Property, Plant, and Equipment (PP&E)

Property, plant, and equipment are tangible, long-lived assets used in operations that are subject to depreciation (except land). Under U.S. GAAP, PP&E is carried at historical cost less accumulated depreciation and any impairment losses.

Characteristics of PP&E

An asset qualifies as PP&E when it meets all four criteria:

1. Used in operations — not held for investment or resale
2. Has physical substance — distinguishes PP&E from intangible assets
3. Long-term — useful life exceeds one year or one operating cycle
4. Subject to depreciation — except land, which has an unlimited useful life

Initial Measurement — Historical Cost

PP&E is recorded at the total cost to acquire and prepare the asset for its intended use:

Cost Component	Examples
Purchase price	Invoice amount less trade discounts
Directly attributable costs	Freight, installation, testing, legal fees
Site preparation	Grading, draining, clearing
Asset retirement obligations	PV of future restoration costs (debit asset, credit liability)

info

Interest costs incurred during construction of qualifying assets are capitalized — see the Constructed Assets section below.

Donated Fixed Assets

When a company receives a donated asset, the asset is recorded at fair value on the date of donation, with a corresponding credit to revenue (contribution revenue). Example — Bear Co. receives a building from a local government:

Debit

Credit

Building

$500,000

Contribution revenue

$500,000

note

Under ASC 958, not-for-profit entities may record the credit as a contribution — the principle is the same: fair value at date of receipt.

Land

Land is recorded at all costs to acquire and prepare it for its intended use:

• Purchase price
• Closing costs (title search, legal fees, recording fees)
• Existing liens or back taxes assumed
• Grading, clearing, draining, landscaping (permanent improvements)
• Demolition of old structures (net of salvage proceeds)
  warning

  Land is never depreciated because it has an unlimited useful life.

Land Improvements

Land improvements — parking lots, fences, lighting, irrigation systems — are depreciated because they have finite useful lives.

Debit

Credit

Land improvements

$80,000

Cash

$80,000

Basket (Lump-Sum) Purchase

When multiple assets are acquired in a single transaction, the total cost is allocated based on relative fair values.

Example — Gies Co.

Gies Co. pays $900,000 for land, a building, and equipment. Independent appraisals:

Asset	Appraised Value	Proportion	Allocated Cost
Land	$400,000	40%	$360,000
Building	$500,000	50%	$450,000
Equipment	$100,000	10%	$90,000
Total	$1,000,000	100%	$900,000

Debit

Credit

Land

$360,000

Building

450,000

Equipment

90,000

Cash

$900,000

Equipment — Repairs and Maintenance

Type	Accounting Treatment	Effect
Ordinary repairs	Expense as incurred	Maintains the asset in normal condition
Extraordinary repairs / Improvements	Capitalize (add to asset or reduce accumulated depreciation)	Extends useful life or increases utility

Ordinary repair — MAS Inc.:

Debit

Credit

Repairs and maintenance expense

$2,500

Cash

$2,500

Extraordinary repair extending useful life — MAS Inc.:

Debit

Credit

Equipment

$15,000

Cash

$15,000

Constructed Assets — Capitalized Interest

When a company constructs an asset for its own use, interest costs on borrowings are capitalized during the construction period.

Steps to Compute Capitalized Interest

1. Compute weighted-average accumulated expenditures (WAAE) — weight each expenditure by the fraction of the year it was outstanding.
2. Multiply WAAE by the interest rate:
   • First, apply the rate on any specific construction borrowing.
   • If WAAE exceeds the specific borrowing, apply the weighted-average rate of other outstanding debt to the excess.
3. Cap: Capitalized interest can never exceed actual interest incurred during the period.

Example — BIF Partners

BIF Partners begins constructing a warehouse on January 1. Expenditures during the year:

Date	Amount	Months Outstanding	Weight	Weighted Amount
Jan 1	$200,000	12/12	1.00	$200,000
Jul 1	$300,000	6/12	0.50	$150,000
Oct 1	$100,000	3/12	0.25	$25,000
WAAE				$375,000
BIF has a 10% construction loan of $250,000 and other debt at a weighted-average rate of 8%.

$$\text{Capitalized interest} = (\$250{,}000 \times 10\%) + (\$125{,}000 \times 8\%) = \$25{,}000 + \$10{,}000 = \$35{,}000$$

Debit

Credit

Building under construction

$35,000

Interest payable

$35,000

tip

The remaining interest incurred on other debt is expensed — only the portion tied to WAAE is capitalized.

Depreciation Methods

Depreciation systematically allocates the depreciable base of a tangible asset over its useful life.

$$\text{Depreciable Base} = \text{Cost} - \text{Salvage Value}$$

Straight-Line (SL)

$$\text{Annual Depreciation} = \frac{\text{Cost} - \text{Salvage Value}}{\text{Useful Life}}$$

Sum-of-the-Years'-Digits (SYD)

$$\text{SYD Denominator} = \frac{n(n+1)}{2}$$

Year $k$ depreciation:

$$\text{Depreciation}_k = \frac{n - k + 1}{\text{SYD}} \times (\text{Cost} - \text{Salvage Value})$$

Declining Balance (DB)

$$\text{DB Rate} = \frac{1}{\text{Useful Life}} \times \text{Multiplier}$$

Common multiplier: 2× for double-declining balance (DDB). Apply the rate to the book value (not depreciable base). Do not subtract salvage value when computing annual depreciation, but never depreciate below salvage value.

Units of Production

$$\text{Depreciation} = \frac{\text{Cost} - \text{Salvage Value}}{\text{Total Estimated Units}} \times \text{Units Produced}$$

Depreciation Example — Kingfisher Industries

Kingfisher Industries purchases equipment for $100,000 with a $10,000 salvage value and a 5-year useful life.

Year	Straight-Line	SYD	DDB
1	$18,000	$30,000	$40,000
2	$18,000	$24,000	$24,000
3	$18,000	$18,000	$14,400
4	$18,000	$12,000	$1,600
5	$18,000	$6,000	$0
Total	$90,000	$90,000	$80,000

note

Under DDB, Year 4 is limited to $1,600 so the book value doesn't fall below the $10,000 salvage value. Year 5 has zero depreciation.

Component vs. Composite / Group Depreciation

Component Depreciation

Each significant component of an asset is depreciated separately (common under IFRS, permitted under GAAP).

Composite / Group Depreciation

Multiple assets are depreciated using a single composite rate:

$$\text{Composite Rate} = \frac{\text{Total Annual Depreciation}}{\text{Total Cost}}$$ $$\text{Composite Life} = \frac{\text{Total Depreciable Base}}{\text{Total Annual Depreciation}}$$

warning

Under composite depreciation, no gain or loss is recognized on the disposal of individual assets. The difference between proceeds and cost is debited or credited to accumulated depreciation.

Disposals

Sale of an Asset

Illini Security sells equipment (cost $50,000, accumulated depreciation $35,000) for $20,000:

Debit

Credit

Cash

$20,000

Accumulated depreciation

35,000

Equipment

$50,000

Gain on sale of equipment

5,000

Write-Off (Fully Depreciated, No Proceeds)

Debit

Credit

Accumulated depreciation

$50,000

Equipment

$50,000

Involuntary Conversion

If an asset is destroyed and insurance proceeds exceed book value, a gain is recognized.

Debit

Credit

Cash (insurance proceeds)

$60,000

Accumulated depreciation

35,000

Equipment

$50,000

Gain on involuntary conversion

45,000

Depletion — Wasting Assets

Natural resources (oil, gas, minerals, timber) are subject to depletion using the units-of-production method:

$$\text{Depletion per Unit} = \frac{\text{Cost} + \text{Development Costs} + \text{Restoration Costs} - \text{Residual Value}}{\text{Total Estimated Units}}$$

Example — Bear Co. mining operation: Bear Co. pays $5,000,000 for mineral rights, incurs $500,000 in development costs, and estimates restoration costs of $300,000 (PV). Estimated recoverable units: 2,000,000 tons. During Year 1, Bear Co. extracts 250,000 tons.

$$\text{Depletion per ton} = \frac{\$5{,}000{,}000 + \$500{,}000 + \$300{,}000}{2{,}000{,}000} = \$2.90$$ $$\text{Year 1 Depletion} = 250{,}000 \times \$2.90 = \$725{,}000$$

Debit

Credit

Depletion expense

$725,000

Accumulated depletion

$725,000

Impairment of Long-Lived Assets

Under ASC 360, long-lived assets are tested for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable.

Assets Held for Use — Two-Step Test

Step 1 — Recoverability Test: Compare the asset's carrying value to the sum of its undiscounted expected future cash flows. Step 2 — Measurement: If impaired, write the asset down to fair value. The loss equals carrying value minus fair value.

Example — Illini Entertainment

Illini Entertainment owns a theme park ride with a carrying value of $800,000. Due to declining attendance, the company estimates undiscounted future cash flows of $600,000 and a fair value of $500,000.

• Step 1: $600,000 < $800,000 → asset is impaired.
• Step 2: Loss = $800,000 − $500,000 = $300,000

Debit

Credit

Impairment loss

$300,000

Accumulated depreciation

$300,000

danger

For assets held for use, impairment losses are never reversed under U.S. GAAP — even if fair value later increases.

Assets Held for Disposal

Assets reclassified as held for sale are measured at the lower of carrying value or fair value less costs to sell. Key differences from held-for-use:

Feature	Held for Use	Held for Disposal
Depreciation	Continues	Ceases
Measurement	Fair value	Fair value less costs to sell
Subsequent recovery	Not permitted	Permitted (up to cumulative loss recognized)

info

Held for disposal assets can have impairment losses reversed if fair value recovers — but only up to the original carrying amount at the date of reclassification.

Summary

Topic	Key Rule
Initial measurement	Historical cost (all costs to ready for use)
Land	Never depreciated
Basket purchase	Allocate by relative fair value
Capitalized interest	WAAE × interest rate; capped at actual interest
Ordinary repairs	Expense
Extraordinary repairs	Capitalize
Impairment (held for use)	Two-step test; no reversal
Impairment (held for disposal)	FV less costs to sell; reversal allowed
Depletion	Units-of-production method