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Chapter 9: Q3SE (page 526)

Computing first-year depreciation and book value

On January 1, 2018, Air Canadians purchased a used airplane for \(37,000,000. Air Canadians expects the plane to remain useful for five years (4,000,000 miles) and to have a residual value of \)5,000,000. The company expects the plane to be flown 1,400,000 miles during the first year.

Requirements

1. Compute Air Canadians鈥檚 first-year depreciation expense on the plane using the following methods:

a. Straight-line

b. Units-of-production

c. Double-declining-balance

2. Show the airplane鈥檚 book value at the end of the first year for all three methods.

Short Answer

Expert verified

Depreciation

Value at end of the first year

$6,400,000

$30,600,000

$11,200,000

$25,800,000

$14,800,000

$22,200,000

Step by step solution

01

Definition of Straight Line Method

The method of calculating depreciation under which each year of the asset's useful life reports the same depreciation is known as the straight-line method. The depreciation method under this method is calculated using salvage value, cost, and useful life.

02

Calculation of depreciation

a. Straight line

Depreciation=Cost-SalvagevalueEstimatedusefullifeinyears=$37,000,000-$5,000,0005=$6,400,000

b. Units of production method

Depreciation=Cost-SalvagevalueEstimatedusefullifeinmiles脳Milesrunduringfirstyear=$37,000,000-$5,000,0004,000,000脳1,400,000=$11,200,000

c. Double-declining method:

Depreciation=Cost脳100%Usefullife脳2=$37,000,000脳100%5脳2=$37,000,000脳20%脳2=$14,800,000

03

Book value at the end of the first year

Method

Book value

-

Depreciation

=

Value at end of the first year

Straight line

$37,000,000

-

$6,400,000

=

$30,600,000

Units of production

$37,000,000

-

$11,200,000

=

$25,800,000

Double declining method

$37,000,000

-

$14,800,000

=

$22,200,000

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Most popular questions from this chapter

Dylan worked for a propane gas distributor as an accounting clerk in a small Midwestern

town. Last winter, his brother Mike lost his job at the machine plant. By January,

temperatures were sub-zero, and Mike had run out of money. Dylan saw that Mike鈥檚

account was overdue, and he knew Mike needed another delivery to heat his home. He

decided to credit Mike鈥檚 account and debit the balance to the parts inventory because he

knew the parts manager, the owner鈥檚 son, was incompetent and would never notice the

extra entry. Months went by, and Dylan repeated the process until an auditor ran across

the charges by chance. When the owner fired Dylan, he said, 鈥淚f you had only come to

me and told me about Mike鈥檚 situation, we could have worked something out.鈥�

Requirements

1. What can a business like this do to prevent team member fraud of this kind?

2. What effect would Dylan鈥檚 actions have on the balance sheet? The income statement?

3. How much discretion does a business have about accommodating

hardship situations?

Determining asset cost, preparing depreciation schedules (3 methods), and identifying depreciation results that meet management objectives

On January 3, 2018, Rapid Delivery Service purchased a truck at a cost of \(100,000. Before placing the truck in service, Rapid spent \)3,000 painting it, \(600 replacing tires, and \)10,400 overhauling the engine. The truck should remain in service for five years and have a residual value of $12,000. The truck鈥檚 annual mileage is expected to be 32,000 miles in each of the first four years and 8,000 miles in the fifth year鈥�136,000 miles in total. In deciding which depreciation method to use, Andy Sargeant, the general manager, requests a depreciation schedule for each of the depreciation methods (straight-line, units-of-production, and double-declining-balance).

Requirements

1. Prepare a depreciation schedule for each depreciation method, showing asset cost, depreciation expense, accumulated depreciation, and asset book value.

2. Rapid prepares financial statements using the depreciation method that reports the highest net income in the early years of asset use. Consider the first year that Rapid uses the truck. Identify the depreciation method that meets the company鈥檚 objectives.

: Distinguishing capital expenditures from revenue expenditures consider the following expenditures:

a. Purchase price.

b. Ordinary recurring repairs to keep the machinery in good working order.

c. Lubrication before machinery is placed in service.

d. Periodic lubrication after machinery is placed in service.

e. Major overhaul to extend useful life by three years.

f. Sales tax paid on the purchase price.

g. Transportation and insurance while machinery is in transit from seller to buyer.

h. Installation.

i. Training of personnel for initial operation of the machinery. Classify each of the expenditures as a capital expenditure or revenue expenditure

Question:Jim Reed manages a fleet of utility trucks for a rural county government. He鈥檚 been in his job for 30 years, and he knows where the angles are. He makes sure that when new trucks are purchased, the residual value is set as low as possible. Then, when they become fully depreciated, they are sold off by the county at residual value. Jim makes sure his buddies in the construction business are first in line for the bargain sales, and they make sure he gets a little something back. Recently, a new county commissioner was elected with vows to cut expenses for the taxpayers. Unlike other commissioners, this man has a business degree, and he is coming to visit Jim tomorrow.

Requirements

1. When a business sells a fully depreciated asset for its residual value, is a gain or loss recognized?

2. How do businesses determine what residual values to use for their various assets? Are there 鈥渉ard and fast鈥� rules for residual values?

3. How would an organization prevent the kind of fraud depicted here?

How do land improvements differ from land?
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