PwC Property, Plant and Equipment

Property, Plant and Equipment

http://www.cc.cec/budg/

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Overview of session

1. Scope of application and key concepts

2. Recognition

3. Measurement

4. Additional learning points

5. Disclosures

7. Questions

6. E.C. specific implications


1. Scope of application and key concepts

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P,P&E

• Assets = Resources

– Controlled by the E.C. as a result of past events; and

– From which future economic benefits or service potential are expected to flow to the E.C.

• Property, plant and equipment = tangible assets that:

– Are held by the E.C. 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 reporting period.

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Classes of P,P&E

• Assets of a similar nature or function in the E.C.s’ operations are grouped into classes of property, plant and equipment for the purpose of disclosure in the financial statements:

– Land and buildings;

– Plant and equipment;

– Furniture and vehicles;

– Computer hardware;

– Other tangible (non-financial) assets;

– Pre-financing and tangible assets under construction;

and

– Leased assets.

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Cost and Fair value

• Cost = the amount of cash or cash equivalents paid or the fair value of the other consideration given to acquire an asset at the time of its acquisition or construction

• Fair value = the amount for which an asset could be exchanged (or a liability settled) between knowledgeable, willing parties in an arm’s length transaction

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Useful life and Depreciation

• Useful life = the period of time over which an asset is expected to be used by the entity

• Depreciation = the systematic allocation of the depreciable amount of an asset over its useful life

• Depreciable amount = the cost of an asset (or other amount substituted for cost in the financial statements) less its residual value

• Residual value = the net amount which the entity expects to obtain for a asset at the end of its useful life after deducting the expected costs of disposal

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Owner-occupied V. Investment property

• Owner-occupied property

– Of general application

– Property held (by the

owner or by the lessee

under a finance lease) for

use in the production or

supply of goods or services

or for administrative

purposes

• Investment property

– Of specific application

– Property (land or a building

– or part of a building – or

both) held to earn rentals

or for capital appreciation

or both


2. Recognition

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Initial recognition

• An item of property, plant, equipment and investment property should be recognised as an asset when:

– Future economic benefits or service potential are expected to

flow to the E.C.; and

– The cost or fair value of the asset can be measured reliably.

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P,P&E or not?

Future economic benefits are expected?

Expected to be used during more than one reporting period?

Can be measured reliably?

ASSET

Yes

Yes

Yes

Yes

No

No

No

No

Resource controlled by the E.C.?

EXPENSE

P,P&E

To be used for production, commercial or administrative purposes?

Yes

No

ANOTHER ASSET

?

Materiality threshold: € 420

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Timing of initial recognition

• Date of acquisition = the date on which the risks pertaining to ownership get transferred to the E.C. – generally corresponds to the acceptance of delivery of the asset

• Consider cut-off at year-end

– Delivered not billed: recognise asset and accrue invoice

– Billed not delivered: transfer asset to a suspense account


3. Measurement

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Initial measurement

• An item of property, plant, equipment and investment property which qualifies for recognition as an asset should initially be measured at cost

• Where an asset is acquired at no cost, or for a nominal cost, its cost is its fair value at the date of acquisition

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Components of cost

• The cost of an item = its purchase price, plus

– Import duties and non-refundable purchase taxes (including

property transfer taxes); and

– Any directly attributable costs of bringing the asset to working

condition for its intended use, such as:

Cost of site preparation; Initial delivery and handling costs; Installation costs; Professional fees such as architects and engineers, legal services;

and The estimated cost of dismantling the asset and restoring the site

(set up of a provision).

– Any trade discounts or rebates are deducted.

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Specific initial measurement issues

• Self-constructed asset:

– Cost is determined using the same the same principles as for an

acquired asset

• Where an asset is acquired at no cost, or for a nominal cost, cost is the fair value at the date of acquisition

• Exchange of assets:

– Cost is measured at the fair value of the asset received

(equivalent to: Fair value of the asset given up + cash

transferred)

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Subsequent expenditure

• Subsequent related expenditure should be added to the carrying amount of the asset, when:

– It is probable that future economic benefits, in excess of the

originally assessed standard of performance of the existing asset

will flow to the European Communities; and

– They improve the condition of the asset;

• Otherwise subsequent expenditures must be recognised as expenses

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• Examples of improvements which result in increased future economic benefits or service potential include:

– Modification of an item of plant to extend its useful life, including

an increase in its capacity;

– Upgrading machine parts to achieve a substantial improvement in

the quality of output;

– Adoption of new production processes enabling a substantial

reduction in recently assessed operating costs.

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Repairs, renovations and maintenance are made to restore or maintain the future economic benefits

ASSET EXPENSE

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Subsequent measurement - Depreciation• All assets entered as tangible assets shall be depreciated, except for:

– Land;

– Fixed asset under construction;

– Pre-financing on property;

– Work of art.

• The depreciable amount should be allocated on a systematic basis over

useful life (costs subsequently capitalised over the remaining useful life)

• The depreciation method used should reflect the pattern in which the

asset’s economic benefits or service potential is consumed by the E.C.

• Monthly pro rata temporis depreciation from the date of acquisition

• The depreciation charge of each period expense

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Subsequent measurement - Useful life

Estimation of the useful life of an item

Judgement based on the experience of the E.C. with similar assets

Useful life and depreciation basis should be reviewed on a regular basis

Where a change is justified Accounted for as a change in accounting estimates with no prior year restatement

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Subsequent measurement

• Subsequent to initial recognition as an asset, an item of property, plant and equipment should be carried at

– Its cost less any accumulated depreciation and any accumulated

impairment losses

– A revalued amount, being its fair value at the date of the

revaluation less any subsequent accumulated depreciation and

subsequent accumulated impairment losses

Benchmark treatment

Allowed alternative treatment

The E.C. will elect to apply the benchmark

treatment

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Measurement – Accounting summary

Balance sheet

Net tangible asset

RevaluationRevaluationExpenses Revenue

Economic outturn account

Depreciation

Repairs &Maintenance

RevaluationRevaluationdecreasedecrease

Initial amount+ Costs improving condition+ Revaluation+ Revaluation<Accumulateddepreciation><Accumulated<Accumulatedimpairment>impairment>Carrying amount

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Worked example

The E.C. acquire a mainframe computer on July 1, N (delivery date). The following costs are incurred:

– Costs on consultancy helping the E.C. specify the nature and performance level of the mainframe: € 4,000

– Purchase price: € 50,000

– Import duties: € 2,000

– Transportation expenses: € 3,000

– Installation expenses: € 5,000

The estimated useful life is initially 5 years

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Worked example

Cost of acquisition = € 60,000 (50,000 + 2,000 + 3,000 + 5,000)

Cost of acquisition excludes the costs on consultancy because they are not directly attributable to the system that was bought

Monthly depreciation expense: € 1,000 (= 60,000 / 60)

Depreciation expense: N: € 6,000 (= 1,000 * 6) - N+1: € 12,000 (= 1,000 * 12)

N N+1

60,000

(6,000)

54,000

60,000

(18,000)

42,000

Gross carrying amount

Balance sheet

N N+1

6,000 12,000

Economic outturn a/c

DepreciationexpenseAccumulated depreciation

Net carrying amount

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Worked example

On 1/1/N+2 the E.C. revise useful life, which is decreased to 4 years

Carrying amount: € 42,000

Remaining useful life: 30 months (= 48 – 18)

Revised monthly depreciation expense: € 1,400 (= 42,000 / 30)

N + 1 N+2

60,000

(18,000)

42,000

60,000

(34,800)

25,200


Balance sheet

N+1 N+2

12,000 16,800



Net carrying amount

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Worked example

On 1/1/N+3 the E.C. incur expenses of € 9,000 to increase the mainframe

computer’s CPU and € 6,000 to fix various bugs

Capitalise: € 9,000 – to be depreciated over the remaining useful life (18 months)

Expense: € 6,000

Revised monthly depreciation expense: € 1,900 = € 1,400 + € 500 (= 9,000 / 18)

N + 2 N+3

60,000

(34,800)

25,200

69,000

(57,600)

11,400


Balance sheet

N+2 N+3

16,800

-

22,800

6,000



Net carrying amount R&M expense

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Subsequent measurement - Impairment• An impairment is a loss in the future economic benefits or

service potential of an asset, over and above the systematic recognition of the loss of the asset’s future economic benefits or service potential through depreciation

• IAS 36 is the current text addressing impairment of assets

• E.C. accounting rule based on ED 23 (issued for comment by the IFAC), which recognises the specificities of the public sector and addresses impairment of non-cash generating assets, i.e. those assets that are not held to generate a commercial rate of return

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Subsequent measurement - Impairment

If indicators are present that suggest that

Carrying amount of the asset > Recoverable service amount

Impairment testing should be performed

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Indicators of impairment

• External sources of information:

– Cessation of the demand or need for services provided by the asset

– Significant long-term changes with an adverse effect on the entity have take place during the period or will take place in the near future, in the technological, legal or government policy environment

• Internal sources of information:

– Physical damage of an asset– Significant long-term changes with

an adverse effect on the entity have taken place during the period or are expected to take place in the near future, in the extent to which, or manner in which, an asset is used or expected to be used

– A decision to halt the construction of the asset before it is complete or in a usable condition

– Evidence from internal reporting that indicates that the service performance of an asset is/will be worse than expected

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Recoverable service amount

• Recoverable service amount =

Max (net selling price,

value in use)

Net selling price:

Price in a binding sale agreementin an arm’s length transaction, less

costs attributable to the disposal of the asset

Market price (bid price) less costs attributableto the disposal of the asset

Information from similar sale transactions

Value in use:

Depreciated replacement costor

Restoration cost approachor

Service units approach

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Impairment loss

• If, and only if, the recoverable service amount of an asset is less than its

carrying amount, the carrying amount of the asset should be reduced to

its recoverable amount

• That reduction is an impairment loss to be immediately recognised as an

expense in the economic outturn account

• If the estimated impairment loss is greater than the carrying amount of

the asset, the carrying amount of the asset is reduced to zero

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Measurement – Accounting summary

Balance sheet

Net tangible Net tangible assetasset

RevaluationRevaluationExpenses Revenue

Economic outturn account

DepreciationDepreciation

Repairs &Repairs &MaintenanceMaintenance

Revaluation decreaseRevaluation decrease

Impairment loss

Initial amount+ Costs improving condition+ Revaluation+ Revaluation<Accumulateddepreciation><Accumulatedimpairment>Carrying amount

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Worked example - Impairment• It was estimated when the mainframe computer was purchased that on average 80% of

CPU would be used (a buffer of excess CPU time of 20% was expected and needed to accomodate peak period deadlines).

• CPU declined to 20% in N+4 because many applications were converted to run on desktop computers or servers.

• A computer is available on the market at a price of € 24,000 that can provide the remaining service potential of the mainframe computer using the remaining applications.

• A broker is offering € 4,500 for the mainframe computer

• The indicator of impairment is the significant long-term change in technological environment resulting in conversion of applications from the mainframe to other platforms and therefore decreased usage of the mainframe computer.

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Worked example - Impairment• Evaluation of impairment:

aCarrying amount, N+3 (acquisition cost: 69,000 less accumulated depreciation: 57,600) 11,400

Replacement cost 24,000

Accumulated depreciation (c x 42 / 48) (21,000)

b Value in use: Depreciated replacement cost 3,000

c Net selling price 4,500

d Max (depreciated replacement cost, net selling price) 4,500

Impairment loss (a - d) 6,900

An expense

To be depreciated over the remaining

useful life (6 months)

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Subsequent measurement- Investment property• Subsequent to initial recognition as an asset, all investment

property should be measured following the:

Fair valuemodel

Cost model

IPSAS 17 – Benchmark treatment

or


4. Additional learning points

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Retirements and disposals

• An item of property, plant and equipment should be eliminated from the balance sheet:

– On disposal; or

– When the asset is permanently withdrawn from use.

• Gain or losses arising from the retirement or disposal should be determined as:

Retirement or disposal value – Carrying amount of the asset

Recorded as a gain or a loss in the Economic Outturn Account as incurred

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Worked example

On 28/2/N+4 the computer mainframe is disposed of to Oxfam for free.

a Carrying amount, 28/2/N+4 = (4,500 – 4,500 * 2/6) 3,000

b Sales price -

Loss = b – a (3,000)


5. Disclosures

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Key disclosures

• Key disclosures required for each class of property, plant and equipment:

– Measurement bases used for determining the gross carrying amount

– Depreciation method used and estimated useful lives

– The gross carrying amount and accumulated depreciation at the beginning and at the end of the period

– A reconciliation of the carrying amount at the beginning and the end of the period

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Key disclosures (cont’d)

• Existence and amounts of restrictions on title for property, plant and equipment pledged as securities for liabilities

• The amount commitments for the acquisition of property, plant and equipment

• If applicable, the basis used to revalue a class of property, plant and equipment

• When the benchmark treatment is used, the fair value of the assets should be disclosed if it is materially different from the carrying amount

• Information on impairment

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Investment property –Additional specific disclosures

• The criteria developed to distinguish investment property from owner-occupied property

• The methods and significant assumptions applied in determining the fair value of investment property, including a statement whether the determination of fair value was supported by market evidence or was more heavily based on other factors because of the nature of the property and lack of comparable market data

• The extent to which the fair value of investment property is based on a valuation by an independent appraiser who holds a recognised and relevant professional qualification and who has recent experience in the location and category of the investment property being valued. If there has been no such valuation, that fact should be disclosed.


6. E.C. specific implications

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Key differences with the current E.C. practices

Individualisation of assets i.o.Global depreciation of assets with similar characteristics

Prorata temporis depreciation i.o.Full year in the year of acquisition Required segregation of

land and buildings

Components approachImpairment testing

Need for the reconciliation of aphysical inventory withthe fixed assets ledger


7. Questions

http://www.cc.cec/budg/

Documents

PwC Property, Plant and Equipment