CHAPTER 6
PROPERTY, PLANT AND
EQUIPMENT
Connolly – International Financial Accounting and Reporting – 4th Edition
6.1 INTRODUCTION
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•
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Property, plant and equipment are tangible items that are:
 held for use in the production or supply of goods or
services, for rental to others or for administrative
purposes
 expected to be used during more than one accounting
or financial period
Amount held can vary widely depending upon the industry
and size of the entity
Key accounting standards include:
 IAS 16 Property, Plant and Equipment (See Chapter 6)
 IAS 17 Leases (See Chapter 8)
 IAS 40 Investment Property (See Chapter 5)
 IAS 36 Impairment of Assets (See Chapter 10)
 IFRS 5 Non-current Assets Held for Sale and
Discontinued Operations (See Chapter 20)
Connolly – International Financial Accounting and Reporting – 4th Edition
6.2 IAS 16 PROPERTY, PLANT AND EQUIPMENT
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Objective
 To prescribe the accounting treatment for property, plant
and equipment
Scope
 Applies unless another standard requires or permits a
different treatment (e.g. IFRS 5, IAS 17, IAS 40)
Principal issues
 Recognition of assets
 Determination of their carrying amounts
 Depreciation charges to be recognised
 Impairment losses to be recognised (if any)
Connolly – International Financial Accounting and Reporting – 4th Edition
Initial recognition
•
Property, plant and equipment should only be recognised
as an asset if, and only if:


probable that future economic benefits associated with
the item will flow to the entity; and
cost of the item can be measured reliably
Connolly – International Financial Accounting and Reporting – 4th Edition
Measurement at initial recognition
•
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An item of property, plant and equipment which qualifies for
recognition as asset should initially be measured at its cost
Cost comprises:
 Purchase price, including import duties and nonrefundable purchase taxes
 Less trade discounts and rebates
 Costs directly attributable to bringing the asset to the
location and condition
 Costs directly and necessarily incurred for item to
operate in the intended manner
 Anticipated costs of dismantling/removing the asset,
together with any site restoration costs
 Cost of financing (IAS 23 Borrowing Costs – See
Chapter 7)
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.1: Measurement at initial recognition
A manufacturing company commissioned the building of a new factory. The
costs associated are as follows:
Site selection
€30,000
Site purchase €1,000,000
Architect’s fees
€50,000
Eng. fees
€150,000
Legal fees
€50,000
Constr. costs €1,500,000
Testing and checking (Note 1) €250,000
Admin. costs €500,000
The plant was available for use on 31 March 2012 and reached normal
production levels by 31 October 2012.
Note 1: This includes €50,000 in connection with a six-monthly diagnostic
check of machinery.
Requirement
Calculate the cost to be recorded as an asset in the statement of financial
position.
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.1: Measurement at initial recognition
Suggested Solution:
€
Site cost
1,000,000
Construction cost
1,500,000
Architects fees
50,000
Legal fees
50,000
Engineers fees
150,000
Testing costs
200,000
Total cost
2,950,000
Note 1: €50,000 re. diagnostic check not included as it is not a
direct cost, nor was it a cost relating to the start-up period.
Note 2: Site selection and admin. overheads are not direct
costs and are therefore excluded.
Connolly – International Financial Accounting and Reporting – 4th Edition
Subsequent expenditure
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•
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Replacements and overhauls should be capitalised if they
lead to an enhancement in performance
All other subsequent expenditure should be recognised as
an expense in the period in which it is incurred
Day-to-day servicing costs are revenue expenditure
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.2: Day-to-day running costs
If an aircraft is repainted, how should this expenditure be
treated?
Solution:
The repainting costs should be written off to the statement of
profit or loss and other comprehensive income – profit and loss
in the period that the expense was incurred.
The costs are deemed to be part of the day to day running or
servicing costs, which do not lead to an increase or an
enhancement in the performance of the aircraft.
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.3: Enhancement in performance
Manders Limited installs a new production process in its factory
at a cost of €50,000. This enables a reduction in operating
costs (as assessed when the original plant was installed) of
€10,000 per year for at least for the next 15 years.
Requirement
How should the expenditure be treated?
Solution:
It should be capitalised and added to the original cost of the
plant as it results in an enhancement of the economic benefits.
Connolly – International Financial Accounting and Reporting – 4th Edition
Measurement after initial recognition
1. Cost Model (See next)
2. Revaluation Model (See later)
Connolly – International Financial Accounting and Reporting – 4th Edition
1. The cost model
•
Carry at cost less accumulated depreciation and any
impairment losses
Example 6.4
A company records its property, plant and equipment at cost
less accumulated depreciation. On 1 January 2012, the
company purchased property at a cost of €500,000 for cash.
Requirement
How should this be recorded in the company’s financial
statements on 1 January 2012?
Solution:
DR Property
CR Cash
€500,000
€500,000
Connolly – International Financial Accounting and Reporting – 4th Edition
Depreciation
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This is the measure of the wearing out, consumption or other
reduction in the EUEL of a non-current asset
The depreciable amount (net of residual value) of an asset
should be allocated on a systematic basis over its EUEL so
as to charge a fair proportion if cost or valuation to each
accounting period expected to benefit from its use
The depreciation method used should reflect the pattern in
which the asset's future economic benefits are expected to
be consumed by the entity
The depreciation charge for each period should be
recognised in profit or loss unless it is included in the
carrying amount of another asset
Connolly – International Financial Accounting and Reporting – 4th Edition
Residual value
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The residual value is the estimated amount that an entity
would currently obtain from the disposal of the asset if the
asset were already of the age and in the condition
expected at the end of its useful life
The residual value of an asset shall be reviewed at least at
each financial year end
In order to determine if PPE is impaired, the procedures in
IAS 36 Impairment of Assets should be followed (See
Chapter 10)
Connolly – International Financial Accounting and Reporting – 4th Edition
Causes of depreciation
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Physical – wear and tear and erosion
Economic factors – obsolescence and inadequacy
Time
Depletion
Connolly – International Financial Accounting and Reporting – 4th Edition
Choice of depreciation method
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The two most common methods are:
 Straight-line
 Reducing balance
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•
Change of method = change in accounting estimate (not
policy) (See IAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors – See Chapter 21)
If method changed, adjust current and future periods’
depreciation
Connolly – International Financial Accounting and Reporting – 4th Edition
Depreciation method
•
Straight line
= (Cost less estimated residual value) x Depreciation
rate, or
= (Cost less estimated residual value) / EUEL of the
asset
See Chapter 6, Examples 6.5 and 6.6
•
Reducing Balance
= Carrying value x Depreciation rate
See Chapter 6, Examples 6.7 and 6.8
Connolly – International Financial Accounting and Reporting – 4th Edition
Land and Buildings
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•
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Land and buildings should be dealt with separately for
accounting purposes
Land normally has an infinite life and should not be
depreciated
Buildings have a finite life and should be depreciated
An increase in the value of the land on which the building
stands does not affect the determination of the EUEL of
the building
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.9: Change in pattern of consumption
An item of plant cost €600,000 in March 2010 and was
depreciated at 12.5% reducing balance. During the year ended
31 December 2012, the directors changed the method to 20%
straight line in order to give a fairer presentation of the
consumption of benefits (i.e. an estimated useful life of five
years). It is company policy to charge a full years depreciation
in the year of acquisition and none in the year of disposal.
Requirement
Explain how this should be reflected in the financial statements.
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.9: Change in pattern of consumption
Solution:
Calculate the NBV at the start of the year of change
€
Cost
600,000
Depreciation year ended 31-12-10
( 75,000)
Carrying amount as at 31-12-10
525,000
Depreciation year ended 31-12-11
( 65,625)
Carrying amount as at 31-12-11
459,375
Write off the NBV over the revised UEL
Revised remaining UEL
3 years
Depreciation charge year ended 31-12-12
€153,125
(€459,375 / 3 years)
See Chapter 6, Example 6.10
Connolly – International Financial Accounting and Reporting – 4th Edition
2. The revaluation model
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Carry at fair value at date of revaluation less subsequent
accumulated depreciation and impairment losses
Fair value is usually market value as determined by
professionally qualified valuers
Revaluations shall be made with sufficient regularity such
that the carrying amount does not differ materially from that
which would be determined using fair value at the reporting
date
Must revalue ALL assets within class
Revalued assets must continue to be depreciated
See Chapter 6, Example 6.11
Connolly – International Financial Accounting and Reporting – 4th Edition
Accounting treatment of revaluations
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If the first time an asset is revalued is upwards, the
revaluation surplus goes directly to equity under the
heading of revaluation reserve (through OCI)
Subsequent drops in value are recognised in profit or loss
except in so far as covered by previous revaluation
surpluses on the same asset
If the first time an asset is revalued is downwards, the
decrease should be recorded as an expense
Subsequent reversals of losses are recognised in profit or
loss
Connolly – International Financial Accounting and Reporting – 4th Edition
Revaluations - summary
Surplus
Deficit
First Revaluation
Credit to equity
(Include in ‘Other
Comprehensive
Income’)
Charge to SPLOCI in
arriving at profit/loss
Subsequent
Revaluation
Credit to equity
(‘OCI’) unless
reverses a previous
deficit, then credit to
SPLOCI in arriving at
profit/loss
Debit to SPLOCI in
arriving at profit/loss
unless reverses a
previous surplus, then
charge to equity
Connolly – International Financial Accounting and Reporting – 4th Edition
Example
The following details are available in relation to a nonspecialised property:
Carrying value
Depreciated historic cost
Open market value
Existing use value
€960,000
€800,000
€760,000
€700,000
Requirement
What revaluation loss would be recorded and how should this
loss be accounted for?
Connolly – International Financial Accounting and Reporting – 4th Edition
Example: Suggested solution
Revaln Res.
€160,000
SPLOCI – P/L
€40,000
Book
value
€960k
Deprec.
historic
cost
€800k
DR
Equity – RR
DR
SPLOCI – P/L€40,000
CR
Non-current assets €200,000
Market
value
€760k
Connolly – International Financial Accounting and Reporting – 4th Edition
€160,000
Examples 6.12 and 13: First time downwards revaluation
and subsequent upwards revaluation
Ben Limited, a company that prepares its financial statements to 31 March each year,
purchased a tangible non-current asset for €200,000 on 1 April 2009. Depreciation is
charged at 10% SL. The carrying value at 31 March 2011 is therefore €160,000, before
taking account of a revaluation on this date, which showed a valuation of €130,000.
Requirement
How should this be reflected in the financial statements of Ben Limited for the years
ended 31 March 2011 to 2013.
Solution
Dr
SPLOCI – P/L
€30,000
Cr
Non-current asset
€30,000
Depreciation per annum for the year ending 31 March 2012 and 2013:
= €130,000 / 8
=
€16,250
If the asset was revalued to €120,000 on 31 March 2013:
Net Book Value 31 March 2013 (before valuation on this date):
= €130,000 - (2 x €16,250) =
€97,500
Dr
Non-current asset
€22,500
Cr
SPLOCI – P/L
€22,500
The revaluation increase can be recognised in arriving at profit/loss to the extent of
previous revaluation deficits in respect of the same asset (a further €7,500 of
upwards revaluations may still be credited to SPLOCI – P/L).
Connolly – International Financial Accounting and Reporting – 4th Edition
Depreciation/accumulated depreciation of revalued assets
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•
Calculated on the carrying amount of the asset (See
Chapter 6, Example 6.14)
When PPE is revalued, any accumulated depreciation at
the date of revaluation is treated in one of the following
ways:
 The accumulated depreciation is restated
proportionately with the gross carrying amount, so that
the carrying amount after the revaluation equals the
revalued amount; or
 The accumulated depreciation is eliminated against the
gross carrying amount and the net amount restated to
the revalued amount.
See Chapter 6, Example 6.15
Connolly – International Financial Accounting and Reporting – 4th Edition
Depreciation and the revaluation reserve
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•
IAS 16 gives companies the option of transferring some of
the revaluation gain/surplus from the revaluation reserve
to retained earned earnings (through OCI) to offset the
higher/additional depreciation
The amount transferred is the difference between
depreciation based on the revalued carrying amount and
depreciated calculated based on the asset’s original cost
See Chapter 6, Example 6.17
Connolly – International Financial Accounting and Reporting – 4th Edition
Derecognition
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The carrying amount of an item of PPE should be
derecognised when it is disposed of/traded-in or when no
future economic benefits are expected from its use
• The proceeds from the sale of the asset (or trade-in
allowance) is compared with the carrying amount of the
asset and a profit or loss recognised
• Gains or losses arising from the derecognition of an item of
property, plant and equipment are:
 the difference between the net disposal proceeds, and
 the carrying amount of the asset, and
 recognised in arriving at profit or loss, but gains shall not
be classed as revenue
• If:
 Carrying Amount > Proceeds = Loss on disposal
 Carrying Amount < Proceeds = Profit on Disposal
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.16: Disposal of an asset
FIXIT Limited is preparing its financial statements for the year
ended 31 December 2012. A van, which had cost €5,000 and
had a carrying amount of €2,813 at 1 January 2012, was traded
in on 1 March 2012 as part exchange for the purchase of a new
van, which cost €7,800.
A cheque for €5,800 was paid by the company to complete the
purchase. Depreciation is charged on vans at 25% per annum
on a straight line basis. A full year’s depreciation is to be
charged in the year of purchase and none in the year of sale.
Requirement
Prepare the journal entries necessary to record the above in
the company’s financial statements for the year ended 31
December 2012.
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.16: Disposal of an asset – solution
Vans – Cost
Bank
DR
5,800
CR
5,800
Van – Cost of additions
Disposal Account
2,000
Accumulated Depreciation – Van
Disposal Account
Van Cost
2,187
2,813
SPLOCI – P/L (Loss on Disposal)
Disposal Account
813
Depreciation Charge – Vans
Accumulated Depreciation – Vans
1,950
2,000
5,000
813
Connolly – International Financial Accounting and Reporting – 4th Edition
1,950
Example 6.17: Purchase, depreciation, revaluation and
disposal
JD Limited, a company that prepares its financial statements to 31
December each year, revalues its property every two years. It is company
policy to charge a full year’s depreciation in the year of acquisition and none
in the year of disposal. Before the change on 31 December 2009 (see
below), the property was depreciated at 20% p.a. using the reducing
balance method.
• 1 January 2008: property purchased at a cost of €390,000
• 31 December 2009: property revalued to €275,000, with a remaining
useful life revised to 4 years from 1 January 2010 and depreciation
method has been changed to straight line
• 31 December 2011: property revalued to €112,500, with the decline
believed to be permanent
• 30 September 2012: property sold for €125,000
Requirement
How would the property be reflected in the company’s financial statements
in each of the years ending 31 December 2008 to 2012, assuming that JD
Ltd opts to transfer a portion of any revaluation surplus to offset the
additional depreciation?
Connolly – International Financial Accounting and Reporting – 4th Edition
Example 6.17: Solution
2008:
Cost
Depreciation @ 20% (RB)
NBV at 31/12/08
2009:
Depreciation @ 20% (RB)
Revalued at 31/12/09
NBV at 31/12/09
2010:
Depreciation @ 25% (SL)
NBV at 31/12/10
2011:
Depreciation @ 25% (SL)
NBV at 31/12/11
Revaluation loss
(SPLOCI – P/L)
(SPLOCI – P/L)
€
390,000
(78,000)
312,000
(RR & OCI)
[DR Acc. Depn €140,000 CR Prop. €115,000 CR RR/OCI €25,400]
(62,400)
249,600
25,400
275,000
(W1) (€6,350 transfer in 2010, therefore RR balance = €19,050)
(68,750)
206,250
(€6,350 transfer in 2011, therefore RR balance = €12,700)
(€25,000 loss split €12,700 against RR/OCI & €12,300 charged in
arriving at profit or loss) (See Note)
2012:
30/9/12 proceeds
Profit on disposal
W1
Depreciation based on HC
(€249,600 / 4)
Depreciation based on valuation
Transfer from revaluation reserve
Note: Original gain reported in OCI in 2009, therefore loss must ‘follow’ the gain.
Connolly – International Financial Accounting and Reporting – 4th Edition
(68,750)
137,500
(25,000)
112,500
(125,000)
12,500
€
62,400
(68,750)
6,350
And finally
•
•
Change from Cost Model to Revaluation Model (or
from Revaluation Model to Cost Model) is treated
as a change in accounting policy (See IAS 8
Accounting Policies, Changes in Accounting
Estimates and Errors – See Chapter 21)
A change from the Cost Model to the Revaluation
Model is the only exception to the “apply
retrospectively” rule for changes in accounting for
changes in accounting policy
Connolly – International Financial Accounting and Reporting – 4th Edition