Long-Term Assets

Natural Resources and Intangible Assets

Natural Resources

When natural resources are consumed, they are depleted. Depletion expense is computed by multiplying the depletion rate by the quantity extracted for the period.

Natural resources are defined as assets that are formed naturally over time. Some examples of natural resources include timber, minerals, and oil. Like other long-term assets, natural resources are reported on the balance sheet at book value, and all costs associated with getting the asset ready for its intended purpose or use are included in the cost of the asset.

Depletion is the process of transferring the cost of a natural resource to an expense as it is consumed. As natural resources are consumed, they are considered to be depleted. Depletion, like depreciation, allows for the transfer of the cost of the asset to an expense account over time. In order to determine the rate of depletion, the cost of the resource is divided by the estimated total units of the resource available. Then, to determine the current period depletion expense, the depletion rate is multiplied by the quantity extracted. This approach is similar to the units-of-production method. To record the depletion expense for the period, debit the Depletion Expense account and credit Accumulated Depletion, a contra asset account.

To illustrate, Cassie Enterprises purchased mining rights at $600,000.

Cassie Enterprises Mining Rights

Cost of mineral deposit $600,000
Estimated total units of resource 1,500,000 tons
Tons mined during the year 80,000 tons

The annual depletion expense of $32,000 is computed using a formula.

Step 1:
Depletion Rate=Cost of ResourceEstimated Total Units of Resource=$600,0001,500,000tons=$0.40per ton\begin{aligned}\text{Depletion Rate}&=\frac{\text{Cost of Resource}}{\text{Estimated Total Units of Resource}}\\&=\frac{\$600,000}{1,500,000\;\text{tons}}\\&=\$0.40\;\text{per ton}\end{aligned}
Step 2:
Current Period Depletion Expense=$0.40per Ton×80,000Tons=$32,000\begin{aligned}\text{Current Period Depletion Expense}&=\$0.40\;\text{per Ton}\times80\rm{,}000\;\text{Tons}\\&=\$32\rm{,}000\end{aligned}
Cassie Enterprises then makes an entry to record depletion expense as a debit of $32,000 for the current period.

Depletion Expense Journal Entry

Date Description Debit Credit
Dec 31 Depletion Expense $32,000
Accumulated Depletion $32,000
To record depletion of mineral deposit

Intangible Assets

There are four common types of intangible assets: patents, copyrights, trademarks, and goodwill. Patents, copyrights, and trademarks are generally amortized over the life of the asset. Goodwill is not amortized.

An intangible asset is an asset that is nonphysical and provides business entities with long-term rights, privileges, or competitive advantages. Characterized by the lack of physical substance, intangible assets are recorded at cost. The most common intangible assets are patents, copyrights, trademarks, and goodwill. Intangible assets can be categorized by their useful life: limited or unlimited. Intangible assets with limited life should be amortized over its useful life. Intangible assets with an indefinite life, such as goodwill, should not be amortized. Very similar to depreciation, amortization is the process of spreading or allocating a cost or payment over a period of time. Amortizing an intangible asset spreads the asset costs over the life of the asset. Unlike depreciation, the straight-line method is, with few exceptions, the only method of amortization used for intangibles. Amortization can be computed by dividing the intangible assets' costs by the estimated useful life.

Defined as an exclusive right granted to use a process or to produce or sell an item, a patent has a maximum useful life of 20 years. To properly account for patents, the patent account should be debited at acquisition for the cost to acquire the rights. Because of the fact that a patent has a limited life, it should be amortized over its estimated useful life not to exceed 20 years. The amortization entry is a debit to Amortization Expense-Patents and a credit to Accumulated Amortization-Patents.

Hollywood Movies purchases a patent for $35,000. To record the patent, Hollywood Movies will make a journal entry.

Patent Purchase Journal Entry

Date Description Debit Credit
June 1 Patents $35,000
Cash $35,000
To record patent purchase

Hollywood Movies estimates the useful life of the patent to be 20 years. Each year, it will record amortization expense for its patents of $1,750, calculated as ($35,000/20Years)=$1,750Annual Amortization Amount(\$35\rm{,}000/20\;\text{Years})=\$1\rm{,}750\;\text{Annual Amortization Amount}.

Patent Amortization Journal Entry

Date Description Debit Credit
June 30 Amortization Expense Patents $1,750
Accumulated Amortization Patents $1,750
To record patent amortization

A copyright provides exclusive publishing rights for performing arts, literary works, visual arts, digital content, photographs, and motion pictures. A copyright has a useful life that extends 70 years beyond the death of said author of the musical, literary, or artistic work. The United States Copyright Office provides copyrights. Copyrights are amortized over the life of the intangible asset. To determine the amortization for a copyright, divide the cost of the copyright by the estimated useful life.

Hollywood Movies purchases a copyright for $140,000. It makes a journal entry to record the purchase.

Copyright Purchase Entry

Date Description Debit Credit
June 1 Copyrights $140,000
Cash $140,000
To record copyright purchase

Hollywood Movies estimates the copyright to have a useful life of 25 years. Each year it will record amortization expense for its copyright of $7,000, calculated as ($140,000/25Years)=$5,600Annual Amortization Amount(\$140\rm{,}000/25\;\text{Years})=\$5\rm{,}600\;\text{Annual Amortization Amount}.

Copyright Amortization Entry

Date Description Debit Credit
June 30 Amortization Expense Copyrights $5,600
Accumulated Amortization Copyrights $5,600
To record copyright amortization

A trademark is a unique symbol, name, phrase, or jingle used to identify a business entity, product, or service. Some examples of trademarks include the "golden arches" representing McDonald's, "swoosh" for Nike, and "the siren" for Starbucks. Trademark ownership is established by registering with the United States Patent Office. Trademark development and enhancement costs are charged to an expense account when incurred. However, if a trademark is purchased, the cost of the asset is debited to trademarks and should be amortized over the life of the intangible asset. Trademarks can be renewed indefinitely. The cost associated with the renewal is not amortized.

Tom's Burgers purchases a trademark for $150,000 for cash. It makes a journal entry to record the purchase.

Trademark Purchase Journal Entry

Date Description Debit Credit
June 1 Trademarks $150,000
Cash $150,000
To record trademark purchase

Tom's Burgers estimates the trademark to have a useful life of 30 years. Each year, it will record amortization expense for its trademark of $5,000, calculated as ($150,000/30Years)=$5,000Annual Amortization Amount(\$150\rm{,}000/30\;\text{Years})=\$5\rm{,}000\;\text{Annual Amortization Amount}.

Trademark Amortization Journal Entry

Date Description Debit Credit
June 30 Amortization Expense Trademarks $5,000
Accumulated Amortization Trademarks $5,000
To record trademark amortization

Goodwill is the premium paid over the market value of net assets (market value of identifiable assets minus market value of identifiable liabilities) in a completed acquisition. The implication behind goodwill is that the acquired business entity has a superior-quality product or service, reputation, or other attribute that demands paying a premium to acquire it. Unlike other intangible assets, goodwill is not recorded unless the entire business is acquired. To determine the amount of goodwill in the event that the entire entity is acquired, one would take the purchase price minus the market value of the net assets. The net assets are the total assets less goodwill minus the total liabilities. Goodwill is then recorded as an asset. Goodwill is not subject to amortization. However, it must be tested each year to determine if it has been impaired.