Question

Sarasota 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 Sarasota’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, Sarasota had to obtain additional manufacturing capacity. A real estate firm located an available factory in close proximity to Sarasota’s Roundball manufacturing facility, and Sarasota 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 Sarasota’s manufacturing use.

The terms of the agreement required Sarasota to pay Encino $60,000 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 $480,000. The building renovations were contracted to Malone Construction at $120,000. 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		$60,000		$108,000		$132,000		$180,000
Malone				36,000		36,000		48,000

On January 1, 2017, Sarasota secured a $600,000 line-of-credit with a 12% interest rate to finance the purchase cost of the factory and machinery, and the renovation costs. Sarasota drew down on the line-of-credit to meet the payment schedule shown above; this was Sarasota’s only outstanding loan during 2017.

Bob Sprague, Sarasota’s controller, will capitalize the maximum allowable interest costs for this project. Sarasota’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 $360,000 and had a net book value of $60,000, while the machinery originally cost $150,000 and had a net book value of $48,000 on the date of sale. The land was recorded on Encino’s books at $48,000. An appraisal, conducted by independent appraisers at the time of acquisition, valued the land at $348,000, the building at $126,000, and the machinery at $54,000.

Angie Justice, chief engineer, estimated that the renovated plant would be used for 15 years, with an estimated salvage value of $36,000. Justice estimated that the productive machinery would have a remaining useful life of 5 years and a salvage value of $3,600. Sarasota’s depreciation policy specifies the 200% declining-balance method for machinery and the 150% declining-balance 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. Sarasota uses a 360-day year for calculating interest costs.

1. Determine the amounts to be recorded on the books of Sarasota Sporting Goods Inc. as of December 31, 2017, for each of the following properties acquired from Encino Athletic Equipment Company: Land, Building, Machinery.
2. Calculate Sarasota Sporting Goods Inc.’s 2018 depreciation expense, for book purposes, for each of the properties acquired from Encino Athletic Equipment Company.
3. Present the accounts and dollar amounts that would appear on the comparative balance sheet and income statement for the year ended 12/31/18 related to these new assets, the line-of-credit, and depreciation. (Ignore the cash account and the interest expense account.)

Answer 1

(a)	The amounts to be recorded on the books of Sarasota Sporting Goods Inc. as of December 31, 2017, for each of the properties acquired from Encino Athletic Equipment Company are calculated as follows:
	Cost Allocations to Acquired Properties
		Appraisal Value	Remaining Purchase Price Allocations	Renovations	Capitalized Interest	Total
	(1) Land	$348,000.00				$348,000.00
	(2) Building		$88,200.00	$120,000.00	$25,200.00	$233,400.00
	(3) Machinery		$43,800.00			$43,800.00
		$348,000.00	$132,000.00	$120,000.00	$25,200.00	$625,200.00
	Supporting Calculations
	Balance of purchase price to be allocated
	Total purchase price	$480,000.00
	Less: Land appraisal	$348,000.00
	Balance to be allocated	$132,000.00
		Appraisal Values	Ratios			Allocated Values
	Building	$126,000.00	126/180 =	0.7	X $126000	$       88,200.00
	Machinery	$ 54,000.00	54/180 =	0.3	X $54000	$       43,800.00
	Totals	$180,000.00		1		$     132,000.00
	Expenditures		Capitalization Period	Weighted-Average Accumulated Expenditures
	Date	Amount
	1-Jan	$ 60,000.00	12/12	$     60,000.00
	1-Apr	$144,000.00	9/12	$   108,000.00
	1-Oct	$168,000.00	3/12	$     42,000.00
	31-Dec	$228,000.00	0/12	0
		$600,000.00		$   210,000.00
	Weighted-Average		Interest		Avoidable
	Accumulated Expenditures		Rate		Interest
	$210,000	X	12%	=	$25,200
	If the interest is allocated between the building and the machinery, $17640 ($25200 X 126/180) would be allocated to the building and $7560 ($25200 X 54/180) would be allocated to the machinery.
b	1. Sarasota Sporting Goods Inc.’s 2018 depreciation expense, for book purposes, for each of the properties acquired from Encino Athletic Equipment Company is as follows:
	Land: No depreciation.
	Building:
	2018 depreciation expense = Cost * Rate * 1/2 year = $233400 * 0.10 * ½ = $11670
	Machinery:
	Depreciation rate = 2.00 * 1/5 = .40
	2018 depreciation expense = Cost * Rate X ½ = $43,800 * .40 * ½ = $8760