will
reduce accumulated depreciation. Or, the cost of $85,000 less new
accumulated depreciation of $20,000 ($32,000 − $12,000) yields a
book value of $65,000.

6-23
EXERCISE 6-16

a.
Assets = Stockholders’ Equity Rev. - Exp. = Net Inc. Cash Flow

Cash + Book Value of Comp = C. Stock + Ret. Ear.

45,000 + 16,000 = 40,000 + 21,000 NA − NA = NA NA

(6,000) + NA = NA + (6,000) NA − 6,000 = (6,000) (6,000) OA

b.
Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flow

Cash + Book Value of Comp = C. Stock + Ret. Ear.

45,000 + 16,000 = 40,000 + 21,000 NA − NA = NA NA

(6,000) + 6,000 = NA + NA NA − NA = NA (6,000) IA

c.
Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flow

Cash + Book Value of Comp = C. Stock + Ret. Ear.

45,000 + 16,000 = 40,000 + 21,000 NA − NA = NA NA

(6,000) + 6,000 = NA + NA NA − NA = NA (6,000) IA

6-24
EXERCISE 6-17

a. $22,000 ÷ 2 = $11,000 additional depreciation expense for 2018 and

2019.

b. $22,000 of expense would be recognized in 2018 and $-0- in 2019.

c. $-0- cash outflow from operating activities in 2018, $-0- cash outflow
from operating activities in 2019 (cash outflow in 2018 is from
investing activities).

d. $22,000 cash outflow from operating activities in 2018 and $-0- in

2019.

6-25
EXERCISE 6-18

a. Depletion charge per unit: $600,000 ÷ 40,000 tons = $15 per ton

b.
Depletion Calculation:
Year 1 $15 x 15,000 = $225,000
Year 2 $15 x 18,000 = $270,000

Colorado Mining
Statements Model
Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flow
Cash + Coal Res. = C. Stock + Ret. Ear.
800,000 + NA = 800,000 + NA NA − NA = NA NA
(600,000) + 600,000 = NA + NA NA − NA = NA (600,000) IA

Depletion for Year 1

NA + (225,000) = NA + (225,000) NA − 225,000 = (225,000) NA

Depletion for Year 2

NA + (270,000) = NA + (270,000) NA − 270,000 = (270,000) NA

6-26
 EXERCISE 6-19

a. Patent $40,000 ÷ 4 = $10,000 per year

The goodwill is not amortized under GAAP.

b.
Dynamo Manufacturing
Statements Model

Assets = Equity Rev. − Exp. = Net Inc. Cash Flow

Cash + Patent + Goodwill =
90,000 + NA + NA = 90,000 NA − NA = NA NA
Acq. (75,000) + 40,000 + 35,000 = NA NA − NA = NA (75,000) IA

Amort. NA + (10,000) + NA = (10,000) NA − 10,000 = (10,000) NA

6-27
EXERCISE 6-20
a. Acquisition Price:
Cash Paid $320,000
Liabilities Assumed 40,000
Total 360,000
FV of Assets (250,000)
Goodwill $110,000
b.
Arizona Corp.
Statements Model

Assets = Liab. + Equity Rev. − Exp. = Net Inc. Cash Flow

Cash + Assets + Goodwill = +
450,000 + NA + NA = NA + 450,000 NA − NA = NA NA
Acq. (320,000) + 250,000 + 110,000 = 40,000 + NA NA − NA = NA (320,000) IA

6-28
EXERCISE 6-21

a. Depreciation expense as a percentage of sales:

Company 1: $56,056 ÷ $2,010,969 = 2.8%

Company 2: $ 1,208 ÷ $ 11,811 = 10.2%

b. Property, plant, and equipment as a percentage of total assets:

Company 1: $380,297 ÷ $1,535,695 = 24.8%

Company 2: $ 30,174 ÷ $ 35,039 = 86.1%

c. Company 2 appears to be CSX since one would expect a rail

transportation company to have more of its assets comprised of property,
plant, and equipment than would a greetings card company.

Students might also answer this based on the sales ÷ plant assets ratios
demonstrated in the chapter. These ratios are:

Company 1: $2,010,969 ÷ $380,297 = 5.29 times

Company 2: $ 11,811 ÷ $ 30,174 = .39 times

These results also suggest that Company 1 is American Greetings and

Company 2 is CSX.

d. The return on assets ratio (ROA) helps analysts evaluate how

efficiently a company is using its assets. This ratio is computed as:
net income ÷ total assets. Although this ratio was not explained in
Chapter 6, it should be somewhat intuitive for students to
understand the concept of earnings achieved versus assets
employed, even if they do not know that the ratio has a specific
name. For the two companies in this problem, the ROA ratios are:

Company 1: $65,107 ÷ $1,535,695 = 4.2%

Company 2: $ 1,968 ÷ $ 35,039 = 5.6%

Based on the comparative ROA’s, Company 2, CSX, seems to be

managing its assets more efficiently than American Greetings.

6-29
SOLUTIONS TO PROBLEMS - CHAPTER 6
PROBLEM 6-22
Office Equipment
List Price $60,000
Discount ($60,000 x 2%) (1,200)
Transportation-In 1,500
Installation 2,500
$62,800
Note: The $650 damage from unloading is not a part of the cost of the
equipment. The $350 is routine maintenance.

Basket Purchase
Allocation is based on relative market values:

Fair Market Percent FMV Purchase Allocated

Asset Value Value Price Costs
Copier $22,000 55% x $30,000 = $ 16,500
Computer 10,000 25% x 30,000 = 7,500
Scanner 8,000 20% x 30,000 = 6,000
Total 40,000 100% $30,000

Land and Building

Land
Purchase Price $250,000
Demolition of Old Building 18,000
Proceeds from Old Building (6,000)
Site Preparation 22,000
Total Cost of Land $284,000

Building
Construction Costs $510,000

6-30
PROBLEM 6-23

a. Straight-Line
Cost $70,000
Delivery Cost 3,000
Installation Charge 1,000
Total Cost 74,000
Less: Salvage Value ( 4,000)
$70,000 ÷ 5 = $14,000 per year
2018 $14,000
2019 $14,000

b. Double-Declining-Balance

Accum. Depreciation Annual

(Cost − at Beginning of Period) x (2 x SL Rate) = Depreciation

2018 ($74,000 − $0) x (2 x .2) = $29,600

2019 ($74,000 − $29,600) x (2 x .2) = $17,760

c. Units-of-Production

1. Total Estimated
(Cost − Salvage Value) ÷ Units of Production = Cost per Unit

$74,000 − $4,000
140,000 = $.50 per unit

2. Cost per Unit x Current Units of = Annual

Production Depreciation

2018 $.50 x 36,000 = $18,000

2019 $.50 x 38,000 = $19,000

6-31
PROBLEM 6-24

Depreciation Computations:

Straight-Line

Company A: ($50,000 − $5,000) ÷ 4 = $11,250 per year

Double-Declining-Balance

Company B: 2018 ($50,000 − $ 0) x (2 x .25) = $25,000

2019 ( 50,000 − 25,000) x .5 = 12,500
2020 ( 50,000 − 37,500) x .5 = 6,250
2021 ( 50,000 − 43,750) x .5 = 3,125 1,250*

*The total depreciable cost is $45,000 ($50,000 − $5,000). The

depreciation taken in 2021 is limited to $1,250 [$45,000 − ($25,000
+ $12,500 + $6,250)].

Units-of-Production

Per Unit Cost: ($50,000 − $5,000) ÷ 200,000 = $ .225 per mile

Company C:
2018 $.225 x 66,000 = $14,850
2019 $.225 x 42,000 = 9,450
2020 $.225 x 40,000 = 9,000
2021 $.225 x 60,000 = 13,500 11,700*

*The total depreciable cost is $45,000 ($50,000 − $5,000). The

depreciation taken in 2021 is limited to $11,700 [$45,000 − ($14,850
+ $9,450 + $9,000)].

6-32
 PROBLEM 6-24 (cont.)

a. Company A - 2018
Revenue $40,000
Depreciation Expense (11,250)
Net Income $28,750

Company B - 2018
Revenue $40,000
Depreciation Expense (25,000)
Net Income $ 15,000

Company C - 2018
Revenue $40,000
Depreciation Expense (14,850)
Net Income $25,150

A has the highest net income in 2018.

b. Company A - 2021
Revenue $40,000
Depreciation Expense (11,250)
Net Income $28,750

Company B - 2021
Revenue $40,000
Depreciation Expense ( 1,250)
Net Income $38,750

Company C - 2021
Revenue $40,000
Depreciation Expense (11,700)
Net Income $28,300

Company C has the lowest net income for 2021.

6-33
PROBLEM 6-24 (cont.)

c. Company A Accumulated Depreciation

2018 $ 11,250
2019 11,250
2020 11,250
$33,750

Cost $50,000
Accumulated Depreciation (33,750)
Book Value $16,250

Company B Accumulated Depreciation

2018 $25,000
2019 12,500
2020 6,250
$43,750

Cost $50,000
Accumulated Depreciation (43,750)
Book Value $ 6,250

Company C Accumulated Depreciation

2018 $14,850
2019 9,450
2020 9,000
$33,300

Cost $50,000
Accumulated Depreciation (33,300)
Book Value $16,700

Highest book value for 2020: Company C, $16,700.

6-34
PROBLEM 6-24 (cont.)

d. Sales (four years) $160,000

Depreciation (four years) (45,000)
Retained Earnings $115,000

All companies have the same retained earnings because over the four-
year period, the total depreciation is the same.

e. The cash flow from operating activities will be the same for each
company if income tax is not considered. Depreciation expense is not
a cash flow item.

6-35
PROBLEM 6-25

Bensen Company
Financial Statements
For the Year Ended December 31

Income Statements
2018 2019 2020 2021 2022
Revenue $26,100 $28,500 $32,000 $31,300 $ -0-
Depr. Expense1 (10,000) (10,000) (10,000) (10,000) -0-
Operating Income 16,100 18,500 22,000 21,300 -0-
Gain/(Loss) -0- -0- -0- -0- (1,200)2

Net Income $16,100 $18,500 $22,000 $21,300 $(1,200)

Statements of Changes in Stockholders’ Equity

Beg. Com. Stock $ -0- $60,000 $60,000 $60,000 $60,000
Plus: Stock Issued 60,000 -0- -0- -0- -0-
End. Com. Stock 60,000 60,000 60,000 60,000 60,000
Beg. Ret. Earn. -0- 16,100 34,600 56,600 77,900
Plus: Net Income 16,100 18,500 22,000 21,300 (1,200)
End. Ret. Earn. 16,100 34,600 56,600 77,900 76,700
Total Stk. Equity $76,100 $94,600 $116,600 $137,900 $136,700

Depreciation: $50,000 − $10,000 (salvage value) = $40,000;

1

$40,000 ÷ 4 = $10,000 per year

2
Sale of Equipment: Sales Price $8,800 less book value $10,000 = $1,200
loss

6-36
PROBLEM 6-25 (cont.)
Bensen Company
Financial Statements
6

Balance Sheets
2018 2019 2020 2021 2022
Assets
Cash $36,100 $64,600 $96,600 $127,900 $136,700
Equipment 50,000 50,000 50,000 50,000 -0-
Less: Acc. Dep. (10,000) (20,000) (30,000) (40,000) -0-
Total Assets $76,100 $94,600 $116,600 $137,900 $136,700

Stockholders’ Equity
Common Stock $60,000 $60,000 $60,000 $60,000 $60,000
Retained Earn. 16,100 34,600 56,600 77,900 76,700
Total Stkhldrs’ Equity $76,100 $94,600 $116,600 $137,900 $136,700
Statements of Cash Flows
2018 2019 2020 2021 2022
Operating Act.:
Inflow from Cust. $26,100 $28,500 $32,000 $31,300 $ -0-
Net Cash Op. Act. 26,100 28,500 32,000 31,300 -0-
Investing Act.:
Sale of Equip. -0- -0- -0- -0- 8,800
Paid for Equip. (50,000) -0- -0- -0- -0-
Net Cash Inv. Act. (50,000) -0- -0- -0- 8,800
Financing Act.:
Inflow from 60,000 -0- -0- -0- -0-
Stock Issue
Net Cash Fin. Act. 60,000 -0- -0- -0- -0-
Net Change in Cash 36,100 28,500 32,000 31,300 8,800
Plus: Beg. Cash Bal. -0- 36,100 64,600 96,600 127,900
Ending Cash Bal. $36,100 $64,600 $96,600 $127,900 $136,700

6-37
PROBLEM 6-26

a. Straight-Line

(Cost − Salvage Value) ÷ Useful Life = Annual Depreciation

Year 1 ($40,000 − $5,000) ÷ 5 = $7,000 per year

2 7,000
3 7,000
4 7,000
5 7,000

b. Double-Declining-Balance

Accum. Depreciation Annual

(Cost − at Beginning of Period) x (2 x SL Rate) = Depreciation

Year 1 ($40,000 − $ -0-) x (2 x .20) = $16,000

2 ($40,000 − $16,000) x .40 = 9,600
3 ($40,000 − $25,600) x .40 = 5,760
4 ($40,000 − $31,360) x .40 = 3,456
5 ($40,000 − $34,816) x .40 = 2,074 184*

*The total depreciable cost is $35,000 ($40,000 − $5,000). The

depreciation taken in Year 5 is limited to $184 [$35,000 − ($16,000
+ $9,600 + $5,760 + $3,456)].

c. Depreciation expense is a non-cash item and does not affect cash flow.
However, when different methods are used for tax purposes, this can
cause differences in taxable income and the amount of tax paid.

6-38
PROBLEM 6-26 (cont.)

d. Straight-Line

Book Value: $40,000 − 28,000* = $12,000

Sales Price $15,000

Book Value (12,000)
Gain $ 3,000
*$7,000 x 4 = $28,000

Double-Declining-Balance

Book Value: $40,000 − 34,816** = $5,184

Sales Price $15,000

Book Value ( 5,184)
Gain $ 9,816

**$16,000 + $9,600 + $5,760 + $3,456 = $34,816

6-39
PROBLEM 6-27

Units-of-Production
Total Estimated
(Cost − Salvage Value) ÷ Units of Production = Cost per Unit

Cost per Unit x Current Units of Production = Annual Depreciation

a. $500,000 − $20,000
200,000 = $2.40 per machine hour

2018: $2.40 x 56,000 = $ 134,400

2019: $2.40 x 61,000 = 146,400
2020: $2.40 x 42,000 = 100,800
2021: $2.40 x 36,000 = 86,400
2022: $2.40 x 10,000 = 24,000 $12,000*
*The total depreciable cost is $480,000 ($500,000 − $20,000). The
depreciation taken in 2022 is limited to $12,000 [$480,000 −
($134,400 + $146,400 + $100,800 + $86,400)].

6-40
 PROBLEM 6-27 (cont.)

b. NC = Net Change in Cash

Sabel Co.
Horizontal Statements Model for 2018

Balance Sheet Income Statement

Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flow
Event Cash + Book Value of Equip. = C. Stock + Ret. Ear. − =
Bal. 800,000 + NA = 800,000 + NA NA − NA = NA NA
Equ. (500,000) + 500,000 = NA + NA NA − NA = NA (500,000) IA
Rev. 230,000 + NA = NA + 230,000 230,000 − NA = 230,000 230,000 OA
Depr. NA + (134,400) = NA + (134,400) NA − 134,400 = (134,400) NA
Bal. 530,000 + 365,600 = 800,000 + 95,600 230,000 − 134,400 = 95,600 (270,000) NC

c. Sales Price $20,600

Book Value (20,000)
Gain on Sale $ 600

6-41
PROBLEM 6-28

Computation of depreciation expense - straight line method:

Depreciation
Expense
2018: $56,000 − $6,000 = $50,000; $50,000 ÷ 5 = $10,000

2019: (Same as year 2018) $10,000

2020: (Same as year 2019) $10,000

2021:
Cost $56,000
Less: Acc.Depr. (30,000)
Book Value $26,000
(6,000)*
New Book Value: $20,000 ÷ 4** = $5,000
*revised salvage
**revised remaining life

2022 (Same as year 2021) $5,000

2023 (Same as year 2022) $5,000
2024 (Same as year 2023) $5,000

6-42
PROBLMEM 6-29

Computation of depreciation expense - straight line method:

Depreciation
Expense
2018: $135,000 − $25,000 = $110,000; $110,000 ÷ 4 = $27,500

2019: (Same as year 2018) $27,500

2020:
Cost $135,000
Less: Acc.Depr. (55,000)
Book Value $80,000
(5,000)*
New Book Value: $75,000 ÷ 2* = $37,500
*revised salvage

2021 (Same as year 2020) $37,500

6-43
PROBLEM 6-30

a.
Accounting Solutions Inc. Horizontal Statements Model - 2018
Balance Sheet Income Statement Statemt. of
Assets = Equity Rev. − Exp. = Net Inc. Cash Flows
Event Com. + Ret.
2018 Cash + Equip. − A. Depr. = Stock Earn.
1. 80,000 NA NA 80,000 NA NA NA NA 80,000 FA
2. (35,000) 35,000 NA NA NA NA NA NA (35,000) IA
3. (2,450) 2,450 NA NA NA NA NA NA (2,450) IA
4. 65,000 NA NA NA 65,000 65,000 NA 65,000 65,000 OA
5. (1,500) NA NA NA (1,500) NA 1,500 (1,500) (1,500) OA
6. NA NA 14,980 1 NA (14,980) NA 14,980 (14,980) NA
Bal. 106,050 + 37,450 − 14,980 = 80,000 + 48,520 65,000 − 16,480 = 48,520 106,050 NC
1
($37,450) x (2 x .20) = $14,980

Accounting Solutions Inc. Horizontal Statements Model - 2019

Balance Sheet Income Statement Statemt. of
Assets = Equity Rev. − Exp. = Net Inc. Cash Flows
Event Com. + Ret.
2019 Cash + Equip. − A. Depr. = Stock Earn.
Bal. 106,050 37,450 14,980 80,000 48,520
1. (1,000) NA NA NA (1,000) NA 1,000 (1,000) (1,000) OA
2. (1,500) NA NA NA (1,500) NA 1,500 (1,500) (1,500) OA
3. 68,000 NA NA NA 68,000 68,000 NA 68,000 68,000 OA
4. (1,500) NA NA NA (1,500) NA 1,500 (1,500) (1,500) OA
5. NA NA 8,9882 NA (8,988) NA 8,988 (8,988) NA
Bal. 170,050 + 37,450 − 23,968 = 80,000 + 103,532 68,000 − 12,988 = 55,012 64,000 NC
2
($37,450 − $14,980) x (2 x .20) = $8,988 depreciation for 2019

6-44
PROBLEM 6-30 (cont.)

Accounting Solutions Inc. Horizontal Statements Model - 2020

Balance Sheet Income Statement Statemt. of
Assets = Equity Rev. − Exp. = Net Inc. Cash Flows
Event Com. + Ret.
2020 Cash + Equip. − A. Depr. = Stock Earn.
Bal. 170,050 37,450 23,968 80,000 103,532
1. (6,000) NA (6,000) NA NA NA NA NA (6,000) IA
2. (1,200) NA NA NA (1,200) NA 1,200 (1,200) (1,200) OA
3. 70,000 NA NA NA 70,000 70,000 NA 70,000 70,000 OA
4. NA NA 9,7413 NA (9,741) NA 9,741 (9,741) NA
Bal. 232,850 + 37,450 − 27,709 = 80,000 + 162,591 70,000 − 10,941 = 59,059 62,800 NC
3
[$37,450 − ($23,968 − $6,000)] x (2 x .25) = $9,741 depreciation for 2020

6-45
PROBLEM 6-30 (cont.)
b.
Accounting Solutions Inc.
Financial Statements For the Year Ended December 31

Income Statements
2018 2018 2020
Service Revenue $65,000 $68,000 $70,000
Expenses
Maintenance Expense -0- (2,500) -0-
Service Fee Expense (1,500) (1,500) (1,200)
Depreciation Expense (14,980) (8,988) (9,741)
Total Expenses (16,480) (12,988) (10,941)
Net Income $48,520 $55,012 $59,059

Statements of Changes in Stockholders’ Equity

Beginning Common Stock $ -0- $80,000 $ 80,000

Plus: Stock Issued 80,000 -0- -0-
Ending Common Stock 80,000 80,000 80,000
Beginning Retained Earnings -0- 48,520 103,532
Plus: Net Income 48,520 55,012 59,059
Ending Retained Earnings 48,520 103,532 162,591
Total Stockholders’ Equity $128,520 $183,532 $242,591

6-46
PROBLEM 6-30 b.(cont.)
Accounting Solutions Inc.
Financial Statements
Balance Sheets
2018 2019 2020
Assets
Cash $106,050 $170,050 $232,850
Computer 37,450 37,450 37,450
Less: Accumulated Depr. (14,980) (23,968) (27,709)
Total Assets $128,520 $183,532 $242,591
Liabilities $ -0- $ -0- $ - 0-
Stockholders’ Equity
Common Stock 80,000 80,000 80,000
Retained Earnings 48,520 103,532 162,591
Total Stockholders’ Equity 128,520 183,532 242,591
Total Liab. and Stkholders’ Equity $128,520 $183,532 $242,591

Statements of Cash Flows

Cash Flows From Oper. Act.:
Inflow from Revenue $65,000 $68,000 $ 70,000
Outflow for Expenses (1,500) (4,000) (1,200)
Net Cash Flow from Oper. Act. 63,500 64,000 68,800
Cash Flows From Inv. Act.:
Cash Outflow for Computer (37,450) -0- (6,000)
Net Cash Flow from Inv. Act. (37,450) -0- (6,000)
Cash Flows From Fin. Act.:
Cash Inflow from Stock Issue 80,000 -0- -0-
Net Cash Flow from Fin. Act. 80,000 -0- -0-
Net Change in Cash 106,050 64,000 62,800
Plus: Beginning Cash Balance -0- 106,050 170,050
Ending Cash Balance $106,050 $170,050 $232,850

6-47
PROBLEM 6-31
a.
Horizontal Statements Model
Date Assets = Liab. + Equity Net Income Cash Flows
1/1/18 +− NA NA NA − IA
12/31/18 − NA − − NA
9/30/19 − NA − − − OA
12/31/19 − NA − − NA
1/1/20 +− NA NA NA − IA
12/31/20 − NA − − NA
6/1/21 − NA − − − OA
12/31/21 − NA − − NA
1/1/22 +− NA NA NA − IA
12/31/22 − NA − − NA
10/1/23* − NA − − NA
10/1/23** + NA + + + IA

*To record depreciation for 2023.

**To record sale of asset. The plus in the assets column represents the
net increase in assets resulting from the sale of the equipment. Cash
increases by a greater amount than the decrease in the book value of
the equipment.
b.
Year Computation Depr. Exp.
2018 ($90,000 − $5,000) ÷ 5 $17,000
2019 Same as 2018 17,000
2020 ($90,000 + $2,500 − $34,000 − $5,000) ÷ 3 17,833*
2021 Same as 2018 17,833*
2022 ($92,500 − $5,000 − $60,666**acc. depr) ÷ 3 8,945*
2023 $8,945 x 9/12 6,709

*rounded
**$69,666 - $9,000 overhaul = $60,666

6-48
PROBLEM 6-31 (cont.)

c.
Computation of Book Value
Year Cost − Acc. Depr. = Book Value
2018 $90,000 − $17,000 = $73,000
2019 90,000 − 34,000 = 56,000
2020 92,500 − 51,833 = 40,667
2021 92,500 − 69,666 = 22,834
2022 92,500 − 69,611 = 22,889

d. Computation of Depreciation Expense for 2023:

$8,945 x 9/12 = $6,709

Book Value at Date of Sale:

12/31/22 $22,889 (see above)
2023 Depreciation (6,709)
Book Value $16,180

Selling Price $19,000

Less: Book Value (16,180)
Gain on Sale $ 2,820

6-49
 PROBLEM 6-32

Tower Company
Statements Model for 2020

Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flow

Date Cash + Mach. − Acc Dep. = C. Stock + Ret. Ear.
Bal. 20,000 + 31,000 − 18,000 = 9,000 + 24,000 NA − NA = NA NA
1/4 (6,000) + NA − (6,000) = NA + NA NA − NA = NA (6,000) IA
7/6 (250) + NA − NA = NA + (250) NA − 250 = (250) (250) OA
8/7 (350) + NA − NA = NA + (350) NA − 350 = (350) (350) OA
12/31 (7,500) NA NA = NA + (7,500) NA − 7,500 = (7,500) (7,500) OA
12/31 NA + NA − 8,000 = NA + (8,000) NA − 8,000 = (8,000) NA
Bal. 5,900 + 31,000 − 20,000 = 9,000 + 7,900 -0- − 16,100 = (16,100) (14,100) NC

*Computation of Depreciation Expense:

Cost $31,000
2018 Depr. $9,000 ($31,000 - $4,000 ÷ 3)
2019 Depr. 9,000
2020 Overhaul (6,000) (12,000)
Book Value $19,000 − $3,000 salvage = $16,000 new depreciable cost

New Depreciable Cost: 16,000 ÷ 2 = $8,000

6-50
PROBLEM 6-33a.
Computations:

Silver Mine - Depletion

Cost $1,500,000
Estimated Tons 100,000 = $15.00 per ton

2018
Tons extracted 14,000
Depletion per ton $15
2018 Depletion Expense $210,000

2019
Tons extracted 20,000
Depletion per ton $15
2019 Depletion Expense $300,000

Timber - Depletion
Cost $1,700,000 - 100,000
= $1.60 per board foot
Estimated Board Feet 1,000,000

2018
Board feet extracted 500,000
Cost per board foot $1.60
2018 Depletion Expense $800,000

2019
Board feet extracted 300,000
Cost per board foot $1.60
2019 Depletion Expense $480,000

6-51
PROBLEM 6-33 (cont.)

Gold Mine - Depletion

Cost $2,700,000
= $54 per ton
Estimated Tons 50,000

2019
Tons extracted 4,000
Cost per ton $54
2019 Depletion Expense $216,000

Oil Reserves - Depletion

Cost $1,300,000
= $5 per barrel
Estimated Barrels 270,000 - 10,000

2019
Barrels extracted 50,000
Cost per barrel $5
2019 Depletion Expense $250,000

a. Depletion Expense - 2018

Silver Mine $210,000
Timber $800,000

b. Depletion Expense - 2019

Silver Mine $300,000
Timber $480,000
Gold Mine $216,000
Oil Reserves $250,000

6-52
PROBLEM 6-33 (cont.)

c. Excerpt from the 2019 balance sheet:

Natural Resources
Silver Mine (less depletion) $ 990,0001
Timber (less depletion) 320,0002
Gold Mine (less depletion) 2,484,0003
Oil Reserves (less depletion) 1,050,0004
Total Natural Resources 4,844,000
Land 100,000
Total $4,944,000

1
$1,500,000 − $210,000 − $300,000 = $990,000
2
$1,600,000 − $800,000 − $480,000 = $320,000
3
$2,700,000 − $216,000 = $2,484,000
4
$1,300,000 − $250,000 = $1,050,000

6-53
PROBLEM 6-34

Acquisition Price $1,400,000

Less: FV of Assets Acquired:
Equipment $510,000
Land 150,000
Building 520,000
Franchise 40,000 (1,220,000)
Goodwill Acquired $ 180,000

6-54
PROBLEM 6-35

The permanent impairment of $70,000 will be written off in the year

the impairment is determined. Total assets will be decreased and,
net income will decrease, but the Statement of Cash Flows will not
be affected.

6-55
PROBLEM 6-36

a. Depreciation expense as a percentage of sales:

Chesapeake Energy: $2,229 ÷ $12,764 = 17.5%
Goodyear Tire: $ 697 ÷ $16,443 = 4.2%
b. Property, plant, and equipment (depreciable assets) as a percentage of
total assets:
Chesapeake Energy: $14,298 ÷ $17,357 = 82.4%
Goodyear Tire: $ 6,777 ÷ $16,439 = 41.2%
c. Net income was not provided in this problem (intentionally), so the
return on assets ratio cannot be used to assess which company is
using its assets most efficiently. However, based on the two ratios
above one can conclude that Goodyear appears to be using its
depreciable assets more efficiently than Chesapeake Energy since only
4.2% of its revenues go to cover depreciation costs, while 17.4% of
Chesapeake Energy’s revenues go to cover depreciation. Additionally,
total assets can be compared to sales to evaluate which company is
generating the most revenue from all assets, not just depreciable
assets. The instructor may want to tell students that this ratio is called
the asset turnover ratio.
Sales ÷ Total assets

Chesapeake Energy: $12,764 ÷ $17,357 = .73

Goodyear Tire: $16,443 ÷ $16,439 = 1.00
These ratios show that Chesapeake Energy is generating $0.73 of sales
with each dollar of assets, while Goodyear is generating $1.00.
d. These companies are not in the same industry, so there are limitations
when trying to compare performance. The ratios in requirement (b.)
show that more of the energy company’s assets are devoted to
property, plant, and equipment than are those of the tire company.
Furthermore, the estimated useful lives they use for depreciable assets
differ, and while Goodyear uses the straight-line method for all its
depreciable assets, Chesapeake Energy uses it only for some. Finally,
it should be noted that 2015 was a very difficult year for gas and oil
companies

6-56
ATC 6-1

All dollar amounts are in millions.

a. Straight-line. See Note 14 of the annual report.

b. The intangible assets mentioned in Note 16 of the annual report

include “goodwill,” “leasehold acquisitions,” and “other definite-
lived intangibles.”

c. Buildings and improvements 8 to 39 years (Note 14)

Fixtures and equipment 2 to 15 years (Note 14)
Computer hardware and software 2 to 7 years (Note 14)
Intangible assets 3 to 39 years (Note 16)

d. Land $ 6,125
Buildings and improvements 27,059
Fixtures and equipment 5,347

e. According to the income statement, depreciation and amortization

expense were $2,213. Note 14 reports that $2,191 of this was
depreciation and amortization of capital leases. Note 16 reports
amortization expense was $23 million, but they also wrote-off $23
million of intangible assets and $12 million of goodwill in 2015. The
write-offs were included in the calculation of “impairment losses.”

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ATC 6-2

Computation of depreciation expense:

Straight-line:
(Cost − Salvage Value) ÷ Useful life = Depreciation per year

($46,000 − $6,000) ÷ 4 = $10,000 per year

Double-declining-balance:
(Cost − Accumulated depreciation) x (2 x SL rate)

($46,000 − $0) x (2 x .25) = $23,000 depreciation for year 1

6-58
ATC 6-2 (cont.)
Note: It is useful to prepare a horizontal statements model before preparing the financial statements.

Horizontal Statement Model

Using Straight-line Depreciation

Balance Sheet Income Statement Statement of

Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flows
Event Cash + Equip. − A. Dep. = C. Stock + Ret. Ear. − =
1. 60,000 + NA − NA = 60,000 + NA NA − NA = NA 60,000 FA
2. (46,000) + 46,000 − NA = NA + NA NA − NA = NA (46,000) IA
3. 42,000 + NA − NA = NA + 42,000 42,000 − NA = 42,000 42,000 OA
4. (8,200) + NA − NA = NA + (8,200) NA − 8,200 = (8,200) (8,200) OA
5. (12,000) + NA − NA = NA + (12,000) NA − 12,000 = (12,000) (12,000) OA
6. NA + NA − 10,000 = NA + (10,000) NA − 10,000 = (10,000) NA
Bal. 35,800 + 46,000 − 10,000 = 60,000 + 11,800 42,000 − 30,200 = 11,800 35,800 NC

6-59
ATC 6-2 (cont.)

Horizontal Statement Model

Using Double-Declining-Balance Depreciation

Balance Sheet Income Statement Statement of

Assets = Stockholders’ Equity Rev. − Exp. = Net Inc. Cash Flows
Event Cash + Equip. − A. Dep. = C. Stock + Ret. Ear. − =
1. 60,000 + NA − NA = 60,000 + NA NA − NA = NA 60,000 FA
2. (46,000) + 46,000 − NA = NA + NA NA − NA = NA (46,000) IA
3. 42,000 + NA − NA = NA + 42,000 42,000 − NA = 42,000 42,000 OA
4. (8,200) + NA − NA = NA + (8,200) NA − 8,200 = (8,200) (8,200) OA
5. (12,000) + NA − NA = NA + (12,000) NA − 12,000 = (12,000) (12,000) OA
6. NA + NA − 23,000 = NA + (23,000) NA − 23,000 = (23,000) NA
Bal. 35,800 + 46,000 − 23,000 = 60,000 + (1,200) 42,000 − 43,200 = (1,200) 35,800 NC

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ATC 6-2 (cont.)
a.
Sweet’s Bakery
Financial Statements
Income Statements
SL DDB
Sales Revenue $42,000 $42,000
Expenses
Supplies Expense (8,200) (8,200)
Operating Expenses (12,000) (12,000)
Depreciation Expense (10,000) (23,000)
Total Expenses (30,200) (43,200)
Net Income $11,800 $ (1,200)
Balance Sheets
Assets
Cash $35,800 $35,800
Equipment 46,000 46,000
Less: Accumulated Depr. (10,000) (23,000)
Total Assets $71,800 $58,800
Liabilities $ -0- $ -0-
Stockholders’ Equity
Common Stock 60,000 60,000
Ending Retained Earnings 11,800 (1,200)
Total Stockholders’ Equity 71,800 58,800
Total Liab. and Stkholders’ Equity $71,800 $58,800

b. Net income is different for the year because of the difference in

depreciation expense for the two methods. However, over the life of
the asset, the total amount of depreciation taken will be the same for
each of the methods.

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ATC 6-3

The data for Microsoft is from its June 30, 2015 Form 10-K and the data for
Intel are from its December 26, 2015 Form 10-K. Dollars amounts are in
millions.

a.
Property,
Current Plant, and Total
Assets Equipment Assets
Microsoft:
Dollar Amount: $124,712 $14,731 $176,223
% of Total Assets: 70.8% 8.4% 100%

Intel:
Dollar Amount: $40,356 $31,858 $103,065
% of Total Assets: 39.2% 30.4% 100%

b. Intel manufactures computer hardware (chips). This requires the use

of lots of expensive equipment. Microsoft produces software.
Writing software uses more people than equipment. Thus, Intel has
more of its assets invested in plant and equipment than does
Microsoft.

6-62
ATC 6-4

This problem is used to test thinking and writing skills. Students should
realize that the equipment of the two companies had originally cost different
amounts. Also, the numbers indicate that the equipment of Company A is
older than that of Company B or Company B is using a shorter useful life
assuming both companies use the same depreciation methods. Students
should also discuss the impact of different depreciation methods on book
value.

6-63
ATC 6-5
a. As stated in the problem, operating expenses reduce the amount of
net income the company presents on the income statement. Mr.
Blowhard’s scheme takes the line costs, which should be operating
expenses, and classifies them as capital assets. This significantly
increases the amount of net income that the company will show.
Also, because of the capitalization of the line costs, the company’s
balance sheet will show significantly more assets than the actual
amounts.

b. Mr. Blowhard’s accountant violated Article I, Responsibilities. He did

not exercise sensitive professional and moral judgment by
implementing the scheme. He certainly violated Article II, The Public
Interest, because the purpose of his scheme was to inflate earnings
and thus mislead shareholders, creditors, and the general public. He
also violated Article III, Integrity, and Article V, Due Care, because he
did not act with integrity or observe the profession’s technical or
ethical standards.

c. The three elements of the fraud triangle are opportunity, pressure,

and rationalization. Mr. Blowhard’s problem was that he wanted to
sell the company and retire wealthy, and he needed his company’s
net income to keep increasing rapidly. His opportunity was to
capitalize the line costs that should have been expensed. He also
had a capacity to rationalize, probably believing that because he had
provided the leadership that saw his company go from a small
communications company to a larger, expanding entity, he deserved
to retire a wealthy man.

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