P7-61A (Learning Objectives 1, 3, 8: Measure and account for the cost of a plant asset; measure depreciation by three methods; identify the cash-flow advantage of accelerated depreciation for tax purposes) On January 7, 2012, J.B. Griffin Co. paid $240,000 for a computer system. In addition to the basic purchase price, the company paid a setup fee of $1,400, $6,500 sales tax, and $29,100 for a special platform on which to place the computer. J.B. Griffin’s management estimates that the computer will remain in service for five years and have a residual value of $25,000. The com- puter will process 50,000 documents the first year, with annual processing decreasing by 2,500 documents during each of the next four years (that is, 47,500 documents in year 2013; 45,000 documents in year 2014; and so on). In trying to decide which depreciation method to use, the company president has requested a depreciation schedule for each of the three depreciation meth- ods (straight-line, units-of-production, and double-declining-balance).
1. For each of the generally accepted depreciation methods, prepare a depreciation schedule showing asset cost, depreciation expense, accumulated depreciation, and asset book value.
2. J.B. Griffin reports to stockholders and creditors in the financial statements using the depre- ciation method that maximizes reported income in the early years of asset use. For income tax purposes, the company uses the depreciation method that minimizes income tax pay- ments in those early years. Consider the first year J.B. Griffin Co. uses the computer. Identify the depreciation methods that meet Griffin’s objectives, assuming the income tax authorities permit the use of any of the methods.
3. Cash provided by operations before income tax is $158,000 for the computer’s first year. The income tax rate is 32%. For the two depreciation methods identified in Requirement 2, com- pare the net income and cash provided by operations (cash flow). Show which method gives the net-income advantage and which method gives the cash-flow advantage.