(Purchases by Deferred Payment, Lump-Sum, and Nonmonetary Exchanges) Klamath Company, a manufacturer of ballet shoes, is experiencing a period of sustained growth. In an effort to expand its production capacity to meet the increased demand for its product, the company recently made several acquisitions of plant and equipment. Rob Joffrey, newly hired in the position of fixed-asset accountant, requested that Danny Nolte, Klamath’s controller, review the following transactions.
Transaction 1: On June 1, 2017, Klamath Company purchased equipment from Wyandot Corporation. Klamath issued a \(28,000, 4-year, zero-interest-bearing note to Wyandot for the new equipment. Klamath will pay off the note in four equal installments due at the end of each of the next 4 years. At the date of the transaction, the prevailing market rate of interest for obligations of this nature was 10%. Freight costs of \)425 and installation costs of \(500 were incurred in completing this transaction. The appropriate factors for the time value of money at a 10% rate of interest are given below.
Future value of \)1 for 4 periods | 1.46 |
Future value of an ordinary annuity for 4 periods | 4.64 |
Present value of \(1 for 4 periods | 0.68 |
Present value of an ordinary annuity for 4 periods | 3.17 |
Transaction 2: On December 1, 2017, Klamath Company purchased several assets of Yakima Shoes Inc., a small shoe manufacturer whose owner was retiring. The purchase amounted to \)220,000 and included the assets listed below. Klamath Company engaged the services of Tennyson Appraisal Inc., an independent appraiser, to determine the fair values of the assets which are also presented below.
| Yakima Book Value | Fair Value |
Inventory | \( 60,000 | \) 50,000 |
Land | 40,000 | 80,000 |
Buildings | 70,000 | 120,000 |
| \(170,000 | \)250,000 |
During its fiscal year ended May 31, 2018, Klamath incurred \(8,000 for interest expense in connection with the financing of these assets.
Transaction 3: On March 1, 2018, Klamath Company exchanged a number of used trucks plus cash for vacant land adjacent to its plant site. (The exchange has commercial substance.) Klamath intends to use the land for a parking lot. The trucks had a combined book value of \)35,000, as Klamath had recorded \(20,000 of accumulated depreciation against these assets. Klamath’s purchasing agent, who has had previous dealings in the secondhand market, indicated that the trucks had a fair value of \)46,000 at the time of the transaction. In addition to the trucks, Klamath Company paid $19,000 cash for the land.
Instructions
- Plant assets such as land, buildings, and equipment receive special accounting treatment. Describe the major characteristics of these assets that differentiate them from other types of assets.
- For each of the three transactions described above, determine the value at which Klamath Company should record the acquired assets. Support your calculations with an explanation of the underlying rationale.
- The books of Klamath Company show the following additional transactions for the fiscal year ended May 31, 2018.
- Acquisition of a building for speculative purposes.
- Purchase of a 2-year insurance policy covering plant equipment.
- Purchase of the rights for the exclusive use of a process used in the manufacture of ballet shoes.
For each of these transactions, indicate whether the asset should be classified as a plant asset. If it is a plant asset, explain why it is. If it is not a plant asset, explain why not, and identify the proper classification.
