Brainscape's Knowledge GenomeTM

Browse over 1 million classes created by top students, professors, publishers, and experts.


See full index

AcF100 > Week 5 - Non-current assets > Flashcards

Week 5 - Non-current assets Flashcards

1
Q

What are the two types of assets?

A

Non-current and Current assets

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

What are the characteristics of non-current assets?

A
  1. Long term in nature (more than one year)

Subcategories:
1. Intangible
2. Tangible
3. Financial (long term, investments held)

eg machines, buildings

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

What does long term in nature for non-current assets contribute to?

A

Expected to contribute to income generation for more than one year

Indirect relationship with trading activities (you dont trade the machines or buildings)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

What are the characteristics of current assets?

A
  1. Short term in nature (less than a year)

Subcategories:
1. Inventories
2. Trade receivables
3. Cash

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

What does short term in nature for current assets mean?

A

Convertible into cash in less than one year

Usually relate directly to trading activities

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

What are tangible assets?

A

physically assessable, we can see and touch it

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

What are examples of tangible non-current assets?

A
  1. land and buildings
  2. plant and machinery
  3. fixtures and fittings
  4. motor vehicles
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

What are examples of intangible assets?

A
  1. Brands
  2. Research and development
  3. Goodwill
  4. Patents and trade marks
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

What are financial assets?

A

another type of non-current asset which is also intangible

they are not directly/related to the core business

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

Where do we put assets?

A

balance sheet/ SOFP

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

What is the initial value of the non-current assets in the SOFP known as?

A

the Historical Cost of the asset

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

What is a historical cost?

A

this is the cost of acquiring the asset, plus costs of bringing it to its working condition and location

(eg delivery fees)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

What does the historical cost include?

A
  1. Purchase price
  2. Costs of site preparation
  3. Delivery and installation costs
  4. Professional fees related to the above
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

What do we exclude from the historical cost?

A
  1. Costs of extended warranty
  2. Maintenance agreement
  3. Replacements and spare parts (for future use)

-> expense them (Income statement)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

How is the initial value of the non-current assets included in the SOFP/ Balance sheet?

A

Dr: Non-current asset £xxx
Cr: Cash/ payables £xxx

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

What will each different type of non-current asset have?

A

a separate non-current asset T account

eg different T account for buildings and cars

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
17
Q

What do we need to change in the Balance sheet since non-current assets are used for more than one year?

A

need to record/ adjust the value of non-current assets in the following years

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
18
Q

What are two methods to adjust non-current assets value in the following years?

A
  1. Revaluation model
  2. Cost model
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
19
Q

What is the revaluation model?

A

record the fair value (market value) of the assets in the year when making the balance sheet (eg Land)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
20
Q

What is the cost model?

A

Depreciate the assets in the subsequent years, and reduce the value of the assets in the balance sheet (eg machinery, motor vehicles etc)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
21
Q

What do we use the revaluation model on?

A

Inflation, inflation results in the cost of non-current assets acquired several years ago being out-of-date

A particular concern for long-term non-current assets such as land and investment properties

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
22
Q

When do the IAS16 allow the revaluation of non-current assets to fair value?

A
  1. if a business chooses to revalue an asset, it has to revalue all assets of that type
  2. and it has to go regularly keep fair values up to date
  3. we normally apply the revaluation model on land and investment properties
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
23
Q

What is the bookkeeping for upward revaluation?

A

Dr: non-current assets £xxx
Cr: Revaluation reserve (as part of owners equity) £xxx

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
24
Q

Where is the revaluation reserve?

A

a separate line in the equity section in the balance sheet

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
25
Q

What do we have to apply in the cost model?

A

application of the matching concept to non-current assets

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
26
Q

What are expenses?

A

costs consumed in delivering goods or services to customers

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
27
Q

What is the matching part of the accruals concept?

A

all expenses must be matched against the revenue (or income) earned in an accounting period

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
28
Q

What is the depreciation process for tangible assets (within cost model)?

A

as non-current assets will contribute to generation of income for more than one year, the complexity in heir accounting is matching their costs to the income they help generate

also called amortisation for intangible assets

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
29
Q

What is depreciation?

A

the systematic allocation of the depreciable amount of (ie the cost of using) an asset over its useful economic life

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
30
Q

What does depreciation reflect during a period?

A

depreciation reflects the amount of economic benefits of the tangible non-current assets that have been consumed during the period

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
31
Q

What do the IAS16 require to be depreciated?

A

all tangible non-current assets except land and investment properties to be depreciated, even where their market value is greater than their historical cost or net book value

this includes buildings because they have a finite life

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
32
Q

What is the annual amount of depreciation equal to?

A

the amount of the total cost of a non-current assets used up during the year

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
33
Q

What is the net value of the non-current assets in the balance sheet reduced by?

A

the annual amount of depreciation (= the amount of the total cost of a non-current assets used up during the year)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
34
Q

What is the net book value (NBV) in the balance sheet?

A

NBV = the historical cost - the total accumulated depreciation

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
35
Q

What do we use NBV as?

A

the value to calculate total assets

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
36
Q

What accounts do we use for the historical cost and total accumulated depreciation?

A

keep separate accounts for the historical cos and the total accumulated depreciation for each type of asset

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
37
Q

What is the annual amount of depreciated charged as?

A

an expense in the income statement

thus matching the cost of using the asset against the income its use helps to generate

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
38
Q

An asset costing £300,000 is acquired in Year 1 and expected to last for 3 years with no residual value. Profits are £250,000 per year
With depreciation, the cost is allocated over 3 years:

A

Year 1
Profit before depreciation: £250,000
Depreciation: (£100,000)
Net profit: £150,000

Year 2
Profit before depreciation: £250,000
Depreciation: (£100,000)
Net profit: £150,000

Year 3
Profit before depreciation: £250,0000
Depreciation: (£100,000)
Net profit: £150,000

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
39
Q

An asset costing £300,000 is acquired in Year 1 and expected to last for 3 years with no residual value. Profits are £250,000 per year
Without depreciation, the cost is all allocated to Y1 (means financial statements in future years dont reflect that the asset is still used by the business):

A

doesnt meet matching concept

Year 1
Profit before depreciation: £250,000
Depreciation: (£300,000)
Net profit: (£50,000)

Year 2
Profit before depreciation: £250,000
Depreciation:
Net profit: £250,000

Year 3
Profit before depreciation: £250,0000
Depreciation:
Net profit: £250,000

40
Q

What is the depreciable amount?

A

the cost of an asset less its expected residual value

41
Q

What is residual value?

A

the estimated disposal proceeds at the end of the assets useful life

42
Q

What does economic life determine?

A

the expected useful life for calculating depreciation

43
Q

What is the economic life of an asset?

A

time for which the asset is expected to generate economic benefits for the firm

this period needs to be estimated when the non-current asset is acquired

44
Q

What does economic life depend on?

A

number possible factors such as:

  1. Physical life (limited through wear and tear etc)
  2. Technological obsolescence
45
Q

What are not revalued each year as a result of depreciation?

A

assets

46
Q

What is depreciation but has no cash effect?

A

an expense

47
Q

What data do you need to calculate depreciation?

A
  1. Historical cost (or valuation) (C)
  2. The length of the asset’s expected useful economic life to the business (N)
  3. The estimated residual value of the asset at the end of its useful economic life (RV)
  4. Method of calculating each year’s depreciation
    (straight line, reducing balance, sum of digits)
48
Q

What are the three methods to calculate depreciation?

A

straight line, reducing balance and sum of digits

49
Q

What does the straight line method assume (annual charge to income statement)?

A

assumes that the amount of the asset used up remains constant each year

to reflect this, the depreciation charge must be the same each year, which equals

Depreciation =
(Original cost (C) - estimated residual value (RV)) / Estimated useful life (years) (N)

50
Q

What is the straight line method equation?

A

Depreciation =
(Original cost (C) - estimated residual value (RV)) / Estimated useful life (years) (N)

51
Q

What is the depreciable amount in the straight line equation?

A

Original cost (C) - estimated residual value (RV)

52
Q

Example of the straight line method
ABC ltd purchased a machine at cost of £40,000 on 1st Nov 2021. The machine is expected to use for 4 years. At the end of the useful life, the residual value of the machine is estimated to be £1024. The financial year end of ABC ltd is 31st October

Demonstrate the annual depreciation charge in the income statement and the net book value (NBV) of the machine at the end of the financial year

A

Annual depreciation expense = (40,000 - 1024) / 4

= 9744 into income statement

53
Q

Example of the straight line method
ABC ltd purchased a machine at cost of £40,000 on 1st Nov 2021. The machine is expected to use for 4 years. At the end of the useful life, the residual value of the machine is estimated to be £1024. The financial year end of ABC ltd is 31st October

Demonstrate the annual depreciation charge in the balance sheet in 2022, 2023 and 2024, and the net book value (NBV) of the machine at the end of the financial year

A

Balance sheet 31/10/2022
Machine at cost: £40,000
Less Accumulated depreciation: (9,744)
Net book value (NBV): 30,256

take the difference of the two to get NBV which goes to the balance sheet

Balance sheet 31/10/2023
Machine at cost: £40,000
Less Accumulated depreciation: (19,448)
Net book value (NBV): 20,512

19448 = 9744 +9744

Balance sheet 31/10/2024
Machine at cost: £40,000
Less Accumulated depreciation: (29,232)
Net book value (NBV): 20,512

29,232 = 19448 +9744

54
Q

What does the depreciation expense (I/S) for the straight line method look like on a graph?

A

it is a horizontal line, across eg 4 years it is the same

55
Q

What does the NBV at the end of the year (B/S) for the straight line method look like on a graph?

A

downward sloping across eg 4 years

56
Q

What are arguments for the straight line method?

A
  1. it is most appropriate for assets that are depleted as a result of the passage of time (eg buildings, leases, patents)
  2. it may be suitable where an asset’s utilisation is the same in each year (eg plant and machinery, vehicles)
57
Q

What are arguments against the straight line method?

A
  1. it may not give an accurate measure of the loss in value or reduction in useful life (eg the large decrease in resale value of vehicles in the first year of their life)
58
Q

What is the reducing balance method?

A

it applies a constant/ fixed percentage depreciation rate each period to the asset’s net book value at the end of the previous period (opening balance of NBV at the current period)

59
Q

How do you derive the fixed percentage of the reducing balance method?

A

r = 1 - (RV / C)^1/n

r is the annual depreciation rate (as a decimal)
n is the number of years of depreciation
C cost of non-current asset

60
Q

What is the reducing balance method formula?

A

Annual depreciation expense = Opening balance NBV x r

r is the annual depreciation rate

61
Q

Example of the reducing balance method
ABC ltd purchased a machine at cost of £40,000 on 1st Nov 2021. The machine is expected to use for 4 years. At the end of the useful life, the residual value of the machine is estimated to be £1024. The financial year end of ABC ltd is 31st October

Demonstrate the annual depreciation charge in the income statement and the net book value (NBV) of the machine at the end of the financial year

A

Calculate the rate:
RV = £1024
C = £40,000
n = 4

r = 1 - (RV / C)^1/n
r = 1 - (1024/40,000)^1/4
= 0.6

Annual depreciation expense for the year end 31/10/2022:
Depreciation expense = 40,000 x 0.6
= 24,000

NBV at the end of the year (B/S) = 40,000 - 24,000 = 16,000

Accumulated depreciation at the end of the year (B/S) = 40,000 - 16,000 = 24,000

Annual depreciation expense for the year end 31/10/2023:
Depreciation expense = 16,000 x 0.6
= 9,600

NBV at the of the year (B/S) = 16,000 - 9,600 = 6,400

Accumulated depreciation at the end of the year (B/S) = 40,000 - 6400 = 33,600

Annual depreciation expense for the year end 31/10/2024:
Depreciation expense = 6,400 x 0.6
= 3,840

NBV at the of the year (B/S) = 6,400 - 3840 = 2,560

Accumulated depreciation at the end of the year (B/S) = 40,000 - 2,560 = 37,440

62
Q

What does the Depreciation expense at the end of the year (I/S) for the reducing balance method look like on a graph?

A

downward sloping
first two years steeper, 2-3 years less steep, 4 less steep (gradually becomes smaller and smaller)

63
Q

What does the NBV at the end of the year (B/S) for the reducing balance method look like on a graph?

A

downward sloping
first two years steeper, 2-3 years less steep, 4 less steep (reduction gradually becomes slower and slower)

64
Q

What are arguments for the reducing balance method?

A
  1. it is most appropriate for assets that deteriorate as a result of usage where this is greater in earlier years (eg motor vehicles)
  2. it may also be suitable where the utilisation is the same in each year - the decreasing annual depreciation combined with increasing repair costs give a relatively constant combined annual charge
  3. it gives a more realistic approximation of the reduction in resale value, although this is not really a purpose of depreciation
65
Q

What are arguments against the reducing balance method?

A
  1. it contains an arbitrary assumption about the rate of declining value
  2. it is relatively complex
66
Q

When does the sum of the digits method (or sum of the years’ digits method) depreciate more?

A

will depreciate more in the earlier stage than the later stage

67
Q

How do you calculate the depreciate rate in the sum of the digits method?

A

Through the following:
- Denominator: Digits of the year numbers (N) are summed as
n x (N+1) / 2

  • Numerator for each year: the number of the year in reverse order

eg N = 4
- Denominator = 4 x (4+1) / 2
= 10

  • Numerator Year 1 = 4
    Year 2 = 3 etc..

Depreciation rate for year 1 = 4/10

68
Q

How to calculate the annual depreciation expense for the sum of the digits method?

A

Annual depreciation expense = (Cost - Residual Value) x rate

69
Q

What is the depreciable amount in the sum of the digits method?

A

Cost - residual value

70
Q

Eg Sum of the digits method
Cost = 40,000
Residual value = 1024

A

Depreciable amount = 40,000 - 1024 = 38,976

Annual depreciation expense for the year end 31/10/2022:
Depreciation expense = 38,976 x 4/10
= 15,590

NBV at the end of the year (B/S) = 40,000 - 15,590 = 24,410

Accumulated depreciation at the end of the year (B/S) = 40,000 - 24,410 = 15,590

Annual depreciation expense for the year end 31/10/2023:
Depreciation expense = 38,976 x 3/10
= 11,693

NBV at the end of the year (B/S) = 24,410 - 12,717 = 11,693

Accumulated depreciation at the end of the year (B/S) = 40,000 - 12717 = 27283

Annual depreciation expense for the year end 31/10/2023:
Depreciation expense = 38,976 x 2/10
= 7,795

NBV at the end of the year (B/S) = 12717 - 7,795 = 4922

Accumulated depreciation at the end of the year (B/S) = 40,000 - 4,922 = 35,078

In the 4th year the accumulated depreciation at the end of the (B/S) is the same as the depreciable amount 38,976

71
Q

What does the depreciation expense (I/S) graph look like for the sum of the digits method?

A

downward sloping

72
Q

What does the NBV at the end of the year (B/S) graph look like for the sum of the digits method?

A

downward sloping, less steep each year

73
Q

Impacts of different depreciation methods on net profits
with eg

A

Assume the business generates £20,000 profit before depreciation for all 4 years which the asset is held (ie net profit = £20,000 - depreciation)

Profit after deducting depreciation:
- Straight line eg £10,256 each year, investors like this because it is less volatile
- Reducing balance, end up with negative number in the first year, but gets better and better in the following years
- Sum of digits, the first year it is positive but still less profit than the straight line method

74
Q

What are the two effects depreciation has on bookkeeping?

A
  1. It reduces the amount the asset is recorded at in the balance sheet by the amount that has been used up (depreciated historical cost)
  2. The amount of depreciation charged in the year is an expense in the income statement (allocating/ matching the cost against the revenues generated)
75
Q

How does depreciation affect the value of an asset shown on the balance sheet?

A

Depreciation reduces an asset’s value over time, so it is shown on the balance sheet at its net book value, calculated as the original cost less accumulated depreciation since acquisition.

76
Q

Do we debit/ credit the depreciation expense in the income statement?

A

debit

77
Q

Do we debit/ credit the accumulated depreciation in the balance sheet?

A

credit

78
Q

What is accumulated depreciation also called?

A

provision for depreciation account (acontra asset account)

79
Q

What is a contra asset account?

A

the account we use to reduce the assets account

(behaves in the opposite way to a real asset account)

80
Q

What do we debit and credit in the straight line method?

A

same every year

debit - depreciation expense: 9744
credit - accumulated depreciation: 9744

81
Q

What do we debit and credit in the reducing balance method?

A

(numbers for eg)
year 1:
debit - depreciation expense: 24,000
credit - accumulated depreciation: 24,000

year 2:
debit - depreciation expense: 9,600
credit - accumulated depreciation: 9,600

year 3:
debit - depreciation expense: 3,860
credit - accumulated depreciation: 3,860

year 4:
debit - depreciation expense: 1,536
credit - accumulated depreciation: 1,536

82
Q

How is depreciation shown in the Income Statement?

A

Gross profit X
Less expenses:
Depreciation (X)
Net profit X

83
Q

How is depreciation shown in the balance sheet?

A

Asset at cost XX
Less: Accumulated depreciation (XX)
Net book value/ Written down value XX

The NBV shows the asset’s value at that date and goes to the accounting equation (assets = liabilities + equity)

84
Q

(Before disposal) What has depreciation been charged each year based on?

A
  1. Knowledge of original historical costs
  2. Original estimates of residual value and economic life of asset
85
Q

What happens when we dispose of a non-current asset?

A

We will have actual knowledge of the residual value and economic life.

As these are likely to be different from our original estimates several years earlier, the disposal proceeds will probably be different to the net book value at the date of disposal

86
Q

When we sell the non current asset the selling price may be different to the net book value of this machine shown in the balance sheet, what does this cause?

A

either profit on disposal or loss on disposal

87
Q

What is profit on disposal?

A

amount by which proceeds are larger than net book value at date of disposal

88
Q

What is loss on disposal?

A

amount by which net book value is larger than disposal proceeds

89
Q

Disposal of machinery example:
A machine cost £10m and has accumulated depreciation of £6m. It is disposed off for £5m. How is this recorded in financial statements?

A

Before disposal:
Net book value of the machine -> £10m - £6m = £4m

After disposal:
Cash -> £5m
Profit on sale -> £1m

Cash (proceeds) received less Net book value at the date of disposal (5m - 4m = 1m)

profit 1m to income statement

90
Q

Disposal of machinery example 2:
A machine cost £10m and has accumulated depreciation of £6m. It is disposed off for £3m. How is this recorded in financial statements?

A

Before disposal:
Net book value of the machine -> £10m - £6m = £4m

After disposal:
Cash -> £3m
Loss on sale -> £1m

Cash (proceeds) received less Net book value at the date of disposal (3m - 4m = -1m)

loss 1m to income statement

91
Q

How should we account for the disposal of non-current assets in terms of bookkeeping?

A
  1. Set up a new ‘disposal of non-current asset’ T account for the asset that we disposed of
  2. Move original historical cost of the disposed asset to the new T account:
    Debit: Disposal of non-current asset £xxx
    Credit: Non-current asset at cost £xxx
    eg
    Debit: Disposal of non-current asset £10m
    Credit: Non-current asset at cost £10m
  3. Move the accumulated depreciation on disposed asset from the original account to the new T account:
    Debit: Accumulated depreciation £xx
    Credit Disposal of non-current asset £xx
    eg
    Debit: Accumulated depreciation £6m
    Credit Disposal of non-current asset £6m
  4. For disposal proceeds:
    Debit: Cash (or trade receivables) £xx
    Credit: Disposal of non-current asset £xx
    eg
    Debit: Cash (or trade receivables) £5m
    Credit: Disposal of non-current asset £5 m
  5. The balance on the ‘Disposal of non-current asset’ account will be the loss on disposal (debit) or profit on disposal (credit balance)
92
Q

How should we account for the disposal of non-current assets in terms of bookkeeping?
ALL TOGETHER what it looks like

A

-Debit: Disposal of non-current asset £10m
Credit: Non-current asset at cost £10m
Debit: Accumulated depreciation £6m
-Credit Disposal of non-current asset £6m
Debit: Cash (or trade receivables) £5m
-Credit: Disposal of non-current asset £5 m

T account: Disposal of non-current asset
Debit = £10
Total = £10

Credit = £6
= £5
Total = £11

Balance is on the credit side, then we have a profit on disposal, which is 11m - 10m = 1m

93
Q

What is an alternative way to work out profit/ loss on disposal?

A

Using two major equations:
1. OB of NBV - Disposed NBV = CB of NBV
2. Profit/ loss on disposal = Proceeds - Disposed NBV

And one supporting equation:
NBV = Cost - Accumulated Depreciation

Eg
Cost of disposed machine: £10m
Accumulated depreciation of disposed machine: £6m

NBV disposed machine = 10m - 6m = 4m
Profit/ loss on disposal = 5m - 4m = 1m profit

Profit/ loss on disposal is shown on a separate line in the income statement, doesnt belong to core business

In balance sheet:
Machine at cost: Cost -10m
Less Accumulated depreciation: OB Accumulated Depreciation -6m + Depreciation expense

94
Q

What is a partial year depreciation?

A

When a non-current asset is bought or sold part way through an accounting year, the depreciation expense is computed either:
1. on a strict time basis
2. As might be indicated in a question:
- Full years charge in the year of purchase (eg only in company for 3 months but still consider as a whole year)
- None in the year of sale

95
Q

What is the strict time basis?

A

calculating the exact time the machine has stayed in the company

96
Q

What is a strict time basis in the year of acquisition?

A

In the year of acquisition, from the date of purchase to the end of the accounting year

97
Q

What is a strict time basis in the year of disposal?

A

In the year of disposal, from the start of the accounting year to the date of sale

AcF100 (5 decks)

Brainscape helps you reach your goals faster, through stronger study habits.
© 2024 Bold Learning Solutions. Terms and Conditions