for Accounting Professionals
IAS 16 Property, Plant and Equipment
2011
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2
2011 Reviewed
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IAS 16 Property, Plant and Equipment
CONTENTS
1. Introduction
4
2. Bank accounting: property, plant and equipment 5
3. Definitions
8
4. Recognition
11
5. Measurement at Recognition
13
6. Measurement after Recognition 17
7. Depreciation 24
8. Impairment
35
9. Disclosure
38
10. Appendix – IAS 16 rules for users other than banks. 42
11. Multiple choice questions
12. Numerical Questions
52
58
13.Answers to multiple choice questions
14. Answers to numerical questions
58
59
Note: Material from the following PricewaterhouseCoopers publications has been used in this workbook:
Applying IFRS , IFRS News, Illustrative Corporate Financial Statements 2007, Illustrative consolidated financial statements 2006 – Banks
3
Property, Plant and Equipment
1. Introduction
The difference between capital expenditure (including Property,
Plant and Equipment) and revenue expenditure is an important
distinction in accounting.
Generally, revenue expenditure is accounted for in the current
period (excepting deferred expenditure) and capital expenditure is
spread over a number of accounting periods that benefit from the
capital expenditure.
One view of depreciation is that it represents this spreading of
capital expenditure costs.
The main issues in accounting for property, plant and equipment
are:
 the recognition of the assets;
 the determination of their carrying amounts;
 the determination of the useful life;
 the depreciation charges; and
 impairment losses to be recorded.
Scope
IAS 16 will be applied in accounting for property, plant and
equipment, except when another Standard requires, or permits, a
different accounting treatment.
IAS 16 does not apply to:
Aim
The aim of this workbook is to assist the individual in understanding
Property, Plant and Equipment according to IFRS.
(1) biological assets related to agricultural activity
(see IAS 41 Agriculture workbook); nor to
(2). property, plant and equipment classified as held for sale in
accordance with IFRS 5;
Objective
Property, Plant and Equipment are the subject of IAS 16.
(3) investment property covered by IAS 40.
(4). the recognition and measurement of exploration and
evaluation assets (see IFRS 6 workbook); or
The objective of IAS 16 is to:
 prescribe the accounting treatment for property, plant and
equipment (‘PPE’)
 inform users of financial statements on the investment in PPE
and any movements in these accounts over the period.
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(5) mineral rights and mineral reserves such as oil, natural gas
and similar non-regenerative resources.
However, IAS 16 applies to property, plant and equipment used to
develop, or maintain, the assets described in (1) to (4).
4
Property, Plant and Equipment
Leases
Other Standards may require recognition based on a different
approach from that in IAS 16. For example, IAS 17 Leases (see IAS
17 workbook) requires you to evaluate recognition of a leased item
on the basis of the transfer of risks and rewards.
Other aspects of the accounting treatment for these assets,
including depreciation, are prescribed by IAS 16.
Other Comprehensive Income
IAS 1 has introduced Other Comprehensive Income as a financial
statement. All movements into and out of Revaluation Reserves in
Equity are recorded here.
2. Bank accounting: property, plant and equipment
Summary
In general, banks will not build up a portfolio of properties unless
the profits from these are considerably higher than those that can
be earned from banking activities. (Banks will prefer to use their
funds in their banking business.)
Properties involve medium and long-term financing, and therefore
utilize the liquidity of banks. Many branches are therefore leased, if
they were not privatised from the state.
Banks may acquire properties when they foreclose on clients’
loans. Usually such properties will be shown as ‘’held for sale’’ (see
IFRS 5 workbook). If the properties are to be sold, they are
normally disposed of swiftly, as bank regulations of the Central
Bank may demand that the value of such properties are reduced in
the books of the banks holding them.
The bank may decide to maintain ownership of the properties
(having completed any outstanding legal steps) either for its own
use (IAS16) or as investment properties (IAS 40).
i. Property
Most banks are heavily involved in property: their own property and
that of their clients. Their clients often use property as collateral, as
well as using bank funds to finance the purchase and sometimes
the construction of property. As a bank’s involvement in property
increases, so does the need for banks to employ their own property
experts.
The bank may acquire an unfinished building when it forecloses on
a loan. It may decide to complete the building rather than sell it in
its unfinished state.
Banks’ primary involvement in property is where it owns a building
and only uses it (all, or in part) for banking. The parts it uses for
banking are subject to IAS16. Investment property is covered by
IAS 40.
Banks use many assets for the banking business, including
computers, security systems, safes and furniture, fixtures and
fittings. Leasehold improvements comprise changes to existing
properties that are held under lease. Whilst certain improvements to
all premises may be capitalised, repairs and general maintenance
must be expensed in the current period when incurred.
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ii. Plant and equipment
5
Property, Plant and Equipment
iii Scope of IAS 16
IAS 16 covers all property, plant and equipment, except investment
property (IAS 40), leases (IAS 17), assets held for sale (IFRS 5)
and assets held under IAS 41 and IFRS 6 (see above).
which the future cash flows can be analysed for possible
impairment.
Clients may use the cost model for their property, especially during
the building of the property. Any impairment charges need to be
examined by the bank to decide whether there is evidence that the
bank’s loan is at risk.
Concerns for Bankers
Impact of Property Value Decreases
i. Property
IFRS primarily concerns the economic value and profit of
transactions, whilst bankers are deeply concerned about liquidity
and cash flows.
Properties are often not easily saleable. It may also be difficult to
find tenants to fill a vacant property. There may be a potential for
liquidity problems arising as a result.
Credit officers need to understand the impact of IAS 16 in the
financial statements of clients. Where clients use the revaluation
model for accounting for property, plant and equipment, increased
asset values will appear in the balance sheet and reserves will
increase, even if they have not been realised. Such unrealised
gains have not generated cash flows, and may become losses in
future periods.
Appraisers used to provide valuations for clients should be
recognised by the bank as acceptably professional and
knowledgeable in the locations and type of buildings being
appraised.
Property values tend to decrease in economic recessions, but also
decrease in specific towns (or areas of towns) if a major employer
(private sector or public sector) moves away from that location.
As people leave, bank branches may close, or the bank may use
smaller premises. Some of the property may be left empty.
Banks financing such property may see the value of their collateral
decrease, based on cash flows, and may experience late payments
and defaults.
In reviewing loans for impairment, the bank may have to change its
discount rate to reflect investors’ new expectations of yields in the
new market conditions.
Critically, if the property needs to be sold, the number of buyers will
be less than in more-favourable economic times. Investors may be
expecting to pay extremely-low ‘’fire-sale’’ prices, rather than higher
prices that were being paid a few months before. The property
market may have a surplus of sellers and too-few buyers, resulting
in lower prices.
Clients should provide professional appraisals based on all
recognized approaches, including the Income Approach, from
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6
Property, Plant and Equipment
ii. Plant and equipment
Banks work in a global banking network, and need to ensure that
their technology and security matches business requirements. The
useful lives of current equipment may be considerably shorter than
national depreciation rates dictate. Today’s state-of-the-art
technology may only have scrap value in two years’ time. This may
also apply to their clients’ equipment.
Useful lives of plant and equipment will be limited by the remaining
length of lease of the building that houses them, unless they can be
transferred elsewhere at the end of the lease.
When taking plant and equipment as collateral, banks need to
establish the net realisable value of that plant and equipment. For
specialist plant and equipment, the market may be inactive or even
non-existent. Even if the plant and equipment can be sold, transport
costs to a new owner will have to be anticipated. Some installation
costs that have been capitalised may not be recoverable if assets
are moved. Holes drilled into walls for pipes and cables may have
been capitalised, but are not transferable.
Corporate reorganisations are popular with many banks and with
their clients. These often involve restructuring offices and other
buildings and the scrapping of some plant and equipment, as new
items take their place.
Low rates of depreciation of plant and equipment, indicating long
useful lives of those items, may inflate annual profits. They may
also impede investment in new technology, because the new
technology would result in larger write-offs of the book values of
existing assets that would be replaced.
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Revaluations of plant and equipment need to be considered
carefully. The market for most plant and equipment is more limited
than that for most property. Therefore, valuations may be less
reliable when the assets are realised. Also, increases in values of
plant and equipment will result in higher annual depreciation
charges. Banks need to consider whether a revaluation of plant and
equipment has been undertaken when otherwise the result would
be a breach of loan covenants.
iii Accounting for bank branches –property cost
Many bank branches are located in town centre, or high street
premises. Such property is usually in the premium sector of
commercial property. If the branch were to close, buyers for the
property would normally be found reasonably easily.
In evaluating the operating performance of such branches,
management should use current market rents for similar properties
in the location, rather than the original cost, or rental payments that
are below current market rents.
This will identify whether each branch is earning sufficient profits to
justify its occupation of premium property.
iv Annex – IAS 16 rules for users other than banks
For completion, we have included examples that relate to IAS 16,
but for users other than banks (bridges, aircraft, mine operators) in
an annex.
7
Property, Plant and Equipment
3. Definitions
Carrying amount is the amount at which an asset is recorded in
the balance sheet (SFP), after deducting any accumulated
depreciation and accumulated impairment losses.
Cost is the amount of cash (or cash equivalents) paid and the fair
value of any other consideration, given to acquire an asset at the
time of its acquisition, or construction.
Depreciable amount is the cost of an asset, or valuation, less its
residual value.
Depreciation is the spreading of the depreciable amount of an
asset over its useful life.
Fair value is.
the price that would be received to sell an asset, or paid to transfer
a liability, in an orderly transaction between market participants at
the measurement date. (IFRS 13)
Impairment loss is the amount by which the carrying amount of an
asset exceeds its recoverable amount.
Property, plant and equipment (‘PPE’) are tangible items that:
(1) are held for use in the production, or supply, of goods or
services, for rental to others, or for administrative purposes; and
(2) are expected to be used during more than one reporting period.
Recoverable amount is the higher of an asset’s fair value less
costs to sell, and its value in use.
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Residual value is the estimated amount that you would currently
obtain from disposal of the asset, after deducting the estimated
costs of disposal, if the asset were already of the age, and in the
condition expected at the end of its useful life.
Useful life
(1) the period over which an asset is expected to be available for
use by an undertaking; or
(2) the number of production, or similar, units expected to be
obtained from the asset by an undertaking.
In the following examples, I/B refers to Income Statement and
Balance Sheet (SFP).
EXAMPLE residual value 1
Your policy is to keep company vehicles for 4 years. You have
just bought a new vehicle for $20.000. Today’s market price, less
selling costs, of a similar vehicle that is 4 years old is $6.000,
which is a reasonable estimate of the residual value of the new
vehicle.
The depreciable amount will be $20.000-$6.000= $14.000, and
the annual depreciation charge will be $14.000 / 4 years =
$3.500.
At the end of the 4 years, you will sell the vehicle.
I/B
DR
CR
Depreciation
I
3.500
Accumulated depreciation
B
3.500
Annual depreciation
Property, plant & equipment
B
20.000
Accumulated depreciation
B
14.000
Cash
B
6.000
Sale of vehicle,
assuming the cash received =
residual value
8
Property, Plant and Equipment
EXAMPLE residual value 2
You buy an air-conditioning system for your bank branch for
$200.000. It is estimated to have a life of 5 years, with no residual
value.
You depreciate it at the rate of $40.000 per year.
I/B
DR
CR
Depreciation
I
40.000
Accumulated depreciation
B
40.000
Annual depreciation
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EXAMPLE depreciation per unit
You buy a printing machine for $100.000 for a seasonal
promotional publication. You estimate that it will be able to print
20.000 units over its life. No residual value is anticipated.
Every time a unit is printed, depreciate the machine by $5.
I/B
DR
CR
Depreciation
I
5
Accumulated depreciation
B
5
Unit depreciation
9
Property, Plant and Equipment
Property type- different accounting treatment applied to properties under IFRS depending on their current and future uses and their ownership
Owner-occupied property
Standard
IAS 16
Standard Name
Property, plant and equipment
(see also IAS 20 Government grants)
Valuation
Cost or revaluation.
Property acquired in an exchange of
assets
Investment property
Investment property being redeveloped
for continuing use as investment property.
Investment property held for sale without
development (unless it meets the criteria
of IFRS 5 – see below).
Property held under an operating lease
classified as an investment property
Property held under a finance lease
IAS 16
Property, plant and equipment
IAS 40
IAS 40
Investment property
Investment property
Fair value or the carrying amount of the assets given
up.
Cost or fair value.
Cost or fair value.
IAS 40
Investment property
Cost or fair value.
IAS 40
Investment property
IAS 17
Property held under an operating lease –
owner -occupied
Property lease to another party under a
finance lease
Property sale and leaseback
Trading properties – property (including
investment property) intended for sale in
the normal course of business, or being
built, or developed for that purpose
Property held for sale, or included in a
disposal group that is held for sale.
Assets received in exchange for loans
(taking possession of collateral)
IAS 17
Leases. Owner-occupied IAS 16,
Investment property IAS 40.
Leases
Fair value (accounted for as a finance lease under IAS
17).
The lower of fair value and the present value of the
minimum lease payments.
Leasing costs expensed.
IAS 17
Leases
IAS 17
IAS 2
Leases
Inventories (Properties held for sale that meet the
criteria of IFRS 5 should be recorded according to
IFRS 5 – see below. These are generally not in the
normal course of business.)
Non-current assets held for sale and discontinued
operations
Non-current assets held for sale and discontinued
operations
Property, plant and equipment (see Property acquired
in an exchange of assets above)
Construction contracts
IFRS 5
IFRS 5
IAS 16
Property provided as part of a
construction contract
Future costs of dismantling, removal and
site restoration.
IAS 11
IAS 37
Provisions, contingent liabilities and contingent
assets (see also IFRIC 1, IFRIC 5)
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Account receivable equal to the net investment in the
lease.
As operating lease or finance lease, as appropriate
Lower of cost and net realisable value.
Lower of carrying amount and fair value less costs to
sell.
Lower of fair value less costs to sell and carrying
amount of the loan net of impairment at the date of
exchange.
(see HSBC plc Annual Report 2005 page 247)
Stage of contract completion or cost.
Present value of the expected costs, using a pre-tax
discount rate.
10
Property, Plant and Equipment
Notes to the table on the previous page.
The table above identifies the different accounting treatment
applied to properties under IFRS, depending on their current and
future uses and their ownership.
Spare parts and servicing equipment
These are usually carried as inventory, and recorded in the income
statement as consumed.
However, major spare parts and stand-by equipment qualify as
property, plant and equipment, if they will be used during more than
one period.
Note 1: Where an asset is revalued, increases in carrying amounts
above cost are recorded as revaluation surplus, in equity.
Using fair values, all changes in fair value are recorded in
the income statement.
Reductions below cost are recorded in the income statement
under both methods.
Also, if the parts and servicing equipment can be used only in
connection with an item of property, plant and equipment, they are
accounted for as property, plant and equipment.
Note 2. In the cases where the asset is subject of cost or
revaluations, the carrying value will be reduced by
accumulated depreciation and accumulated impairment (see
IAS 36 workbook).
It may be appropriate to aggregate individually-insignificant items,
such as computer spare parts, as one asset.
Workbooks are available on our website on each standard that
explain each accounting treatment, with examples.
Safety and environmental costs
Items may be acquired for safety or environmental reasons. The
benefit is the undertaking’s continuance in business, as a result of
their use.
4. Recognition
The cost of property, plant and equipment will be recorded as an
asset if:
(1) it is probable future benefits will be generated; and
(2)
the cost of the item can be measured reliably.
IAS 16 does not specify what constitutes an item of property, plant
and equipment.
EXAMPLE Can equipment with no immediate value to an
undertaking’s operation be capitalised as an asset?
Issue
Expenditure for property, plant and equipment is recorded as an
asset when:
i) it is probable that future economic benefits will flow to the
undertaking; and
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11
Property, Plant and Equipment
ii) cost can be reliably measured.
Property, plant and equipment may be acquired for safety, or
environmental reasons. Such property, plant and equipment may
not increase the future economic benefits of existing items of
property, plant and equipment.
However, it may be necessary for an undertaking to obtain the
future economic benefits from its other assets. This type of
property, plant and equipment can be recognised as an asset
because the undertaking can derive economic benefits from related
assets.
Can management capitalise expenditure in respect of an asset that
has no immediate value to an undertaking’s operations?
Background
A bank runs a network of branches. New health and safety
legislation is introduced which requires all branch owners
throughout the country to install a sprinkler system. The addition of
the new system will not increase the banks’ business.
The branches have not suffered any fires, and management
considers that there is only a remote chance of a fire occurring in
the future. The installation of the sprinkler is therefore not expected
to reduce the operating costs of the branches.
Solution
Yes. Management should recognise the sprinkler system as an
asset, to the extent that the resulting carrying amount of each
branch (assuming that each branch is a separate cash-generating
unit) does not exceed its recoverable amount (see impairment
section below).
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The acquisition of safety equipment, which does not increase any
future economic benefits, qualifies for recognition as an asset if it
enables future economic benefits to be obtained from related
assets.
Management can only earn future economic benefits from the
branches by installing the sprinkler system, because the authorities
are likely to close branches without such systems.
However, the cost of the sprinkler system should not be recognised
until it has been installed. No provision should be made for the
future installation of health and safety equipment.
Repairs and maintenance costs
The costs of the day-to-day servicing (‘repairs and maintenance’)
are recorded in the income statement as incurred. These costs
exclude items that significantly add value.
Material parts of some items may require replacement at regular
intervals. For example, motors of air conditioning systems may
require replacement several times during the life of the system.
Items may also be acquired to make a less-frequently recurring
replacement, such as replacing the interior walls of a building, or to
make a non-recurring replacement.
The cost of the replacement is added to the cost of the asset and
the cost of the old part is subtracted.
New carrying cost = old carrying cost + new part cost - old part cost
12
Property, Plant and Equipment
EXAMPLE replacing parts
Your building has a carrying amount of $1 mln. New interior walls
cost $0,2 mln.
The original walls have a carrying amount of $0,1mln.
Add the cost of the new walls, and remove the carrying amount of
the
old
walls:
$1 + $0,2 - $0,1= $1,1mln. is the new carrying amount.
I/B
DR
CR
Property, plant & equipment
B
$0,2 mln
Cash
B
$0,2 mln
Depreciation
I
$0,1 mln
Property, plant & equipment
B
$0,1 mln
This records the purchase of the
new walls and disposal of the old
walls
Examples of directly attributable costs are:

staff costs arising directly from the construction, or acquisition,
of the item of property, plant and equipment;

site preparation costs;

initial delivery and handling costs;

installation and assembly costs;

costs of testing whether the asset is functioning properly, after
deducting the net proceeds from any samples, or sundry
income; and

professional fees.
5. Measurement at Recognition
EXAMPLE
Property, plant and equipment will be measured at cost.
Elements of cost
The cost comprises:
(1) buying price, including import duties and non-refundable
taxes, after deducting trade discounts and rebates;
(2) any costs directly attributable to bringing the asset to the
location, and installation, necessary for it to be capable of
operating in the manner intended by management.
(3)
the initial estimate of the costs of dismantling, and
removing the item, and restoring the site on which it is
located.
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Components of cost of property, plant and equipment
Issue
Property, plant and equipment shall initially be measured at cost.
The cost of an item includes any directly attributable costs of
bringing the asset to the location and condition for enabling
operation as intended by management.
The following are examples of the types of costs that can or cannot
be included in the cost of property, plant and equipment.
Solution
Costs included
Costs necessary for the construction of PPE should be capitalised.
13
Property, Plant and Equipment
i) Legal costs specific to the purchase and construction of the
specific asset;
ii) Initial delivery and handling costs;
iii) Import duties;
iv) Installation costs;
v) Purchase transaction costs;
vi) Property transfer taxes;
vii) Architect and engineering costs specific to the asset (costs of
alternative designs that were subsequently rejected should not be
capitalised);
viii) Site clearance costs;
ix) Construction labour and materials;
x) Interest during period of construction (see IAS 23); and
xi) Start-up costs necessary for working condition of asset
(including plant commissioning and test production).
v) Interest or other costs after the property, plant and equipment is
available for use even if not yet in use in the business;
vi) Staff training;
vii) Cost of relocating certain equipment in the plant to allow
installation of the new equipment; and
viii) General administrative costs not directly attributable to the
acquisition, construction or commissioning of the asset.
EXAMPLE
Capitalisation of rental expenses
Issue
The cost of an item of PP&E comprises, inter alia, any costs directly
attributable to bringing the asset to the location and condition
necessary for it to be capable of operating in the manner that
management intends.
Costs excluded
Should an operator capitalise rental expenses?
Costs associated with the planning stages, while necessary for
good governance of an undertaking’s resources, may not be
necessary for the construction of the final asset.
Background
Such costs, for example costs concerned with the selection of
designs, identification of sites and requirements, etc, are not
directly necessary for the construction of the final asset.
X is constructing a computer network between its head office and
branches. X has entered into rental agreements with various
providers for line rentals. X pays 1,000 a month for the rental of the
telephone lines. X will pay the same level of rental expense after
the network is launched.
Costs that are not necessary are expensed and not capitalised.
Solution
i) Feasibility study costs;
ii) Start-up costs (unless necessary for working condition of the
asset);
iii) Initial operating losses before planned operating levels;
iv) Abnormal wasted materials, labour or other resources;
Operator X should expense the rental of 1,000 as incurred
throughout the network’s construction stage.
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Line rental costs will be incurred before and during the network
operating stage. The costs are not incremental and they are not
14
Property, Plant and Equipment
directly attributable to the process of bringing the network to its
working condition. Therefore, they should be expensed as incurred.
The rentals are part of the start-up costs, which should be
expensed as incurred.
Lease payments under an operating lease should be recognised on
a straight-line basis over the lease term unless another systematic
basis is representative of the time pattern of the user’s benefit.
X derives benefit from the lease from day one, because it has
access to the lines in order to install its equipment. Therefore, the
straight-line basis of recognising the lease payments is appropriate.
Therefore, costs incurred in using, relocating, or redeploying are
not included in the carrying amount of the item.
For example, the following costs are not included in the carrying
amount :
(1) costs incurred while an operation, capable of operating
in the manner intended by management, has yet to be
brought into use, or is operated at less than full capacity;
(2)
initial operating losses, such as those incurred while
business in the operation builds up; and
(3)
costs of relocating, or reorganising part, or all, of a
bank’s operations.
Rentals incurred before the network is operational should not be
capitalised.
EXAMPLE
Expensed Costs
Costs that should be expensed in the income statement (and not
capitalised), include:
(1) costs of opening a new facility;
(2) costs of introducing a new product, or service (including
advertising and promotional activities);
(3) costs of running a business in a new location, or with a
new class of customer (including staff training); and
Capitalisation of pre-opening costs
Issue
The cost of an item of property, plant and equipment includes
directly attributable expenditure necessary to bring the asset to the
location and condition for it to be capable of operating in the
manner intended by management.
Should management capitalise the expenditure made before
opening a branch?
Background
(4) administration and other general overhead costs.
Stopping cost recognition
Recognition of costs ceases when the item is in the location, and
capable of operating in the manner intended by management.
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K, which operates a major branch network of banks, has acquired a
new branch location. The new location requires significant
renovation expenditure.
15
Property, Plant and Equipment
Management expects that the renovations will last for 3 months
during which the branch will be closed.
For example, income may be generated by using a building site as
a car park, until construction starts.
Management has prepared the budget for this period including
expenditure related to construction and remodelling costs, salaries
of staff who will be preparing the branch before its opening, and
related utilities costs.
The income and related expenses of incidental operations are
recorded in the income statement, and included in their respective
classifications of income and expense.
Solution
Yes. Management should capitalise the costs of construction,
security, communications and remodelling the branch, because
they are necessary to bring the branch to the condition necessary
for it to be capable of operating in the manner intended by
management.
Self Constructed Assets
The cost of a self-constructed asset is determined using the same
principles as for an acquired asset.
The branch cannot be opened without incurring the remodelling
expenditure, and thus the expenditure should be considered part of
the asset.
If an undertaking makes similar assets for sale in the normal course
of business, the cost of the asset is usually the same as the cost of
constructing an asset for sale.
Any internal profits are eliminated from such costs.
EXAMPLE
However, the cost of salaries, utilities and storage of goods are
operating expenditures which would be incurred if the branch was
open.
These costs are not necessary to bring the branch to the condition
necessary for it to be capable of operating in the manner intended
by management and should be expensed.
Incidental costs / income
Some incidental operations may occur before, or during, the
construction, or development activities.
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Salaries recognised as part of an asset’s cost
Issue
The cost of an item of property, plant and equipment includes any
costs directly attributable to bringing the asset to the location and
condition necessary for it to be capable of operating in the manner
intended by management.
Should management capitalise, or expense, the salaries of
employees who are constructing an asset?
Background
M’s management has started to construct a new branch. Part of the
ordinary workforce will be working full time on the project of
constructing the plant.
16
Property, Plant and Equipment
The estimated time of construction is 3 months. The total salary
costs for these employees, including the cost of pension benefits
and annual leave, totals 500,000 a year.
Solution
Management should capitalise 125,000 (3/12 x 500,000) as part of
the cost of the branch. The salary cost of the employees working
full time on the project can be directly attributable to the
construction of the asset.
Administration and other general overheads are examples of costs
that are not a component of the cost of property, plant and
equipment.
Similarly, the cost of abnormal amounts of wasted material, labour,
or other resources incurred in self-constructing an asset, is not
included in the cost of the asset.
IAS 23 Borrowing Costs details the criteria for the recognition of
interest as a component of the carrying amount of a selfconstructed asset.
Measurement of cost
The cost is the cash-price equivalent at the recognition date. If
payment is deferred beyond normal credit terms, the difference
between the cash price equivalent and the total payment is
recorded as interest over the period of credit, unless such interest is
recorded as a borrowing cost in the carrying amount of the item, in
accordance with IAS 23.
.
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EXAMPLE cost measurement
You can pay $1mln cash for a building, or pay for it over 3 years
for a total cost of $1,3 mln. Using either payment method, the cost
will be $1mln. If the second payment option is used (see above),
the $0,3 mln. will be treated as interest.
I/B
DR
CR
Property, plant & equipment
B
$1 mln.
Accounts payable
B
$1 mln.
Being the buying of the building
Interest expense
I
$0,1 mln.
Interest payable
B
$0,1 mln.
Annual interest charge
The cost held by a lessee under a finance lease is determined
under IAS 17 Leases.
The carrying amount may be reduced by government grants, in
accordance with IAS 20 Government Grants.
6. Measurement after Recognition
An undertaking will choose either the cost model, or the revaluation
model, as its accounting policy, and will apply that policy to an
entire class of property, plant and equipment.
Cost model
An item will be carried at its cost, less any accumulated
depreciation, and any accumulated impairment losses (see
impairment section below).
17
Property, Plant and Equipment
Revaluation model
An item whose fair value can be measured reliably may be carried
at revaluated amount (fair value) less subsequent accumulated
depreciation and accumulated impairment losses.
Frequent revaluations are usually unnecessary for property, plant
and equipment. They are usually revalued every 3-5 years unless
investment property is involved (see IAS 40), when more-frequent
valuations are common.
Revaluations will be made with sufficient frequency to ensure that
the carrying amount does not differ materially from fair value at the
balance sheet date.
Depreciation - Revaluation model
The fair value of land and buildings is usually determined by
professionally-qualified valuers using market-based evidence.
Depreciable amount is the cost of an asset, or valuation, less its
residual value.
The fair value of plant and equipment is usually their market value,
determined by appraisal.
Depreciation is the spreading of the depreciable amount of an
asset over its useful life.
If there is no market-based evidence of fair value, estimate the fair
value.
For example:
present value of future income
If an asset is revalued and the valuation is more than the cost, the
depreciable amount will increase and the depreciation charge for
each period will also increase.
or
replacement cost less depreciation.
The higher the market volatility, the greater the frequency of
revaluations.
If there is a big difference between the carrying amount and fair
value then a revaluation should be made.
Some items necessitate annual revaluation due to frequent
changes in fair value.
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Should the valuation show a fall in value from the current carrying
cost, the depreciable amount and the depreciation charge for each
period will decrease.
EXAMPLE Revaluation – increase in the depreciation charge
You build your own head office at a cost of $40 million.
It is revalued at $60 million of the day the building is ready for use.
(The cost of land is ignored in this example.)
The expected life of the building is 40 years.
The annual depreciation charge will be $1,5 million ($60 million / 40
years), not $1 million ($40 million / 40 years)
18
Property, Plant and Equipment
When an item is revalued, any accumulated depreciation is treated
in one of the following ways, both of which result in the net carrying
amount being equal to the revaluation figure:
(1) Depreciation restated proportionately, with the change in the
gross carrying amount of the asset.
The carrying amount of the asset after revaluation equals its
revalued amount.
This method is often used when an asset is revalued by means
of applying an index to its depreciated replacement cost.
Property, plant & equipment
Accumulated depreciation
Equity - Revaluation Reserve
This records the revaluation of the
cash-counting machine.
I/B
B
B
B
DR
1.500
CR
250
1.250
(2)
Depreciation eliminated against the gross carrying amount of
the asset.
The net amount is restated to the revalued amount of the
asset.
(3)
Depreciation begins again based on the remaining useful life.
EXAMPLE depreciation restated proportionately
This method is often used for the revaluation of buildings.
A cash-counting machine cost $6.000 and has been depreciated
by $1.000, leaving a net book value of $5.000.
It has been revalued. The value has risen by 25% since the
machine was bought.
The new cost is therefore $7.500 (6.000x125%), depreciation
$1.250 (1.000x125%) and the carrying amount based on this
$6.250.
EXAMPLE Depreciation eliminated
2. A building cost $5 mln. and has been depreciated by $2 mln.,
leaving a net book value of $3 mln. It is revalued to $6 mln.
This can be shown as:
Cost = Gross carrying amount Valuation
Accumulated Depreciation
Carrying amount of the asset
Cost
$6.000.
Valuation
$7.500
$1.000
$5.000
$1.250
$6.250
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This can be shown as:
Cost = Gross carrying amount Valuation
Accumulated Depreciation
Carrying amount of the asset
Cost
$5 mln.
Valuation
$6 mln.
$2 mln.
$3 mln.
$0
$6 mln.
19
Property, Plant and Equipment
Property, plant & equipment
I/B
B
Accumulated depreciation
B
Equity - Revaluation Reserve
B
DR
$1
mln
$2
mln
CR
Solution
The two methods of adjusting accumulated depreciation are as
follows:
$3
mln
This records the revaluation of the building,
cancelling the accumulated depreciation
under alternative Two.
EXAMPLE
How to adjust accumulated depreciation for the
revaluation of a depreciable asset?
Issue
When an item of property, plant and equipment is restated, any
accumulated depreciation at the date of the revaluation is either:
i) restated proportionately with the change in the gross carrying
amount of the asset so that the asset’s carrying amount after
revaluation equals its revalued amount; or
ii) eliminated against the asset’s gross carrying amount and the net
amount restated to the revalued amount of the asset.
Method 1: The
accumulated
depreciation is
restated
proportionately
with the
change in the
asset’s gross
carrying
amount.
Before
adjustment
Adjustment
for
revaluation
surplus
After
adjustment
30,000
10,000
40,000
Cost
As at 31
December
[30,000 x
36,000/27,000]
Accumulated
depreciation
As at 31
December
(3,000)
Net carrying
amount
27,000
(1,000)
[3,000 x
36,000/27,000]
How should management adjust accumulated depreciation for the
revaluation of a depreciable asset?
Background
A bank bought a machine for 30,000 on 1 January 20X4. The
machine’s useful life is 10 years with zero residual value. The
revalued amount of the machine is 36,000 on 31 December 20X4.
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(4,000)
9,000
36,000
20
Property, Plant and Equipment
Method 2: The accumulated depreciation is eliminated against the
asset’s gross carrying amount.
Before
adjustment
Adjustment
for
revaluation
surplus
After
adjustment
Cost
As at 31
December
30,000
6,000
[ 9,0003,000]
36,000
(3)
machinery;
(4)
ships;
(5)
aircraft;
(6)
motor vehicles;
(7)
furniture and fixtures; and
(8)
office equipment.
It should be noted that land is not depreciated.
Accumulated
Depreciation
As at 31
December
(3,000)
3,000
Net carrying
amount
27,000
9,000
0
The items within a class are revalued simultaneously (or not at all)
to avoid selective revaluation of assets, and the reporting of
amounts that are a mixture of costs and values as at different
dates.
36,000
The above method is often used for buildings that are revalued to
their market value.
Revaluation in classes
If an item is revalued, the entire class to which that asset belongs
will also be revalued.
A class of assets may be revalued on a rotating basis, provided
revaluation of the class of assets is completed within a short period,
and provided the revaluations are kept up to date.
EXAMPLE rotating valuation
You own various offices. You decide to revalue them every 3
years.
The revaluations may be done at the same time, or one third of
the properties may be revalued each year.
A class is a grouping of assets of a similar nature and use.
The following are examples of common separate classes:
(1) land;
(2) land and buildings;
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21
Property, Plant and Equipment
Carrying Amount Increase
If an asset’s carrying amount is increased as a result of a
revaluation, the increase will be credited directly to equity under the
heading of Equity - Revaluation Reserve.
EXAMPLE carrying amount increase
Your computer centre, carrying value of $15 mln. has been
revalued at $17 mln. The $2 mln. surplus will be credited to the
revaluation surplus reserve within equity.
I/B
DR
CR
Property, plant & equipment
B
$2
mln
Equity - Revaluation Reserve
B
$2
mln
This records the revaluation of the computer
centre
However, the increase will be recorded in the income statement to
the extent that it reverses a revaluation decrease of the same asset
previously recorded in the income statement.
EXAMPLE prior revaluation decrease
Your computer centre had a carrying value of $20 mln. It has been
revalued at $19 mln. The $1mln. shortfall is expensed to the
income statement.
I/B
DR
CR
Accumulated impairment
B
$1 mln
Impairment loss
I
$1
mln
This records the revaluation of the
computer centre in the first year
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At the next valuation (Year 2), it is revalued at $23 mln.
$1 mln. of the surplus will be credited to the income statement (to
offset the first year’s charge).
The remaining $3 mln. surplus will be credited directly to the
revaluation surplus reserve within equity, without appearing on the
income statement.
I/B
DR
CR
Property, plant & equipment
B
$3
mln
Accumulated impairment
B
$1
mln
Impairment gain
I
$1
mln
Equity - Revaluation Reserve
B
$3
mln
This records the revaluation of the computer
centre in the second year
Carrying Amount Decrease
If an asset’s carrying amount is decreased as a result of a
revaluation, the decrease will be recorded in income statement.
.
EXAMPLE carrying amount increase following decrease
Your computer centre had a carrying value of $10 mln. It has been
revalued at $12 mln. The $2 mln. surplus is credited to the
revaluation surplus reserve within equity.
I/B
DR
CR
Property, plant & equipment
B $2 mln
Equity - Revaluation Reserve
B
$2
mln
This records the revaluation of the
computer centre in the first year
22
Property, Plant and Equipment
At the next valuation, it is revalued at $7 mln. $2 mln. of the
shortfall will be charged to the revaluation surplus reserve. The
remaining $3m shortfall will be charged to the income statement.
I/B
DR
CR
Equity - Revaluation Reserve
B
$2
mln
Impairment loss
I
$3
mln
Property, plant & equipment
B
$5
mln
This records the revaluation of the
computer centre at the next valuation in the
second year
Asset write off
When the asset is eliminated from the balance sheet, the
revaluation surplus included in equity may be transferred directly to
retained earnings.
EXAMPLE asset write off
Your computer centre had a cost of $22 mln. It has been revalued at
$28 mln. The $6 mln. surplus has been credited to the revaluation
surplus reserve within equity.
I/B
DR
CR
Property, plant & equipment
B
$6
mln
Equity - Revaluation Reserve
B
$6
mln
This records the revaluation of the computer
centre
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It is sold for $30 mln. $2 mln. is shown as a gain in the income
statement. The $6 mln. is transferred directly from the revaluation
surplus to retained earnings, with no impact on the income
statement.
I/B
DR
CR
Cash
B
$30 mln
Property, plant & equipment
B
$28 mln
Profit sale of computer centre
I
$2 mln
This records the sale of the computer
centre
Equity - Revaluation Reserve
B
$6 mln
Equity - Retained earnings
B
$6 mln
This records the transfer from Equity Revaluation Reserve to retained
earnings
Asset used – transfer part to retained earnings
As the asset is used some of the Equity - Revaluation Reserve may
be transferred to retained earnings.
The amount transferred is the difference between depreciation on
revalued carrying amount and depreciation on original cost.
Transfers from Equity - Revaluation Reserve to retained earnings
are not made through income statement.
(Revaluations may generate deferred tax adjustments. These are
explained in the IAS 12 Income Taxes workbook.)
23
Property, Plant and Equipment
EXAMPLE transfer part to retained earnings
Your computer centre had a cost of $60 mln. It is being depreciated
over 20 years. It has been revalued at $80 mln. The $20 mln.
surplus has been credited to the Equity - Revaluation Reserve
within equity.
I/B
DR
CR
Property, plant & equipment
B
$20 mln
Equity - Revaluation Reserve
B
$20 mln
This records the revaluation of the
computer centre
I/B
B
I
DR
Retained earnings
I/B
B
DR
$1
mln
B
CR
$1
mln
This records the annual transfer from
Equity - Revaluation Reserve to
retained earnings
7. Depreciation
Depreciable amount and depreciation period
The depreciable amount of an asset will be allocated on a
systematic basis over its useful life.
Depreciation = 5%, and is now increased to $4 mln. per year.
This is charged to the income statement each year.
Accumulated depreciation
Depreciation
Annual depreciation charge
Equity - Revaluation Reserve
CR
$4 mln
EXAMPLE
Immediate write-off of immaterial assets
$4 mln
Each year, $1 mln. of the revaluation surplus (5%) can be
transferred from the Equity - Revaluation Reserve directly to
retained earnings, with no impact on the income statement.
(Depreciation on revalued amount $4 mln. – depreciation on
original valuation $3 mln.). This transfers $1 mln. of nondistributable reserves to distributable reserves. This calculation
ignores deferred tax.
Issue
The depreciable amount of an asset is allocated on a systematic
basis over its useful life.
Can management expense an immaterial item of PPE even though
its useful life exceeds one year?
Background
A bank acquires approximately 10,000 different assets each year,
each of which has a useful life of more than one year. The total cost
of 50% of the assets (by number) is less than 5% of the total value
of acquisitions.
Management proposes that the assets that fall below a predetermined value be expensed rather than capitalised and
depreciated. Consequently the 50% of assets that have less than
5% of the total value of additions will not be capitalised.
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24
Property, Plant and Equipment
Solution
Management should only expense assets with a useful life of more
than one year if the value of the assets, individually and collectively,
is not material. Management should also consider the cumulative
effect of non-capitalisation when assessing materiality. The longer
the assets’ useful lives, the more likely that the cumulative effect
will be material.
Assets with a value of less than 5% of total additions for the year
and a short useful life are likely to be immaterial; however,
professional judgement should be exercised in determining whether
this reasonable.
Management should review the value of assets expensed each
year to confirm that they continue to be immaterial. All IFRS
requirements apply only to material items.
The bank accounts for the machine at cost until 31 December
20X3, depreciating it at 3.000 per year.
At 31 December 20X3, the cash-counting machine was revalued at
36,000.
The (deferred) tax rate for capital gains is 24%.
Solution
Management should depreciate the cash-counting machine over its
remaining useful life because the consumption of the computer is
reflected through the depreciation charge.
IAS 16 permits some of the revaluation surplus to be transferred to
retained earnings in each period; the amount of the surplus that
may be transferred is the difference between depreciation based on
the revalued carrying amount of the asset and depreciation based
on its original cost.
EXAMPLE Depreciation of property, plant and equipment carried
at revalued amount (This example includes deferred tax.)
Issue
The depreciable amount of an item of property, plant and
equipment should be allocated on a systematic basis over its useful
life.
Does management need to depreciate property, plant and
equipment carried at revalued amount, since the revalued amount
reflects the fair value of the property, plant and equipment?
Background
A bank bought a cash-counting machine for 30,000 on 1 January
20X1. The cash-counting machine’s useful life is 10 years and it is
estimated to have zero residual value.
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The amount to be recognised as depreciation and the amount
which may be transferred to retained earnings are as follows:
Asset purchased on 1.1.20x1 for
30.000
Life = 10 years
As at 1 January
Revaluation
Cost
Accumulated Depreciation
Carrying amount
20X3
20X4
20X5
N.A
36 000
36 000
30 000
-6 000
24 000
N.A
0
36 000
N.A
-5 143
30 857
25
Property, Plant and Equipment
Bookkeeping in 20X1 and 20x2
Depreciation charge for the year
Impact of revaluation (difference of
carrying amount and net book value)
-3 000
-5 143
-5 143
15 000
N.A
N.A
Property, plant & equipment
Cash
I/B
B
DR
30
000
B
30
000
As at 31 December
Revaluation
Accumulated Depreciation
(eliminated at date of revaluation)
Carrying amount
36 000
36 000
36 000
0
36 000
-5 143
30 857
-10 286
25 714
Revaluation reserve account
As at 1 January
N.A
11 400
9 771
Transfer to retain earnings
N.A
-1 629
(9.771 / 6
years)
N.A
Revaluation - 31 December
15 000
-1 629
(11.400 / 7
years)
N.A
Revaluation - deferred tax x 24%
-3 600
N.A
N.A
As at 31 December
11 400
9 771
8 143
At the end of the useful life (10 years) the asset will have been fully
depreciated. The carrying amount of the asset will be zero.
The deferred tax liability of 3.600 will remain until the gain is
recognised, subject to future valuation increases or decreases and
changes in the tax rate, if any.
The bookkeeping for this example is as follows:
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CR
This records the purchase of the cashcounting machine
Depreciation
Accumulated depreciation
This records the 20X1 depreciation of
the cash-counting machine
Depreciation
Accumulated depreciation
This records the 20X2 depreciation of
the cash-counting machine
I/B
I
B
DR
3 000
I/B
I
B
DR
3 000
I/B
I
B
DR
3 000
CR
3 000
CR
3 000
Bookkeeping in 20X3
Depreciation
Accumulated depreciation
This records the 20X3 depreciation of
the cash-counting machine
CR
3 000
26
Property, Plant and Equipment
I/B
B
B
B
Property, plant & equipment
Accumulated depreciation
Equity - Revaluation Reserve Account
DR
6 000
9 000
CR
15
000
This records the revaluation of the cashcounting machine and elimination of the
accumulated depreciation on 31 December
20X3
Equity - Revaluation Reserve Account
Deferred tax liability
This records the setting up of the liability for
deferred tax at 24% of the 15.000 gain on
revaluation
I/B
B
B
DR
3 600
CR
3 600
Bookkeeping in 20X4
Depreciation
Accumulated depreciation
This records the 20X4 depreciation of
the cash-counting machine
I/B
I
B
Equity - Revaluation Reserve Account
Equity – Retained Earnings
This records the annual transfer from the
revaluation reserve account to retained
earnings
I/B
B
B
DR
5 143
CR
Bookkeeping in 20X5 (identical to that of 20X4)
Depreciation
Accumulated depreciation
This records the 20X5 depreciation of
the cash-counting machine
I/B
I
B
Equity - Revaluation Reserve Account
Equity – Retained Earnings
This records the annual transfer from the
revaluation reserve account to retained
earnings
I/B
B
B
DR
5 143
CR
5 143
DR
1 629
CR
1 629
The residual value, and the useful life, of an asset will be reviewed
at least at each financial year-end and, any changes will be
accounted for as a change in an accounting estimate in
accordance with IAS 8 Accounting Policies, Changes in Accounting
Estimates and Errors.
5 143
EXAMPLE review of assets
Your computers are being depreciated over 4 years. Each has a
residual value of $2 mln.
CR
Industry practice recommends 5 years of useful life, but reduces
residual value to $0,8 mln.
DR
1 629
1 629
Your management takes expert advice, and agrees to follow
industry practice with regard to both the depreciation period, and
the residual value.
These changes should be accounted for under IAS 8.
(see workbook on IAS 8)
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27
Property, Plant and Equipment
Depreciation is recorded, even if the fair value of the asset exceeds
its carrying amount, as long as the asset’s residual value does not
exceed its carrying amount.
EXAMPLE fair value > carrying amount
The carrying amount of your asset is $4 mln.
The fair value is $5 mln. The asset will continue to be depreciated.
(It may be revalued to fair value, if all assets in its class are
revalued.)
EXAMPLE fair value = carrying amount
The carrying amount of your asset is $3 mln.
The residual value is also $3 mln. No further depreciation will be
charged.
Repair and maintenance of an asset do not negate the need to
depreciate it.
EXAMPLE maintenance
Your branch computer network has a programme of upgrading and
maintenance to sustain its value. Nevertheless, it must be
depreciated.
(The branches may be revalued to take account of value of the
improvements, but only if they cause an increase in the fair value of
the branches.)
An undertaking is required to measure the residual value of an item
of property, plant and equipment as:
the amount it estimates it would receive currently for the asset if
the asset were already of the age, and in the condition, expected at
the end of its useful life.
The depreciable amount of an asset is determined after deducting
its residual value.
EXAMPLE residual value
Your vehicle costs $20.000. You will sell it in 4 years time. The
residual value is $8.000.
The depreciable amount is $12.000 ($20.000-$8.000).
The depreciation charge is $3.000 ($12.000/4) per year
I/B
DR
CR
Property, plant & equipment
B
20.000
Cash
B
20.000
This records the buy of the vehicle
Depreciation
I
3.000
Accumulated depreciation
B
3.000
Annual depreciation
The residual value of an asset is often insignificant, and therefore
immaterial in the calculation of the depreciable amount.
EXAMPLE
Residual value
The residual value is the net value of the asset at the end of its
useful life. The initial residual value is determined at the start of the
asset’s life using judgment.
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Difference between useful life and economic life
Issue
Useful life is defined as either:
i) the period of time over which an asset is expected to be available
for use by an undertaking; or
28
Property, Plant and Equipment
ii) the number of production units the undertaking expected to be
produced by the asset.
What is the difference between an asset’s useful life and economic
life?
Background
T’s management operates a branch. The fixtures and fittings in the
branch have an economic life of ten years. The branch is located in
a section of a leasehold building. The lease period is seven years
and an extension of the lease appears unlikely.
Solution
The useful life of the fixtures and fittings is seven years because T
is unlikely to use them after the lease expires.
Useful life is the period over which management expects to use an
asset. This is different from the asset’s economic life, which is the
total period of time the asset is capable of providing economic
benefits, whether to the bank or to a subsequent owner.
A useful life that is shorter than the economic life may, however,
result in a higher residual value at the end of the asset’s useful life.
The level of the residual value will affect the calculation of the
depreciation charge.
The residual value of an asset may increase to an amount equal to,
or greater than, the asset’s carrying amount.
If it does, the asset’s depreciation charge is zero until its residual
value subsequently decreases to an amount below the asset’s
carrying amount.
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EXAMPLE increase in residual value
Your vehicle costs $20.000. You will sell it in 4 years time. The
estimated residual value is $8.000. The depreciation charge is
$3.000 per year.
At the end of year 3, the carrying amount is $11.000. The residual
value has increased to $9.000, due to increases in the prices of
secondhand (used) vehicles.
The depreciation charge for year 4 is reduced from $3.000 to
$2.000, so the carrying value is the same as the residual value of
$9.000.
No change is made to depreciation charged in previous years.
I/B
DR
CR
Depreciation
I
2.000
Accumulated depreciation
B
2.000
Depreciation for year 4
Unless the residual value of an asset is guaranteed, the residual
value will only be an estimate of the amount that the undertaking
will receive when it disposes of the asset.
The higher the residual value, the lower will be the cost to the
undertaking in depreciation charges. If the estimated residual value
is too high, this will result in a loss on disposal and inflated profits in
the periods before disposal.
Where PPE represents a material part of the asset structure, such
as undertakings that lease PPE, the accuracy of residual values is
the key to the accuracy of results.
29
Property, Plant and Equipment
March 20X4.
Depreciation - start and end
Depreciation of an asset starts when the asset is available for use,
That is when it is in the location and condition necessary for it to be
capable of operating in the manner intended by management.
Depreciation of an asset ceases at the earlier of the date that:
(1) the asset is classified as held for sale (or included in a
disposal group that is classified as held for sale) - see IFRS
5 and
(2) the date that the asset is derecognised (written out of the
balance sheet) or is fully depreciated.
EXAMPLE When should depreciation of property, plant and
equipment start?
Issue
Depreciation of an asset begins when it is available for use. That is
when the asset is in the location and condition necessary for it to be
capable of operating in the manner intended by management.
Depreciation of an asset ceases at the earlier of when the asset is
classified as held for sale, or is when the asset is derecognised.
When should management start to charge depreciation on an
asset?
Background
A bank has built an office for its own use. The construction was
completed on 1 November 20X3, but the office was not used until 1
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Management uses the straight-line depreciation method for such
equipment.
Solution
Management should start to charge depreciation when the office is
available for use. That is on 1 November 20X3.
Periods when the asset is available for use but before actual usage
commences should not affect the annual depreciation charge if the
straight-line method of depreciation is used.
Management should take into account the asset's expected usage
when determining its useful life. Depreciation should be provided on
a systematic basis over the asset's useful life.
Depreciation does not cease when the asset becomes idle, or is
retired from active use, and held for disposal, unless the asset is
fully-depreciated.
EXAMPLE Should depreciation cease when an item of PPE is
temporarily idle?
Issue
Depreciation of an asset begins when it is available for use. That is
when the asset is in the location and condition necessary for it to be
capable of operating in the manner intended by management.
Depreciation of an asset ceases at the earlier of when the asset is
classified as held for sale, or is when the asset is derecognised.
Should management continue to provide depreciation when an item
of PPE is idle?
30
Property, Plant and Equipment
useful life of 25 years.
Background
A bank owns a branch, which is shut down for six weeks during the
year for restyling. The bank provides depreciation on the branch
assets using the straight-line method.
Solution
Management should continue to provide depreciation when the
branch is idle because depreciation of an asset only ceases when
the asset is classified as held for sale, or derecognised.
Shut-down periods should not affect the annual depreciation charge
if the straight-line method of depreciation is used. Management
should take into account the asset's expected usage and
maintenance periods when determining its useful life.
However, a usage-based depreciation method (see Annex) for plant
and machinery, for example unit-of-production, results in no
depreciation during a shut-down period because no units would be
produced.
Management proposes to charge a full year’s depreciation on
assets acquired in the first half of the year. No depreciation will be
charged on assets acquired in the second half of the year until the
following year.
Management proposes to charge a full year’s depreciation charge
in the year of disposal.
Solution
Management should provide for depreciation from the date when an
asset is ready for use until the date of disposal. The new policy it is
proposing is not consistent with this requirement.
The depreciation charge for 20X1, calculated from the date on
which the assets were ready for use and on management’s
proposed basis, is illustrated below:
Depreciation
from date of
availability for
use
EXAMPLE Calculation of depreciation for additions during the year
Issue
The depreciable amount of an asset is allocated on a systematic
basis over its useful life.
When should management start to provide depreciation in respect
of assets acquired during the year?
Background
K has a financial year to 31 December. K acquired a computer
centre on 1 March 20X1 for 2 million. The computer centre has a
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Computer
centre (cost 2
million,
25 year life)
66,667
Depreciation
on
management’s
proposed
basis
80,000
Difference
13,333 (20%)
The short-cut approach to the calculation of depreciation that
management is proposing has resulted in a 20% overstatement of
depreciation, compared with the more precise calculation based on
the date from which the asset became available for use.
31
Property, Plant and Equipment
Asset Useful life
Factors, such as technical, or commercial obsolescence, and wear
and tear (even when the asset is idle), often reduce life.
Consequently, all of the following are considered in determining the
useful life of an asset:
1. expected usage of the asset.
The longer the life of an asset, the more years it will be depreciated,
and the less each year’s depreciation charge will be for the same
asset.
If the estimated life is too long, this will result in a loss on disposal
and inflated profits in the periods before disposal.
Land and buildings
2. expected physical wear and tear, which depends on operational
factors, such as the number of hours for which the asset is to be
used, the amount of repair and maintenance.
Land and buildings are separable assets, and are accounted for
separately, even when they are acquired together.
3. technical, or commercial obsolescence, arising from changes or
improvements in production, or from a change in the market
demand for the product, or service output, of the asset.
Though there are some exceptions, such as quarries and sites
used for landfill, land has an unlimited useful life and therefore is
not depreciated.
4. legal, or similar, limits on the use of the asset, such as safety
limitations or the expiry dates of asset leases.
Buildings have a limited useful life, and therefore are depreciable
assets. An increase in the value of the land on which a building
stands does not affect the determination of the depreciable amount
of the building.
5. the asset management policy may involve the disposal of assets
after a specified time. Therefore, the useful life of an asset may
be shorter than its economic life.
The estimation of the useful life of the asset is a matter of
judgement, based on the experience of the undertaking with similar
assets.
EXAMPLE useful life
Your vehicle costs $20.000. You will sell it in 4 years time, or
after 150.000 km., whichever is sooner. The residual value is
estimated at $8.000. The vehicle will have an economic life
longer than its useful life to the firm. This is reflected in the
residual value.
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EXAMPLE land and building
You buy a building including the land. The price is split between
the land
$1 mln. and the building $0,2 mln. You depreciate the building
over 20 years, at $10.000 per year. The land is not depreciated.
4 years later, the land is revalued at $1.4. The building continues
to be depreciated, despite the land’s revaluation surplus.
32
Property, Plant and Equipment
Property, plant & equipment (land)
Property,
plant
& equipment
(building)
Cash
This records buying the property
Depreciation
Accumulated depreciation
Annual depreciation of the building
I/B
B
B
DR
$1 mln
$0,2 mln
B
I
B
CR
I/B
B
Property, plant & equipment (land)
Cash
B
Provision for restoration
B
DR
$0,4
mln
$0,1
mln
$0,3
mln
$1,2 mln
10.000
10.000
Land cost
If the cost of land includes the costs of site dismantlement, removal
and restoration, the restoration cost portion of the land asset is
depreciated over the period of benefits obtained by incurring those
costs.
EXAMPLE non-depreciation of land
You buy a piece of land for a security complex. The price is $1 mln.
I/B
DR
CR
Property, plant & equipment (land)
B
$1 mln
Cash
B
$1
mln
This records the buying of the property
The preparation for the security complex costs $0.1 mln, and the
restoration at the end of the project will cost $0.3 mln.
CR
This records the preparation and
provision for restoration of the property
The calculation for the provision is covered in IAS 37 and will be the
net present value of the liability.
The security complex will have an economic life of 20 years, after
which the land will be redeveloped for other purposes. The
preparation and restoration costs totaling $0,4 mln should be
depreciated over the 20 year life of the security complex.
Depreciation
Provision for restoration
Accumulated depreciation
Annual
depreciation
of
preparation and provision
restoration of the property
I/B
I
B
B
DR
5.000
15.000
CR
20.000
the
for
The $1 mln. cost of the land should not be depreciated, if its value
is sustained over that period, and it will be worth $1 mln. at the end
of the period, after restoration.
In some cases, the land itself may have a limited useful life, in
which case it is depreciated in a manner that reflects the benefits to
be derived from it.
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33
Property, Plant and Equipment
If the land is leased, under a finance lease, its useful life is limited
to that of the lease. (If there is a purchase option at the end of the
lease, the same approach will apply only if the purchase option will
not be exercised).
EXAMPLES depreciation of land
You buy a piece of land for shredding and storing confidential
documents. The cost price is $1 mln.
The land will have an economic life of 10 years, after which the land
will be reduced in value to $0,0 (nil) as the restoration costs will be
equal to the value of the land.
The $1mln. depreciable amount of the land should be written off
over the
10 year life of the land.
I/B
DR
CR
Property, plant & equipment (land)
B
$1 mln
Cash
B
$1 mln
This records buying the property
Depreciation
I
$0,1
mln
Accumulated depreciation
B
$0,1
mln
Annual depreciation on $1 mln
EXAMPLES depreciation of leased land
You lease some land for a building for a period of 15 years, with
no option to buy it. The value of the lease is $450.000. The first
year’s capital repayment is $10.000. The land will need to be
depreciated over the 15-year period.
I/B
DR
CR
Property, plant & equipment (land)
B
450.000
Finance lease creditor - current
B
10.000
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Finance lease creditor – noncurrent
This records the lease of the
property
Depreciation
Accumulated depreciation
Annual depreciation (450.000/15)
B
I
B
440.000
30.000
30.000
Depreciation methods
The depreciation method used will reflect the pattern in which the
asset’s future benefits are likely to be consumed.
The depreciation method applied to an asset will be reviewed at
least at each financial year-end and, any significant change in the
expected pattern of its future benefits, will cause the method to be
changed to reflect this.
Changes will be accounted for as a change in an accounting
estimate, in accordance with IAS 8. No change is made to
depreciation charged in previous years.
Changes in asset life are common, as these are estimated in
advance of asset usage. Changes in depreciation methods are
rare.
A variety of depreciation methods can be used, including the
straight-line method, the diminishing balance method and the units
of production method.
Straight line method
Straight-line depreciation results in a constant charge over the
useful life.
34
Property, Plant and Equipment
EXAMPLE straight line depreciation
Your vehicle costs $40.000. You will sell it in 4 years time. The
estimated residual value is $16.000. The total amount of
depreciation will be $24.000 ($40.000 - $16.000).
The depreciation charge is $6.000 per year, or $500 per month.
I/B
DR
CR
Property, plant & equipment
B
40.000
Cash
B
40.000
This records the buy of the vehicle
Depreciation
I
6.000
Accumulated depreciation
B
6.000
Annual depreciation straight line on
(40.000-16.000) = 24.000/4=6.000
Diminishing balance method
The diminishing balance method results in a decreasing charge
over the useful life and loads the early years with a much higher
charge.
EXAMPLE diminishing balance method
You buy a machine for $10.000. It has high risk of technical
obsolescence. You depreciate it at 50% as follows:
Year 1 $5.000 (50% of 10.000)
Year 2 $2.500 (50% of 5.000)
Year 3 $1.250 (50% of 2.500)
Year 4 $ 625 (50% of 1.250)
The selected method will closely reflect the expected pattern of
future benefits flow. The method is then applied consistently, unless
there is a change in the expected benefit pattern.
8. Impairment and Derecognition
Impairment is presented in the income statement as:
Impairment losses or impairment gains if presenting the income
statement by nature of expense, or an expense within the function if
presenting the income statement by function.
Impairment gains represent reversals of impairment losses (see
below).
Impairment is presented in the balance sheet as:
Accumulated impairment:
Beginning of 2XX9
Historical cost (or
valuation)
Accumulated
depreciation
(2XX9)
Carrying amount
Units of production method (more detail and examples in the
Annex)
The units of production method results in a charge based on the
expected use, or output.
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Accumulated
impairment
Carrying amount
after impairment loss
Goodwill
Identifiable
assets
Total
1,000
2,000
3,000
0
(167)
(167)
1,000
1,833
2,833
(1,000)
(473)
(1,473)
0
1,360
1,360
35
Property, Plant and Equipment
Accumulated impairment is never a positive number.
IFRS 3 Business Combinations workbook explains how to account
for an impairment relating to acquisitions.
To determine whether an asset is impaired, apply IAS 36
Impairment of Assets, which explains how to review the carrying
amount, the recoverable amount and when to recognise, or reverse
the recognition of, an impairment loss.
in use. Any gain, or loss, on disposal will be recorded at this
time.
(3) compensation from third parties for assets that were impaired,
lost, or given up, is included in determining the income
statement when it becomes receivable; Compensation may
become payable from an insurance policy or if the state
nationalises assets, either wholly or partly, in order to build a
new road over the land on which the building stands, or to
rebuild an area for government purposes.
Compensation for impairment
Compensation from third parties (such as insurance organisations)
for assets that were impaired, lost, or given up, will be included in
the income statement, when the compensation becomes
receivable. The compensation will be an offset to impairment losses
previously recorded.
Separate Economic Events
The following are separate economic events, and are accounted for
separately:
(1) impairments of items of property, plant and equipment are
recorded under IAS 36;
(4) the cost of items of property, plant and equipment restored,
bought, or constructed as replacements is determined under
IAS 16.
Replacements should be treated as new assets. The old asset
is eliminated from the books, and the new asset introduced as
an addition.
Derecognition (Eliminated from the balance sheet -SFP)
The carrying amount of an asset will be derecognised:
(1) on disposal; or
(2)
when no future benefits are expected from its use or disposal.
An impairment is a reduction in value of an asset that is still in
use. The reduction may be caused by damage (to a car, for
example). It may be due to new, cheaper technology having
eroded the fair value of the firm’s current equipment.
The gain, or loss, arising from the derecognition of an asset will be
included in the income statement when the asset is derecognised
(unless IAS 17 requires otherwise e.g. on a sale and leaseback).
(2) derecognition of items of property, plant and equipment retired,
or disposed of, is determined under IAS 16; This is the action of
eliminating an asset from the books, to reflect that it is no longer
Gains will not be classified as revenue but will be shown as gains
(or losses) on disposal of property, plant and equipment in the
income statement.
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36
Property, Plant and Equipment
However, an entity that, in the course of its ordinary activities,
routinely sells items of property, plant and equipment that it has
held for rental to others shall transfer such assets to inventories at
their carrying amount when they cease to be rented and are held
for sale.
The proceeds from the sale of such assets shall be recognised as
revenue in accordance with IAS 18 Revenue. This would primarily
apply to lessors.
EXAMPLE sale at a profit
Your policy is to keep company vehicles for 4 years. You have
bought a new vehicle for $30.000. $16.000 is the estimated residual
value of the vehicle.
The depreciation amount was $30.000-$16.000= $14.000, and the
annual depreciation charge is $14.000 / 4 years = $3.500.
At the end of the 4 years, you sell the vehicle for $18.000.
You record a gain of $2.000 ($18.000-$16.000) in the income
statement.
I/B
DR
CR
Cash
B
18.000
Property, plant & equipment
B
30.000
Accumulated depreciation
B
14.000
Gain on disposal of vehicle
I
2.000
Sale of vehicle for cash at a profit of
2.000
The disposal may occur in a variety of ways (for example: by sale,
by entering into a finance lease, or by donation). In determining the
date of disposal, an undertaking applies the criteria in IAS 18
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Revenue for recording revenue from the sale of goods. IAS 17
Leasing applies to disposal by a sale and leaseback.
The gain, or loss, arising from derecognition is the difference
between the net disposal proceeds and the carrying amount.
The consideration receivable on disposal is recorded initially at its
fair value.
If payment for the item is deferred, the consideration received is
recorded initially at the cash equivalent.
The difference between the nominal amount of the consideration
and the cash equivalent is recorded as interest revenue under IAS
18, reflecting the effective yield on the receivable.
EXAMPLE fair value of disposal
A vehicle that cost $30.000 is fully depreciated to its residual
value of $16.000.
You offer to sell it for $18.000 cash, or for $19.000 payable in 1
year’s time.
You record a gain of $2.000 ($18.000-$16.000) in the income
statement for either payment method.
I/B
DR
CR
Cash
B
18.000
Property, plant & equipment
B
30.000
Accumulated depreciation
B
14.000
Gain on disposal of vehicle
I
2.000
Sale of vehicle for cash
If the buyer pays $19.000 in 1 year’s time, the extra $1.000 will be
treated as interest receivable.
37
Property, Plant and Equipment
Accounts receivable
Accumulated depreciation
Property, plant & equipment
Gain on disposal of vehicle
Unexpired interest income
Sale of vehicle
Cash
Accounts receivable
Unexpired interest income
Interest income
Cash receipt and recognition of
interest
I/B
B
B
B
I
B
DR
19.000
14.000
B
B
B
I
19.000
CR
30.000
2.000
1.000
19.000
1.000
1.000
EXAMPLE Does property, plant and equipment carried at revalued
amount need to be revalued at the date of disposal?
Issue
The gain or loss on derecognition of property, plant and equipment
is included in the income statement when the item is derecognised.
Gains are not classified as revenue.
The gain or loss is calculated as the difference between the net
disposal proceeds, if any, and the asset’s carrying amount.
Should management revalue property, plant and equipment at the
date of disposal before calculating the gain or loss on sale?
Background
Management revalues a bank’s owner-occupied building at the end
of each calendar year. As at 31 December 20X3, the revalued
amount of the building is 20 million. The building was sold on 30
June 20X4 for 21.5 million. The carrying amount of the building on
30 June 20X4 was 19.9 million.
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Solution
Management does not have to revalue an asset at the date of
disposal, provided revaluations are reasonably frequent. Any gain
or loss arising in the period should therefore be recognised in the
income statement.
However, a gain or loss arising on disposal of revalued PPE may
indicate that the remainder of that class of assets should be
revalued in order to ensure that the carrying amount is not
materially different from fair value.
9. Disclosure
General
The financial statements will disclose, for each class of property,
plant and equipment:
(1) the measurement bases used for determining the gross
carrying amount;
(2) the depreciation methods used;
(3) the useful lives, or the depreciation rates used;
(4) the gross carrying amount and the accumulated depreciation
(aggregated with accumulated impairment losses) at the
beginning, and end, of the period; and
(5) a reconciliation of the carrying amount at the beginning and
end of the period showing:
(i)
additions;
(ii) disposals;
(iii) acquisitions through business combinations;
(iv) increases, or decreases, resulting from revaluations
and from impairment losses recognized, or reversed,
directly in equity under IAS 36;
(v) impairment losses recorded in the income statement
under IAS 36;
38
Property, Plant and Equipment
(vi)
impairment losses reversed in the income statement
under IAS 36;
(vii) depreciation;
(viii) the net exchange differences arising on the translation
of the financial statements from the functional currency
into a different presentation currency, including the
translation of a foreign operation into the presentation
currency of the reporting undertaking; and
(ix) other changes.
The financial statements will also disclose:
(1) the existence and amounts of restrictions on title, and
property, plant and equipment pledged as security for
liabilities;
(2) the amount of expenditures recorded in the carrying amount
in the course of its construction;
(3) the amount of contractual commitments for the acquisition of
property, plant and equipment; and
(4) if it is not disclosed separately on the face of the income
statement, the amount of compensation from third parties for
items that were impaired, lost or given up that is included in
the income statement.
Depreciation
Selection of the depreciation method and estimation of the useful
life of assets are matters of judgement. Therefore, disclosure of the
methods adopted, and the estimated useful lives, or depreciation
rates, should be disclosed. Also, it is necessary to disclose:
(1) depreciation, whether recorded in the income statement or as a
part of the cost of other assets, during a period; and
(2) accumulated depreciation at the end of the period.
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Accounting estimates
Under IAS 8, an undertaking discloses the nature and effect of a
change in an accounting estimate that has an effect in the current
period, or will have an effect in subsequent periods. For property,
plant and equipment, such disclosure may arise from changes in
estimates with respect to:
(1) residual values;
(2) the estimated costs of dismantling, removing, or restoring
items;
(3) useful lives; and
(4) depreciation methods.
Revaluation
If items are stated at revalued amounts, the following will be
disclosed:
(1) the effective date of the revaluation;
(2) whether an independent valuer was involved;
(3) the methods, and significant assumptions, applied in
estimating the items’ fair values;
(4) the extent to which the items’ fair values were determined
directly by reference to observable prices in an active market,
or recent market transactions on arm’s length terms, or were
estimated using other valuation techniques;
(5) for each revalued class of property, plant and equipment, the
carrying amount that would have been recorded had the
assets been carried under the cost model; and
(6) the revaluation surplus, indicating the change for the period,
and any restrictions on the distribution of the balance to
shareholders.
Under IAS 36, an undertaking discloses further information on
impaired property, plant and equipment.
Undertakings are encouraged to disclose the following information:
39
Property, Plant and Equipment
(1)
(2)
(3)
(4)
the carrying amount of temporarily idle property, plant and
equipment;
the gross carrying amount of any fully depreciated items still
in use;
the carrying amount of items retired from active use and held
for disposal; and
when the cost model is used, the fair value of property, plant
and equipment, when this is materially different from the
carrying amount.
Sample Accounting Policy
(taken from Illustrative consolidated financial statements 2006
– Banks)
Property, plant and equipment
Land and buildings comprise mainly branches and offices. All
property, plant and equipment is stated at historical cost less
depreciation. Historical cost includes expenditure that is directly
attributable to the acquisition of the items.
Subsequent costs are included in the asset’s carrying amount or
are recognised as a separate asset, as appropriate, only when it is
probable that future economic benefits associated with the item will
flow to the Group and the cost of the item can be measured reliably.
All other repairs and maintenance are charged to other operating
expenses during the financial period in which they are incurred.
allocate their cost to their residual values over their estimated
useful lives, as follows:
• Buildings 25-40 years,
• Leasehold improvements 25 years, or over the period of the lease
if less than 25 years,
• Equipment and motor vehicles 3-8 years.
The assets’ residual values and useful lives are reviewed, and
adjusted if appropriate, at each balance sheet date.
Assets that are subject to amortisation are reviewed for impairment
whenever events or changes in circumstances indicate that the
carrying amount may not be recoverable. An asset’s carrying
amount is written down immediately to its recoverable amount if the
asset’s carrying amount is greater than its estimated recoverable
amount.
The recoverable amount is the higher of the asset’s fair value less
costs to sell and value in use.
Gains and losses on disposals are determined by comparing
proceeds with carrying amount. These are included in other
operating expenses in the income statement.
Sample Accounting Policy
(taken from Illustrative Corporate Financial Statements 2007,
PWC)
Property, plant and equipment
Land is not depreciated.
Depreciation of other assets is calculated using the straight-line
method to
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Land and buildings comprise mainly factories, retail outlets and
offices. Land and buildings are shown at fair value, based on
periodic, but at least triennial, valuations by external independent
valuers, less subsequent depreciation for buildings.
40
Property, Plant and Equipment
Any accumulated depreciation at the date of revaluation is
eliminated against the gross carrying amount of the asset, and the
net amount is restated to the revalued amount of the asset. All
other property, plant and equipment is stated at historical cost less
depreciation.
Historical cost includes expenditure that is directly attributable to
the acquisition of the items. Cost may also include transfers from
equity of any gains/losses on qualifying cash flow hedges of foreign
currency purchases of property, plant and equipment.
(Management may choose to keep these gains/(losses) in equity
until the acquired asset affects profit or loss. At this time,
management should reclassify the gains/(losses) into profit or loss.)
Subsequent costs are included in the asset’s carrying amount or
recognised as a separate asset, as appropriate, only when it is
probable that future economic benefits associated with the item will
flow to the group and the cost of the item can be measured reliably.
The carrying amount of the replaced part is derecognised. All other
repairs and maintenance are charged to the income statement
during the financial period in which they are incurred.
Increases in the carrying amount arising on revaluation of land and
buildings are credited to other reserves in shareholders’ equity.
Decreases that offset previous increases of the same asset are
charged against other reserves directly in equity; all other
decreases are charged to the income statement. Each year the
difference between depreciation based on the revalued carrying
amount of the asset charged to the income statement and
depreciation based on the asset’s original cost is transferred from
‘other reserves’ to ‘retained earnings’.
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Land is not depreciated. Depreciation on other assets is calculated
using the straight-line method to allocate their cost or revalued
amounts to their residual values over their estimated useful lives, as
follows:
–
–
–
–
Buildings
Machinery
Vehicles
Furniture, fittings and
equipment
25-40 years
10-15 years
3-5 years
3-8 years
The assets’ residual values and useful lives are reviewed, and
adjusted if appropriate, at each balance sheet date.
An asset’s carrying amount is written down immediately to its
recoverable amount if the asset’s carrying amount is greater than
its estimated recoverable amount (note 2.7 see below).
Gains and losses on disposals are determined by comparing the
proceeds with the carrying amount and are recognised within ‘Other
(losses)/gains – net’ in the income statement.
When revalued assets are sold, the amounts included in other
reserves are transferred to retained earnings.
Note 2.7 Impairment of non-financial assets
Assets that have an indefinite useful life, for example goodwill, are
not subject to amortisation and are tested annually for impairment.
Assets that are subject to amortisation are reviewed for impairment
whenever events or changes in circumstances indicate that the
carrying amount may not be recoverable.
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Property, Plant and Equipment
An impairment loss is recognised for the amount by which the
asset’s carrying amount exceeds its recoverable amount. The
recoverable amount is the higher of an asset’s fair value less costs
to sell and value in use.
X owns a 5% share in a pipeline that it uses together with the other
investors in order to transport the minerals it produces. X does not
have control or joint control over the pipeline. It is only obliged to
compensate for its share of costs incurred to operate and maintain
it and has the right to use 5% of the pipeline’s capacity.
For the purposes of assessing impairment, assets are grouped at
the lowest levels for which there are separately identifiable cash
flows (cash-generating units). Non-financial assets other than
goodwill that suffered an impairment are reviewed for possible
reversal of the impairment at each reporting date.
X’s management proposes that the 5% share in the pipeline should
be accounted for as property, plant and equipment (PPE) under IAS
16. Is this appropriate?
10. Annex – IAS 16 rules for users other than banks.
No. The 5% share in the pipeline is not an item of PPE to be
accounted for under IAS 16 because X does not control the
pipeline.
This annex provides examples of the application of IAS16 which are
rarely found in banks (bridges, pipelines, aircraft and mines).
Recognition of Assets
EXAMPLE
Solution
Rather this is an undivided interest that should be classified as a
non-current investment and carried at cost less accumulated
depreciation and accumulated impairment.
Undivided interest in pipeline
Issue
Energy and utilities undertakings may take an ownership interest in
shared assets such as a pipeline where the group of users is too
wide for joint control to be practical. It also may result where the
investor wishes to retain influence and access to information but not
joint control.
How is such an investment accounted for if the investment is not in
an undertaking but rather directly in the asset and the investor does
not retain control nor joint control over that asset?
Repairs and maintenance costs
Some equipment may need regular major inspections for faults,
regardless of whether parts of the item are replaced. E.g. aircraft,
bridges, dams.
When each major inspection is performed, its cost is recorded in
the carrying amount.
Any remaining carrying amount of the cost of the previous
inspection (as distinct from physical parts) is written off.
Background
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Property, Plant and Equipment
EXAMPLE regular inspections
Your aircraft has a carrying amount of $10 mln. The latest
inspection cost $0,2 mln.
The original inspection has a carrying amount of $0,1 mln. Add the
cost of the new inspection, and remove the carrying amount of the
old
inspection:
$10 + $0,2 - $0,1 = $10,1 mln.
I/B
DR
CR
Property, plant & equipment
B
$0,2 mln
Cash
B
$0,2 mln
This records the cost of the new
inspection
Depreciation
I
$0,1 mln
Property, plant & equipment
B
$0,1 mln
This records the removal of the old
inspection cost, now written off as
depreciation
If there was no cost attributable to the initial major inspection, an
estimate should be used.
(3)
the initial estimate of the costs of dismantling, and
removing the item, and restoring the site on which it is
located.
IFRIC 1 (from IFRS News - February 2005)
IFRIC 1 requires all changes of decommissioning liabilities arising
from the change in the cash flows required to settle the obligation,
or a change in the discount rate, to be accounted for prospectively.
Measurement – cost model
The change in the obligation adjusts the carrying value of the
related asset. If the decrease in liability exceeds the carrying
amount of the asset, the excess is recognised immediately in profit
and loss (ie, no negative asset balances).
If the adjustment increases the value of the asset, it may be an
indication of impairment.
Measurement - revaluation model
A decrease in the obligation adjusts the revaluation surplus in
equity. Any increase in the decommissioning obligation reduces the
valuation surplus until it reaches zero. Any remaining increase in
the liability is recorded immediately in the income statement.
Measurement at Recognition - Elements of cost
The cost comprises:
(1) buying price, including import duties and non-refundable
taxes, after deducting trade discounts and rebates;
(2) any costs directly attributable to bringing the asset to the
location, and condition, necessary for it to be capable of
operating in the manner intended by management.
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The interpretation also amends IFRS 1, allowing an exemption for
first-time adopters from reconstructing all past changes in
decommissioning liabilities. The liability can be calculated at the
date of transition to IFRS, with the corresponding debit included as
part of the cost of the asset.
Companies that also report under US GAAP will have a continuing
difference. SFAS 143, Accounting for Asset Retirement Obligations,
does not require the decommissioning obligation to reflect the
changes in the discount rate. Reductions in the decommissioning
liability are also treated differently.
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Property, Plant and Equipment
EXAMPLE
expenses
Recognition of decommissioning and site restoration
Issue
The cost of an item of property, plant and equipment should include
the initial estimate of the costs of dismantling and removing the
asset and restoring the site on which it is located.
How should management recognise the estimated cost of
dismantling and removing the asset and restoring the site?
Background
An oil company has an obligation, at the date of installation, to
decommission an oil rig at the end of its thirty-year life, in
accordance with the local legislative requirements.
The decommissioning costs for the rig are estimated to be
140,000,000 with a net present value of 8,023,197, based on a
discount rate of 10%.
Solution
Management should include 8,023,197, the net present value of the
decommissioning cost, in the carrying amount of the oil rig at the
time of its installation.
The double entry required for the recognition of the asset and the
liability will be:
Dr PPE - plant and machinery
8,023,197
Cr Provision - decommissioning
8,023,197
EXAMPLE
discount
Changes in discount rate and the unwinding of the
Issue
Changes in the measurement of an existing decommissioning,
restoration or similar liability that result from changes in the
estimated timing or amount of the outflow of cash flows or other
resources, or a change in the discount rate, adjust the carrying
value of the related asset under the cost model.
Adjustments may not increase the carrying amount of an asset
beyond its recoverable amount or reduce it to a negative value.
The periodic unwinding of the discount is recognised in profit or loss
as a finance cost as it occurs. Capitalisation under IAS 23 is not
permitted.
How should management account for the changes in discount rate
and the unwinding of the discount?
A provision for 8,023,197 is created because the obligating event is
the installation of the oilrig.
Background
The amount included in PPE will be depreciated with the rest of the
cost of the oil rig in the usual way. The accretion of the discount
after the initial recognition of the provision should be recognised as
interest expense.
C has an oil rig measured under the cost model and a related
decommissioning liability. The oil rig started operating on 1 January
20X0. The oil rig has a useful life of 40 years. Its initial cost was
120,000; this included an amount for decommissioning costs of
10,000. This represented 70,400 in estimated cash flows payable in
40 years, discounted at a risk-adjusted rate of 5 per cent.
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44
Property, Plant and Equipment
Measurement of cost
The oil rig is 10 years old on 31 December 20X9. Accumulated
depreciation is 30,000 (120,000 x 10/40 years). The
decommissioning liability has grown from 10,000 to 16,300 as a
result of the unwinding of the discount. The interest was recorded in
the income statement as a finance cost.
The risk-adjusted rate changes to 7 per cent on 31 December
20X9. The net present value of the decommissioning liability has
decreased by 8,000.
Solution
The decommissioning liability is reduced from 16,300 to 8,300 as
follows:
Dr decommissioning liability
8,000
Cr cost of asset
8,000
The carrying amount of the asset is 82,000 (120,000 - 8,000 30,000).
This will be depreciated over the remaining 30 years of the asset’s
life giving a depreciation expense for the next year of 2,733 (82,000
÷ 30). The next year’s finance cost for the unwinding of the discount
will be 581 (8,300 x 7 per cent).
An undertaking applies IAS 2 Inventories to the costs of obligations
for dismantling, removing and restoring the site on which an item is
located, having used the item to produce inventories during that
period.
The obligations for costs accounted for in accordance with IAS 2 or
IAS 16 are recorded and measured in accordance with IAS 37
Provisions, Contingent Liabilities and Contingent Assets.
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The cost is the cash price equivalent at the recognition date. If
payment is deferred beyond normal credit terms, the difference
between the cash price equivalent and the total payment is
recorded as interest over the period of credit, unless such interest is
recorded as a borrowing cost in the carrying amount of the item, in
accordance with IAS 23.
EXAMPLE cost measurement
You can pay $1mln cash for a building, or pay for it over 3 years
for a total cost of $1,3 mln. Using either payment method, the cost
will be $1mln. If the first payment option is used (see above), the
$0,3 mln. will be treated as interest.
I/B
DR
CR
Property, plant & equipment
B
$1 mln.
Accounts payable
B
$1 mln.
Being the buying of the building
Interest expense
I
$0,1 mln.
Interest payable
B
$0,1 mln.
Annual interest charge
EXAMPLE What should be the cost of the property, plant and
equipment when the vendor provides extended credit?
Issue
Property, plant and equipment is initially measured at cost.
Cost is defined as the amount of cash and cash equivalents paid, or
the fair value of the other consideration given, to acquire an asset
at the time of its acquisition or construction.
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Property, Plant and Equipment
When payment for an item of PPE is deferred beyond normal credit
terms, its cost is the cash price equivalent; the difference between
this amount and the total payments is recognised as interest
expense over the period of credit, unless it is capitalised in
accordance with IAS 23.
How should management determine the cash price equivalent in
respect of an individually negotiated item of PPE?
Background
P manufactures computer chips and undertaking B constructs the
machinery used to manufacture the chips. Each machine that B
manufactures is built to the customer’s specifications. Due to the
downturn in the chip market, P’s management negotiates extended
payment terms for a new machine to be constructed by B.
P will pay B 25,000,000 18 months after delivery of the new
equipment. Due to the individual nature of the equipment, there is
no list price to determine the equivalent price under normal credit
terms.
Solution
A’s management should record the asset when P receives it at the
present value of the amount payable.
Dr PPE - plant and machinery
22,587,301
Cr Accounts payable - long term
22,587,301
The accretion of the discount on the liability should be charged to
interest expense in the income statement from the date of receipt of
the asset to the date of payment.
The cost of the asset of 22,587,301 will be depreciated to residual
value over the asset’s useful life.
One, or more, items may be acquired in exchange for a nonmonetary asset or assets, or a combination of monetary and nonmonetary assets. This system of accounting would be used for
barter transactions involving PPE.
The cost of such an item is measured at fair value unless:
(1) the exchange transaction lacks commercial substance or
(2) the fair value of neither the asset received nor the asset given
up is reliably measurable.
If the acquired item is not measured at fair value, its cost is
measured at the carrying amount of the asset given up plus extra
cash payment (or minus payment by another company, which gives
your company an asset).
The present value should be determined by discounting the amount
payable at a pre-tax rate that reflects current market assessments
of the time value of money and the risks specific to the liability.
Assuming the relevant discount rate for P is 7%, the PPE and the
price payable to B should be recorded at 22,587,301 (25,000,000
discounted at 7% for 1.5 years). The following double entry should
be recorded:
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EXAMPLE asset exchange
You exchange $1 mln. cash and an aircraft worth $4m for a
building with a carrying value $4 mln, in the books of the other
party. If the building cannot be measured at fair value, its cost
should be taken to be $5 mln.
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Property, Plant and Equipment
I/B
Property,
plant
& equipment B
(building)
Cash
B
Property,
plant
& equipment B
(aircraft)
This records the exchange of
aircraft and cash for the building.
DR
$5 mln.
CR
$1 mln.
$4 mln.
The cost held by a lessee under a finance lease is determined
under IAS 17 Leases.
The carrying amount may be reduced by government grants, in
accordance with IAS 20 Government Grants.
iii) machinery;
iv) ships;
v) aircraft;
vi) motor vehicles;
vii) furniture and fixtures; and
viii) office equipment.
Further analysis of such classes of assets into smaller classes is
acceptable if this provides relevant and useful information to the
user of the financial statements. A reporting undertaking might
separately classify land it uses for agricultural purposes and land it
uses for industrial purposes.
Full disclosure must be given for every class of asset presented.
Depreciation
Revaluation in classes
EXAMPLE
same time
Assets of the same class should be revalued at the
Assets in Parts
An asset may be recorded in parts each of which is depreciated
separately.
Issue
All assets in the same class shall be revalued at the same time
when an asset in that class is revalued. A class of property, plant
and equipment is defined as a grouping of assets of a similar nature
and use in an undertaking’s operations.
EXAMPLE
Aircraft: Airframe and engines of an aircraft are depreciated
separately.
How should management determine the class of assets?
EXAMPLE
If the airframe and engines of an aircraft have the same useful life,
it may be appropriate to depreciate them grouped as one asset.
Solution
Examples of classes given in IAS 16are:
i) land;
ii) land and buildings;
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For depreciation, parts with the same life may be grouped.
If a part is depreciated separately then the remaining parts must
also be depreciated.
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Property, Plant and Equipment
Parts that are individually not significant may be aggregated before
being depreciated.
EXAMPLE
Your airline accounts for the airframe, engines, mechanics and
seating as separate items. Other items are considered as the
‘remainder’ of the aircraft and are aggregated and depreciated over
their useful lives.
The depreciation charge for a period is usually recorded in the
income statement.
EXAMPLE Non-depreciation
replacement
of
assets
subject
to
regular
Issue
The depreciable amount of an asset is allocated on a systematic
basis over its useful life.
Can management avoid charging depreciation by expensing the
acquisition costs of replacement assets instead?
Background
A group operates several hotels. The total carrying amount of hotel
equipment such as bed linen, dishes etc, remains consistent from
year to year.
Management replaces all linen and dishes etc, every few years to
ensure that high standards are maintained. Management has
introduced a rolling replacement programme such that the cost of
replacement assets remains at a consistent level from year to year.
Management is keen to reduce administration, and proposes that it
no longer depreciates the hotel equipment but expenses the cost of
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replacements each year.
Solution
Management should capitalise all assets with useful lives of more
than one year and depreciate them over their useful lives.
Management could, for efficiency purposes, capitalise groups of
similar assets, for example bed sheets bought for one hotel, as one
asset. Management should then calculate depreciation for all the
bed sheets for that particular hotel as if it they were one asset.
Management should not, however, follow the proposed policy of
expensing all replacement assets purchased during the year and
not providing depreciation on the asset capitalised.
Tough transition question of the month
IAS 16 component approach - How far to go - IFRS News July
2004
The component approach requires each element of a larger item
of PPE with a cost significant to the total cost to be separately
identified and depreciated (the ‘component requirement’). Once
components have been identified and useful lives established,
salvage values must be determined and depreciation methods
chosen.
If some of the separate elements have similar useful lives, they
can be grouped for depreciation purposes. There is no exemption
in IFRS 1 for first-time adopters. Companies in many industries
will be challenged by this requirement as they adopt IFRS - often
for very different reasons.
The standard uses an aircraft as the example of an asset that
needs to be componentised. This is an example that is intuitively
understood and simple to account for. The aircraft body (air
frame) and the engines are most often acquired from different
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Property, Plant and Equipment
manufacturers and have different maintenance requirements. The
useful life of an aircraft engine is much shorter than the life of the
airframe. Engines must be regularly replaced to meet airworthiness criteria. The separate elements of cost at acquisition
are apparent and can be used to allocate historical cost or fair
value at the date of transition to IFRS.
The separate identification of the engines as a component
enables them to be depreciated over their useful life. The cost is
then depreciated to nil or salvage value at the date of
replacement. The remaining cost of the component is
derecognised and the replacement components’ cost capitalised
when the new engines are installed.
Of course, real life for most preparers is not as straightforward as
the accounting standards might imply. Management of a
privatised utility, such as an urban water and sewage network,
will have a much larger task on their hands.
Any retail distribution network for a ‘utility’, such as water, power
or landline telecommunications, will present a similar set of
challenges. Many will have been founded and owned by
government - often for decades. The network will self-evidently
provide service (put water in, turn the tap, get water out). The
details of the system in between may literally be buried
underground, with documentation of cost and elements lost in the
mists of time. The record may be further muddied by the
privatisation itself - with a lump sum fair value being assigned to
network assets. The company might have little practice of
distinguishing between maintenance and enhancements or
replacements that need to be capitalised.
How can management practically apply the requirements of IAS
16 in these circumstances? A practical approach will involve the
company’s engineers and operational personnel as well as
accounting and finance staff. The elements of the system should
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be analysed - looking first at the major elements of the system,
especially those that have high-value machinery associated with
them. For example, a water company might identify the treatment
facilities for sewage, major pumping stations, large aqueducts
and reservoirs. Machinery scheduled for replacement or removal
from service for refit is a good indicator of separate components.
A company’s long-term capital budget can be a good source of
data for this exercise.
Following this exercise, management might look to find similar
groups of assets that can be combined for depreciation purposes.
This might be groups of similar high-voltage lines in an electricity
transmission grid or an extended gas pipeline network with pipes
of similar dimensions and age.
Each identified component (asset or group of similar assets) is
then assigned a depreciation method and an economic useful life,
including consideration of technological obsolescence.
The search for components could be carried down to the level of
the pipe fittings and fixtures. However, IAS 16 does not seem to
require this level of detail for most companies. The cost benefit of
finding and maintaining that level of detailed information may not
make it a worthwhile exercise.
Management of most affected companies will find themselves
between the two extremes of challenge. However, the
requirements of the standard will bring most capital-intensive
preparers within its scope. A few other examples of substantial
fixed assets that will require component analysis are gas pipeline
systems (compressors), steel mills (furnaces), ships (engines and
refits), oil and chemical refineries (corrosive chemicals) and
specialised factory buildings (clean rooms).
IFRS 1 will require a ‘project-type’ exercise for first-time adopters
that have not been using components. Management also will need
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Property, Plant and Equipment
to ensure that the financial accounting and internal control systems
properly account for newly acquired assets as well as tracking the
depreciation of all identified components.
asset.
Assets producing other assets
Sometimes asset are used to produce other assets.
In this case, the depreciation charge constitutes part of the cost of
the other asset, and is included in its carrying amount.
Background
M manufactures car components for the automotive industry, and
uses self-made tools in its production process, depending on the
model of the car in which the component will be used. M’s
customers, the car manufacturers, continually introduce new
models or redesign existing models. M must therefore continually
develop new tools for use in its production processes.
For example, the depreciation of manufacturing plant and
equipment is included in the costs of conversion of inventories (see
IAS 2).
EXAMPLE
You buy a product-testing machine for $100.000. You estimate that
it will be able to test 20.000 units over its life. No residual value is
anticipated.
Every time a unit is tested, depreciate the machine by $5. This
depreciation is debited to inventories. It is then transferred to cost of
sales when the goods are sold.
I/B
DR
CR
Inventory – (Testing) depreciation
B
5
Accumulated depreciation
B
5
Unit depreciation on production testing
Cost of Sales
I
2.500
Inventory
B
2.500
Testing costs of 500 units sold.
Transferred to cost of sales
When is it appropriate to capitalise depreciation?
The costs of the tools developed are capitalised and depreciated
over 3 years, the expected useful life of the tools.
M has one factory in which all of its production takes place.
Management uses 10% of the factory for the development and
construction of the tools. The building is depreciated using the
straight-line method.
Solution
Management should include 10% of the factory depreciation charge
in the costs of the tools, which are capitalised and depreciated. The
factory’s depreciation charge is part of the cost of producing the
tools.
Similarly, depreciation of items used for development activities may
be included in the cost of an intangible asset, recorded under IAS
38 Intangible Assets.
EXAMPLE Capitalisation of depreciation charges
Issue
The depreciation charge for each period is recognised as an
expense unless it is included in the carrying amount of another
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Property, Plant and Equipment
EXAMPLE
How to choose an appropriate depreciation method?
Issue
The selection of the depreciation method used for an asset is based
on the expected pattern of consumption of economic benefits while
the asset is used.
The method is applied from period to period unless there is a
change in the expected pattern of consumption of economic
benefits from that asset.
Which factors determine the pattern of economic benefits
consumed?
Background
B manufactures industrial chemicals. Management uses blending
machines in the production process. The output of the blending
machines is consistent from year to year and they can be used for
different products.
However, maintenance costs increase from year to year, and a new
generation of machines with significant improvements over existing
machines is available every five years.
Management has questioned what method of depreciation should
be used for the blending machines.
Solution
Management should determine the depreciation method based on
production output. The straight-line depreciation method should be
adopted because the production output is consistent from year to
year.
equipment is consumed principally by its use. Consequently, the
pattern of economic benefits consumed is principally determined by
the output produced by using the asset.
Factors such as maintenance costs or technical obsolescence
should be considered in determining the blending machines’ useful
life.
Time method
EXAMPLE time method
An air-conditioning machine costs $200.000. It is estimated to
have a life of
5 years, with no residual value.
You depreciate it at the rate of $40.000 per year.
The factory is closed for 4 months for the installation of new
machines. Depreciation of the air-conditioning machines
continues through this period
I/B
DR
CR
Property, plant & equipment
B
200.000
Cash
B
200.000
This records the buy of the machine
Depreciation
I
40.000
Accumulated depreciation
B
40.000
Annual depreciation irrespective of
use.
Units of production method
However, if you are using the units of production method of
depreciation, the depreciation charge can be zero, when there is no
production.
The economic benefit embodied in an item of property, plant and
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Property, Plant and Equipment
EXAMPLE units of production method
You buy a product-testing machine for $100.000 for a seasonal
product. You estimate that it will be able to test 20.000 units over its
life. No residual value is anticipated.
Every time a unit is tested, depreciate the machine by $5.
In the reporting period 3.200 units are tested,
I/B
DR
CR
Property, plant & equipment
B
100.000
Cash
B
100.000
This records buying of the machine
Depreciation
I
16.000
Accumulated depreciation
B
16.000
Depreciation on 3.200 units
EXAMPLE units of production method
For safety reasons the factory had a 4 month shutdown.
No production took place, so no depreciation is charged.
EXAMPLE units of production method
You buy a product-testing machine for $100.000 for a seasonal
product. You estimate that it will be able to test 20.000 units over
its life. No residual value is anticipated.
Every time a unit is tested, depreciate the machine by $5. So in a
period where output is 1000 units, depreciation is $5.000.
Property, plant & equipment
Cash
This records the buy of the machine
Depreciation
Accumulated depreciation
Depreciation on 1000 units
I/B
B
B
I
B
DR
100.000
CR
100.000
5.000
5.000
11. Multiple choice questions
Depreciation methods
Straight line method
Straight-line depreciation results in a constant charge over the
useful life.
Diminishing balance method
The diminishing balance method results in a decreasing charge
over the useful life and loads the early years with a much higher
charge.
Units of production method
The units of production method results in a charge based on the
expected use, or output.
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1. Residual value is specifically:
1. Scrap value.
2. The net cash amount that you will receive from the
ultimate sale of the asset, at the end of its life
3. The gross cash amount that you will receive from the
ultimate sale of the asset, at the end of its life.
2. Useful life of an asset refers to the life:
1.Of the asset throughout its life, in the hands of any number
of owners.
2. Of the asset whilst it is available for use in the firm.
3. The average of 1 & 2.
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Property, Plant and Equipment
3. Spare parts and servicing equipment are usually accounted
for as:
1. Expenses written off to the income statement on purchase.
2. Inventory.
3. A separate class of fixed assets.
4. Major spare parts and stand-by equipment qualify as
property, plant and equipment when:
1. They are expected to be used during more than one
period.
2. The firm is in the oil industry.
3. The parts cost more than 20% of the equipment they are
supporting.
5. Individually-insignificant items, such computer spare parts
may be:
1. Ignored.
2. Expensed on purchase.
3. Aggregated as one asset.
6. Repairs and maintenance costs are normally:
1. Capitalised.
2. Expensed in the income statement as incurred.
3. Recorded as deferred expenses.
8. If the costs of a major inspection (for example, aircraft) are
capitalised, and there was no cost for the initial major
inspection in the asset cost:
1. No cost should be deducted from the asset.
2. An estimate of the initial inspection cost should be made to
be deducted from the carrying amount of the asset and to
be replaced by the cost of the replacement part.
3. The cost of the new inspection must be expensed.
9. Elements of cost are:
i. The purchase price
ii. Any costs directly attributable to bringing the asset to the
location.
iii. The initial estimate of the costs of dismantling, and
removing the item.
iv. Overheads of the purchasing department relating to the
buy of the asset.
1. i
2. i-ii
3. i-iii
4. i-iv
7. If the costs of a major inspection (for example, aircraft) are
capitalised:
1. They must be shown as a separate asset.
2. Any remaining costs of a previous inspection must be
written off.
3. The board of directors must be notified immediately.
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Property, Plant and Equipment
10. Directly attributable costs include:
i.
staff costs of arising directly from the construction, or
acquisition, of the item of property, plant and
equipment;
ii.
site preparation costs;
iii.
initial delivery and handling costs;
iv.
installation and assembly costs; and
v.
costs of testing whether the asset is functioning
properly, after deducting the net proceeds from any
samples, or sundry income; and
vi.
professional fees.
vii. costs of opening a new facility;
viii. costs of introducing a new product, or service
(including costs of advertising and promotional
activities);
ix.
costs of running a business in a new location, or with a
new class of customer (including costs of staff training);
and
x.
administration and other general overhead costs.
1. i-vi
2. i-vii
3. v-x
4. i-x
11. Recognition of costs (to be capitalised) ceases when:
1.The accounting period ends.
2.The item is in the location and capable of operating.
3. Full production capacity has been reached.
12. The following costs
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(i)
(ii)
(iii)
costs incurred while an item, capable of operating in the
manner intended by management, has yet to be brought into
use, or is operated at less than full capacity;
initial operating losses, such as those incurred while demand
for the item’s output builds up; and
costs of relocating, or reorganising part, or all, of an
undertaking’s operations.
should be accounted for as:
1. Extraordinary items.
2. (Capitalised as) fixed assets.
3. Expenses.
13. Incidental income and expenses (such as using a site as a
temporary car park) should be:
1.Capitalised into the asset.
2.Taken to the income statement.
3.Ignored.
14. Internal profits generated, when creating a self-constructed
asset, should be:
1. Eliminated from the asset cost.
2. Depreciated over the life of the asset.
3. Included from the asset cost.
15. The cost of abnormal amounts of wasted material, labour,
or other resources incurred in self-constructing an asset
should be:
1.Capitalised.
2.Expensed.
3.Deferred.
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Property, Plant and Equipment
16. If payment for a fixed asset is deferred beyond normal
credit terms, any additional payment above the cash cost of
the asset will be accounted for as:
1. Cost of fixed asset.
2. Borrowing cost.
3. Repairs and maintenance.
17. If one or more assets are exchanged for a new asset, the
new asset is valued at:
1.Replacement cost.
2.Fair value.
3.Residual value.
18. In the case of an exchange of assets, if the acquired asset
cannot be valued:
1.The cost of the asset given up is used.
2. The residual value is used.
3. The asset cannot be capitalised.
19. An undertaking can choose either the cost model or the
revaluation model, as its accounting policy. It must apply the
chosen model to:
1. All fixed assets.
2. An entire class of fixed assets.
3. Major assets.
20. Using the cost model, the asset in accounted for at:
1.Cost.
2.Cost less accumulated depreciation.
3. Cost less accumulated depreciation and any impairment
losses.
2. Yes, if the asset is specialized, and rarely sold, by using
an income, or a depreciated replacement cost approach.
3. Yes, if the asset is specialized, and rarely sold, by using
indexation.
22. Revaluations are required:
1. Annually.
2. Every 3-5 years.
3. When fair values change, or are expected to change.
23. When an item is revalued, any accumulated depreciation at
the date of the revaluation is treated in which of the following
ways:
(1) Restated proportionately, with the change in the
gross carrying amount of the asset, so that the
carrying amount of the asset after revaluation
equals its revalued amount.
(2) Eliminated against the gross carrying amount of the
asset and the net amount restated to the revalued
amount of the asset.
(3) Either (1) or (2).
21. Using the revaluation model, can fair values be estimated,
if there is no market-based evidence?
1. No.
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55
Property, Plant and Equipment
24. Examples of separate classes of fixed assets are:
(i)
land.
(ii) land and buildings.
(iii) machinery.
(iv) ships.
(v) aircraft.
(vi) motor vehicles.
(vii) furniture and fixtures.
(viii) office equipment.
(ix ) stationery
1. i-v
2. i-viii
3. i-ix
4. vi-ix
25. A class of assets may be revalued on a rolling basis,
provided:
1.The revaluation is completed in a short period, and the
revaluations are kept up to date.
2. Only one class of assets is involved.
3. It is noted on the face of the balance sheet.
26. If an asset’s carrying amount is increased by revaluation,
the increase is;
1. Shown as a gain in the income statement.
2. Taken to revaluation surplus, via the income statement.
3. Taken to revaluation surplus, directly, without being
recorded in the income statement.
27. If an asset’s carrying amount is decreased by revaluation
and there is no revaluation reserve, the decrease should be:
1. Capitalised.
2. Expensed.
3. An extraordinary item.
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28. Transfers of amounts between Equity - Revaluation
Reserve and retained earnings are allowed:
1. Only on asset disposal.
2. On asset disposal, and in each period, being the
difference between the depreciation charged on a
revalued amount and the depreciation of the cost
amount.
3. When retained earnings are negative.
29. Depreciation charges for a period are recorded:
1. Only in the income statement.
2. As an exceptional item.
3. In the income statement, or as part of the cost another
asset (such as inventories).
30. Changes in the estimated useful life should:
1. Be accounted for under IAS 8.
2. Be expensed immediately.
3. Be noted on the face of the balance sheet.
31. The carrying value of your asset is $10. Its fair value is $12
.
Do you continue depreciation?
1. No.
2. Yes, until the end of its useful life.
3. Yes, but at half the previous rate.
32. The carrying value of your asset equals the residual value.
Do you continue to depreciate it?
1. No.
2. Yes, until the end of its useful life.
3. Yes, but at half the previous rate.
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Property, Plant and Equipment
33. Regular repair and maintenance preserves the value of
your hotel.
Do you continue to depreciate it?
1. No.
2. Yes, until the end of its useful life.
3. Yes, but at half the previous rate.
34. Your asset has a residual value.
Do you continue to depreciate it?
1. No.
2. Yes, until the end of its useful life, but deduct the amount
of the residual value from the amount to be depreciated.
3. Yes, but at half the previous rate.
35. Depreciation can cease when an asset is idle.
1.False.
2.Only due to factory closure.
3. Only under a units of production method.
36. In determining the useful life of an asset, consider:
(i)
Expected usage of the asset.
(ii) Expected physical wear and tear.
(iii) Technical, or commercial obsolescence.
(iv) Legal, or similar, limits on the use of the asset.
(v)
Interest rates.
1.
2.
3.
4.
i-ii
i-iii
i-iv
i-v
37. Land and buildings are separate assets, as:
1.They can always be sold separately.
2.Land usually has an unlimited life, but buildings do not.
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3.Buildings can be revalued, but land cannot.
38. You buy land and building. The land is revalued at double
its cost.
Do you continue to depreciate the building?
1. No.
2. Yes, until the end of its useful life.
3. Yes, but at half the previous rate.
39. If your land is leased under a finance lease, do you
depreciate it?
1. No.
2. Yes, until the end of the lease.
3. Only if it has a building on it.
40. A variety of depreciation methods can be used. These
methods include the straight-line method, the diminishing
balance method and the units of production method.
The choice of depreciation method is governed by:
1. Tax laws.
2. The lowest cost option.
3. The expected pattern of consumption of the asset.
41. Compensation from third parties for items impaired, lost or
sequestrated should be recorded as income:
1. When the item is lost.
2. When the compensation is receivable.
3. When the cash is received.
42. The carrying amount will be derecognised (written out of
the balance sheet):
(1) On disposal.
(2) When no future benefits are expected from its use.
(3) Either.
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Property, Plant and Equipment
43. A gain on the sale of an asset should be recorded as:
1. A capital gain in equity.
2. A gain in the income statement.
3. Revenue.
44. The gain, or loss, arising on the sale of an asset is:
1.The cash proceeds.
2. The net proceeds minus the carrying value of the asset.
3. The net proceeds minus the residual value of the asset.
12. Numerical Questions
1. The asset costs 80. Its life is 15 years. (Straight line) depreciation
of 4 per year is charged. What is the residual value?
2. The asset costs 500.000. It will produce 25.000 units. What is the
unit depreciation charge?
3. You give an aircraft worth 8, and cash of 3 for a building.
What is the cost of the building, if the fair value cannot be
measured?
4. Cash cost of the asset is 200. Payment for the same asset with 5
years’ credit = 275. What is the annual interest charge?
5. A building cost 7.000 and has been depreciated by 1.000,
leaving a net book value of 6.000. It is revalued to $10.000.
This can be shown as one of two alternatives (please fill in the
boxes):
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One
Two
Valuation
Depreciation
Net book value
6. You buy a vehicle for 40. You depreciate it at 6 per year. You sell
it after 5 years for 8. What is the profit, or loss, on disposal?
13.Answers to multiple choice questions
Question
Answer
1.
2
2.
2
3.
2
4.
1
5.
3
6.
2
7.
2
8.
2
9.
3
10.
1
11.
2
12.
3
13.
2
14.
1
15.
2
16.
2
17.
2
18.
1
19.
2
20.
3
21.
2
22.
3
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Property, Plant and Equipment
23.
24.
25.
26.
27.
28.
29.
30.
31.
32.
33.
34.
35.
36.
37
38
39
40
41
42
43
44
3
2
1
3
2
2
3
1
2
1
2
2
3
3
2
2
2
3
2
3
2
2
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14. Answers to numerical questions
1. 20. (80 – (15*4) = 20).
2. 20.(500.000/25.000=20)
3. 11 (8+3 = 11)
4. 15 ((275-200) / 5 years = 15)
5.
One
Two
Valuation
11.667 10.000
Depreciation 1.667
0
Net
book 10.000 10.000
value
6. Carrying value = 40 – (6*5) = net carrying amount of 10
Disposal proceeds = 8
Loss on disposal = 2
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