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Chapter 1.21® - Amortization of Natural Resources e.g Mineral Deposits less Accumulated Amortization & Accounting for Goodwill (Intangible Capital Assets)

Natural resources are tangible capital assets that are physically consumed when used, and include assets such as oil and gas, gold & mineral deposits, timber, lumber, copper fields, etc. Because they are used up in production of other finished goods, they are known as ‘wasting assets.’ Natural resources are raw materials that are of no use until they are converted into finished products by mining, pumping or sawing. Thus, until they are fully converted, they are reported in the Balance sheet as non-current assets. Examples of asset titles used include Oil Reserves, Timberland or Mineral deposits.

Natural resources when acquired are recorded at initial purchase cost. This cost includes are reasonable expenses incurred to bring the raw materials together and prepare them for their intended use. The amount of amortization expense recorded on Natural resources depends on # of finished units extracted or depleted. This is very similar to the units-of-production amortization method we discussed above. As an example, consider Hargrave Mines Ltd purchases a mineral deposit of 450,000 tonnes of ore available to mine. The entire deposit is purchased for $2million with a salvage value of $300,000. What amortization expense is incurred on this Mineral deposit if 120,000 tonnes of Ore are mined in its 1st year?

Amortization per Unit = (Total Cost – Estimated Salvage Value) / Total estimated units of production

Amortization per Unit = ($2,000,000 - $300,000) / 450,000 tonnes = $3.8/tonne

Amortization Expense = Amortization per Unit x Units produced in period

Amortization Expense = $3.8/tonne x 120,000 tonnes = $456,000

The journal entry to record amortization expense is:

December 31st, 2009

Account Name

Dr. Amortization Expense – Mineral Deposit   $456,000  
Cr. Accumulated Amortization – Mineral Deposit   $456,000
To record amortization expense in 1st year of mine of 120,000 tonnes of Ore.

Below is a partial balance sheet showing the mineral deposits less the accumulated amortization of mineral deposits.

Hargrave Mines Ltd
Partial Balance Sheet
As of December 31st, 20**

Mineral Deposit $2,000,000
Less: Accumulated Amortization ($456,000)
Carrying Value $1,544,000

Accounting for Goodwill or Other Intangible Assets

Goodwill is a capital intangible asset and is the amount by which the price paid for a company exceeds the fair market value of the company’s net assets (assets – liabilities). Goodwill means the company has other useful ‘assets’ that cannot be measured on the Balance sheet, and they include superior senior management, skilled people, brand names such as Coca Cola, excellent business locations/head office location, superior quality products & services, good customer & public relations, etc.

Generally Accepted Accounting Principles (GAAP) does not permit companies to generate their own internal Goodwill. This is because then the Goodwill calculated could be biased, skewed to the higher side or over-stated and not truly objective of the value of the asset. Thus when a business is acquired, all its assets are Debited to their respective asset accounts and all Liabilities credited at fair market values. The purchase price of the business is debited to Cash, and the difference between total Assets – total Liabilities is debited to the Goodwill account. Here is an illustration to calculate Goodwill.

Consider Microsoft purchased Double Click Corp for a cash price of $11,000,000. Double Click has total assets that have a market value of $9,000,000 and liabilities of $3,000,000. Goodwill is calculated as below:

Purchase Price of Double Click Corp.   $11,000,000
Total Market Value of Assets $9,000,000 ($456,000)
Less: Fair Market Value of Assets assumed ($3,000,000)  
Net Assets   ($6,000,000)
Goodwill   $5,000,000

Microsoft’s entry to record the purchase of Double Click Corp is below.

December 31st, 2009

Account Name

Dr. Assets   $9,000,000  
Dr. Goodwill   $5,000,000  
  Cr. Liabilities   $3,000,000
  Cr. Cash   $11,000,000
To record purchase of Double Click Corp. at fair market values and to record Goodwill equal to the excess of purchase price over net assets.

Note: Goodwill is never amortized. Instead, goodwill is decreased only if its value has been decreased by management (this is known as impairment covered in another chapter). Impairment occurs when the net value of the Organization (purchase price) minus the net assets is less than the carrying value of Goodwill.

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