Long-Lived Assets: From Purchase to Disposal

Capitalize It. Depreciate It. Evaluate It. Dispose of It.

Long-lived asset accounting is really one continuous story. Start by determining the asset's cost, then follow that cost through use, impairment, and eventual disposal.

The Big Picture: The cost principle starts the story.

Record an asset at the costs necessary to acquire it and prepare it for its intended use.

Once the asset is ready for use, depreciation allocates its cost over time. Book value tracks how much recorded cost remains. Impairment may reduce that amount further, and disposal removes the asset from the books.

Step 1: What Is the Asset's Cost?

A company purchases equipment for $60,000.

Freight = $2,000
Installation = $3,000
Testing before use = $1,000
First-year insurance = $1,500
Work it first: Which costs should be capitalized as part of Equipment?
Reveal the asset cost

Capitalize costs necessary to acquire the asset and prepare it for use:

Purchase price = $60,000
Freight = $2,000
Installation = $3,000
Testing = $1,000

Total Equipment Cost = $66,000

First-year insurance relates to using the asset after it is ready, so it is not part of Equipment cost.

Ask one question:

Was this cost necessary to get the asset ready for its intended use?

If yes, it is generally capitalized. Routine costs of using and maintaining the asset are generally expensed.

Step 2: Determine the Depreciable Base

Equipment Cost = $66,000
Residual Value = $6,000
Useful Life = 5 years
Work it first: What is the depreciable base?
Reveal the depreciable base

Cost − Residual Value

$66,000 − $6,000 = $60,000 depreciable base

Straight-Line Depreciation

Work it first: Calculate annual straight-line depreciation.
Reveal straight-line depreciation

$60,000 ÷ 5 years = $12,000 per year

Units-of-Production

Assume the equipment is expected to produce 100,000 units and produces 18,000 units this year.

Work it first: Calculate depreciation for the year.
Reveal units-of-production

$60,000 ÷ 100,000 units = $0.60 per unit

18,000 × $0.60 = $10,800 depreciation

Double-Declining Balance

Work it first: Using a 5-year life, calculate Year 1 DDB depreciation on the $66,000 asset.
Reveal DDB

Straight-line rate = 1 ÷ 5 = 20%

DDB rate = 40%

$66,000 × 40% = $26,400 Year 1 depreciation

Residual value is not subtracted before applying the DDB rate. It acts as a floor so the asset is not depreciated below residual value.

Same Asset, Different Depreciation Pattern

Reveal the comparison
Method What Drives Expense? Pattern
Straight-Line Time Equal each full year
Units-of-Production Actual activity Changes with usage
Double-Declining Beginning Book Value Higher earlier, lower later

Step 3: Know Book Value

Suppose accumulated depreciation is $38,000.

Work it first: What is the equipment's book value?
Reveal book value

Cost − Accumulated Depreciation

$66,000 − $38,000 = $28,000 book value

Step 4: What If the Asset Is Impaired?

Assume the asset's carrying amount must be reduced from $28,000 to $21,000.

Work it first: How large is the impairment loss, and what happens to the financial statements?
Reveal impairment

$28,000 − $21,000 = $7,000 impairment loss

The write-down reduces:

Assets
Net Income
Stockholders' Equity

An impairment loss does not create a liability.

Step 5: Dispose of the Asset

Asset Cost = $66,000
Accumulated Depreciation at Disposal = $46,000
Cash Received = $24,000
Work it first: Find book value first. Then determine the gain or loss.
Reveal the disposal

Book Value:

$66,000 − $46,000 = $20,000

Compare proceeds with book value:

$24,000 − $20,000 = $4,000 gain

Cash received is greater than book value, so the company recognizes a gain.

Never compare proceeds with original cost.

For a disposal:

1. Update depreciation through the disposal date.
2. Calculate book value.
3. Compare proceeds with book value.
4. Remove both the asset cost and accumulated depreciation.

Step 6: Evaluate How Effectively the Assets Are Being Used

Net Sales Revenue = $1,200,000
Beginning Net Fixed Assets = $280,000
Ending Net Fixed Assets = $320,000
Work it first: Calculate average net fixed assets and fixed asset turnover.
Reveal fixed asset turnover

Average Net Fixed Assets:

($280,000 + $320,000) ÷ 2 = $300,000

Fixed Asset Turnover:

$1,200,000 ÷ $300,000 = 4.0 times

The company generates $4 of sales for each $1 invested in average net fixed assets.

The Six Things to Remember

1
Build the asset's cost first.
Capitalize costs necessary to acquire and prepare it for use.
2
Depreciation allocates cost.
It does not measure market value.
3
Know the method.
Straight-line, units-of-production, and DDB produce different patterns.
4
Book value matters.
Cost − Accumulated Depreciation.
5
Disposal uses book value.
Compare proceeds with book value, not original cost.
6
Ratios tell another part of the story.
Fixed asset turnover measures sales generated from the investment in fixed assets.