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11.16. PROBLEMS

P11-1 (Depreciation for Partial Period—SL, SYD, and DDB) Alladin Company purchased Machine #201 on May 1, 2010. The following information relating to Machine #201 was gathered at the end of May.

Price$85,000
Credit terms2/10, n/30
Freight-in costs$ 800
Preparation and installation costs$ 3,800
Labor costs during regular production operations$10,500


It was expected that the machine could be used for 10 years, after which the salvage value would be zero. Alladin intends to use the machine for only 8 years, however, after which it expects to be able to sell it for $1,500. The invoice for Machine #201 was paid May 5, 2010. Alladin uses the calendar year as the basis for the preparation of financial statements.

Instructions

  1. Compute the depreciation expense for the years indicated using the following methods. (Round to the nearest dollar.)

    1. Straight-line method for 2010.

    2. Sum-of-the-years'-digits method for 2011.

    3. Double-declining-balance method for 2010.

  2. Suppose Kate Crow, the president of Alladin, tells you that because the company is a new organization, she expects it will be several years before production and sales reach optimum levels. She asks you to recommend a depreciation method that will allocate less of the company's depreciation expense to the early years and more to later years of the assets' lives. What method would you recommend?

P11-2 (Depreciation for Partial Periods—SL, Act., SYD, and DDB) The cost of equipment purchased by Charleston, Inc., on June 1, 2010 is $89,000. It is estimated that the machine will have a $5,000 salvage value at the end of its service life. Its service life is estimated at 7 years; its total working hours are estimated at 42,000 and its total production is estimated at 525,000 units. During 2010 the machine was operated 6,000 hours and produced 55,000 units. During 2011 the machine was operated 5,500 hours and produced 48,000 units.

Instructions

Compute depreciation expense on the machine for the year ending December 31, 2010, and the year ending December 31, 2011, using the following methods.

  1. Straight-line.

  2. Units-of-output.

  3. Working hours.

  4. Sum-of-the-years'-digits.

  5. Declining-balance (twice the straight-line rate).

P11-3 (Depreciation—SYD, Act., SL, and DDB) The following data relate to the Plant Assets account of Eshkol, Inc. at December 31, 2010.



The following transactions occurred during 2011.

  1. On May 5, Asset A was sold for $13,000 cash. The company's bookkeeper recorded this retirement in the following manner in the cash receipts journal.



  2. On December 31, it was determined that Asset B had been used 2,100 hours during 2011.

  3. On December 31, before computing depreciation expense on Asset C, the management of Eshkol, Inc. decided the useful life remaining from January 1, 2011, was 10 years.

  4. On December 31, it was discovered that a plant asset purchased in 2010 had been expensed completely in that year. This asset cost $28,000 and has a useful life of 10 years and no salvage value. Management has decided to use the double-declining-balance method for this asset, which can be referred to as "Asset E."

Instructions

Prepare the necessary correcting entries for the year 2011. Record the appropriate depreciation expense on the above-mentioned assets.

P11-4 (Depreciation and Error Analysis) A depreciation schedule for semi-trucks of Ichiro Manufacturing Company was requested by your auditor soon after December 31, 2011, showing the additions, retirements, depreciation, and other data affecting the income of the company in the 4-year period 2008 to 2011, inclusive. The following data were ascertained.



The Semi-trucks—Accumulated Depreciation account previously adjusted to January 1, 2008, and entered in the ledger, had a balance on that date of $30,200 (depreciation on the four trucks from the respective dates of purchase, based on a 5-year life, no salvage value). No charges had been made against the account before January 1, 2008.

Transactions between January 1, 2008, and December 31, 2011, which were recorded in the ledger, are as follows.



Entries for depreciation had been made at the close of each year as follows: 2008, $21,000; 2009, $22,500; 2010, $25,050; 2011, $30,400.

Instructions

  1. For each of the 4 years compute separately the increase or decrease in net income arising from the company's errors in determining or entering depreciation or in recording transactions affecting trucks, ignoring income tax considerations.

  2. Prepare one compound journal entry as of December 31, 2011, for adjustment of the Semi-trucks account to reflect the correct balances as revealed by your schedule, assuming that the books have not been closed for 2011.

P11-5 (Depletion and Depreciation—Mining) Khamsah Mining Company has purchased a tract of mineral land for $900,000. It is estimated that this tract will yield 120,000 tons of ore with sufficient mineral content to make mining and processing profitable. It is further estimated that 6,000 tons of ore will be mined the first and last year and 12,000 tons every year in between. (Assume 11 years of mining operations.) The land will have a residual value of $30,000.

The company builds necessary structures and sheds on the site at a cost of $36,000. It is estimated that these structures can serve 15 years but, because they must be dismantled if they are to be moved, they have no salvage value. The company does not intend to use the buildings elsewhere. Mining machinery installed at the mine was purchased secondhand at a cost of $60,000. This machinery cost the former owner $150,000 and was 50% depreciated when purchased. Khamsah Mining estimates that about half of this machinery will still be useful when the present mineral resources have been exhausted but that dismantling and removal costs will just about offset its value at that time. The company does not intend to use the machinery elsewhere. The remaining machinery will last until about one-half the present estimated mineral ore has been removed and will then be worthless. Cost is to be allocated equally between these two classes of machinery.

Instructions

  1. As chief accountant for the company, you are to prepare a schedule showing estimated depletion and depreciation costs for each year of the expected life of the mine.

  2. Also compute the depreciation and depletion for the first year assuming actual production of 5,000 tons. Nothing occurred during the year to cause the company engineers to change their estimates of either the mineral resources or the life of the structures and equipment.

P11-6 (Depletion, Timber, and Extraordinary Loss) Conan O'Brien Logging and Lumber Company owns 3,000 acres of timberland on the north side of Mount Leno, which was purchased in 1998 at a cost of $550 per acre. In 2010, O'Brien began selectively logging this timber tract. In May of 2010, Mount Leno erupted, burying the timberland of O'Brien under a foot of ash. All of the timber on the O'Brien tract was downed. In addition, the logging roads, built at a cost of $150,000, were destroyed, as well as the logging equipment, with a net book value of $300,000.

At the time of the eruption, O'Brien had logged 20% of the estimated 500,000 board feet of timber. Prior to the eruption, O'Brien estimated the land to have a value of $200 per acre after the timber was harvested. O'Brien includes the logging roads in the depletion base.

O'Brien estimates it will take 3 years to salvage the downed timber at a cost of $700,000. The timber can be sold for pulp wood at an estimated price of $3 per board foot. The value of the land is unknown, but must be considered nominal due to future uncertainties.

Instructions

  1. Determine the depletion cost per board foot for the timber harvested prior to the eruption of Mount Leno.

  2. Prepare the journal entry to record the depletion prior to the eruption.

  3. If this tract represents approximately half of the timber holdings of O'Brien, determine the amount of the extraordinary loss due to the eruption of Mount Leno for the year ended December 31, 2010.

P11-7 (Natural Resources—Timber) Bronson Paper Products purchased 10,000 acres of forested timberland in March 2010. The company paid $1,700 per acre for this land, which was above the $800 per acre most farmers were paying for cleared land. During April, May, June, and July 2010, Bronson cut enough timber to build roads using moveable equipment purchased on April 1, 2010. The cost of the roads was $250,000, and the cost of the equipment was $225,000; this equipment was expected to have a $9,000 salvage value and would be used for the next 15 years. Bronson selected the straight-line method of depreciation for the moveable equipment. Bronson began actively harvesting timber in August and by December had harvested and sold 540,000 board feet of timber of the estimated 6,750,000 board feet available for cutting.

In March 2011, Bronson planted new seedlings in the area harvested during the winter. Cost of planting these seedlings was $120,000. In addition, Bronson spent $8,000 in road maintenance and $6,000 for pest spraying during calendar-year 2011. The road maintenance and spraying are annual costs. During 2011 Bronson harvested and sold 774,000 board feet of timber of the estimated 6,450,000 board feet available for cutting.

In March 2012, Bronson again planted new seedlings at a cost of $150,000, and also spent $15,000 on road maintenance and pest spraying. During 2012, the company harvested and sold 650,000 board feet of timber of the estimated 6,500,000 board feet available for cutting.

Instructions

Compute the amount of depreciation and depletion expense for each of the 3 years (2010, 2011, 2012). Assume that the roads are usable only for logging and therefore are included in the depletion base.

P11-8 (Comprehensive Fixed-Asset Problem) Darby Sporting Goods Inc. has been experiencing growth in the demand for its products over the last several years. The last two Olympic Games greatly increased the popularity of basketball around the world. As a result, a European sports retailing consortium entered into an agreement with Darby's Roundball Division to purchase basketballs and other accessories on an increasing basis over the next 5 years.

To be able to meet the quantity commitments of this agreement, Darby had to obtain additional manufacturing capacity. A real estate firm located an available factory in close proximity to Darby's Round-ball manufacturing facility, and Darby agreed to purchase the factory and used machinery from Encino Athletic Equipment Company on October 1, 2009. Renovations were necessary to convert the factory for Darby's manufacturing use.

The terms of the agreement required Darby to pay Encino $50,000 when renovations started on January 1, 2010, with the balance to be paid as renovations were completed. The overall purchase price for the factory and machinery was $400,000. The building renovations were contracted to Malone Construction at $100,000. The payments made, as renovations progressed during 2010, are shown below. The factory was placed in service on January 1, 2011.



On January 1, 2010, Darby secured a $500,000 line-of-credit with a 12% interest rate to finance the purchase cost of the factory and machinery, and the renovation costs. Darby drew down on the line-of-credit to meet the payment schedule shown above; this was Darby's only outstanding loan during 2010.

Bob Sprague, Darby's controller, will capitalize the maximum allowable interest costs for this project. Darby's policy regarding purchases of this nature is to use the appraisal value of the land for book purposes and prorate the balance of the purchase price over the remaining items. The building had originally cost Encino $300,000 and had a net book value of $50,000, while the machinery originally cost $125,000 and had a net book value of $40,000 on the date of sale. The land was recorded on Encino's books at $40,000. An appraisal, conducted by independent appraisers at the time of acquisition, valued the land at $290,000, the building at $105,000, and the machinery at $45,000.

Angie Justice, chief engineer, estimated that the renovated plant would be used for 15 years, with an estimated salvage value of $30,000. Justice estimated that the productive machinery would have a remaining useful life of 5 years and a salvage value of $3,000. Darby's depreciation policy specifies the 200% declining-balance method for machinery and the 150% declining-balance method for the plant. One-half year's depreciation is taken in the year the plant is placed in service and one-half year is allowed when the property is disposed of or retired. Darby uses a 360-day year for calculating interest costs.

Instructions

  1. Determine the amounts to be recorded on the books of Darby Sporting Goods Inc. as of December 31, 2010, for each of the following properties acquired from Encino Athletic Equipment Company. (1) Land. (2) Building. (3) Machinery.

  2. Calculate Darby Sporting Goods Inc.'s 2011 depreciation expense, for book purposes, for each of the properties acquired from Encino Athletic Equipment Company.

  3. Discuss the arguments for and against the capitalization of interest costs.

(CMA adapted)

P11-9 (Impairment) Roland Company uses special strapping equipment in its packaging business. The equipment was purchased in January 2009 for $10,000,000 and had an estimated useful life of 8 years with no salvage value. At December 31, 2010, new technology was introduced that would accelerate the obsolescence of Roland's equipment. Roland's controller estimates that expected future net cash flows on the equipment will be $6,300,000 and that the fair value of the equipment is $5,600,000. Roland intends to continue using the equipment, but it is estimated that the remaining useful life is 4 years. Roland uses straight-line depreciation.

Instructions

  1. Prepare the journal entry (if any) to record the impairment at December 31, 2010.

  2. Prepare any journal entries for the equipment at December 31, 2011. The fair value of the equipment at December 31, 2011, is estimated to be $5,900,000.

  3. Repeat the requirements for (a) and (b), assuming that Roland intends to dispose of the equipment and that it has not been disposed of as of December 31, 2011.

P11-10 (Comprehensive Depreciation Computations) Kohlbeck Corporation, a manufacturer of steel products, began operations on October 1, 2009. The accounting department of Kohlbeck has started the fixed-asset and depreciation schedule presented on page 581. You have been asked to assist in completing this schedule. In addition to ascertaining that the data already on the schedule are correct, you have obtained the following information from the company's records and personnel.

  1. Depreciation is computed from the first of the month of acquisition to the first of the month of disposition.

  2. Land A and Building A were acquired from a predecessor corporation. Kohlbeck paid $800,000 for the land and building together. At the time of acquisition, the land had an appraised value of $90,000, and the building had an appraised value of $810,000.

  3. Land B was acquired on October 2, 2009, in exchange for 2,500 newly issued shares of Kohlbeck's common stock. At the date of acquisition, the stock had a par value of $5 per share and a fair value of $30 per share. During October 2009, Kohlbeck paid $16,000 to demolish an existing building on this land so it could construct a new building.

  4. Construction of Building B on the newly acquired land began on October 1, 2010. By September 30, 2011, Kohlbeck had paid $320,000 of the estimated total construction costs of $450,000. It is estimated that the building will be completed and occupied by July 2012.

  5. Certain equipment was donated to the corporation by a local university. An independent appraisal of the equipment when donated placed the fair market value at $40,000 and the salvage value at $3,000.

  6. Machinery A's total cost of $182,900 includes installation expense of $600 and normal repairs and maintenance of $14,900. Salvage value is estimated at $6,000. Machinery A was sold on February 1, 2011.

  7. On October 1, 2010, Machinery B was acquired with a down payment of $5,740 and the remaining payments to be made in 11 annual installments of $6,000 each beginning October 1, 2010. The prevailing interest rate was 8%. The following data were abstracted from present-value tables (rounded).

    Present value of $1.00 at 8%Present value of an ordinary annuity of $1.00 at 8%
    10 years.46310 years6.710
    11 years.42911 years7.139
    15 years.31515 years8.559




Instructions

For each numbered item on the schedule above, supply the correct amount. Round each answer to the nearest dollar.

P11-11 (Depreciation for Partial Periods—SL, Act., SYD, and DDB) On January 1, 2008, a machine was purchased for $90,000. The machine has an estimated salvage value of $6,000 and an estimated useful life of 5 years. The machine can operate for 100,000 hours before it needs to be replaced. The company closed its books on December 31 and operates the machine as follows: 2008, 20,000 hrs; 2009, 25,000 hrs; 2010, 15,000 hrs; 2011, 30,000 hrs; 2012, 10,000 hrs.

Instructions

  1. Compute the annual depreciation charges over the machine's life assuming a December 31 year-end for each of the following depreciation methods.

    1. Straight-line method.

    2. Activity method.

    3. Sum-of-the-years'-digits method.

    4. Double-declining-balance method.

  2. Assume a fiscal year-end of September 30. Compute the annual depreciation charges over the asset's life applying each of the following methods.

    1. Straight-line method.

    2. Sum-of-the-years'-digits method.

    3. Double-declining-balance method.

*P11-12 (Depreciation—SL, DDB, SYD, Act., and MACRS) On January 1, 2009, Locke Company, a small machine-tool manufacturer, acquired for $1,260,000 a piece of new industrial equipment. The new equipment had a useful life of 5 years, and the salvage value was estimated to be $60,000. Locke estimates that the new equipment can produce 12,000 machine tools in its first year. It estimates that production will decline by 1,000 units per year over the remaining useful life of the equipment.

The following depreciation methods may be used: (1) straight-line; (2) double-declining-balance; (3) sum-of-the-years'-digits; and (4) units-of-output. For tax purposes, the class life is 7 years. Use the MACRS tables for computing depreciation.

Instructions

  1. Which depreciation method would maximize net income for financial statement reporting for the 3-year period ending December 31, 2011? Prepare a schedule showing the amount of accumulated depreciation at December 31, 2011, under the method selected. Ignore present value, income tax, and deferred income tax considerations.

  2. Which depreciation method (MACRS or optional straight-line) would minimize net income for income tax reporting for the 3-year period ending December 31, 2011? Determine the amount of accumulated depreciation at December 31, 2011. Ignore present value considerations.

    (AICPA adapted)


  

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