MFRS116 – PROPERTY, PLANT AND EQUIPMENT

MFRS 116 Property, Plant and Equipment

Property, Plant and Equipment Objective of Providing Information Information about PPE is useful to primary users when they make decision whether to buy or sell the shares. Mr A is a potential investor and considering to buy shares in Axis Bhd. He will assess the amount, timing and uncertainty of the future net cash inflows in terms of revenue generated from the use of the PPE. He is also interested to know the current value of the PPE. He will buy the shares in Axis Bhd if the estimated amount, timing and the uncertainty of the future net cash inflows meet his own expectation.

Definition and Classification of PPE An item of PPE is classified as PPE if it is identified as asset and meets the definition of PPE. PPE are tangible items that are held tor use in the production or supply of goods or services, for rental to others, or for administration purposes; and are expected to be used for more than one period. Focus Eye Bhd acquired an advanced optical lens-making machine to produce lenses. The machine is expected to be used for five years before being scrapped. Question: Is the machine an asset?   The machine is an asset of Focus Eye Bhd because it is a physical resource (a steel and concrete structure) purchased by Focus Eye Bhd (past event) and used at the entity’s discretion (control) to produce lenses. The sale is expected to result in the flow of cash (future economic benefits) to the company. Question: Is the machine an item of property, plant and equipment? It has physical form (tangible), it is used to convert glasses into lenses (held for use in production) and it is expected to be used for about five years (in more than one period). Therefore, the machine is an item of property, plant and equipment.

Identification Large assets - component accounting Items or parts of a piece of property, plant and equipment that have a different economic life or maintenance are identified and depreciated accordingly – eg ships Numerous small assets Combine as a single asset.

Initial Recognition of PPE PPE are recognized as assets when it is probable that future economic benefits associated with the item will flow to the entity; and the cost of the item can be measured reliably. Focus Eye Bhd acquired an optical equipment to monitor and determine the quality of visions of its customers. The equipment was paid in cash for RM52,000 on delivery. Question: Is the item a PPE? The equipment is considered as an asset because it is a physical resource (a steel and concrete structure), purchased by Focus Eye Bhd (past event), and used at the entity’s discretion (control) to monitor and determine the quality of visions of its customers.   Question: Is it probable that future economic benefit will flow to the entity? Focus Eye Bhd acquired the equipment to be used in monitoring and determining the quality of the customers’ vision. The entity will gain income when the customers pay for the service provided. Therefore, it is probable that future economic benefits will flow to the business from the use of the equipment. Question: Can the item be measured with reliability? The value of the item can be measured reliably because the equipment is exchanged for a cash payment of RM52,000, which was paid at the time the entity received the equipment.

Initial Measurement of PPE PPE are initially measured at cost that comprises: (a) The purchase price, including import duties and non-refundable purchase taxes, after deducting trade discounts and rebates. (b) Any cost directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating in the manner as intended by the management. (c) The initial estimate of costs for dismantling and removing the items and restoring the site on which it is located. Focus Eye Bhd purchased imported vision testers. The related costs incurred in relation to the testers were as follows: Invoice price RM50,000 Trade discount (10%) Import duties RM3,500 Transportation cost RM1,500 Installation cost RM1,500 Administrative cost RM6,000 The cost of the testers: Invoice price (net) RM45,000 Cost of the testers RM51,000

Self-constructed Property, Plant and Equipment Cost recognised is determined by the same principles as for assets purchased and include all costs incurred such as material, labour, overhead and other resources that are directly attributable to complete the construction of the asset. Borrowing costs (MFRS 123) Exclude: Internal profit and costs of abnormal amounts wastage.

Deferred payment - difference between cash price equivalent (ie present value of future payment) and total payment is to be recognised as interest. Asset Exchange Transaction Item acquired in exchange for a non-monetary asset or group of non-monetary assets is measured at fair value. If fair value is not determinable or exchange lacks commercial substance then the ‘cost’ of the asset acquired is equal to the carrying value of asset given in exchange.

Subsequent Costs Additional costs that relate to services and maintenance are treated as expenses in the statement of profit or loss. Costs which relate to additions and improvements that meet the asset recognition criteria are capitalized as assets. Focus Eye Bhd has a car which was acquired four years ago. Even though the car is in working condition, several repair costs have been incurred to maintain its working condition. The carrying value of the car is RM800,000. During the current year, the following expenditure are incurred: Insurance and road tax RM3,000 Repainting cost RM2,700 Rustproof treatment that will extend the lifespan of the car for several years RM5,000 Replacement of timing belt RM800   How should the above cost be accounted for? The costs related to insurance and road tax, repainting and replacement of timing belt are considered as repair and maintenance costs that do not result in future economic benefit to the entity. Therefore, the cost of RM3,000 should be written off as expenses in the statement of profit or loss. Since the rustproof treatment extends the lifespan of the car, which indicates it results in future economic benefits, the cost of RM5,000 is capitalized and added to the carrying amount of the car.

Subsequent Costs Maintenance – write off Meet recognition criteria – add to the carrying amount of the asset Replacement of part/component The carrying value of the part replaced is derecognised. Regular major inspection (e.g. Aircraft). Cost recognised as replacement. Carrying amount of previous inspection derecognised.

Subsequent Measurement After the initial recognition, PPE are measured using cost model or revaluation model as its accounting policy and the policy should be applied to an entire class of PPE. Cost model PPE are carried at its cost less any accumulated depreciation and any accumulated impairment loss. The fair value of property, plant and equipment is not taken into consideration. Revaluation model PPE are carried at a revalued amount (if the fair value can be measured reliably) less any subsequent accumulated depreciation and subsequent accumulated impairment loss. Adoption of revaluation model will produce more relevant information for capital providers in making useful decision. Focus Eye Bhd acquired a piece of freehold land on 1 January 20X4 for RM1 million. On 31 December 20X4, the fair value of the land was RM1.5 million. Show the carrying amount of the land as at 31 December 20X4 if the company adopts: (a) Cost model (b) Revaluation model The carrying amount is the cost of the land which is RM1 million. The carrying amount is the fair value of the land which is RM1.5 million.

Accounting Treatment for Surplus/Deficit on Revaluation Surplus on revaluation arises when the carrying amount of a PPE is less than its fair value recognizes in revaluation reserve or SOPL (to the extent that it reverses a previous deficit on revaluation of the same PPE) discloses in the statement of profit or loss and other comprehensive income Deficit on revaluation arises when the carrying amount of a PPE is more than its fair value. recognizes in SOPL or revaluation reserve (to the extent that it reverses a previous surplus) on revaluation of the same PPE. Focus Eye Bhd adopts revaluation model for its freehold land. On 31 Dec 20X4, the carrying amount of the freehold land was RM500,000 and the fair value was (a) RM600,000 (b) RM450,000 The entries as at 31 Dec 20X4 would be: (a) Surplus on revaluation was RM100,000 Dr Freehold land RM100,000 Cr Revaluation Reserve RM100,000 (The amount is also disclosed in the SOPL and other comprehensive income) (b) Deficit on revaluation was RM50,000 Dr SOPL RM50,000 Cr Freehold land RM50,000

Accounting for Revaluation Surplus/Deficits Surplus on Revaluation: fair value exceeds the carrying value disclosed in the ‘other comprehensive income’ credit into equity, under the heading of revaluation reserve the surplus is due to a deficit in the previous revaluation – take to income statement revaluation reserve is transferred to retained earnings when: Asset is disposed or Through use - an amount equal to the addition depreciation is transferred to the retained earnings

Deficit on Revaluation charged in the current year’s income statement the decrease can be debited to the revaluation reserve (OCI) to the extent of any credit balance existing in the revaluation surplus in respect of that asset

EXAMPLE Asset costing RM10 million was bought on 1. 1 EXAMPLE Asset costing RM10 million was bought on 1.1.x4 and the useful life was determined to be 10 years. On 31.12.x5 the fair value was RM12 million. On 31.12.x5 the difference between the fair value (RM12m) and carrying amount (RM10m x 8/10) of RM4m is credited to OCI/revaluation reserve. Depreciation charge for x6 will be RM12/8 = RM1.5m. There will be a transfer from revaluation reserve to retained earnings of RM500,000 in x6.

Accumulated Depreciation Two methods: ● The gross carrying amount is restated proportionately, or ● The accumulated depreciation is eliminated against the gross carrying value

Depreciation Depreciation commences when the asset is made available for use and to continue depreciating till derecognition, depreciating even during idle period. Residual value based on expected future circumstances measured at current prices and no adjustment to be made for changing price. Depreciation charge is determined separately for each significant part of an item of property, plant and equipment. Useful life and residual value to be reviewed annually. Changes are considered as change in accounting estimates.

Impairment Covered specifically under MFRS136. An asset is impaired when its recoverable amount is less than its carrying amount. Recoverable amount is the higher of the fair value less costs to sell and value in use. Value in use is the present value of future cash flows expected to be derived from an asset.

Derecognition An item of property, plant and equipment is derecognised when it is disposed of or when no future economic benefits are expected from its use. asset disposed should be removed (derecognised) from the statement of financial position. Gain or loss on disposal is the difference between the proceeds received on selling the asset and its carrying amount. The gain or loss should be recognised in the income statement but not treated as revenue. If the asset being sold had been revalued and there was a surplus on revaluation then the surplus remaining will be transferred to retained earnings.

Quiz On 1. 1. x4 an entity built an oil rig costing RM100m Quiz On 1.1.x4 an entity built an oil rig costing RM100m. The rig will be in operation for 5 years after which the structures have to be removed and the area restored. The cost of dismantling etc is estimated to be RM10 million. Assume current interest rate is 10%. Present value factor of 10% is .62 Required: Discuss the accounting treatment.