Problem 5: Revising Depreciation - Odessa Drones Inc Has A P

Problem 5revising Depreciationodessa Drones Inc Has A Patent On A Spec

Odessa Drones Inc has a patent on a specialized drone. The company has amortized the patent on a straight-line basis for the past 4 years, when it was acquired at a cost of $10.8 million at the beginning of that year. Due to rapid technological advances in the industry, management decided that the patent would benefit the company over a total of six years rather than the nine-year life being used to amortize its cost. The decision was made at the beginning of this year.

a. Calculate the current annual amortization cost, current useful life, and depreciation per year.

b. Calculate the amortization to date and unamortized balance.

c. Calculate the new annual amortization, unamortized balance, and estimated remaining useful life.

d. Prepare the journal entry for the annual amortization (Debit and Credit).

Sample Paper For Above instruction

Introduction

Amortization of intangible assets like patents requires precise calculation and appropriate accounting treatment to reflect the asset's usage and remaining value accurately. Odessa Drones Inc faced a decision to revise the amortization schedule of its patent due to industry changes, necessitating recalculation of annual amortization and journal entries. This paper will analyze the detailed steps involved in recalculating amortization considering the change in useful life and prepare the corresponding journal entries to comply with accounting standards.

Background and Initial Amortization

Odessa Drones Inc acquired a patent at a cost of $10.8 million at the beginning of the year. Initially, the company amortized the patent straight-line over nine years, leading to an annual amortization expense of $1.2 million ($10.8 million / 9 years). Over four years, the accumulated amortization would be $4.8 million, leaving a book value of $6 million at the start of the fifth year (assuming no impairments).

Reassessment of Patent Useful Life

In light of technological advances rendering the patent less viable or beneficial beyond six years, management decided to revise the remaining useful life from nine to six years at the beginning of the current year. This change requires recalculating annual amortization based on the remaining book value at this point, spreading it over the new remaining useful life, which is now six years.

This approach aligns with accounting standards, such as IFRS and GAAP, which require changes in estimates to be accounted for prospectively if they impact only current and future periods.

Calculating Current Amortization

The initial straight-line amortization was based on a nine-year life, with annual expense of $1.2 million. After four years of amortization, total accumulated amortization is $4.8 million, leaving a book value of $6 million.

The revised remaining useful life is six years. Therefore, the new annual amortization expense is calculated as the remaining book value divided by the new remaining life:

New Annual Amortization = Remaining Book Value / Remaining Useful Life = $6 million / 6 years = $1 million per year.

Amortization to Date and Unamortized Balance

Amortization to date is the initial four years, totaling $4.8 million. The unamortized balance at this point is the original cost minus accumulated amortization:

Unamortized Balance = $10.8 million - $4.8 million = $6 million.

Recalculating for the Remaining Years

As of the start of the fifth year, the unamortized balance is $6 million. With a remaining useful life now re-estimated at six years, the new annual amortization expense becomes $1 million. This ensures the asset is fully amortized at the end of the six-year period, consistent with the revised estimate.

Journal Entry Preparation

The journal entry for the current year's amortization expense would debit amortization expense and credit accumulated amortization:

Debit: Amortization Expense — $1,000,000


Credit: Accumulated Amortization — $1,000,000

This entry reduces the book value of the patent and recognizes amortization expense for the year.

Conclusion

Revising the amortization schedule for Odessa Drones Inc’s patent involves recalculating the annual expense based on the current unamortized balance and the new useful life estimate. Accurate journal entries ensure compliance with accounting standards and reflect the correct value of intangible assets on financial statements. Proper application of these principles provides transparency and consistency in financial reporting, reflecting the economic realities of asset utilization.

References

  • Financial Accounting Standards Board (FASB). (2018). Accounting Standards Codification (ASC) 350 - Intangibles – Goodwill and Other. FASB.
  • International Accounting Standards Board (IASB). (2019). IFRS Standards—IAS 38 Intangible Assets. IASB.
  • Revsine, L., Collins, W. R., Johnson, W. B., & Mittelstaedt, F. H. (2015). Financial Reporting & Analysis. Pearson.
  • Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2019). Financial Accounting: IFRS Edition. Wiley.
  • CAA (2016). "Accounting for intangible assets." Journal of Accountancy, 221(4), 52-59.
  • Gibson, C. H. (2012). Financial Reporting & Analysis. Cengage Learning.
  • Byrne, N., & Taylor, R. (2021). Advanced Accounting. McGraw-Hill Education.
  • Martin, A. (2020). "Amortization of intangible assets: Best practices." International Journal of Accounting Research, 18(2), 105-112.
  • Schroeder, R. G., Clark, M. W., & Cathey, J. M. (2020). Financial Accounting Theory. Wiley.
  • Kim, K. (2017). "Impact of technological change on patent amortization." Journal of Intellectual Property Law & Practice, 12(5), 356-362.

Related Assignments