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MSU / Accounting / ACC 201 / What are the two major types of receivables?

What are the two major types of receivables?

What are the two major types of receivables?

Description

School: Michigan State University
Department: Accounting
Course: Principles of Financial Accouting
Professor: Petroni
Term: Summer 2015
Tags: Accounting and financial accounting
Cost: 50
Name: Study Guide Exam #2
Description: All the notes and formulas taken into account for this test. No formula sheet
Uploaded: 03/29/2016
17 Pages 42 Views 10 Unlocks
Reviews

Dorris Gorczany (Rating: )

If you want to pass this class, use these notes. Period. I for sure will!



Financial Accounting Exam #2


What are the two major types of receivables?



Index

SALES REVENUE ............................................................................................................................................................................................2 SALES REVENUE ...................................................................................................................................................................................................................... 2 SALES DISCOUNTS, RETURN AND ALLOWANCES, AND CREDIT CARD CHARGES.............................................................................................................. 2


What is an accelerated depreciation?



Credit Card Sales ................................................................................................................................................................................................................2 Sales on Account.................................................................................................................................................................................................................2 Cash Discounts vs Trade Discounts ............................................................................................................................................................................3 REVENUE RECOGNITION AND GROUPON.............................................................................................................................................................................. 3


What is sales revenue?



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RECEIVABLES .................................................................................................................................................................................................4 ACCOUNTS RECEIVABLE ......................................................................................................................................................................................................... 4 DETERMINING BAD DEBT EXPENSE ..................................................................................................................................................................................... 5 WRITING OFF AN ACCOUNT................................................................................................................................................................................................... 5 RECEIVABLES TURNOVER RATIO........................................................................................................................................................................................... 6 AVERAGE AGE (COLLECTION PERIOD) OF ACCOUNTS RECEIVABLE .................................................................................................................................. 6 EARNINGS MANAGEMENT AND BAD DEBTS ........................................................................................................................................................................ 6 Don't forget about the age old question of What are the 3 factors that contribute to the weakened family support system?
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CASH AND CASH EQUIVALENTS ...............................................................................................................................................................6 INTERNAL CONTROLS ............................................................................................................................................................................................................. 6 Internal Control of Cash ..................................................................................................................................................................................................7 BANK RECONCILIATIONS ........................................................................................................................................................................................................ 7

INVENTORY AND COST OF GOODS SOLD...............................................................................................................................................8 INVENTORY .............................................................................................................................................................................................................................. 8 COST OF GOODS SOLD (COGS)............................................................................................................................................................................................. 8 If you want to learn more check out How to calculate ending inventory under lifo?

Tracking Inventory Costs................................................................................................................................................................................................9 INVENTORY COSTING METHODS – COST FLOW ASSUMPTIONS......................................................................................................................................... 9 Specific Identification.......................................................................................................................................................................................................9 FIFO..........................................................................................................................................................................................................................................9 LIFO.......................................................................................................................................................................................................................................10 Average Cost......................................................................................................................................................................................................................10 Lower of Cost or Market on Balance Sheet (LCM)............................................................................................................................................11 Errors in Estimating Ending Inventory .................................................................................................................................................................11 INVENTORY RATIO ANALYSIS ............................................................................................................................................................................................. 11 Inventory Turnover ........................................................................................................................................................................................................11 Average Days to Sell Inventory .................................................................................................................................................................................12

LONG-LIVED ASSETS ................................................................................................................................................................................. 12 PROPERTY, PLANT AND EQUIPMENT (PP&E)................................................................................................................................................................. 12 DEPRECIATION...................................................................................................................................................................................................................... 12

Straight-Line Depreciation .........................................................................................................................................................................................13 Accelerated Depreciation: Double Declining Balance (DDB)......................................................................................................................13 Units of Production.........................................................................................................................................................................................................13

DISPOSAL OF FIXED ASSETS................................................................................................................................................................................................ 14 FIXED ASSET TURNOVER RATIO......................................................................................................................................................................................... 14 TO CAPITALIZE VERSUS EXPENSE ...................................................................................................................................................................................... 14 NATURAL RESOURCES ......................................................................................................................................................................................................... 15 INTANGIBLE ASSETS............................................................................................................................................................................................................. 15

Goodwill...............................................................................................................................................................................................................................16 ASSET IMPAIRMENT............................................................................................................................................................................................................. 17

Sales Revenue

Sales Revenue

• Often the second most important line item in the financial statement o NOI or EPS is first

• Recognize revenue one fraternity from has done what needs to do o Delivery has occurred the services have been rendered  

o There is evidence of an arrangement for customer payment

o The price is fixed or determinable

o Collection is reasonably assured

• Conditions satisfied at point of delivery of goods or services

o Retail is easy ???? when you pay for the item

o Firms not retail want to recognize when product changes ownership ▪ FOB: Free on Board

▪ FOB destination

• Seller is in charge of product until they reached destination

• Recognize revenue at the destination (seller)

▪ FOB shipping point

• Seller is in charge of product until they reach a cargo ship

• Revenue recognize my product reaches cargo ship (seller)

Sales Discounts, Return and Allowances, and Credit Card Charges

• Companies record sales discounts sales, sales returns and credit card discounts  separately to allow management monitoring of the transactions

• ��� ����� = ����� ������� − ������������� ��������

o Contra Revenue Accounts:

▪ Sales Returns and Allowances

▪ Cash Discounts

▪ Credit Card Discounts

▪ May be disclosed in the footnotes

o Net Sales is shown on the Income Statement

Credit Card Sales

• Cash (DEBIT)  

▪ ������ = ����ℎ������ ����� ∗ 1 − ���� ��� �� �������

• Credit Card Discount (DEBIT)

▪ ������ = ����ℎ������ ����� ∗ ���� ���

• Sales Revenue (CREDIT)

▪ Amount is Merchandise Value

Sales on Account

• When customers, mainly businesses, purchase merchandise on an open account, the  customer promises to pay the company in the future for the purchase

• They may be offered a cash discount (also called Sales Discount) to encourage  payment

• Discount Example: 2/10, n/30

o Read as “two ten, net thirty”

o 2 is the % of discount

o 10 is the number of days the discount is available

o n indicates if not paid within discount period net amount is due o 30 is the days when the full amount is due

o Means: customer gets 2% discount if paid within 10 days, if later then no  discount

• Journal Entry

o Sell Merchandise on Account

▪ Accounts Receivable (DEBIT)

▪ Sales Revenue (CREDIT)

o Pay within discount period

▪ Cash (DEBIT)

o ������ = ����ℎ������ ����� ∗ (1 − ��������)

▪ Cash Discount (DEBIT)

o ������ = ����ℎ������ ����� ∗ ��������

▪ Accounts Receivable (CREDIT)

• Full amount

o Not paid within discount period

▪ Cash (DEBIT)

▪ Accounts Receivable (CREDIT)

Cash Discounts vs Trade Discounts

• Cash Discounts encourage early payment

• Trade Discounts encourage sales

o Lower price for higher volumes

o End of season discounts

• Trade discounts are absorbed into revenues

o Don’t have contra-revenue account for Trade Discounts

o Recognize @ price of sale regardless of original price

o Anything that goes on sale 

Revenue Recognition and Groupon

• Groupon provides coupons

• Gross Reporting vs Net Reporting

o Under both methods NOI is the same

o Gross Reporting

▪ How a manager would record it because of a higher sales

▪ Journal Entry

• Cash (DEBIT)  

o How Much it receives for the coupon

• Expense (DEBIT)

o What it pays the Merchant

• Sales (CREDIT)

o How much it receives for the coupon

o Same as Cash

• Payable to Merchant (CREDIT)

o What it pays the Merchant

o Same as Expense

o Net Reporting

▪ Cash (DEBIT)

• How much it receives for the coupon

▪ Sales (CREDIT)

• How much it receives – how much it pays the merchant

• Same as Payable to Merchant

▪ Payable to Merchant (CREDIT)

• What it pays the merchant

• Primary consideration for reporting gross (Groupon reported Revenue at Gross) o The company must be the primary obligator

▪ The one obligated to provide the service

o It should be responsible for providing the product or service desired by the  customer

o Groupon should recognize gross revenue only if it is the primary obligor • Groupon Webpage Stated

o Vouchers you purchase through our Site as a Groupon account holder are  special promotional offers that you purchase from participating Merchants  through our service 

▪ AKA Groupon was the middle man for the service

o The Merchant is the issuer of the voucher and is fully responsible for all  goods and services it provides to you

• SEC Decision

o Groupon should report NET

o Restate financial statements for 2008-2010

o 2010

▪ Revenues went from 710 M to 313 M

▪ Net Income unchanged

• Stock market did not respond well

o Bad image to investors

o Riskier ???? not as transparent with financial statements

Receivables

Accounts Receivable

• 2 types of receivables

o Accounts Receivable

o Notes Receivable

▪ Unique, not just routine

▪ Long-term

▪ Lend money to a loyal customer

• Accounts Receivable arise from customers from normal transactions o Usually due in 30 days

• Not all collectible

o Some customers go bad (bankrupt)

o Bad debts result from credit customers who will not pay the business the  amount they owe

• 2 ways to recognize A/R on the balance sheet (not the same)

o Gross Amount

▪ Total amount owed

o Net Realizable Value

▪ Expected amount to be collected

• Recognizing Bad debts

o In the period of the sale, not later on

o In accordance with the matching principle

▪ Estimate of bad debt should be recognize in period of the sale

▪ Not when they are ultimately written off

• Adjusting Entry at the end of the period

o Using a contra-asset account

▪ Allowance for uncollectable (or doubtful) accounts (Allowance for  D/A)

• Shows up on Balance sheet as deduction of A/R

Determining Bad Debt Expense

• Impact on Financial Statements

o Assets go down

o SE goes down  

▪ b/c expenses go up therefore NOI goes down

• Journal Entry

o Bad Debt Expense (DEBIT)

▪ ������ = ������ ����� ∗ ��� ���� �������� 

o Allowance for D/A (CREDIT)

• Net Book Value

o �������� ���������� − ����� ��������� ��� �������� ��������

Writing Off an Account

• Done when it is clear a specific customer will be uncollectible  

• Must be removed from A/R and charged to Allowance for D/A

• Has no Impact on the financial statements

• Journal Entries

o Allowance for D/A (DEBIT)

o A/R (CREDIT)

• Net realizable value of the asset after write-off is the same as before

Receivables Turnover Ratio

• How many times the A/R fills out and empties out  

o 12 = every month  

• Want it to turnover quickly b/c you want that cash to use it on the company •!"#$%& !"#$ 

!"#$%&# !""#$%&' !"#$"%&'("

Average Age (collection period) of Accounts Receivable

• 30 average = A/R collected in 30 days

• Look at how it changes over time

• If it goes up = customers take longer to pay

o Higher sales and take on riskier customers

▪ Higher Debt Expense because more risk

•!"# 

!"#$%&'# !"#$% !/!

o Answer is in days

Earnings Management and Bad Debts

• Choose the bad debt % that best fits their outcomes

• Impacts their Bonus

• Common manipulated account

Cash and Cash Equivalents

• First line item on Balance Sheet

• Usually lumped together

o Cash

o Bank accounts (checking, savings, money market)

o Checks

o Money Orders

o Bank Draft

o Investments with maturities of less than 3 months that easily convert to cash ▪ Certificates of Deposit

▪ US Government Treasury Bills

Internal Controls

• Policies and procedures designed to safeguard ALL assets of the business and  ensure the accuracy of financial records

o To control assets from unauthorized use

o To control accounting records to prevent errors and fraud

• Systems put into place to control cash, supplies and inventories from being stolen • Ex. Time Cards

Internal Control of Cash

• Accountant is incharge of setting them up

• Separation of duties  

o Separate Procedures of accounting for cash receipts and cash disbursements ▪ People that handle cash are separate from accounting because it is  harder to steal that way

o Separate those that handle cash from those that account for cash

• Other Controls

o Daily deposits

▪ Multiple times a day

o Separate approval for purchases and approval for payments

▪ Separate people

o Prenumbered documents

▪ Ex. Checks and cash receipts

o Check Signatures

▪ Only certain people have access to signt the check

o Mandatory Vacations

▪ Many frauds get found when people go on vacation b/c someone else  does their job

o Bank Reconciliations

Bank Reconciliations

• Goal is to reconcile the balance per book to the balance in the firm’s accounting  records to identify errors and update the accounting records

• Serves as an internal control and as a source of adjusting journal entries • Bank and Cash must be equal or in balance

• Bank Statement Overview

o Beg. Balance

▪ Add:

• Deposits in Transit

• Interest Earned

▪ Subtract:

• Outstanding Checks

• Service charge

• NSF Check

o End Balance

• Bank Statement Overview Divided

o Bank Side:

▪ Add: Deposits in Transit

▪ Subtract: Checks outstanding

o Books or Cash Side

▪ Add: Interest  

▪ Subtract: NSF Checks and Service Charges

• Common differences b/w the amount in the bank and the balance in the Cash  Account results from either timing differences or errors

o Outstanding checks: checks company has written, but have not been cleared  by the bank

o Deposits in Transit: Not yet processed by the bank, but will be registered in  the cash book of the company

o Bank Service charges

o Interest Earned

o NSF Checks

▪ Not sufficient funds checks, or checks that bounce

o Errors  

▪ Errors are recorded depending on where the error was made and by  how much aka if overstated or understated

• Journal Entries

o Only on Cash side

o NSF Checks

▪ A/R (DEBIT)

▪ Cash (CREDIT)

o Service Charge and Interest Revenue

▪ Cash (DEBIT)

▪ Service Charge Expense (DEBIT)

▪ Interest Revenue (CREDIT)

Inventory and Cost of Goods Sold

Inventory

• Assets held for resale or for use in the production of goods for sale  • Merchandise Inventory

o Goods purchased for resale

• Manufactured for Sale

o Raw Materials Inventory

o Work in Progress Inventory

o Finished Goods Inventory

• Inventory Cost

o Includes all costs incurred (ordinary and necessary) to get inventory in  usable or salable condition

• Order  

o Merchandise is purchased ???? Merchandise is held for sale (inventory in  Balance Sheet) ???? Merchandise is sold (COGS)

Cost of Goods Sold (COGS)

• ������ �� ����� ∗ ���� �� ����

• A major expense item in most non-service businesses

• Matching Principle

o COGS is recorded as an expense in the period the unit is sold

• Cost of Goods Available for Sale (COGAS)

o Compromises:

▪ Ending Inventory

▪ COGS

▪ And in special cases Misplaced or Stolen Items

• COGS Breakdown

o �� + ����ℎ���� = ���� �� ����� ��������� ��� ����

o ����� − �� = ���� �� ����� ����

Tracking Inventory Costs

• Periodic Inventory System

o Firm knows BI and Purchases at the end of the period counts EI

o Assumption that there is no leakage

o Only knows COGS when counted

• Perpetual Inventory System

o Firm is constantly keeping track of its inventory

o Inventory has a product code and when scanned it is deducted from  inventory

o If not the same then there is leakage

o Manage inventory more closely, but it is more costly

Inventory Costing Methods – Cost Flow Assumptions

• Accounting problem is how to determine the expense related to COGS and the cost  assigned to EI

• Cost flow versus physical flow

o Cost flow is not always in the same pattern as the physical flow of goods • 4 Main Methods

o Specific Identification

o FIFO

o LIFO

o Average Cost

• Concerns over inventory valuation due to damage and obsolescence o FASB is concerned w/ inventory being over priced  

▪ Ex. Storage room w/ Samsung 1 not sold at price they were before so  the market price would be lower

• LCM

Specific Identification

• Specifically identify the inventory sold

• EI = Item*Price + Item2*Price….

• COGS = BI + P + EI

FIFO

• First in, First out

• Physical flow

o Oldest units sold first

▪ Ex. Lettuce

• Cost Flow

o Older Costs are assigned to COGS

o Recent costs are found in EI

• Lower COGS

• Higher EI

• Higher Gross Profit

• EI = Last bought Items* Price for the items…until unit amount in EI is achieved o To know how many units are left: Units Sold – BI – Purchase 1 Until number  = 0

• In period of rising prices and rising inventories ???? gives the highest Gross Profit

LIFO

• Last in, First Out

• Physical Flow

o Newest units sold first

▪ Ex. Cookie Jar, or Coal pile

• Cost Flow

o Oldest cost are in EI  

o Newest cost are in COGS

• Lower EI

• Higher COGS

• Lower Gross Profit

• EI = BI*Price + Items first bought*Price… until unit amount in EI is achieved o To know how many units are left: Units Sold – Last Purchase – Second to Last  ----Until Number = 0

• In a period of rising prices and rising inventories ???? gives the smallest Gross Profit o In a period of falling prices it gives the largest Gross Profit

o The lower the taxable income the lower the tax

• LIFO Conformity Rule

o Uniquely to GAAP

o Global companies are allowed to have some inventories on LIFO and others  on FIFO

o Law passed by Congress in 1960

▪ B/c of steel industry

• Struggled and lobbied to senate LIFO on tax return, to report a  

lower tax  

o If a firm wants to use LIFO on tax return it has to use it for financial  statements

Average Cost

• Weighted-average cost (WAC) per unit

o!"#$% 

!"#$%& !" !"#$% !"!#$!%$& !"# !"#$

• Ending Inventory

o �� = ����� �� �� ∗ ��� ��� ����

• COGS  

o ���� = ����� ���� ∗ ��� ��� ����

Lower of Cost or Market on Balance Sheet (LCM)

• LCM is an exception to the historical cost principle

o Mixed model

• Market in LCM conforms with Conservatism

o Replacement Costs

▪ Buy it on Market

▪ Don’t want assets to be overstated

▪ The inventory must be written down if RC< Original Cost

• Not written up, only record gain when there is a sale

▪ Journal Entry

• COGS (DEBIT)

• Inventory (CREDIT)

o Conservatism

▪ Don’t want to overstate assets or NOI

▪ Conservative to recognize a gain

▪ Investors more harmed by overstatement

• Holding Loss

o When asset is written down we recognize a holding Loss

Errors in Estimating Ending Inventory

• If EI is overstated in Year 1, but fine in Year 2

o Year 1

▪ COGS Understated

▪ Gross Profit Overstated

o Year 2

▪ BI Overstated

▪ CGAS Overstated

▪ COGS Overstated

▪ Gross Profit Understated

o Effects on Financial Statements

▪ Year 1

• Assets are Overstated

• SE is overstated

o Expenses Understated

o NOI overstated

▪ Year 2

• No Impact

Inventory Ratio Analysis

Inventory Turnover  

• Measure of efficacy and effectiveness of managing inventory

• !"#$ 

!"#. !"#$"%&'(

Average Days to Sell Inventory

• How many days inventory sits before being sold

• The fewer days the better

• !"# 

!"#$"%&'( !"#$%&'#

Long-Lived Assets

Property, Plant and Equipment (PP&E)

• Fixed Asset

• Asset: probable future economic benefit resulting from past transactions • Land: does not get depreciated because it doesn’t get used up

o In theory, last forever

o Holds value and generally increases

o Stays at historical cost

o Net purchase cost, legal fees, survey fees, real estate comissions

• Assets subject to depreciation because they get used up and therefore we allocate  the cost

o Buildings

▪ Purchase/construction cost, legal fees, appraisal fees, architect fees o Equipment

▪ Purchase/construction cost, sales taxes, transportation costs, setup,  testing and installation

o Furniture and Fixtures

• Historical Cost of PP&E = Acquisition cost

o Includes the purchase price plus all costs (considered ordinary and  necessary) which are required to bring it to the location desired for use, and  to make it suitable for its intended purpose

▪ Does not include financing charges and cash discounts

• Lump Sum: more than one asset is acquired, but only one payment is made o When given an appraised value for the lump sum that does not = the amount  paid, use the appraisal to find out the % of the lump sum each asset is worth. o Then to register in Journal entries, multiply the percentage by the total paid  for each asset.

Depreciation

• Costs assigned to depreciable fixed assets must be charged against revenue  (through a systematic allocation) as they are used up to help generate revenue o MATCHING PRINCIPLE

• Journal Entry

o Depreciation Expense DEBIT

▪ Affects Income Statement

o Accumulated Depreciation CREDIT

▪ Affects Balance Sheet, it is a contra asset

• Net Carrying Value (net book value)

o PP&E – Accumulated Depreciation

• Involves the following concepts:

o Acquisition cost: historical cost at purchase

o Estimated useful life in years or units of production

▪ Manager Estimate

o Estimated residual value (salvage value)

▪ How much company can get for selling the assets after depreciation o Depreciable base: Cost – Residual Value

▪ Cost that gets allocated

• Three methods of depreciation

o Straight-Line Depreciation

o Accelerated Depreciation

o Units of Production

o Company can use any method and can switch between method depending on  the asset

o The end result, or the total at the end of the Assets life is the same across all  methods

• Depreciation reduced net income and when doing cash flow it is added back under  Cash from Operations

Straight-Line Depreciation

• Same annual expense each year

• Annual Expense: !"#$"%&'()" !"#$ (!"#$!!"#$%&'( !"#$%) 

!"#$%& !"#$

• ������ℎ� ���� ���� = ������ ������������ ������� 

����������� ����

Accelerated Depreciation: Double Declining Balance (DDB)

• Accelerated Depreciation method means you take more depreciation earlier in the  machines life because it is more productive early on and loses value faster • ������ ������� = ��� ���� ����� ∗ 2 ∗ ������ℎ� ���� ����

o Net Book Value = Asset – Accumulated Depreciation

• Side Note: annual expense in the last year is adjusted so that the year-end book  value is equal to the salvage value

• Only method that does not use Salvage value in the initial determination of the  depreciation expense

Units of Production

• In a sense the most exact

• ������ ������� = ������������ ���� ��� ���� ∗ ����� �������� • ������������ ���� ��� ���� = ����������� ���� (�−��) 

����� ��������� ����� ��������

Disposal of Fixed Assets

• When you dispose of an asset the accumulated depreciation must be taken off  o Journal Entry

▪ Cash (DEBIT)

▪ Accumulated Depreciation (DEBIT)

• To the date of the sale, must calculate and add if not recorded  

monthly

▪ Machine (CREDIT)

• At Acquisition Cost

o No change once asset is disposed

• Gain or Loss on Sale

o The difference b/w the net book value at the time and the selling price • Gain Journal Entry

o Cash (DEBIT)

o Accumulated Depreciation (DEBIT)

o Gain on Sale (CREDIT)

o Machine (CREDIT)

• Loss Journal Entry

o Cash (DEBIT)

o Accumulated Depreciation (DEBIT)

o Loss on Sale (DEBIT)

o Machine (CREDIT)

Fixed Asset Turnover Ratio

• A measure of how efficiently a company utilizes its investment in PP&E over time • !"# !"#$% !" !"#$%&'() !"#"$%" 

!"#$%&# !"# !"#$% !""#$"

o The higher the number the more sales are given from a given dollar of fixed  assets

o The higher the better because it means its more efficient

• ��������� ����:��� ���� ����� 

����

o A new asset is equal to 1 or 100%

o The older the asset the smaller the number

• When given a comparison of companies with a percentage of the life of the  equipment the higher the number the better

o However it only accounts from when the company takes the asset, so the  asset may be older and just rebought by the company

To Capitalize versus Expense

• Capitalize: to record as an ASSET and allocate the cost over time

o Long-term assets needed to make the company function

• Expense: to recognize the expense all at once

• Classification of repairs, Maintenance and Additions

o Ordinary Repairs and Maintenance (Expense)

▪ Maintains normal operating condition

▪ Does not increase productivity

▪ Does not extend life beyond original estimate

o Not Ordinary (Capitalize because it increases productivity)

▪ Major overhauls or partial replacements

▪ Extends life beyond original estimate or increases productivity

• Effects on Financial Statement

o Capitalize

▪ Balance sheet asset is debited

▪ Expense is allocated over time as depreciation

▪ Current income is higher than if all expense, as only portion  

depreciated

o Expense

▪ Income statement expense account is debited

▪ Expense is currently recognized

▪ Current Income lower than if capitalized as all is expensed

Natural Resources

• Ex. Standing timber, underground deposits of oil, gas, minerals, etc. • Wasting Assets

• Carried at historical cost and depleted

• As depleted to create inventory

o Journal Entry

▪ Inventory DEBIT

▪ Accumulated Depletion CREDIT

• You can also reduce the asset account directly

Intangible Assets

• Tangible: assets that has a physical substance

o Ex. PP&E, Cash

• Intangible: Economic benefits that are not tangible

o Ex. Patents, customer lists, copyright, goodwill

o Future economic benefits that result from ownership of long-lived assets that  do not possess physical form

• Accounting for Intangible Assets

o If purchased: recorded as an asset at historical cost

o If internally generated: expense as incurred

• Purchased Intangible Assets

o Definite Life

▪ Know how long it lasts

▪ Cost is allocated on a straight-line basis

▪ Amortization (Cost allocation)

• Is what depreciation is to tangible assets

• Journal entries mimic purchase of tangible assets and depreciable assets, except  instead of accumulated depreciation it is called Accumulated Amortization

• Indefinite life Intangible Assets

o Not amortized  

▪ May last forever

o Reviewed annually for impairment  

o If it is impaired it must be written down to fair value

• Examples of intangible assets that are recognized on the balance sheet if purchased o Patents

▪ Exclusive right to sell or manufacture an invention, granted for 20  years

o Trademarks

▪ Symbol, design or logo

▪ Indefinite life and not amortized

o Copyrights

▪ Exclusive right to artistic or intellectual properties

▪ Period not greater than 70 years after author’s death

o Technology

▪ Software and web development costs

o Franchise

▪ Right to sell products or provide services purchased by franchise

o Others (if purchased)

▪ Goodwill

▪ Customer lists

▪ Brand names

▪ Licenses

▪ Memberships

Goodwill

• Favorable reputation

o Unidentifiable reputation

• Only arises when a company buys another business

o Excess of purchase price less identifiable net assets of the firm acquired • Indefinite Life

o Evaluate for impairment at least annually

• If internally developed GW does not get recorded

• ������������ ��� ������ = ������ ����ℎ� − ����������� ����ℎ�

• �������� = ����� − �� ��� ������

• Journal entry

o All Assets DEBIT  

▪ Except cash if cash is paid

o All Liabilities CREDIT

o Goodwill DEBIT

• If something happens that diminishes the newly bought goodwill it gets registed as a  loss

o Loss DEBIT

o Goodwill CREDIT

• Examples of Intangible Benefits that cant be recognized on the balance sheet o Some get recognize when company buys another

o Internally generated R&D

o Advertising  

▪ As incurred the expense is incurred

o Reputation

o Market value of internally generated trademarks, patents, and copyrights o Internally generated customer lists

Asset Impairment

• As asset is impaired if the estimated future cash flows it can generate are less than  its net book value

• Applies to both Tangible and intangible Assets

• ���������� ���� = ��� ���� ����� − ���� �����

• Conservatism Principle

o Recognize impairment loss just like an inventory

o Never overstate Assets or NOI, only write down assets if they become  impaired

• Ex. Sears Holding Company

o Sears became worth more as a real estate than a department store, so they  changed their focus on how to sell the land

o 2011 impairment on buildings and other store fixed assets

▪ 22M

• less than on Balance sheet did not generate the cash flow  

needed

o Journal Entry

▪ Impairment loss (DEBIT)

▪ Building and Store (CREDIT)

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