CHAPTER

9: Long-
Lived
Tangible and
Intangible
Assets

Prepared by Debra Lee-Hue, CPA, CMA

© 2021 MCGRAW HILL
 YOUR
LEARNIN
G
LO9-1 Define, classify, and explain the nature of long-lived assets.

OBJECTI
LO9-2 Apply the cost principle to the acquisition of long-lived assets.

VES LO9-3 Apply various depreciation methods as economic benefits

used up over time.
are

LO9-4 Explain the effect of asset impairment on the financial

statements.

LO9-5 Analyze the disposal of long-lived tangible assets.

LO9-6 Analyze the acquisition, use, and disposal of long-lived

intangible assets.

LO9-7 Interpret the fixed asset turnover ratio.

LO9-8 Describe factors to consider when comparing companies’ long-

lived assets. .

LO9-S1 Analyze and report depletion of natural resources.

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UNDERSTAN
D THE Long-lived assets are business assets acquired for use over
BUSINESS one or more years that are not intended for resale.
These assets are considered productive assets in the sense
that they enable the business to produce the goods or
services that the business then sells to customers.
There are two major types:
1.Tangible assets. These are long-lived assets (grouped on
the balance sheet as Property, Plant, and Equipment) that
have physical substance including land, buildings,
machinery, vehicles, office equipment, and furniture and
fixtures.
2.Intangible assets. These long-lived assets have special
rights but no physical substance and include brand
names, trademarks, and licensing rights.
A third category of long-lived assets that are depleted over
time, like oil wells or gold mines, is common in natural
resource industries.

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STUDY THE The general rule for tangible assets under the cost principle
is that all reasonable and necessary costs to acquire and
ACCOUTNIN prepare an asset for use should be recorded as a cost of
the asset. Accountants say costs have been capitalized when
G METHODS they are recorded as assets (rather than as expenses).
Types of costs that should be capitalized when a tangible asset is
acquired are not limited to the amounts paid to purchase or
construct the assets.

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 Assume that Cedar Fair purchased a roller coaster
Acquisition (including sales tax) for $26 million but that Cedar Fair
received a $1 million discount, a net purchase price of $25
of Tangible million.

Assets Assume, too, that Cedar Fair paid $125,000 to have the
roller coaster delivered and another $625,000 to have it
assembled and prepared for use.
Since these expenditures are necessary to acquire and
prepare the asset for use, Cedar Fair would capitalize the
expenditures as part of the cost of the asset as follows:

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 Use of Most tangible assets require substantial expenditures over
the course of their lives to maintain or enhance their
Tangible operation.

Assets There are two types of maintenance:

1. Ordinary repairs and maintenance are expenditures for
the routine maintenance and upkeep of long-lived assets.
Because these costs occur frequently to maintain the
asset’s productive capacity for a short time, they are
recorded as expenses in the current period and are
sometimes called revenue expenditures.
2. Extraordinary repairs, overhauls, replacements, and
additions involve large expenditures, and increase an
asset’s economic usefulness by enhancing its efficiency,
capacity, or life span. Because these costs increase the
usefulness of tangible assets beyond their original
condition, they are added to the appropriate long-lived
asset accounts and are called capital expenditures.

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Depreciation Depreciation is the allocation of existing costs that were already
recorded as a long-lived tangible asset. As that asset is used, the

Expense
asset needs to be decreased each period creating an expense, which
is reported on the income statement and matched against the
revenue generated by the asset.
Amortization is the same process of allocating the cost of an asset
over its limited useful life but is the term used for intangible assets.
The effects of $130 of depreciation on the accounting equation and
the journal entry to record these effects are as follows:

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Depreciation Depreciation calculations are based on the following
three items:
Calculations 1.Asset cost. This includes all of the asset’s
capitalized costs, including the purchase cost, sales
tax, legal fees, and other costs needed to acquire
and prepare the asset for use.
2.Residual value. Residual value (or salvage value)
is an estimate of the amount the company will
receive when it disposes of the asset. to other
roller coaster or scrap metal companies.
3.Useful life. Useful life is an estimate of the asset’s
useful economic life to the company (not its
economic life to all potential users) and can be
expressed in terms of years or units of capacity.

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Depreciation The depreciation method chosen for each type of
Methods property, plant, and equipment should reflect the
pattern in which those assets’ economic benefits are
used up. We discuss the three most common
depreciation methods:
1.Straight-line—when usage is the same each
period
2.Units-of-production—when usage varies each
period
3.Declining-balance—when the asset is more
efficient (generates more revenues) in early years
but less so over time

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Straight- Managers choose the straight-line depreciation
method when an asset is expected to be used up in equal
Line amounts each period of the asset’s estimated useful life.

Method As the name straight-line suggests,

1. Depreciation Expense is a constant amount each year
2. Accumulated Depreciation increases by an equal amount
each year
3. Book Value decreases by the same equal amount each year

Here is the straight-line formula for estimating annual

depreciation expense:

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 Units-of- The units-of-production depreciation method is chosen if
the amount of asset production varies significantly from
Production period to period.

Method An asset’s production can be defined in terms of kilometres,

products, or machine hours.
This is the units-of-production formula for estimating
depreciation expense:

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Declining- The declining-balance depreciation method is more often
used to report depreciation expense in the early years of an
Balance asset’s life when the asset is more efficient, and less in later
years as the asset become less efficient and is sometimes
Method called an accelerated depreciation method.
Because residual value is not included in the formula for the
declining-balance method of computing depreciation expense,
you must ensure that an asset’s book value is not depreciated
beyond its residual value.

Notice the declining-balance formula below uses book

value (Cost − Accumulated Depreciation) rather than
depreciable cost (Cost − Residual Value).

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 Purchases of long-lived assets seldom occur on the
Partial Year first day of the accounting period. Consequently, the
Depreciation need arises to calculate depreciation for periods
shorter than a year.
Under the straight-line and declining-balance
methods, the annual depreciation is multiplied by the
fraction of the year for which depreciation is being
calculated.
These partial-year modifications are not required in
the units-of-production method because that method
is based on actual production for the period.

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 The amount of depreciation and amortization depends on three
Changes in items:
1. an asset’s recorded cost,
Depreciation 2. its estimated useful life, and
3. its estimated residual value.

When any one of these items changes, the amount of depreciation

needs to change.
To compute new depreciation expense due to the changes,
substitute:
• the book value for the original acquisition cost,
• the new residual value for the original residual value, and
• the estimated remaining life for the original useful life.

Note the formula using the straight-line method follows:

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 Asset Impairment occurs when events or changed circumstances interfere
with a company’s ability to recover the value of the asset through

Impairment
future operations.
An asset impairment is accounted for in two steps: (1) eliminate the
Losses asset’s Accumulated Depreciation against the asset account and (2)
write down the asset to its fair value (what it is worth).
For example, the Shoot-the-Rapids ride originally cost $10.6
million when it opened in 2010. When the ride was closed in 2015,
its Accumulated Depreciation was $2.0 million, so the first step was
to net the $2.0 million against the Equipment account, as follows:

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 Asset The second step was to write down this balance to the
Impairment asset’s fair value, which in this case is presumed to be
Losses: Write- $0.
Down The accounting equation effects and journal entry for
this second step follow:

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Disposal of The disposal of a depreciable asset usually requires two
accounting adjustments:
Tangible
Assets 1.Update the Depreciation Expense and Accumulated
Depreciation accounts. If a long-lived asset is disposed
of during the year, it should be depreciated to the date of
disposal using the partial-year calculations explained
earlier.
2.Record the disposal. All disposals of long-lived assets
require that you account for:
• the book value of the items given up,
• the value of the items received on disposal, and
• any difference between the two amounts, which
reflects a gain or loss on the disposal to be reported on
the income statement. 

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Example: Assume that, at the end of year 6, Cedar Fair sold one of its junior
roller coasters for $50,000 cash. The original $100,000 cost of this
Disposal of equipment was depreciated using the straight-line method over ten
years with no residual value ($10,000 depreciation expense per
an Asset year), resulting in $60,000 of accumulated depreciation at the time
of disposal. 
A gain (or loss) on disposal represents the difference between the
proceeds from selling the asset and the asset’s book value (BV),
computed as follows:

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 Intangible assets are long-lived assets that lack physical substance. Their
Intangible existence is indicated by legal documents of the types described below.

Assets Trademark. A trademark is a special name, image, or slogan identified

with a product or company, like the name Kleenex or the image of the
McDonald’s golden arches.

Copyright. A copyright gives the owner the exclusive right to publish,

use, and sell a literary, musical, artistic, or dramatic work for a period
not exceeding fifty years after the author’s death.

Patent. A patent is an exclusive right granted by the federal government

for a period of twenty years, typically to whoever invents a new product
or discovers a new process.  

Technology. Technology assets include software and web development

work.

Licensing rights. Licensing rights are limited permissions to use

something according to specific terms and conditions.

Franchise. A franchise is a contractual right to sell certain products or

services, use certain trademarks, or perform activities in a geographical
region.

Goodwill encompasses things like a favourable location, an established

customer base, a great reputation, and successful business operations
and can only be reported on the balance sheet when it has been
purchased from another company.

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 Acquisition The costs of intangible assets are recorded as assets
(capitalized) if they have been purchased. 
of Intangible If an intangible asset is being self-constructed or
Assets internally developed, its costs generally are reported
as research and development expenses.
The cost of self-developed intangibles is reported as
an expense rather than an asset because it’s easy for
people to claim they’ve developed a valuable (but
invisible) intangible asset, however evidence is
required to validate worth.
Costs incurred to develop internal-use computer
software during application development are
capitalized.
When one company buys another business, the
purchase price often is greater than the appraised
value of all of the net assets of the business which
reflects Goodwill.

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 Use and Intangible assets can have either a(n):
Disposal of
Intangible • Unlimited life. Intangibles with unlimited or indefinite lives
Assets (trademarks and goodwill) are not amortized.

• Limited life. The cost of intangible assets with a limited life

(copyrights, patents, licensing rights, franchises, and technology
assets) initially is capitalized and, later, is expensed on a
straight-line basis over each period of useful life in a process
called amortization, similar to depreciation.
Most companies do not estimate a residual value for their
intangible assets because, unlike tangible assets that can be sold
as scrap, intangibles usually have no value at the end of their
useful lives.
Amortization is reported as an expense each period on the
income statement and accumulated on the balance sheet in the
contra-asset account Accumulated Amortization.

Just like long-lived tangible assets, disposal of intangible

assets results in gains (or losses) if the amounts received on
disposal are greater than (less than) their book values

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Example of Use Assume Cedar Fair purchased a patent for a water coaster
for $800,000 and intends to use it for twenty years. Each
of Intangible year, the company would record $40,000 in Amortization
Expense ($800,000 ÷ 20 years).
Assets
The effect of this amortization and the journal entry to
record it are as follows:

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EVALUATE The fixed asset turnover ratio provides a good measure of this
THE aspect of managerial performance and is calculated as shown in
the table below.

RESULTS The denominator uses the value of average net fixed assets
(property and equipment) over the same period as the revenues
in the numerator. You can calculate the average net fixed assets
A primary goal of by summing the beginning and ending balances in fixed assets
financial analysts is to (net of accumulated depreciation) and dividing by 2.
evaluate how well
management uses long- Accounting Decision Tools
lived tangible assets to Name of
generate revenues. Formula What It Tells You
Measure

•Indicates dollars of sales

generated for each dollar
Fixed asset invested in fixed
turnover assets (long-lived tangible
ratio assets)
•A higher ratio implies
greater efficiency

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 Impact of
Depreciation Depreciation varies from one company to the next as
a result of differences in depreciation methods,
Differences estimated useful lives, and estimated residual values.
Even if the two companies attract exactly the same
number of customers and earn exactly the same total
revenues, their reported net incomes will differ each
year simply because they use two different (but
equally acceptable) methods of depreciation.

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Supplement When a company first acquires or develops a natural resource, the cost of the
natural resource is recorded in conformity with the cost principle.

9A: Natural As the natural resource is used up, its acquisition cost must be split among
the periods in which revenues are earned in conformity with the expense

Resources recognition (matching) principle.

The term depletion describes the process of allocating a natural resource’s

cost over the period of its extraction or harvesting. The units-of-production
method is often used to compute depletion.

For example, if a timber tract costing $530,000 is depleted over its estimated
cutting period based on a cutting rate of approximately 20 percent per year, it
would be depleted by $106,000 each year.

Recording this depletion would have the following effects on the company’s
accounting equation, which would be recorded with the journal entry shown
below:

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 •Long-lived assets are those that a business retains for long periods
End of of time for use in the course of normal operations rather than for
sale and can be divided into tangible and intangible assets.
Chapter •Expenditures are expensed if they recur frequently and involve
relatively small amounts, while expenditures that provide benefits
Summary for one or more accounting periods beyond the current period are
capitalized as a cost of the asset.
•In conformity with the expense recognition (matching) principle,
the cost of long-lived tangible assets (less any estimated residual
value) is allocated to depreciation expense over each period
benefited by the assets.
•Common depreciation methods include straight-line, units-of-
production, and double-declining-balance.
•When events or changes in circumstances reduce the estimated
future cash flows of a long-lived asset below its book value, the
book value of the asset should be written down, and reported as
an impairment loss.
•Intangible assets are recorded at cost, but only when purchased.
•The fixed asset turnover ratio measures the company’s efficiency
at using its investment in property, plant, and equipment to
generate sales. Higher turnover ratios imply greater efficiency.

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