The course builds on my Introduction to Financial Accounting course, which you should complete first. In this course, you will learn how to read, understand, and analyze most of the information provided by companies in their financial statements. These skills will help you make more informed decisions using financial information.
Video 6.3: Long-lived Assets Disclosure Example
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Skills You'll Learn
Financial Accounting, Financial Statement, Accounting, Generally Accepted Accounting Principles, Accounting Terminology
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KL
Jan 30, 2019
It got tougher as it went along, but Professor Brian Bushee never failed to make it interesting or at the very least, understandable. His virtual students livened things up!
BM
Feb 13, 2018
This entire course was very well done. I liked the professor and his virtual students. They asked (for the most part) relevant questions that added to my understanding.
From the lesson
Week 6: Long-lived Assets and Marketable Securities
This week, we will cover assets that represent longer-term investments. We will start with Property, Plant, and Equipment, covering questions like: What gets included in these accounts? How are they depreciated? What happens if their value is impaired? Then, we will cover similar questions for Intangible Assets, including Goodwill. Finally, we will discuss how companies account for investments in debt and equity securities and how the treatment for equity investments in other companies is determined by how much of the other company is owned.
Taught By
Brian J Bushee
The Geoffrey T. Boisi Professor
Hello, I'm Brian Boushe, welcome back.
In this video we're going to look at some financial statement excerpts and
footnote disclosures about long lived assets.
Both tangible and intangible.
To see what kind of information we can pull out of the financial statements,
related to the topics that we've been talking about so far this week.
Let's get to it.
'Kay, the disclosure we're going to look at is for Lyons Incorporated.
They manufacture hurleys.
Which are the sticks used in the sport hurling which is one of
the most popular sports in Ireland, I believe.
Anyway, one of the things we'll see when we look at Lyons disclosure is that in
2008 they acquired Finch Corporation, but the acquisition hasn't worked
out that well and Lyons had to take a Goodwill impairment charge in 2012.
We're going to use Lyons footnote disclosures to
answer the following questions.
For property plan equipment,
we're going to try to find out what's the historical cost of their PP&E.
How much new PP&E did the company acquire during 2012,
and what's the historical cost of the PP&E that Lyons sold during the year.
For intangibles we'll see if we can figure out how many years Lyons has left
before its patents expire.
And we'll talk about how the Goodwill impairment affected Lyon's financial
statements and ratios in 2012.
Here is the asset part of the balance sheet for Lyons.
First question on our agenda was, what was the historical cost of PP&E?
We can see PP&E on the balance sheet, but we don't see the historical cost.
All we get is one line with the net number, property plant equipment net.
So if we go to Footnote 7,
that's where Lyons discloses more detail about their property and equipment.
So we can see here, in the footnote,
we have the original cost, accumulated appreciation, property and equipment net.
And then they give us some detail below that on the estimated service lives or
the useful lives of their PP&E.
So now you can answer the question what is the historical cost of PP&E.
It was $825 million in 2012.
And $768.5 million in 2011.
>> This is a tangential question, but
I always thought that land was not depreciated.
Why is land included in the list of assets that have accumulated depreciation?
>> Now, that's a good, tangential question.
Land is not depreciated.
For some reason, the historical tradition is to present property plant
equipment in this manner, including land,
which is not depreciated, with buildings, machinery equipment, which is depreciated.
Just keep in mind that none of that accumulated depreciation applies to
the land.
The land comes on at historical costs and
stays there unless there has to be some write down due to impairment.
>> Another tangential question.
Why are the useful lives such big ranges?
I mean, how useful is it to know that buildings are depreciated over 3
to 50 years?
>> Another good tangential question.
I agree.
This part of the disclosure generally is somewhat deficient in that it gives you
too big a range to figure out exactly what kind of useful lives the company's doing,
and Lyons company is especially egregious in combining assets that have three to
fifty year lives.
If I was an analyst or a big investor, I would complain about this disclosure, and
ask the company to be a little bit more specific.
Okay, moving on again, I am going to keep track of a PP&ET account.
This is the original cost, which will carry through the example,
we'll need this to figure out some information later.
So the next question is, how much property plan equipment was acquired in 2012?
And to answer this I pulled in the investing section of line statement of
cash flows.
And there's supplemental cash flow disclosures which are at the bottom of
the statement.
What we can see here is they had cash capital expenditures of 29.4 during 2012.
They had non-cash acquisition of property for
a 41.2 which gives you a total of 70.6 of PP&E acquired during the year.
So bringing up our T account, we can add that as one of the debit entries.
So our PP&E increased by 70.6 during the year because of
the cash capital expenditures and the non-cash acquisition of property.
>> Why is CAPEX a negative number, but
non-cash acquisitions are a positive number?
And what is a non-cash acquisition anyway?
Did Lyons trade baseball cards for the property?
>> Baseball cards?
I think it's more likely that Lyons would have to trade Pokemon cards to
get property these days.
So a good question, what is a non-cash acquisition of property.
Couple examples, one is sometimes the companies make acquisitions using
shares of stock, rather than cash.
So if you acquire a company using stock there's no cash involved, and so
that would be a non-cash acquisition of the property.
And sometimes the seller of the property provides the debt financing.
So instead of getting cash from a bank and then using that to buy the,
the property, the seller loans us the money, but then no cash exchange hands and
it's considered a non-cash acquisition if we get seller financing.
Now it's just a convention that the cash capital expenditures are shown as
negative, as use of cash on the cash flow statement.
And then non-cash acquisitions are shown positive,
it's an acquisition of property, treat them both as positive numbers.
And add them together to get CAPEX.
Next, we're going to calculate the historical cost of
property plant equipment that was sold in 2012.
So we've got our PP&E T account,
where we just filled in the amount of acquired PP&E.
And all we need to do is plug a credit to make this balance and
we figure out the historical cost that PP`&E was sold.
So we've got 768.8 plus 70.6 doesn't equal 825.1 the ending balance,
so it must be the case that we sold PP&E during the year and
the credit that makes this balance is 14.0.
>> How do you know that we sold 14 million of PP&E if there are no
other transactions that would effect the account?
>> Good question, the other transaction that could run through here is
an impairment of PP&E, if the market value dropped below cost and
we had to write it down, that would show up here as well.
We're going to continue going through the disclosures, and check whether we can find
any evidence of an impairment, and if not then this 14.0 sold will make sense,
plus we can find other data which will confirm that this is the right number.
So let's do the journal entry to see how everything fits together.
So we've got a debit to cash of 8.8 million, where did I get that?
If you look up here on the investing section of the statement of cashflows,
we have proceeds from disposal of property, plant, and equipment,
8.8 million, that was the cashflow that we received from selling PP&E.
And then we know from our T account,
that the original cost of the PP&E was 14 million, that was the credit to PP&E.
[SOUND] We go to the statement of cash flows, the operating section.
You can see there's a line, Loss on sale of assets, 0.2, so
we booked a loss of 200,000 on selling the assets, hence it's a loss that's a debit,
and so we fill in the loss on sale of assets for 200,000.
Journal entry doesn't balance.
What are we missing?
Well, we always have to take out the accumulated depreciation as well.
So if we debit accumulated depreciation for 5 million to remove the accumulated
depreciation associated with the sale, then that will balance our journal entry.
And what it looks like is we sold plant and
equipment that had a net book value of 9 million so 14 minus 5.
We sold that 9 million for 8.8 million and
as a result took a loss of 200,000 on the sale.
>> So, the net book value of the PP&E that was sold was 9 million.
Why did we sell it at a loss?
Is that bad news?
>> No, it's not bad news, and this is a good review of something we
talked about a couple videos ago, A gain or
loss on sale does not mean that we sold it for less or more than its market value.
We probably sold it for it's market value.
The gain or loss represents the fact that we didn't depreciate it enough or
we depreciated it too much.
So in this case the loss means that we hadn't depreciated the asset enough by
the time we sold it.
So its book value is above its market value, and so
the loss just corrects the fact that we hadn't appreciated it enough, but
we did sell it for its market value.
Now I want to do one more thing which is try to
balance the accumulated depreciation T account, as another way just to make
sure that we've taken care of everything that's happened relative to buying and
selling and depreciating equipment during the year for Lyons Incorporated.
So here's the accumulated depreciation T account, contra asset.
We don't know the beginning and ending balance yet.
But we know that we have this debit of 5 million, which took
out the accumulated depreciation on the equipment that was sold during the year.
The plant and equipment.
We go back to Footnote 7.
And here we can see the beginning and
ending balance of accumulated depreciation.
Beginning balance was 438.3, ending 496.5.
So that means the depreciation expense has to be 63.2.
That's the credit that we need to make this account balance.
because the two things that affect accumulating depreciation is we
add depreciation expense as a credit to increase the account, and
then we subtract the accumulated depreciation on the equipment we sold.
We debit the account to reduce it.
So the number that makes this balance is 63.2.
And then if we pop back to the operating section of the statement of cash flows for
Lyons, you can see that sure enough, their depreciation was 63.2 during 2012.
And so we made everything balanced by going through all the footnote
disclosures, filling out our T accounts, verify that we weren't missing anything,
and in doing so we figured out the original cost of the property plant and
equipment sold during the year.
>> Wow, that was a lot of time spent on PP&E.
Will we ever get to the Goodwill part?
>> Yes, let's go there now.
Moving onto the intangible assets in Lyons and
report their footnote 8 summarized Goodwill and other intangibles.
So, the top of the note is Goodwill.
We'll come back to that later.
Below that are the other intangible assets, which were trademarks and patents.
And we get the amortization period for both trademarks and pattens below.
What were going to answer first is how long before the the patents expire?
So we can see the accumulative amortization is 11.3 million.
The original cost was 32.3 million.
So we can divide 11.3 by 32.3, and
see that 35% of the original cost has been amortized.
Has been used up.
Well, if the total period for the patents is 16 years,
35% of 16 years is 5.6 years that have been used up.
So if we take 16 minus 5.6 it means that there's 10.4 years left.
And of course this is on average,
because this is the average of all the patents that they have.
So we can use the percent of the patents that have been amortized so
far, to figure out how much of the patents have been quote, unquote used up and
then back into how many years on average are left before the patents expire.
>> This would have been a really cool calculation if you had not messed it up.
What about salvage value?
You forgot to add it into your calculation.
>> Hey I didn't mess this one up.
So in the case of a patent,
it's reasonable to assume the salvage value is zero.
Because once the patent expires, than any competitor can use that
technology in their own product, and the peck technology advantage is gone.
So, for the case of patent, and, and
a lot of intangibles, you could assume safely zero salvage value.
Now notice we did not do this kind of calculation for plant and
equipment, because in that case there probably is salvage value, and
we if try to do this kind of analysis there'd be a lot more error.
So you can do it for intangible assets, but
it's harder to do for tangible assets like property, plant and equipment.
[SOUND] So
finally, we're going to talk about the effect of the Goodwill impairment.
So if you look at the top of the footnote, you can see the Impairment charge, 285.3.
So the journal entry for that was the recorded a loss, debit loss,
which is going to show up on the income statement, 285.3.
Credit Goodwill, reduce the asset by the same amount.
And as you can see, that brought down the asset quite a bit.
If we flip over to the statement of cash flows, the operating section,
here you can see the net loss during the year was a loss of almost 100 million,
so 99.4 million.
So, this Goodwill impairment caused the company to have a net loss, which will
also negatively effect their Retained Earnings and their Stockholders Equity.
But there is no impact on cash from operations and it
won't affect EBITDA either because it will be a non-cash charge that's added back.
And it's really striking where if you look at the top line, Lyons went
from a $100 million of net earnings, to a $100 million of net loss, basically.
So their profits swung down $280 million because of this impairment charge.
But yet their cash from operations went up,
reflecting the fact that this wasn't a non-cash charge.
We go to their balance sheet, we can see that total assets dropped from
2011 to 2012, driven by that big drop in Goodwill from the write-off.
And so what this means is any ratios you look at that include earnings, assets, or
equity will be adversely affected by the Goodwill write-off which is almost all of
them, right?
ROE, ROA, asset turnover, all of those ratios are going to be biased this year,
by that Goodwill write-off, and to get a better comparison about how
the company actually performs, you may want to add back that Goodwill write-off,
before you calculate the ratios to get a better picture.
But other than it keep a better picture of how the company performed this year,
we don't want to totally ignore the Goodwill impairment charts because it
does suggest that the company made a bad acquisition, and
that has potential implication for future cash flows,.
And that we might not expect the company to perform as well,
given that their acquisition didn't turn out as well as expected.
>> Now do you understand the effect of a Goodwill impairment charge?
As I said, it has no impact on cash flow or EBITDA.
>> Yes, I see that now.
But, we still have not talked about deferred taxes.
>> Excuse me, that was a little bit rude that you cut her off,
especially since she knows what she's been talking about.
She's been paying attention to these videos.
We'll talk about deferred taxes in week eight, and you're welcome to come back but
you need to be more polite, to your fellow virtual students.
Okay that wraps up our look at tangible and intangible long lived assets.
We have only one more type of asset that we're going to look at before we move to
the other side of the balance sheet.
And that asset is investments in other companies' stock or other companies' debt.
I'll see you next time.
>> See you next video.
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