Property, Plant & Equipment

(IAS 16)
 Agenda

 Objective of IAS 16
 Scope of IAS 16
 Measurement at Recognition
 Measurement after Recognition
 De-recognition
 Disclosure
Objective of IAS 16
 Objective of IAS 16

The objective of this Standard is to prescribe the

accounting treatment for property, plant and
equipment.
The principal issues in accounting for property,
plant and equipment are;
 the recognition of the assets;
 the determination of their carrying amounts;
 the depreciation charges; and
 impairment losses to be recognized in relation
to them.
Scope of IAS 16
Scope of IAS 16

IAS-16 is applied to all Property, Plant &

Equipment until and unless any other
standard requires or permits a different
accounting treatment.
Measurement at
Recognition
IAS 16
IAS-16 Property, Plant & Equipment
Definition:
Property, Plant & Equipment are tangible items that:
- are held for use in the production or supply of goods or services;
- for rental to others;
- for administrative purposes; and
- are expected to be used during more than one period.

Recognition:
The cost of an item or Property, Plant & Equipment shall be recognized as
an asset if, and only if:
a) it is probable that future economic benefits associated with the item
will flow to the entity; and
b) The cost of the item can be measured reliably.

Measurement at Recognition
An item of Property, Plant & Equipment that qualifies for recognition as an
asset shall be measured at its cost.
IAS-16 Property, Plant & Equipment
Elements of Cost:
- Purchase price + (Import duties + Non refundable taxes) - (Trade
Discounts + Rebates)
- Directly attributable costs.
- Initial estimate of the cost of dismantling and removing the item and
restoring the site in which it is located.

Costs that are not Costs of Property, Plant & Equipment:

- Costs of opening new facility;
- Costs of introducing new product or service;
- Costs of conducting business in new location or with new class of
customer;
- Administration and other general overhead costs;
- Costs incurred in using or redeploying an item;
- Amounts related to certain incidental operations.
 IAS-16 Property, Plant & Equipment

Examples of Directly Attributable Costs:

- Cost of site preparation.

- Initial delivery and handling cost

- Installation and assembly cost.

- Professional fees.

- Cost of testing.
Cost of property, plant & equipment
Review Question
According to IAS 16 - 'Property, Plant and Equipment',
which two of the following items can be capitalized (i.e.
recorded in the balance sheet as PPE)?
a. Cost of installing
b. Cost of testing whether the asset works properly
c. Cost of preparing the site for installation
d. Initial operating losses whilst demand builds up

SO 4 Prepare a statement of cash flows using the indirect method.

Measurement after
Recognition
IAS 16
Measurement after recognition

Cost Model Revaluation Model

Revaluation

Depreciate cost Depreciate revalued

over useful life amount over useful life
 Revaluation model
 Revalue regularly.
 Revalue all assets of the same class.
 Revaluation increases credited to:
 Profit or loss to the extent they reverse previous revaluation
decrease of that asset.
 Otherwise, equity (revaluation surplus).
 Revaluation decreases debited to:
 Equity to the extent of any revaluation surplus in equity related to
that asset.
 Otherwise, profit or loss.
 Practical Example - 3
 ABC & Co., has an item of plant with an initial cost of KWD 100,000. At
the date of revaluation accumulated depreciation amounted to KWD
55,000. The fair value of asset, by reference to transactions in similar
assets, is assessed to be KWD 65,000.
 Find out the entries to be passed?
 Practical Example Solution

Accumulated depreciation Dr 55,000

Asset Cost Cr 55,000

Asset Cost Dr 20,000

Revaluation reserve Cr 20,000

The net result is that the asset has a carrying amount of KWD 65,000
(100,000 – 55,000 + 20,000).
 DEPRECIATION
 Depreciation is the process of allocating to expense
the cost of a plant asset over its useful (service) life in
a rational and systematic manner.
 Cost allocation is designed to provide for the proper
matching of expenses with revenues in accordance
with the matching principle.
 During an asset’s life, its usefulness may decline
because of wear and tear or obsolescence.
 Recognition of depreciation does not result in the
accumulation of cash for the replacement of the asset.
 Land is the only plant asset that is not depreciated.
 DEPRECIATION
 Depreciable amount determined after deducting residual value.
 Reviewed at least at each balance sheet date:
 Residual value.
 Useful life.
 Depreciation method.
 Changes are changes in estimate, so adjust current and future
periods only.
Depreciation

Review Question
The depreciation charge is required to be based on:
a. The profitability of the asset being depreciated
b. A period not exceeding 5 years for plant and
machinery, and 20 years for buildings and land
c. The expected useful life of the asset being
depreciated
d. The replacement cost of the asset being depreciated

SO 4 Prepare a statement of cash flows using the indirect method.

 FACTORS IN COMPUTING
DEPRECIATION

Three factors that affect the computation of

depreciation are:
1 Cost: all expenditures necessary to acquire the
asset and make it ready for intended use.
2 Useful life: estimate of the expected life based on
need for repair, service life, and vulnerability to
obsolescence.
3Salvage value: estimate of the asset’s value at the
end of its useful life.
 USE OF DEPRECIATION METHODS
IN MAJOR U.S. COMPANIES

3 methods of recognizing depreciation are: 1 Straight-line, 2 Units of activity,

and 3 Declining-balance. Each method is acceptable under both the IFRS and
US GAAP. Management selects the method that is appropriate in the
circumstances. Once a method is chosen, it should be applied consistently.

4% Declining balance
5% Units-of-activity
9% Other 82%
Straight-
line
 STRAIGHT-LINE
 Under the straight-line method, depreciation
is the same for each year of the asset’s useful
life.
 It is measured by the passage of time.
 In order to compute depreciation expense, it
is necessary to determine depreciable cost.
 Depreciable cost is the total amount subject
to depreciation and is computed as follows:
 Cost of asset - salvage value
 ILLUSTRATION
FORMULA FOR STRAIGHT-LINE METHOD
The formula for computing annual depreciation expense is:
Depreciable Cost / Useful Life (in years) = Depreciation Expense

Salvage Depreciable
Cost
Value Cost

$13,000 - $1,000 = $12,000

Depreciable Useful Depreciation

Cost Life (in Years) Expense

$12,000 ÷ 5 = $2,400
 UNITS-OF-ACTIVITY
 Under the units-of-activity method, service life is
expressed in terms of the total units of production or
expected use from the asset, rather than time.
 The formulas for computing depreciation expense are:
1 Depreciable Cost ÷ Total Units of Activity
= Depreciation Cost per Unit
2 Depreciation Cost per Unit X Units of Activity During
the Year = Depreciation Expense
 In using this method, it is often difficult to make a
reasonable estimate of total activity.
 When the productivity of an asset varies significantly
from one period to another, this method results in the
best matching of expenses with revenues.
 ILLUSTRATION FORMULA FOR UNITS-OF-
ACTIVITY METHOD

To use the units-of-activity method, 1 the total units of activity for the entire useful life
are estimated, 2 the amount is divided into depreciable cost to determine the
depreciation cost per unit, and 3 the depreciation cost per unit is then applied to the
units of activity during the year to determine the annual depreciation.

Depreciable Total Units of Depreciable

Cost Activity Cost per Unit

$12,000 ÷ 100,000 miles = $0.12

Units of
Depreciable Depreciation
Activity during
Cost per Unit Expense
the Year

$0.12 x 15,000 miles = $1,800

 DECLINING-BALANCE
 The declining-balance method produces a
decreasing annual depreciation expense over the
useful life of the asset.
 The calculation of periodic depreciation is based on
a declining book value (cost less accumulated
depreciation) of the asset.
 Annual depreciation expense is calculated by
multiplying the book value at the beginning of the
year by the declining-balance depreciation rate.
 The depreciation rate remains constant from year
to year, but the book value to which the rate is
applied declines each year.
 DECLINING-BALANCE
 The book value for the first year is the cost of the asset since
accumulated depreciation has a zero balance at the
beginning of the asset’s useful life.
 In subsequent years, book value is the difference between
cost and accumulated depreciation at the beginning of the
year.
 The formula for computing depreciation expense is:
Book Value at Beginning of Year X Declining Balance Rate =
Annual Depreciation Expense
 This method is compatible with the matching principle
because the higher depreciation in early years is matched
with the higher benefits received in these years.
 ILLUSTRATION
FORMULA FOR DECLINING-BALANCE METHOD

Unlike the other depreciation methods, salvage value is ignored in

determining the amount to which the declining balance rate is applied.
A common application of the declining-balance method is the double-
declining-balance method, in which the declining-balance rate is double
the straight-line rate.
If Barb’s Florists uses the double-declining-balance method, the
depreciation is 40% (2 X the straight-line rate of 20%).

Declining
Book Value Depreciation
Balance
at Beginning Expense
Rate
of Year

$13,000 x 40% = $5,200

 REVISING PERIODIC
DEPRECIATION
 If wear and tear or obsolescence indicate that
annual depreciation is inadequate or excessive, a
change in the periodic amount should be made.
 When a change is made,
1 there is no correction of previously recorded
depreciation expense and
2 depreciation expense for current and future
years is revised.
 To determine the new annual depreciation expense,
the depreciable cost at the time of the revision is
divided by the remaining useful life.
 ILLUSTRATION
REVISED DEPRECIATION COMPUTATION

Barb’s Florists decides on January 1, 2005 to extend the

useful life of the truck one year because of its excellent
condition. The company has used the straight-line method
to depreciate the asset to date, and book value is $5,800
($13,000 - $7,200). The new annual depreciation is $1,600,
calculated as follows:

Book value 31/12/04 $ 5,800

Less: Salvage value 1,000
Depreciable cost $ 4,800

Remaining useful life 3 years (2005-2007)

Revised annual depreciation ($4,800 ÷ 3) $ 1,600

Depreciation

Review Question
Charging depreciation of PPE to the income statement is
an attempt to:
a. Reduce profits and dividends
b. Ensure that sufficient funds are available to replace
the assets
c. Comply with the prudence concept
d. Spread the cost of the assets over their estimated
useful life

SO 4 Prepare a statement of cash flows using the indirect method.

 Impairment
 Assess at each balance sheet date indicators of impairment.
 If indication, assess recoverable amount (higher of fair value
less costs to sell and value in use).
 If recoverable amount < carrying amount → impairment loss.
 Recognise impairment loss as expense immediately.
 Unless carried at revalued amount (revaluation decrease).
 Use “new” carrying amount to calculate future
depreciation.
 Refer to IAS 36 for impairment loss calculation.
Impairment

Review Question
When the depreciated cost of a tangible asset is higher
than its recoverable amount:
a. The tangible asset must be reported at its fair value
b. An impairment loss should be recognized as
expense in the income statement immediately
c. An unrealized gain must be accounted for
d. An impairment loss should be recognized only if the
NRV is higher than the value in use

SO 4 Prepare a statement of cash flows using the indirect method.

 Subsequent costs
 Do not recognize day-to-day servicing costs of the asset in the
carrying amount (Recurring costs).
 Recognize in the carrying amount of PPE the cost of replacing
part of such an item when the cost is incurred if the recognition
criteria met.
 Recognize in the carrying amount of PPE cost of major
inspection if the recognition criteria met. Any remaining
carrying amount of previous inspection is de-recognized.
 Derecognise replaced parts if identified separately.
 Practical Example - 1
 ABC & Co., has acquired a heavy road transporter at a cost of
KWD100,000 (with no breakdown of component parts). The
estimated useful life is 10 years. At the end of the sixth year,
the power train requires replacement, as further maintenance is
uneconomical due to the off-road time required. The remainder
of the vehicle is perfectly road worthy and is expected to last
for the next four years. The cost of the new power train is
KWD 45,000.
 Can the cost of new power train can be recognized as the asset,
and if so, what treatment should be used?
 Practical Example Solution
 The new power train will produce economic benefits to the ABC & Co.;
and
 Cost of the power train can be measured reliably. Hence, the item should be
recognized as the asset.
 The cost KWD 45,000 of new power train will be added to the carrying
amount.
 The original invoice of the transporter did not specify the cost of the power
train. Therefore, the cost of replacement KWD 45,000 will be used as
indicative price and discount to year 1, i.e., (45,000/ 1.05^6) = 33,500.
It is assumed that discount rate used is 5%.
- Revised Cost = (100,000 - 33,500 + 45,000) = 111,500
De-recognition

IAS 16
 De recognition
- De recognition:
 On disposal, or
 When no future benefits expected from use or disposal.
- Difference between carrying amount and net disposal proceeds
recognised as gain/loss in profit or loss.
- Gains not classified as revenue. (i.e. recorded as a separate line
item.
 PLANT ASSET DISPOSALS
 Eliminate the book value of the plant asset at the date of
sale by debiting Accumulated Depreciation and
crediting the asset account for its cost.
 Debit Cash to record the cash proceeds from the sale.
 Compute gain or loss.
 If the cash proceeds are greater than the book value,
recognize a gain by crediting Gain on Disposal for the
difference.
 If the cash proceeds are less than the book value,
recognize a loss by debiting Loss on Disposal for the
difference.
 GAIN ON DISPOSAL

On July 1, 2002, Wright Company sells office

furniture for $16,000 cash. The office furniture
originally cost $60,000 and as of January 1, 2002,
had accumulated depreciation of $41,000.
Depreciation for the first six months of 2002 is
$8,000. The entry to record depreciation expense
and update accumulated depreciation to July 1 is
as follows:

8,000
GAIN ON DISPOSAL
After the accumulated depreciation is updated,
a gain on disposal of $5,000 is calculated:

The entry to record the sale and

the gain on disposal is as follows:

16,000
 LOSS ON DISPOSAL
Instead of the selling the office furniture for $16,000, Wright
sells it for $9,000. In this case, a loss of $2,000 is calculated:

The entry to record the sale and

the loss on disposal is as follows:

9,000

49,000

2,000

60,000
Disclosures

IAS 16
 Presentation & Disclosure

 Measurement basis (cost model vs revaluation model)

 Depreciation methods

 Useful lives or depreciation rates

 Gross carrying amount and accumulated depreciation at beginning and end of period

 Reconciliation at beginning and end of period showing

 Presentation & Disclosure

 Existence and amounts of restrictions on title to assets

 PPE pledged as securities for liabilities.

 Amount of expenditures on account for PPE in the course of construction.

- Commitments for acquisition of PPE.

 Presentation & Disclosure
- Disclosure requirements for revalued assets:
 Date of revaluation.
 Whether independent valuer was used.
 Methods and significant assumptions applied in estimating fair values.
 Extent to which fair values were determined directly or estimated.
 Carrying amount of each class of revalued PPE as under the cost
model. (i.e. if you are using the revaluation method you have to show in
the notes the book value of equipment)
 Revaluation surplus, including any restrictions of distribution of
balance to shareholders.
Impairment

Review Question
Which of the following statements best describes the term
'impairment loss'?
a. The systematic allocation of an asset's cost less residual
value over its useful life
b. The amount by which the recoverable amount of an asset
exceeds its carrying value
c. The amount by which the carrying value of an asset
exceeds its recoverable amount
d. The removal of an asset from an enterprise's balance sheet

SO 4 Prepare a statement of cash flows using the indirect method.

Key Points
 The description of property, plant, and equipment (PP&E)
under U.S. GAAP (ASC 360) is similar to that under IFRS
Standards (IAS 16), which defines PP&E as tangible items
that “are held for use in the production or supply of goods
or services, for rental to others, or for administrative
purposes” and “are expected to be used during more than
one period.”
 The criteria for recognition of PP&E are also similar under
U.S. GAAP and IFRS Standards. Under both U.S. GAAP and
IFRS Standards, PP&E is recognized when it is probable that
future economic benefits will flow to the entity and the cost
can be measured reliably.
Does the entity apply (or plan to choose as its accounting policy) the IAS
16 revaluation model for any PP&E asset classes after initial recognition?

IFRS
 An entity must make an
accounting policy choice to use
either the cost model or the
revaluation model to measure a
class of PP&E.
US GAAP
 PP&E is measured at historical cost,
and the revaluation model is not
permitted.
Are any components of an item of PP&E significant relative
to the total cost of that item of PP&E?

IFRS US GAAP
 Significant components of an item  A “components” approach for
of PP&E with different useful lives depreciation is permitted but not
or different patterns of required.
depreciation are depreciated
separately (i.e., a “components”
approach).