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Chapter 11: Q23E (page 589)

(Depletion Computations—Minerals) At the beginning of 2017, Aristotle Company acquired a mine for \(970,000. Of this amount, \)100,000 was ascribed to the land value and the remaining portion to the minerals in the mine. Surveys conducted by geologists have indicated that approximately 12,000,000 units of ore appear to be in the mine. Aristotle incurred \(170,000 of development costs associated with this mine prior to any extraction of minerals. It also determined that the fair value of its obligation to prepare the land for an alternative use when all of the mineral has been removed was \)40,000. During 2017, 2,500,000 units of ore were extracted and 2,100,000 of these units were sold.

Instructions

Compute the following.

  1. The total amount of depletion for 2017.
  2. The amount that is charged as an expense for 2017 for the cost of the minerals sold during 2017.

Short Answer

Expert verified

Answer

  1. Depletion = $225,000
  2. Expenses = $189,000

Step by step solution

01

Meaning of Depletion 

Theloss of natural resources as a result of access to them on a regular basis is called depletion.Hence, a company uses it when any kind of registered asset is involved, such as oil, coal, or gravel deposits.

02

(a) Calculating the amount of depletion for 2017

Calculating depletion per unit

Depletionperunit=Costmineacquired-Landvalue+Developmentcost+FairvalueobligationExpectedunits=$970,000-$100,000+$170,000+$40,00012,000,000=$1,080,00012,000,000=$0.09


Calculating the amount of depletion

Depletion=Numberofunitsextracted×Depletioncostperunit=2,500,000×$0.09=$225,000


03

(b) Calculating the amount that is charged as an expense for 2017 for the cost of the minerals sold during 2017

Expenses=Number ofunitssold×Depletioncostperunit=2,100,000×$0.09=$189,000

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Most popular questions from this chapter

(Comprehensive Fixed-Asset Problem) Darby Sporting Goods Inc. has been experiencing growth in the demand for its products over the last several years. The last two Olympic Games greatly increased the popularity of basketball around the world. As a result, a European sports retailing consortium entered into an agreement with Darby’s Roundball Division to purchase basketballs and other accessories on an increasing basis over the next 5 years.

To be able to meet the quantity commitments of this agreement, Darby had to obtain additional manufacturing capacity. A real estate firm located an available factory in close proximity to Darby’s Roundball manufacturing facility, and Darby agreed to purchase the factory and used machinery from Encino Athletic Equipment Company on October 1, 2016. Renovations were necessary to convert the factory for Darby’s manufacturing use.

The terms of the agreement required Darby to pay Encino \(50,000 when renovations started on January 1, 2017, with the balance to be paid as renovations were completed. The overall purchase price for the factory and machinery was \)400,000. The building renovations were contracted to Malone Construction at \(100,000. The payments made, as renovations progressed during 2017, are shown below. The factory was placed in service on January 1, 2018.

1/1

4/1

10/1

12/31

Encino

\)50,000

\(90,000

\)110,000

\(150,000

Malone

30,000

30,000

40,000

On January 1, 2017, Darby secured a \)500,000 line-of-credit with a 12% interest rate to finance the purchase cost of the factory and machinery, and the renovation costs. Darby drew down on the line-of-credit to meet the payment schedule shown above; this was Darby’s only outstanding loan during 2017.

Bob Sprague, Darby’s controller, will capitalize the maximum allowable interest costs for this project. Darby’s policy regarding purchases of this nature is to use the appraisal value of the land for book purposes and prorate the balance of the purchase price over the remaining items. The building had originally cost Encino \(300,000 and had a net book value of \)50,000, while the machinery originally cost \(125,000 and had a net book value of \)40,000 on the date of sale. The land was recorded on Encino’s books at \(40,000. An appraisal, conducted by independent appraisers at the time of acquisition, valued the land at \)290,000, the building at \(105,000, and the machinery at \)45,000.

Angie Justice, chief engineer, estimated that the renovated plant would be used for 15 years, with an estimated salvage value of \(30,000. Justice estimated that the productive machinery would have a remaining useful life of 5 years and a salvage value of \)3,000. Darby’s depreciation policy specifies the 200% declining-balance method for machinery and the 150% decliningbalance method for the

plant. One-half year’s depreciation is taken in the year the plant is placed in service, and one-half year is allowed when the property is disposed of or retired. Darby uses a 360-day year for calculating interest costs.

Instructions

  1. Determine the amounts to be recorded on the books of Darby Sporting Goods Inc. as of December 31, 2017, for each of the following properties acquired from Encino Athletic Equipment Company.
    1. Land.
    2. Buildings.
    3. Machinery.
  2. Calculate Darby Sporting Goods Inc.’s 2018 depreciation expense, for book purposes, for each of the properties acquired from Encino Athletic Equipment Company.
  3. Discuss the arguments for and against the capitalization of interest costs.

On January 1, 2016, Locke Company, a small machine-tool manufacturer, acquired for \(1,260,000 a piece of new industrial equipment. The new equipment had a useful life of 5 years, and the salvage value was estimated to be \)60,000. Locke estimates that the new equipment can produce 12,000 machine tools in its first year. It estimates that production will decline by 1,000 units per year over the remaining useful life of the equipment.

The following depreciation methods may be used:

  1. straight-line,
  2. double-declining-balance,
  3. sum-of-the-years’-digits, and
  4. units-of-output. For tax purposes, the class life is 7 years.

Use the MACRS tables for computing depreciation.

Instructions

  1. Which depreciation method would maximize net income for financial statement reporting for the 3-year period ending December 31, 2018? Prepare a schedule showing the amount of accumulated depreciation at December 31, 2018, under the method selected. Ignore present value, income tax, and deferred income tax considerations.
  2. Which depreciation method (MACRS or optional straight-line) would minimize net income for income tax reporting for the 3-year period ending December 31, 2018? Determine the amount of accumulated depreciation at December 31, 2018. Ignore present value considerations.

Why might a company choose not to use revaluation accounting?

(Depletion Computations—Timber) Stanislaw Timber Company owns 9,000 acres of timberland purchased in 2006 at a cost of \(1,400 per acre. At the time of purchase, the land without the timber was valued at \)400 per acre. In 2007, Stanislaw built fire lanes and roads, with a life of 30 years, at a cost of \(84,000. Every year, Stanislaw sprays to prevent disease at a cost of \)3,000 per year and spends \(7,000 to maintain the fire lanes and roads. During 2008, Stanislaw selectively logged and sold 700,000 board feet of timber of the estimated 3,500,000 board feet. In 2009, Stanislaw planted new seedlings to replace the trees cut at a cost of \)100,000.

Instructions

  1. Determine the depreciation expense and the cost of timber sold related to depletion for 2008.
  2. Stanislaw has not logged since 2008. If Stanislaw logged and sold 900,000 board feet of timber in 2019, when the timber cruise (appraiser) estimated 5,000,000 board feet, determine the cost of timber sold related to depletion for 2019.

Charlie Parker, president of Spinners Company, has recently noted that depreciation increases cash provided by operations and therefore depreciation is a good source of funds. Do you agree? Discuss.
See all solutions

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