Long Lived Assets Flashcards
Purchased vs. Developed vs. Acquired Intangibles
Purchased = on books at cost or FMV
- If definite lived -> amortize over useful life
- If indefinite - test for impairment at least annually
Developed = expensed, but depends
- IFRS allows for development costs to be capitalized
- GAAP all R&D is expensed unless it is software related
Acquired = acquisition method
- Purchase price > acquired firms net assets then goodwill is created
Capitalization vs. Expensing
Compared to expensing capitalization results in
- Lower expense and higher NI in the early years
- Higher assets and equity
- Lower (more negative) CFI and higher CFO
- Higher ROE and ROA in early period
- Lower debt to assets and debt to equity
Straight-line depreciation
D expense = (Cost - Salvage) / Depreciable Life
Cost - Salvage = Max AD over the life of the asset
Accelerated depreciation -> Double declining balance (DDB)
D expense = (2/useful life) X Book value at beginning of year
Results in lower NI, ROA, ROE in the early years relative to SL approach…cash flow is not impacted b/c D exp is non-cash
Units of Production Method
D expense = ((Cost - Salvage)/Life in output)) x output units used in the period
Revaluation Model
IFRS firms have the option to revalue assets based on fair value – GAAP does not allow for it
Initial gain = straight to equity as part of OCI (revaluation surplus)
- Subsequent loss reduces the revaluation surplus
- Excess loss beyond that is recorded as a loss on the I/S
Initial loss = recorded on I/S
- Subsequent gains recorded as gain on I/S to extent of loss
- Excess gains beyond that recorded as OCI (revaluation surplus) as part of equity
IFRS Impairment Rules
Impairment occurs when carrying value > recoverable amount
Where recoverable amount is the higher of
1) NRV = SP - Selling costs
2) Value in use (PV expected cash flows
If impaired the asset is written down to recoverable amount
GAAP Impairment Rules
Impairment occurs when carrying value > undiscounted future cash flows
If impaired the asset is written down to the fair market value
Sale of a Long-Lived Asset
Gain (Loss) = Selling price - NBV
Reported on the I/S
Selling price reported as a CFI inflow
Gain (Loss) adjustment in CFO
Abandonment of Long-Lived Asset
Carrying value is removed from B/S and a loss is recognized in that amount
Exchanged Long-Lived Asset
Carrying Value of Old - Carrying Value of New Asset results in a gain or loss
Impairment implications
Lower NI, assets and equity
Lower ROA, ROE and higher debt to equity and debt to assets
Average age of assets
= Accumulated D / Annual D expense
Total useful life
= Historical cost / Annual D expense
Remaining useful life
= Ending net PP&E / Annual D expense
Investment property
Only IFRS and is property that earns rent or owned for capital appreciation purposes
IFRS allows for either cost or fair value model
Under fair value model, gains are reported on the income statement rather than direct to equity
Capitalization of interest
Only allowed for debt to finance the construction period
Need to adjust financial statements for comparability
Adj EBIT = EBIT + Depreciation of capitalized interest
Adj Interest exp = Interest exp + capitalized interest
B/S -> Lower PP&E by interest amount
C/F -> CFO declines due to higher interest expense and CFI becomes less negative due to the decapitalization of the interest
Operating Lease
No asset, no liability, no depreciation, no interest - just 100% operating expense
More profitable in early years b/c rent < sum (deprecation and interest) on capital lease
Higher taxes in early years b/c of higher taxable income
Lower CFO because rent is 100% operating outflow
Makes ratios appear better
Capital Lease
Lessee essentially purchases the asset from the lessor on credit
Increases non-current asset (subject to depreciation) and a liability so equity remains flat
Each PMT is comprised of interest (CFO outflow) and principal reduction (CFI outflow)
In the early years of the lease expenses will be higher than an operating lease which results in lower taxes paid
CFO is also higher in early years due b/c PMT is split between CFO and CFI
GAAP Capitalization Requirements
SNOB (1 out of 4) S - term lease >= to 75% of asset life N - PV PMTs >= 90% of FMV O - Owner ship at end of lease B - bargain purchase option at end of lease
IFRS has similar guidelines, but is more flexible around the % requirements
For the lessor to capitalize LUC
L - Lessee is a SNOB
U - No cost uncertainties
C - PMTs reasonably collectable
Operating Lease –> Capital Lease Adjustments
B/S = PV of lease PMT where the PV = DCF/UDCF x Sum of PMTs
I/S = EBIT + Rent expense - Depreciation
