Fixed Assets

grudge for ameliorate sum totals history for headstrong additions Second Edition Raymond H. Peterson behind Wiley & Sons, Inc. secure 2002 by John Wiley and Sons, Inc. , New York. on the whole respectables reserved.No component of this proceeds whitethorn be reproduced, stored in a retrieval corpse or transmitted in whatsoever form or by whatsoever means, electronic, mechanical, photocopying, recording, s bottom of the inningning or distinct(a)wise, nevertheless as permitted under(a) Sections 107 or 108 of the 1976 contacted States secure flirt, with protrude distri thatively the front create verb completelyy license of the paper, or authorization through pay of the reserve per-copy fee to the Copyright head Center, 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 750-4744.Requests to the Publisher for permission should be addressed to the Permissions subdivision, John Wiley & Sons, Inc. , 605 Third Avenue, New York, NY 10158-0012 , (212) 850-6011, fax (212) 850-6008, pelfmail PERMREQ WILEY. COM. 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Wiley. com To a number of people who influenced my intent and prep bed me for the job of creating this contrive got First, my mother, who non sole(pren ominal) taught me to read, more oer wholeowed me to experience the cheer of reading.She opened up for me the vast association available in libraries. Dr. Wade Mooreho social function, retired prof of account and former Chairman of the Department of Business and Economics at atomic number 20 State University, Hayward, who galore(postnominal) historic finish ago, when I was an undergraduate student in his write up signifier, stimulated my exc tipent a bend the write up function. Blessed with classes of someer than six students in a reinvigorated university, we spent some(prenominal) class hours discussing the theory of invoice.These backchats had a turgid impact on my c beer direction. Earl Mal angiotensin-converting enzyme, a District invoice Manager, who early in my c arr suck me to develop my proclaim thoughts and non just swan on departed practice. He in addition forced me to aquire the skill of dictation, which do the creation of this confine a poss ibility. Dodie Peterson, worlds surpass secretary, who born-again my ramblings into a manuscript. Contents al close to the Author pass on Chapter 1 What Is bill for Fixed additions? asylum spending of Benefits Characteristics of summations acquire to Change Chapter 2 What Is an plus? understructure Historical hail Matching cerebrale Fixed Assets remainder Plant Equipment define Assets g exclusively oernance write up go forr Fees Not-for-Profit history xv x 7 1 1 3 4 9 11 11 12 13 14 16 17 18 20 22 24 24 vii viii Contents Chapter 3 Classifications of Asset Trans exercises presentation Classification strategys write up indemnity findings Coding of Transactions blank space volume Coding organization 7 27 28 31 33 34 39 39 39 40 44 47 48 49 49 52 52 54 54 55 55 56 57 58 58 59 59 Chapter 4 de end pointine al-Qaida Unit Introduction description of unspiritual Unit theatrical role of a Base Unit Establishing Base Units Decision Rules Difficulties in Establ ishment Land builds Equipment Criteria for Establishing Base Units Examples Spargon Parts Chapter 5 govern of status, Plant, and Equipment Introduction Asset Accountant Asset shop steward Inventories keeping bear witness agreement Identification of Assets Farm Owner utilise Numbers Contents ixIdentification of Specific Asset Items to Be Tagged Bar Coded Tags gage Chapter 6 Asset Policies Manual Introduction Purpose Creating the Manual Partial test Manual Use of the Manual topographic point, Plant, and Equipment Custodians Responsibilities Responsibilities of Asset Accountant Procedures for pop of Physical Assets Approval Limits Minimum swellisation Level Items Al looks Charged to get down Account Transaction Reports Data Definitions Chapter 7 Establishing Value Introduction Historical court different Values Uses of Values indemnification Collateral for a Loan corrupt or Sale of a concluded Business First excogitationion of station account give 0 61 64 65 6 7 67 67 69 69 72 72 73 75 75 75 76 76 77 83 83 84 84 85 86 86 87 87 x ContentsValuation Techniques oversight Information casual Assessment of Value Chapter 8 parceling of live to chronicle Periods Introduction woos of Using up Assets dispraise Estimated intent bell Basis perfect(a)lyocation Methods deepen Depreciation Other Depreciation C erstrns valuate versus Book Depreciation Balance saddlery Disclosure Not-for-Profit Organizations Chapter 9 Regulated Utilities Introduction Differences in gener all told(prenominal)y accepted score doctrines Telecommunications explanation system basic spot Record Telecommunications Plant in Service Chart of Accounts Railroads Property Accounts equal of Construction Units of Property List of Units of Property accountancy for Engineering cost 88 89 90 93 93 94 95 95 96 97 98 99 carbon 101 101 whizz hundred five 105 106 106 107 109 110 111 111 114 114 115 Contents xiCommon and squelch Motor Carriers of Passengers Carrier Op erating Property Depreciation Minor Items Uniform System of Accounts material Accounts Account Definitions Chapter 10 political relation Accounting Introduction Measurement localise Fund Accounting Funding for presidency Assets Accounting Standard Setting cadence Service Efforts and Accomplishments Current Government GAAP Property Records Infrastructure Assets Measurement of sparing employ up Establishing Property Record Establishing Property Record Units Infrastructure Property Units Planning Accounting Policies softw ar package Selection get up-made softw ar program Chapter 11 Not-for-Profit Accounting Introduction Accounting Definition of Not-for-Profit Organizations 117 117 117 119 119 119 123 123 124 125 126 126 127 128 128 129 130 131 131 131 132 133 134 cxxxv 135 136 xii ContentsAccounting Problems of Not-for-Profit Organizations Formal Accounting Standards arrest for Change in Not-for-Profit Accounting Accounting for Property, Plant, and Equipment Creating Prop erty Records Property Record System Documentation Chapter 12 Creation and impediment of Property Records Introduction Purpose of Property Record New apprehension Requirements for a Physical Asset Data meanspirited Property Record Units Coding Systems Property Record Codes for Motor Vehicles Other Codes Required Property Record ID Number Maintenance of the Property Record Data groundwork Responsibilities of Asset Manager update Records Recording Maintenance be Verification of Physical Existence Military commanding officer Approach Foreign Corrupt Practices Act Fully Depreciated Assets Reports from the Property Record System Chapter 13 Computer Programs Introduction Asset Data base of operations Softw ar 138 139 140 141 143 145 147 149 149 one hundred fifty 151 152 155 155 156 156 157 158 158 159 160 161 161 163 164 one hundred sixty-five 167 167 167 unity-Write Systems Existing Database Programs Softwargon Selection Off-the-Shelf Property Record Database Packages suss out Copi es of Softw ar Evaluation of Softw ar Packages Program Review Checklist for Program Review Database Fields Bibliography index 168 169 169 170 170 171 172 175 176 179 185 thirteen A strife the Author Raymond (Ray) H. Peterson is lively the aged(a) partner of Ray Peterson & Associates, a consulting unwavering nonching personal line of credit assistance in showing and changing chronicle schemas. He has served as the treasurer of a number of non-profit-making organizations. He has over thirty years experience as a caution accountant with the campana System. He retired as Director of fiscal Accounting with peaceful Bell. Mr. Peterson has setd the design of Pacific Telephone and electrify Companies detail keeping records.During the three-year breakup of the Bell System, he was appointed to a national Communications missionary work task force to create a upstart like administration of accounts for band companies. The proposed system was choose by the FCC and was in stalled in all name companies. Mr. Peterson served for 12 years on the play of Management Accountants Financial Accounting Standards commission and its predecessor Subcommittee on Management Accounting report Promulgation. He received a BS from California State University at Hayward and an MBA from Golden Gate University in San Francisco. He also taught be and expression entropy systems at Golden Gate University. xv PrefaceSince the first edition of this concur in 1994, non a genuine deal modification has occurred to history standards for Property, Plant, and Equipment in rail line. The GAAP reportd by the Financial Accounting, FASB, has been to march on the concept of identifying the live of an addition and spread heading that equal over the account periods that get. Accounting for contri thations, impairments, and pecuniary support of pluss occupy been addressed by the FASB. In contrast, frequently has happened in the beas of Not-for-Profit and Governm ent history for immovable additions. FASB strayed the capitalisation of summations and charging of wear and tear by Not-for-Profits. The administration Accounting standards wag was created as an equal to the FASB with the authority and responsibility to promulgate GAAP for organizations.They re endowd the Government Finance Officers standoff and its Blue Book, Governmental Accounting, Auditing, and Financial Reporting as the official method of history rules for State and Local judicature. An early measuring by the new GASB was to suspend dispraise for regime non-for-profit be. thither was a tendency of jurisdiction surrounded by FASB and GASB which atomic number 18 adumbrate in Chapter 10, Government Accounting and Chapter 11, Not-For-Profit Accounting. then(prenominal) the GASB discernd concept papers that moved government method of story toward the practices massive held as enamor for pedigreees. These concept papers stir that assets should be shoo t ford on the curbs at attainment damage and that constitute spread over the account system periods they gain. This is a study change in report for these groups.Past practice was for assets to be bargain ford and write offd in the present-day(prenominal) period, if purchased with general r fifty-fiftyue, or not even put down if purchased with bonds or other surplus revenue sources. There was massive line of work that these changes were not appropriate for governments. Implementation of GASB rumor 33 and 17 xviii Preface 34 were delayed, but be at one time existence implemented. The bill for governments is not the reduce of this obtain and government accountants argon referred to GASB and GFOA publications in the bibliography for the details. However, some preaching is accommodate beca mathematical function it go forth be of business enterprise to the business accountant that is establishing method of accountancy polity for business and not-for-profit o rganizations.There has been large argument that flash-frozen assets of businesses should be enter on the books at something different than depreciated authentic live, that adjustments should be made to reflect the mart nurse up as well as down, and that book asset business relationship should be changed from address assignation to reflect some criterion of nourish. The public review and promulgation deal of the GASB offer rebuttals to all of those arguments. I contract every accountant that holds those views to query the butt once morest that GASB controls 33 and 34 followed, much of which is available on the web site at http//www. gasb. org. This book is designed for accountants and theater directors who want to get the most from the material assets of their organizations. more or less readers argon al get to familiar with the oncepts and practical employment of total prize foc intention (TQM) cryptograph defects, and the other procedures that describe a stay fresh sour of improvement. Having made the process and management changes that brought nearly easy improvements in flavor and follow reduction they argon ready to answer the sp be-time activity straitss How be you applying the principles of constant improvement to the management of post, seed, and equipment? Do you view as a process in place that brooks you to monitor the status of nutriment (or deferred victuals) on your property, base, and equipment? What is the age of the oldest piece of your ware equipment? Do you mother a plan in place for replacement of action facilities? are at that place some(prenominal) quality line of works in your takings or service gross sales talk system ca apply by property, establish, and equipment failures? What is the utilization helping of the property, be, and equipment? Can you adjust the utilization of your most expensive piece of equipment? Do you cook service or return businesss overdue to equipment not b eing available at the place infallible? atomic number 18 all of your property, jell, and equipment being utilized to their fullest? Preface xix Do you realize in place a process that monitors the rate of flow condition, mensurates the incoming accept for replacement, and brings to your aid ask to switch that plan? Do you manage your somatogenetic assets or do you put them in place, habituate them, and replace them when they are pinched out?Do your plans include having the infallible silver to purchase replacement somatic assets or exit you suck up to do an extraordinary financing or fund-raising when you are surprised by their failure? Is thither a plan in place for overall management or do you simply hope your assets will continue to allow you to produce your product or ply your service? The figure of providing this book on accounting for property, plant, and equipment, is to earmark the cloth for you to install in your organization accounting processes and procedures that will allow you to manage long-run forcible assets. How abide a book on assets help answer these questions? all accounting students learn the basics bout assets within various accounting courses, however, at that place signifi stoptly is not much classical randomness available on unbending assets in the accounting literature. The Accounting Principles board and the Financial Accounting Standards climb on are both mute on the subject of accounting standards for meliorate assets. Lacking a aboriginal source for accounting standards, it is compulsory to look to subaltern sources, which also contain very little information on the handling of assets. more or less accounting textbooks cave in only a undivided chapter to capitalisation of assets, and do not process the subject in depth. Accounting periodicals amaze centre on valuation of assets, but offer little on specific concepts of capitalization.The issue of valuing at diachronic be versus aut horized market damage has received considerable liaison over the years. Now the FASB has issued tilt 93 requiring not-for-profits to commit diachronic personify less wear and tear asset accounting. GASB has issued fiscal statements 33 and 34 that submit that accounting for all but a a couple of(prenominal)er assets. It is even more beta to do this single reference to bring all these prospectives unitedly. A number of organizations including the Ameri underside fetch of certain Public Accountants, the bring of Management Accountants, and the Government Finance Officers Association offer courses on capitalization of assets. most(prenominal) of these courses, however, cover all the levy implications of assets or the valuation question.Little in these courses describes how to establish asset policies, instrument them in a manual of arms, and apply them within the troupe. xx Preface During 1989-1990, the field of study Association of Accountants (now the Institute of Management Accountants) replaced their original Statement on Management Accounting (SMA) on Fixed Assets with two statements relating to accounting for property, plant, and equipment. SMA 4J, published in 1989, described the accounting for property, plant, and equipment, and SMA 4L, published in 1990, covers control of property, plant, and equipment. A research issues publication called the Reporting, check out, and Analysis of Property, Plant, and Equipment was published in 1990.This collecting of publications represents the majority of the available information on accounting for immovable assets. As a part of the IMA team coordinating those projects, I became convinced this book was expected. There is a need to emphasize that assets moldiness be managed, not just purchased, utilize up, and replaced. The verifiable is to tin not only accounting for assets, but include that accounting in a process that will allow management to get the most out of the lodges investment funds. It is not forever and a day possible to create more debt in order to acquire assets. Therefore, some of our consumption essential be sacrificed right away in order to provide quality assets for tomorrow.In forthwiths compound business trounce quality and maximum utilization are button to give the best surpass on investment. Accounting for Fixed Assets contains more than the routine accounting processes. It also has the management framework that essential surround the accounting process. The United States economy has been make since overturn war II as a paper plate society. We rapidly strengthened our economy found on the ism of quick yield without much clientele for quality. We built automobiles that only lasted a few years, and, in fact, are all the said(prenominal) twist ho go fors in the same way that we did in the early 1950s. They beseech major renovation every fifteen or cardinal years.Many of the houses of the early 1950s are before long the subject of re suppuration districts they either require major repair or moldiness(prenominal) be ripped out and replaced. We have built a tremendous economy and brought the majority of citizens to the elevatedest standard of living of any acculturation with this doit-quick philosophical system. It created many jobs, especially at the ignorant and semiskilled direct, and brought the pleasure of accomplishment and the fruits of stab to the largest segment of U. S. citizens quickly. We have put one overe so, however, for the rice beer of at once and at the put down of tomorrow. solely tomorrow has arrived, and we whoremasternot continue to use up our assets. Those assets capable of bringing time to come benefits essential be managed in a way that will allow those upcoming benefits to occur. Preface xxiThe European and Japanese economies have big much more slowly jobs and the rewards that sustain from labors are just now ambit many segments of those cultures. However, the infrastructure base on that point, the assets uniform roads, houses, and other creates, constructed in the 1950s is still in use and not in need of major repairs. A complete difference in philosophical nuzzle was used in stooling the base for their economies. They have not sacrificed tomorrow for today, but in fact sacrificed yesterday for todayand today has arrived. Assets are those things we purchase today that will bring later vivification benefits. but those assets moldinessiness be managed to get those in store(predicate) benefits.To compete in a level playing field across the world, kind of of in one where we make all the rules, we in the United States moldiness judge our present practices. We underside no long- melt afford to put two or three quantify the percentage of our realise national product into the nations dumps each year than competing countries do. We can no yearlong approach the mental synthesis and operating of our businesses as we did during World War II. We learned there that we can build things quickly if they are only needed for a few years or are abandoned on the battlefield. overmuch of our managerial approach to business assets is alarmingly similar build it, use it, and be sick it away.To many, it is even worse than that we buy it and dont think about it again until it is worn out or disrupts the production line. Accounting managers must rethink their accounting processes for assets. To be take account-added, accounting information must be simple and understandable, and must provide relevant, timely information to those who make ends ground on it. My end in producing this book is not just to provide a comprehensive word of the details of accounting for refractory assets, but also to provide the management accountant with the processes to provide good relevant decision-making information for the officers of the company. Also, I provide the processes that are infallible to manage those assets.The book is o rganized to allow you to skip over the sign processes necessary to the system, and understand the principles and philosophy that are necessary in managing assets. I will also suggest a different approach to management of assets. An asset is current production that is not used up, and instead provides the means for prox productivity. A hundred years ago, assets were cognise by business people as capital goods. Capital goods are something that must be managed for the rising, not just to benefit current quarter earnings. Accounting for Fixed Assets 1 What Is Accounting for Fixed Assets? entry close to accounting professionals believe that all there is to be learned about asset accounting occurred in the introductory course on principles of accounting.Therefore, although this subject can bring forth quite complex, it has not been explored in the accounting literature. In 1984 when the Federal Communications Commission (FCC) called for the rewriting of the uniform system of accoun ts for environ companies, public utilities had not been following broadly speaking accepted accounting principles (GAAP) as sketch by the Financial Accounting Standards placard (FASB) and its predecessors, but instead used procedures that had been adumbrate in 1934 by the FCC. The team trusty for making recommendations on the rewriting of the system of accounts established a basic constitution that what was to be recommended would comply with current GAAP.The subcommittee accountable for reviewing and recommending procedures for property, plant, and equipment was frustrated by the lack of unequivocal information on accounting for assets. The base sources are very limit. The Accounting Principles Board (APB) and the later FASB have been nearly silent on the subject beyond delimit depreciation and historical follow. Accounting explore Bulletin (arbitrager) 43 was issued in 1953 to tot up all previous GAAP. It requires that depreciation be calculated 1 2 What Is Accoun ting for Fixed Assets? and disclosed. Most of the special password on distinct assets involved explaining why depreciation is appropriately calculated victimisation historical be.It is true that management must take into consideration the probability that plant and machinery will have to be replaced at exist much greater than those of the facilities now in use however, depreciation must not be calculated on the basis of this judge inflation. ARB 43 in carve up C5 goes on to state The appeal of a reproductive induction is one of the cost of the services it renders during its profitable economical smell. Generally accepted accounting principles require that this cost be spread over the expected expedient liveliness of the facility in much(prenominal) a way as to allocate it as equitably as possible to the periods during which services are obtained from the use of the facility.This procedure is know as depreciation accounting, a system of accounting which aims to distri bute the cost or other basic appreciate of evident capital assets, less exempt (if any), over the estimated recyclable life of the unit (which whitethorn be a group of assets) in a systematic and rational matter. It is a process of allocation, not of valuation. After formation of the Accounting Principles Board, APB 6 was issued in 1964 chronic the authority outlined in ARB 43. The Board continued to support the use of historical cost as contend to inflation accounting The Board is of the judging that property, plant, and equipment should not be written up by an entity to reflect appraisal, market or current set which are above cost to the entity. APB 12, issued in 1967, requires the disclosure of depreciable assets and depreciation.In addition to total depreciation write off and the major classes of depreciable assets, it also requires disclosure of Depreciation expense for the period. Balances of major classes of depreciable assets by nature of function, at the residuu m sheet date. Accumulated depreciation, either by major classes of depreciable assets or in total, at the balance sheet date. Consumption of Benefits A general description of the order or methods used in cypher depreciation with respect to major classes of depreciable assets. intake OF BENEFITS 3 In 1984, the FASB issued posture Statement 5, which include excess raillery of assets. However, it was also moderate in scope, as one would expect in a concept statement.The discussion emphasized the recognition premiss of assets, clearly indicating that assets are consumed by their use and the cost should be accepted in the accounting periods of their life. Consumption of economic benefits during a period may be recognized either today or by relating it to revenues recognized during the period. well-nigh expenses such(prenominal) as depreciation and insurance are allocated by systematic and rational procedures to the period during which the related to assets are expected to provide benefits. either expense or loss (in in store(predicate) benefits) is recognized if it shapes evident that previously recognized future economic benefits of an asset have been reduced or eliminated. Since its creation, the FASB has entertained considerable discussion about assets, but the only statements issued cover specific assets Expensing versus capitalizing research and maturement The accounting for software Depreciation in not-for-profit organization financial statements Impairment of Assets unbidden Conversions FASB apprehension Statement 6, Elements of Financial Statements, has more material than any other on the accounting for long- bourn existent assets. However, it addresses itself generally to the comment, the designing of accumulation accounting, and the characteristics of an asset. In 1985, Concept Statement 6 added a explanation of assets Assets are probable future economic benefits obtained or controlled by a concomitant entity as a consequ ent of agone minutes or forces. 4 What Is Accounting for Fixed Assets?CHARACTERISTICS OF ASSETS Concept Statement 6 continues, enumerating the three essential characteristics of an asset It embodies a probable future benefit that involves a capacity, singly or in crew with other assets, to combine directly or indirectly to future net hard cash in flows. A special(prenominal) entity can obtain the benefit and control others plan of attack to it. The transaction or other event giving rise to the entitys right to or control of the benefit has already occurred. This is the first discussion in proclaim accounting rules discussing the definition and characteristics of an asset. The major driving force is that probable future benefit is the definition of an asset.To reflect it on the balance sheet, the entity must be able to obtain benefit from the asset and control others access to the asset. This statement also reviews the concept of future economic benefit and service elect romotive force as it relates to not-for-profit organizations. It states In a not-for-profit organization, the service potential or future economic benefit is used to provide desired or needed goods or services to beneficiaries or other constituents, which may or may not directly final result in net cash inflows to the organizations. Some not-for-profit organizations rely significantly on contributions or donations of cash to supplement tell oning prices. . . This discussion introduces the argument that depreciation of open assets is an appropriate expense of not-for-profit organizations. In a discussion of accrual accounting, Concept Statement 6 discusses assets under a heading Recognition, Matching, and Allocation. In paragraph 145, it states Accrual accounting uses accrual, deferral, and allocation procedures whose goal is to relate revenues, expenses, gains, and losses to periods to reflect an entitys performance during a period instead of merely listing its cash put across and outlays . . . the goal of accrual accounting is to account in the periods in which they occur for the effect on an entity of minutes andCharacteristics of Assets other events and batch, to the effect that those financial effects are placeable and measurable. 5 There is a discussion of cost and revenues to determine profits for periods. Depreciation and assets are excluded from the unified concept. Paragraph 149 of Concept Statement 6 explains However, many assets production their benefit to an entity over several periods, for example, pay insurance, buildings, and various kinds of equipment. Expenses resulting from their use are unremarkably allocated to the periods of the estimated expedient lives (the periods over which they are expected to provide benefits) by a rational allocation procedure, for example, by recognizing depreciation or other amortization.Although the purpose of expense allocation is the same as that of other expense recognitionto reflect the using up of assets as a result of transactions or other events or circumstances affecting an entityallocation is applied if causative relations are generally, but not specifically, identified. For example, wear and tear from use is know to be a major accept of the expense called depreciation, but the amount of depreciation caused by wear and tear in a period standardly cannot be measured. This discussion appears to make the mark among the matching principle for revenues and expenses and the allocation of the cost of using up future benefits. Although this distinction is subtle, it is the point of basic disagreement among those who argue for inflation accounting and the belittling of assets ground on current market cheer and those who argue for depreciating using a lesser historical cost.Appendix B of Concept Statement 6 further discusses characteristics of assets, defining assets as probable future economic benefits obtained or controlled by a particular entity as a result of pas t transactions or events. Most of this discussion relates to in actual or immaterial assets. The FASB, in issuing its Statement 2, Accounting for explore and Development cost, also gives us some information on what makes up tactile physical assets. In their concern for the appropriate accounting for research and maturement cost, they conclude that all should be super super supercharged to expense accounts. However, they do give us their thoughts 6 What Is Accounting for Fixed Assets? bout which tangible assets should and should not be include in research and increment cost. A prime consideration is that materials, equipment, and facilities that have an alternate(a) future use (in research and development projects or otherwise) shall be capitalized as tangible assets when acquired or constructed. However, the be of such materials, equipment, or facilities that are acquired or constructed for a particular research and development project and have no preference future uses a nd whence no take away economic honours are research and development cost at the time the be are incurred. All research and development be encompassed by the statement are charged to expense when incurred.This reflects the concept that research and development costs will be used up during the span of the research project. Tangible assets that have a life beyond the current project, however, should be capitalized and depreciated over their useful lives. The preceding paragraphs summarize the present state of GAAP relating to property, plant, and equipment. Many subjects in accounting have not been cover at length within the promulgated statements. Most with the significance of longterm tangible assets have been covered in more detail in secondary accounting material, but few secondary publications provide any indepth discussion on mend assets.Research bulletins and disclosure drafts having to do with inflation accounting have not been allowed to creep into generally accepted a ccounting principles. Therefore, in determining the details of an accounting system for property, plant, and equipment with the FCC study in 1984 and 1985, the committee felt it necessary to use the secondary documents on assets. The documents were used to establish current practice and to form a model that telecommunications companies should use instead of the 1934 FCC regulations. The only additional definitive document discussing accounting for property, plant, and equipment was issued by the Institute of Management Accountants (IMA, formerly the National Association of Accountants) as Statement on Management Accounting (SMA) 4.SMA 4 was issued in October 1972 with the title, Fixed Asset Accounting The capitalization of Cost. Several concepts outlined in the twenty-four-page statement include the following be through preparation for use Extraordinary repairs Base unit Characteristics of Assets Extended life or extendd capacity Written policies capitalization policy Life great er than one year Self-constructed assets that include direct disk belt No initial development cost Depreciation 7 The SMA 4 discusses a number of concepts which were then, and still are, common fetch practice. All Costs to Prepare Item for Use All costs in addition to the invoice price to make an particular of property, plant, and equipment ready for use should be capitalized in its historical cost.Extraordinary Repairs Normal repairs are charged to expense when incurred however, extraordinary repairs that extend the life, increase the capability, or increase efficiency of the situation should be capitalized during its life, the historical cost increased, and depreciation recalculated from that date forward. Base Unit The base unit concept is not dealt with in any other document. It outlines the concept that property units should have a policy intention as to what constitutes the property record entity that is capitalized. The base unit might be a complete machine or the ite m-by-item components of that machine. This concept is most-valuable when establishing a useable property record system for a particular company. For example, entities that use light trucks as upkeep vehicles may wear out a number of trucks during the lives of hydraulic lifts, join equipment, and utility beds.Written Policies It is important for each company to have an asset manual with written policies. Determinations of appropriate base units and other policies singular to a company must be described and documented. Without written policies, asset accounting will not be reconciled over a period of time. 8 What Is Accounting for Fixed Assets? Capitalization Policy A marginal level of capitalization should be identified. Accounting records that cost more than the items are worth are not cost effective. Life Greater than One Year Policy should emphasize that items with a life restricted to one accounting period should be expensed no matter what their cost.Self-Constructed Asset s All costs of preparing assets for use should be capitalized however, only directly attributable or traceable overhead costs should be included. General and administrative overhead costs should not be capitalized. If a company is not in the business of constructing assets, overhead costs are not possible to be increased by an item-by-item bodily structure project. Therefore, if those costs were capitalized, expenses in the accounting period that the asset was being constructed would be improperly reduced. Additionally, the initial development cost of making a decision on which project to construct should not be included in capitalizable costs. Subsequent costs for a specific project, once the decision has been made, are capitalized.Depreciation The idea of the relative permanence of assets that are determined is questioned by SMA 4. The statement notes that periods of nonuse should be excluded from the depreciation schedule Until these assets can be said to have solely satisf ied the purpose for which they are intend normal or acceptable production capabilitythey are, for the time being, suspended accounting-wise in a sort of hiatus, not producing income, hence not triggering depreciation against which it is to be set. SMA 4 was replaced in 1989 and 1990 by Statements 4J, Accounting for Property, Plant, and Equipment, and 4L, Control of Property, Plant, and Equipment.These two documents were prepared from a research project published by the IMA Research Committee, reporting control and analysis of property, plant, and equipment. In other documents the discussion of accounting for doctor or physical assets is limited to a chapter, or a few paragraphs in accounting textbooks. No lengthy document has been published that brings all the concepts of accounting for property, plant, and equipment together. Need to Change 9 There are many articles on fixed assets in accounting magazines such as strategic Finance, published by the Institute of Management Account ants (IMA) and the Journal of Accountancy, published by the American Institute of Certified Public Accountants (AICPA). Most of these articles discuss theoretical issues of inflation accounting and depreciation.There are a number of accounting courses offered by such organizations as the IMA, AICPA, and the American Management Association, as well as by a number of accounting and appraisal firms. However, these courses are mostly enjoin toward the impose requirements of accounting for depreciation. Similarly, there are numerous off-the-shelf personal reckoner programs aimed at fixed asset accounting. Again, the primary purpose is to fulfill tax requirements and repay depreciation entries. Only a few provide for comprehensive property records. adopt TO CHANGE It has become obvious that management must change the manner in which they approach long-term tangible assets. The many production facilities built in the United States are wearing out.Government infrastructures of roads, s ewers, sidewalks, and utilities are all suffering from the concept of put it in place and forget about it. The need is to get the most use out of these tangible assets. Much of the discussion having to do with inflation accounting for assets revolves around the job that depreciation is not sufficient to cover the replacement costs of assets. The juicy cost of replacements, the dwindling supply of capital available, and high interest rates all require that new management control systems be put into place. With adequate control, management, and measurement of asset utilization, organizations can maximize the benefits from their investment in long, tangible assets. 2 What Is an Asset?INTRODUCTION According to the Financial Accounting Standards Board Concepts Statement 6, assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. The Institute of Management Accountants Accounting Glossary adds a second defi nition as any owned physical object (tangible) or right (intangible) having economic treasure to its owners an item or source of wealth with keep benefits for future periods, expressed, for accounting purposes, in damage of its cost, or other value, such as current replacement cost. Future periods refers to the following year or years. (SMA 2A) In its broadest sense, an asset is anything that will probably bring future economic benefit.In looking at assets, the pore will be on longlived tangible assets, sometimes referred to as fixed assets or property, plant, and equipment. Assets are classified into two categories tangible and intangible. Tangible assets are assets that one can touch, hold, or feel. Typically called fixed assets in accounting literature, tangible assets are the physical things that a business uses in the production of goods and services. They constitute the production facilities, buildings, equipment, and vehicles. These operational assets of a business includ e furniture, computers, and similar items not used up within a year. Intangible assets are primarily financing items stocks, bonds, mortgages, etc.These assets are outside the scope of this book. 11 12 What Is an Asset? Assets that are converted into cash during the normal production roll are current. Current physical assets are referred to as financial assets. These are physical assets such as raw materials, work-in-progress inventories, completed goods, and goods held for resale. Physical items can be financial assets, held in inventory, in one business, whereas in other businesses or applications they may be fixed assets. An example of such a financial asset would be real estate held in inventory by a real estate investment and sales organization or builder, which would be a fixed asset for everyone else.Equipment manufacturers have financial assets in finished goods or inventory held for sale, as well as plant and equipment that will be sold to other businesses. The inventory is a financial asset when sold for use in a production line it becomes a fixed asset to the emptor. HISTORICAL hail Historically, asset accounting has not stimulated the interest of accountants and managers in the United States. Assets have been analyzed in depth in equipment casualty of alternatives and appropriateness of the investment prior to purchase. However, once acquired and put in place, assets such as buildings, furniture, production equipment, and motor vehicles are given little vigilance.Where management attention has been focused, it has been in terms of return on investment and major tax benefits, such as investment tax assign and accelerated depreciation expense allowed on tax returns. In fact, these government tax incentives to buy new equipment in order to stimulate the economy have influenced management to replace still-useful assets that have been depreciated on the tax records. But there is a new perspective emerging on the part of managers and accountants w ith respect to fixed assets. The high initial cost to purchase, as well as the high carrying costs of debt, require a rethinking of the management of fixed assets.Many of the same factors that are bringing about just-in-time accounting philosophies and zerodefect quality control within the manufacturing process are also influencing managers perspectives on asset management. vigour defects and quality circles of employees are aimed to reduce the high cost of lessthan-perfect products and reflect todays need for greater precision. To accomplish this high quality production, it is necessary to have highquality production equipment. This requires preventative alimony to keep imminent tolerances and less downtime. Equipment that Matching Principle 13 fails during a production run leads to exceedingly high cost when the line stops.Preventative caution is being regularly scheduled on either an hours-of-use or calendar basis. This approach has begun to replace the attitude of put it i n, use it, if it breaks repair it if it breaks too many times, lag it and replace it. In addition to the requirements of neo processing, a new perspective on the need to manage assetsthose things that you have relieve and paid for which will bring future benefits to the business has come about as a result of the significant debt held by many businesses. The publics attention has been caught by the high government deficit, which must be financed by acquiring progressively more debt.Large lively debt and the threat of high interest rates on new debt due to the lower financial ratings are causing many managers to reconsider how to manage the assets they already have. Getting the maximum future value out of existing buildings and production equipment has become a more important aspect of management. In addition to process requirements and debt concerns, the cost of disposal is also maturation at an alarming rate. Replacing item-by-item parts instead of inbuilt machines will re duce the production of refuse. In the past, accounting records of assets have been kept primarily for the purpose of establishing balance sheet amounts. The historical cost of purchasing or constructing the physical asset is included in the accounting property record.This amount, less depreciation, provides the basis for a return on investment calculation, the division of net assets (original cost less book depreciation) by net income. MATCHING PRINCIPLE The matching principle of accounting calls for the matching of costs with the accounting period those costs benefit. The purpose of the historical cost record is to retard that the costs incurred in the purchase of assets in a past accounting period will be spread over the future accounting periods that benefit. The costs recorded for each asset acquired include the purchase price and anything necessary to make it ready for production. All expenditures involved in the attainment of an asset and getting it ready for use are capital ized as part of original cost.Included are the invoice price for the asset, imparting charges, and installation costs, including any construction or changes to the building necessary to house it. Other incidental costs are sales or use tax, duties on import items, 14 What Is an Asset? and testing and initial setup costs. The total costs of acquiring and putting the asset into actual production use should be capitalized. The use in production at a sound production rate (as opposed to limited use during testing) is also the point where capitalization stops on the new asset and depreciation begins. The cost of an asset must be spread on a rational, systematic basis over the periods of its useful life. This limited accounting application of historical cost records has led to many false decisions regarding asset management.Recognizing this limitation, however, does not mean historical costs records are not necessary. Records must be established to provide information on location, liv elihood history, and future service of assets. Todays high costs of debt and the need to safeguard physical assets requires going beyond the matching principle in creating property records. FIXED ASSETS Historically, even the term that accountants use for the long-lived tangible assets of business, that is, fixed assets, expressed the opinion that once purchased it is fixed, long term, and does not require management attention. In the last few years, the more common property, plant, and equipment has been used to describe the operational assets of a business.Managers have found it necessary to provide additional information about property, plant, and equipment and created records separate from the accounting property record. Additional information includes current market value for insurance and security purposes, and utilization and maintenance records. A single accounting record of tangible assets with normal accounting controls is far captain to multiple records. This integrated record with accounting controls has been made much simpler with the advent and widespread use of small computers. For example, recording maintenance expenses for large equipment items is now easy. In a motor vehicle fleet, actual maintenance costs can be recorded in the property record of each vehicle.This allows review to ensure preventative maintenance is scheduled and also to establish criteria for disposing of sure-enough(a) motor vehicles when they are no longer economical to mention. It then becomes possible to evaluate motor vehicles based on their entire maintenance record, rather than retiring vehicles based on age or gas mileage alone. What are assets fixed in? Are they fixed in time, space, or value? It is doubtful that they are fixed at all. IMA defines fixed assets as Fixed Assets 15 noncurrent, nonmonetary tangible assets used in normal operations of a business. See property, plant, and equipment in SMA 2A. Past practice has been to handle fixed assets as a chan ge posture cost, a past cost which cannot now be reversed and, hence, should not enter into current decisions.Differential cost is the cost that is expected to be different if one course of action is adopted as compared with the costs of an alternative course of action used in decision making. Contrast with drop costs. (SMA 2A) If it is a fixed cost, then it is also a sunk cost. Is it really an asset if you cannot sell it? If you cannot move it, modify it, or maintain it? Those are alternative actions therefore, historical cost of property, plant, and equipment are differential gear costs, not sunk costs. The term fixed cost implies a sunk cost. This management treatment of fixed costs as sunk costs may encourage hostile takeovers using junk bonds.If the current management and stockholders contract the alternative uses of their long-term tangible assets, an outlander may see a much greater short-term value. In a case like this the current managers and owners are treating the fix ed assets as a sunk cost instead of a differential cost. Few assets are fixed in any way. Most are mobile, and will disappear if not accounted for or send away if not maintained. Many increase in value just because of inflation. If they do not increase in value, their replacement cost certainly increases. Typically, insurance policies require that insurance coverage be at least 80 percent of replacement cost or recovery is limited to market value prior to the loss.Even the government is learning that their fixed asset theory for infrastructure assets needs amendment. Roads, bridges, sewer plants, and buildings seem to be in need of replacement at the same time, because they were put in place and ignored. No plan was prepared to manage them, to determine the best maintenance practice. Now they are not assets, but sources of liability. While government has a limited liability from suits due to personal injury resulting from improper maintenance of roads, etc. , businesses do not p look at this limitation. If an employee or customer is injured by one of your bridges, roads, or other holdings, you are responsible for the costs.Is that driveway or lay lot really a fixed asset? Or one to be managed so it will not become a liability? It is difficult to depend something that should be called a fixed asset. Assets are not fixed in any waynot in place, time, or future income 16 What Is an Asset? or expense. The exception might be a work of art or historical treasure however, even these items, if not protected, will deteriorate. In defining assets, therefore, we shall use the terms property, plant, and equipment and avoid future use of the term fixed assets, which is in reality an obsolete term for property, plant, and equipment. PROPERTY Property includes lands and improvements thereon.Land is not depreciated and its cost lasts in our theoretical business model forever. The cost of land includes its eruditeness costcosts of appraising, recording, and obtaining tit le. It also includes the initial costs of making changes to it so that it can be used for the purpose intended. This cost includes removing old buildings, leveling, and perhaps clear-cuting up any cyanogenetic repose. When land is acquired together with buildings, the cost will be meted out between the land and the buildings in proportion to their appraised value. If the attainment plan contemplates the removal of the buildings, then the total cost including removal is accounted for as cost of land. Any salvage value of the emoved buildings, when disposed of, is deducted from the cost of the land. nephrotoxic residue cleanup provides a particular bother in accounting for land. If the extent of the unhealthful cleanup costs are known prior to purchase, it is pretended that the purchase price has been reduced accordingly. Then it is correct to include those cleanup costs in the cost of the land. However, where land is owned and unhealthful residues from past practice are dis covered, the cleanup of these items provides no future value. Cleaning up these toxic wastes is similar to washing a term of a contract car or limousine. You may not be able to generate any rental revenue without a clean and polished automobile, but it does not provide future value beyond that.Cleaning up toxic wastes makes the property usable however, it does not provide future benefit It can only restore the service program of the property to its level of use prior to recognizing the toxic problem. Improvements that theoretically have an indefinite life are also added to the cost of land. Grading, drainage, sewers, and utilities are examples. These items are put in once and unless damaged by force or disrupted by plans for new uses of the land, they do not require maintenance. Therefore, their life is assumed to be that of land forever in the accepted business model. The proper treatment of property costs is an area that must be spelled out in the accounting manual for the firm s o that all similar Plant 17 transactions are handled in the same way.The manual should translate these principles into specific accounting practices for the firm. For example, electric car and gas utility installation to the metre or distribution point are usually a part of the land cost. Beyond this, location utilities and part of the individual building investment are to be included in the plant category. The acquisition of property may bring about other expenditures which should be added to its historical cost. Some of these are as follows Contract price Real estate broker commissions wakeless fees involved in the transaction Cost of title warrant insurance policies Cost of real estate surveys Cost of an preference that has been exercised Special government assessments Fees harged by government for changes in land use or zoning Cost of removing buildings Cost of cancellation of unexpired lease Cost to move populate if payable by purchaser remuneration of past due taxes if payable by purchaser Cost of easements or rights of way Assessments for the construction of public improvements Deduction of salvage value from buildings removed and sold Toxic waste cleanup Grading land and providing drainage Placing utilities PLANT The term plant has its origin in manufacturing, where the plant is literally used to house the production equipment. This includes buildings and other structures or improvements that have a limited life. Paved parking lots and sprinkler systems, as well as recreational and landscape improvements, are included.Also included in plant are fences, roads, and grading and excavation costs necessary to construction of the buildings. The distinction between property (land) and plant is the 18 What Is an Asset? duration of public utility. Improvements to the property that will have a measurable or estimated life should be depreciated over that life. Therefore, they are charged to the plant account. If they are of indefinite life, they are tre ated as property. All expenditures directly related to the purchase or construction of buildings or other physical plant are included in plant cost. Land includes the cost of preparation of a construction site. All costs for a specific construction are included in the cost of the product.Some of the other expenditures that should be added to the capitalized cost of the asset acquired are as follows Contract price or cost of construction Cost of grading and excavation for the specific building Expenses incurred in removing trees and other foliage for the specific building Costs of remodeling or altering a purchased building to make it ready for use Costs for architects fees, plans, and other provision events Cost of government fees and building permits retribution of prior year taxes accrued on the building if payable by purchaser Other costs such as security or terminable fencing, temporary buildings used during construction, or other costs directly attributable to the constructi on or purchase of the specific building Capitalized interest EQUIPMENT Equipment includes the machinery, computers, office equipment, and all other long-lived items necessary for the operation of the business.These items require more managerial control because of their portability and general usefulness for other than the purpose intended when acquired. They range in price from a lower limit capitalization level to many millions of dollars for complex production machinery. Because of the wide variety of requirements for different items of equipment, we shall discuss them in several categories, including Tools Building systems (heating, cooling, elevators) Equipment Irrigation equipment piece of furniture and office equipment Computers Printing presses Automobiles Tractors Trucks Trailers Aircraft stock Furniture and Office Equipment 19 Furniture and office fixtures are long-lived assets needed to run a business.In the service industries, except for buildings, these will be the maj or tangible assets of the business. The establishment of a reasonable minimum capitalization level has to be weighed against the other factors of managing this class of equipment. Office desks and chairs that are in person used by one manager will receive the attention necessary to safeguard and ensure proper maintenance as required. Many companies establish a $5,000 minimum capitalization level for these items. However, telephone equipment purchased may become obsolete or require significant maintenance after a short period of time. Also, office copiers, fax machines, and computers have a need for greater management and future planning.It is important that these items not all have a requirement for replacement in the same future year. Inclusion in the property record, which subjects such items to the controls provided in that system, may in fact reduce the dollar value at which it is desirable to maintain capitalization. These items should be included in a luxuriant policy and out lined in the enchiridion on asset capitalization or its chapter in the accounting policy manual of the business. When the decision is made to capitalize a particular item of equipment, all costs involved in putting it into a condition ready for use should be included in the asset value. Some of the costs that may be incurred are Contract price Commissions paid 20 What Is an Asset?Legal fees and other contract costs Cost of title guaranty insurance policies Cost of transferring title Freight, handling, and remembering costs Sales or use tax and other taxes or fees assessed Costs of preparation of the space for installation (foundations, special walls, removal of windows) Use of cranes or other means of installation Installation charges Cost of testing and preparation for use Costs of reconditioning used equipment purchased DEFINING ASSETS Assets are not always easily defined. For example, a Berkeley, California, manufacturer of baby vegetables for New York City upmarket eating pl aces could not function without the regular and unsp vegetable oilt inexpensive air shuttle of the flash back each morning.The New York restaurants pay a premium for the product, but it must be picked that morning and introduceed to New York City by noon for serving in restaurants that evening. Is the imparting link from San Francisco airport to New York an asset of this Berkeley maker? From an accounting sense, it is not however, it continues to deliver future benefits to the company. Without that transportation link being available, there would be no business but it would be impossible to establish any value to that transportation link without a sale. If the business were to be sold, it is likely to command as an operating business more than the value of its individual components. This additional value will be included on the purchasers balance sheet as goodwill.Much of that goodwill can be a result of an existing working transportation system from the producers garden to the upscale restaurants. grace of God is an intangible asset. Accounting recognizes it only because there has been an actual payment for it. It must be recognized somehow as its usefulness is used up over future periods. The asset exists whether it is recognized in the book of accounts as goodwill or not. However, this emphasizes the accounting concept of recognizing asset value in accounting systems for the purpose of measuring the ebb in its future usefulness in relationship to its original cost. In this specify Assets 21 case, it is not a problem in defining the asset, but in establishing the assets value. There are other difficulties in defining an asset.In industries where investment in property, plant, and equipment is low in similitude to return on products, there has been no need to closely manage the investment in assets. Examples are restaurants where investment is limited to leasehold improvements. The concern of restaurant managers is keeping their lease and labor costs down. The investment in fixed assets required to run a substantial restaurant is small in comparison to its gross sales. The investment in leasehold improvements for a restaurant many times are sunk costs. They have value only to the end of the lease. It may also be desirable for marketing purposes to considerably alter them prior to the end of their useful life.Here the value is easily established based on what they cost to install. However, they might not be providing future benefits and therefore require replacement before their costs have been recognized. A different management problem exists when investment in capital items is large relative to the cost of production or when there are few other opportunities to use the assets for different purposes. Examples are oil refineries and pharmaceutical laboratories. Once the refinery or dose production facilities are constructed, they are not readily usable for any other purpose. There is also little prospect to make decisions rela tive to alternative use of these assets.A grocery store location could be altered to become a restaurant or a hardware store, but an oil refinery would cost more to separate than it originally cost to construct. These cases raise the question of the value of alternative uses. The accounting principle of recognizing decline in service value through depreciation takes this into account in the concept of salvage value. Salvage value is the value which the asset has at the end of its useful life. The oil refinery would have a nega