LMT SCHOOL OF MANAGEMENT, THAPAR UNIVERSITYMasters of Business Administration

Course: Financial Reporting and AnalysisFaculty: Dr. Sonia Garg (Email: sonia.garg@thapar.edu)

Session 11 and 12: Accounting for Tangible Fixed Assets

Duration: 60 minsSlides: 23

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Identification and Significance

Fixed Assets are• Held with the intention of being used in producing goods or

services• Not held for sale in the normal course of business

Significance• Fixed assets often comprise of a significant portion of total

assets of a firm• The determination of whether an expense is a fixed asset or

revenue expense will have big impact on firm’s performance

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AS-10 weblinkApplies to • land, buildings, plant and machinery, vehicles, furniture and fittings,

goodwill, patents, trade marks and designs

Does not apply to• Leased assets• forests, plantations, livestock and similar regenerative natural resources• wasting assets including mineral rights, expenditure on the exploration for

and extraction of minerals, oil, natural gas and similar non-regenerative resources

• expenditure on real estate development• Government grants• Fixed assets borrowing costs capitalisation

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Determinants of Value of Fixed Assets

• Purchase price• Import duty and other non-refundable taxes• Trade discounts and rebates• Directly attributable costs in bringing the asset to its

satisfactory working condition (site preparation, delivery and handling costs, installation costs, professional fees, administrative and general expenses, costs of test runs)

• Changes due to exchange rate fluctuation, price adjustments of changes in duty

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Other DeterminantsSelf constructed fixed assets: Include costs of construction directly attributable to the specific asset eliminating internal profits

Non-monetary consideration: Consider fair market value (FMV) of the consideration and asset acquired; or record asset acquired at net book value of asset given up and balance adjusted (Be conservative and objective)

Improvements and Repairs• Repair is revenue expense• Improvements if increase the future benefits of original asset can be

capitalised; Cost of improvement – which becomes an integral part of original asset is added to its gross book value– which has a separate entity and can be used after original asset is disposed is

accounted for separately

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Most preferred

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Special Cases

Jointly owned fixed assets: State firm’s share in such assets, proportion of the original cost, accumulated depreciation and written down value; pro rata cost of such assets may be grouped with other assets with appropriate disclosure

Basket Purchase: when many assets are purchased for a consolidated price, the consideration is apportioned to the various assets on a fair basis as determined by a competent valuer

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Certain Specific Fixed assets

• Individual insignificant assets may be aggregated into single asset (e.g. office chairs as total chairs)

• Machinery spares are usually charged to P/L when consumed. Sometimes a specific spare part, used infrequently, my be capitalised over the remaining life of principal item

• Component parts, if separable from principal asset and have different useful life, it may be treated as a separate asset

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Revaluation• Methods

– Appraisal by competent valuer (most preferred)– Indexation with general or specific price indices (periodically cross-checked with the

appraisal method• Presented by restating gross book value and accumulated depreciation • Either revalue entire class of assets or select on systematic basis• After revaluation, net book value of asset should not be more than the net

recoverable amount• An increase in net book value due to revaluation

– Is credited to owner’s equity under revaluation reserve not available for distribution– It may be credited to P/L as gain to the extent it offsets a previous decrease

• A decrease in net book value due to revaluation– Is debited to P/L as a loss– It may be debited to revaluation reserve to the extent it offsets a previous increase

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Retirement and Disposal• Material items retired from active use and held for disposal

– Stated at lower of NBV and net realisable value shown separately in F/S

• On disposal, fixed assets are eliminated from F/S

• Retirement/Disposal of fixed assets carried at historical cost– Loss from retirement or loss/gain from disposal is charged to P/L

• Retirement/Disposal of fixed assets carried at revalued amount– Loss/gain charged to P/L unless– In case of loss if it reverses corresponding amount in revaluation reserve– Amount standing in revaluation reserve is transferred to general reserve

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Items to be disclosed in F/S

• Gross book value and net book value at the beginning and at the end of an accounting period showing additions, disposals, acquisitions and other movements

• Expenditure towards fixed asset for construction or acquisition

• For Revalued assets– Revalued amount– Method used for revaluation; nature of indices used for non-

appraised revaluation– Year of appraisal– Whether external valuer is involved

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IFRS Converged IND AS 16 v/s AS-10• IND AS 16 requires use of component approach

– Each major part is depreciated separately– Cost of replacing such parts is capitalised– Cost of replacing other parts is also capitalised with derecognition of the

replaced parts

• IND AS 16 requires an entity to choose either cost/ revaluation model for a class of assets as a policy requiring periodic revaluation

• Fair value is the amount for which an asset could be exchanged between knowledgeable willing parties in an arm’s length transaction

• As per converged IND AS 105, retired fixed assets should be carried at lower of its carrying amount and fair value less cost to sell

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Impairment of assets

If a fixed asset is lying useless due to the following reasons• Technological obsolescence or irreparable physical damage • Significant decline in utility due to arrival of higher versions• Productivity of fixed asset not being fully exploited due to

low customer off take as a result of competition or changes in customer preferences

And the management is convinced that the situation is not going to improve in the foreseeable future, the fixed asset should be IMPAIRED

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Impairment indicatorsExternal• Decline in market value of asset• Adverse changes in the technological, legal and economic

environment of the market to which the asset is dedicated• Changes in interest rates that materially decrease the asset’s

recoverable amount• Carrying amount of net assets is more than market capitalisationInternal• Evidence of physical damage of asset• Significant changes in usage of asset• Evidence of worse than expected economic performance of asset

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AS-28 weblinkAS-28 does not apply to inventories, assets arising from construction contracts, deferred tax assets or investments

AS-28 applies to assets that are carried at cost as well as at revalued amounts

• If revaluation is done on the basis of market value then, net selling price = market value – cost of disposal– if the disposal costs are negligible, the recoverable amount of the revalued asset is

necessarily close to, or greater than, its revalued amount (fair value). Revalued asset will not be impaired.

– if the disposal costs are not negligible, net selling price of the revalued asset is necessarily less than its fair value. Therefore, the revalued asset will be impaired.

• If revaluation is not done on the basis of market value then, its revalued amount (fair value) may be greater or lower than its recoverable amount. Hence, after the revaluation requirements have been applied, an enterprise applies this Standard to determine whether the asset may be impaired.

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Definitions• Recoverable amount is the higher of an asset’s net selling price and its value in use.

• Value in use is the present value of estimated future cash flows expected to arise from the continuing use of an asset and from its disposal at the end of its useful life.

• Net selling price is the amount obtainable from the sale of an asset in an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal.

• Costs of disposal are incremental costs directly attributable to the disposal of an asset, excluding finance costs and income tax expense.

• An impairment loss is the amount by which the carrying amount of an asset exceeds its recoverable amount

• Carrying amount is the amount at which an asset is recognised in the balance sheet after deducting any accumulated depreciation (amortisation) and accumulated impairment losses thereon.

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Accounting treatment

Impairment loss• Recognised as an expense in P/L• If asset is revalued, decrease in revaluation

Reversal of impairment loss• Credited to P/L• Or credited to revaluation reserve as the case

may be

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Items to be disclosed in F/S

• Amount of impairment losses recognised in the P/L and line item in which those impairment losses are included.

• Amount of reversals of impairment losses recognised in the P/L and the line items in which those impairment losses are reversed.

• Amount of impairment losses recognised directly against revaluation reserve.

• Amount of reversals of impairment losses recognised directly in revaluation reserve.

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IFRS Converged IND AS 36 v/s AS-28

• AS 36 requires annual impairment testing for an intangible asset with an indefinite useful life and goodwill acquired in a business combination

• AS 36 prohibits recognition of reversals of impairment loss for goodwill