PLANT AND

EQUIPMENT;
BORROWING COST;
IMPAIRMENT OF
ASSETS
PAS 16
PAS 23
PAS 36
 Objective, Definition, Recognition
 The objective of PAS 16 is to prescribe the accounting treatment of PPE so
that users can discern information about the entity’s investment in its PPE
and changes in the investment.
 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 and are expected to be used during more than one
period.
 The cost of PPE 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.
 Spare-parts, stand-by equipment and servicing equipment will be classified
as PPE if these items meet the definition and recognition criteria for PAS 16,
otherwise, such items will be inventory.
 Most spare parts and servicing equipment are usually carried as
inventory and recognized as expense when consumed. However,
major spare parts and standby equipment qualify as property,
plant and equipment when the entity expects to use them more than
one period.
 Cost – is the amount of cash or cash equivalent paid and the fair
value of other consideration given to acquire an asset at the time of
acquisition or construction.
 Measurement
 An item of PPE that qualifies for recognition as an asset shall be initially measured
at cost. The cost of PPE comprises of: (a) its 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 intended by
management; (c) the initial estimate of the costs of dismantling and removing the
item and restoring the site on which it is located, the obligation of which an entity
incurs either when the item is acquired or a consequence of having used the item
during a particular period for purposes other than to produce inventories during
the period.
 Examples of directly attributable costs:
 a) Costs of employee benefits arising directly from the construction or acquisition
of the item of PPE.
 b) Costs of site preparation
 c. Initial delivery and handling costs;
 d. Installation and assembly costs;
 e. Costs of testing whether the asset is functioning properly, after deducting the
net proceeds from selling any items produced while bringing the asset to that
location and condition (samples produced when testing equipment); and
 f) Professional fees
 Examples of costs which should not form part of PPE:
 a) Costs of opening a new facility
 b) Costs of introducing a new product or service (including advertising and
promotional activities)
 c) Costs of conducting business in a new location or with a new class of customer
(including costs of staff training)
 d) Administration and other general overhead costs
 e) Costs incurred while an item capable of operating in the manner intended by the
management has yet to be brought into use or is operated at less than full capacity.
 f) Initial operating losses, such as those incurred while demand for the item’s output builds
up.
 g) Costs or relocating or reorganizing part or all of an entity’s operations.
 h) Costs of any abnormal amounts of wasted materials, labor or other resources incurred in
self constructing an asset.
 Cost is initially measured on cash basis or on account. Generally, cost is equivalent to cash
price equivalent at recognition date . If payment is deferred beyond normal credit terms, the
difference between the price cash equivalent and the total payment is recognized as
interest over the period.
 Measurement of cost if the PPE is acquired through exchange
 The cost of PPE is measured at fair value unless (a) the exchange lacks commercial
substance or (b) the fair value of neither the assets received or the assets given up is
reliably measurable. If such two instances mentioned above happened, the cost is measured
at the carrying amount of the asset given up.
 If the land and building are acquired together, they are not accounted as one item.
Land and buildings are separable assets and accounted for separately. Land is not
subject to depreciation while building is a depreciable asset. An increase in the
value of land will not increase the value of the building where it stands.
 Subsequent Measurement
 An entity shall choose either the cost model or the revaluation model as its
accounting policy in subsequent measurement of the property, plant and equipment
and such will be applied to the entire class of PPE
 A class of PPE – is a grouping of assets of a similar nature and use in an entity’s
operations. The following are examples of separate classes: land, land and building,
machinery, ships, aircraft, motor vehicles, furniture and fixtures, office equipment
and bearer plants.
 Carrying amount – is at which an asset is recognized in the financial statement
after deducting any accumulated depreciation and accumulated impairment losses,
regardless whether the entity is using the cost model or revaluation model.
 Cost model. Under cost model, the PPE shall be carried at cost less accumulated
depreciation and any accumulated impairment losses.
 Revaluation model. Under revaluation model, the PPE shall be carried at revalued
amount, being its fair value at the date of revaluation less any subsequent
accumulated depreciation and subsequent impairment losses.
 PAS 16 states that revaluation shall be made with sufficient regularity to insure that
the carrying amount does not differ materially from that which would be determined
using the fair value at the end of the reporting period. Thus, the frequency of
revaluation depends upon the changes in fair values of the items of PPE if the value
already materially differs as compared to the carrying amount.
 If some PPE experience volatile changes in fair value, an annual revaluation is
required. For insignificant changes in fair value, revaluation will be necessary only
every 3 or 5 years.
 If only one item needs to be revalued, the items within the class of PPE are revalued
simultaneously to avoid selective revaluation of assets
 If the asset will increase due to revaluation, such increase will be reported in other
comprehensive income (OCI) under revaluation surplus. If the asset will decrease
due to revaluation, such decrease will be reported in profit or loss (PL). However,
if the carrying amount of the asset has been previously increased due to revaluation
but subsequently decrease in value, the decrease shall be recognized in other
comprehensive income (OCI) to the extent of any credit balance existing in the
revaluation surplus.
 On the other hand, if the carrying amount of the asset has been previously
decreased due to revaluation but subsequently increase in value, the increase shall
be recognized in profit and loss (PL) to the extent it reverses a revaluation
decrease of the same asset previously recognized in profit or loss.
 There are two instances when the transfer of revaluation surplus to retained
earnings happens:
 a) Full realization – the whole amount of revaluation surplus will be transferred to
retained earnings if the PPE which was subjected to revaluation will be derecognized
that is, when asset is retired or disposed of.
 b) Partial realization – some of the revaluation surplus will be transferred
to retained earnings as the asset is being used by the entity. In such case,
the amount of revaluation surplus transferred would be the difference
between the depreciation based on the revalued carrying amount of the
asset and the depreciation based on the asset’s original cost.
 Depreciation
 Depreciation – is a systematic allocation of the depreciable amount of the
asset over its useful life.
 Depreciable amount – is the cost of an asset, or other amount substituted
for cost, less residual value.
 Residual value – is the estimated amount that an entity would currently
obtain from disposal of the asset, after deducting the estimated cost of
disposal, if the asset were already of the age and in the condition expected
at the end of its useful life.
 Useful life – is (a) the period over which the asset is expected to be available for use
by an entity or (b) the number of production or similar units expected to be obtained
from the asset by the entity. The following are factors to be considered in determining
the useful life of an asset: (a) expected usage of the asset. Usage is assessed by
reference to the assets expected capacity or physical output; (b) expected physical
wear and tear; (c) technical or commercial obsolescence arising from change or
improvement in production, or from a change in the market demand for the product or
service output of the asset; (d) legal or similar limits on the use of the asset.
 The depreciation charge will be recognized in profit or loss unless it is included in the
carrying amount of another asset.
 The residual value and useful life of an asset may change and shall be reviewed at
least at each financial year and if the expectation differs from the previous estimates,
the change is accounted for as a change in accounting estimates
 The entity will begin the depreciation of an asset when it is available for use meaning
when the asset is in the location and condition necessary for it to be capable of
operating in the manner intended by management.
 Depreciation ceases at the earlier date if the asset is classified as held for sale
and the date when the asset is derecognized. Thus, depreciation does not cease
when the asset is idle or is retired from active use unless it is already fully
depreciated.
 Different types of depreciation methods are:
 a) Straight line depreciation – results in a constant charge over the useful life
if the asset’s residual value does not change.
 b) Diminishing balance method – results in a decreasing charge over the
useful life.
 c) Units of production method – results in a charge based on the expected use
or output. Thus, if there is no output, the depreciation will be zero.
 Derecognition
 The property, plant and equipment shall be derecognized on disposal or when
no future economic benefits are expected from its use or disposal.
 Any gain or loss arising from derecognition of PPE shall be disclosed in the profit or
loss. Gain or loss is the difference between the net disposal proceeds and the
carrying amount of the item.
 The date of disposal is the date the recipient obtains control of that item in
accordance to the requirements for determining when performance obligation is
satisfied in PFRS 16.
 PAS 23 – BORROWING COST
 Borrowing costs – are interest and other costs that an entity incurs in connection
with the borrowing of funds. Normally, interest cost are expense, however PAS 23
states that if the borrowed fund is used for the acquisition, construction or production
of a qualifying asset, the interest associated of such borrowing should be added to
the cost of the qualifying asset.
 Qualifying assets – are assets that necessarily takes a substantial period of time to
get ready for its intended use or sale. Examples: manufacturing plants, power
generation facilities, intangible assets, investment properties or bearer plants.
 Inventories or assets that are manufactured that are manufactured or
otherwise produced over a short period of time shall not qualify as qualifying
asset.
 The borrowing cost will be recognized and capitalized as an addition to an
asset when it is directly attributable to the acquisition, construction or
production of a qualifying asset and when it is probable that they will result in
future economic benefits and the cost measured reliably. Thus, not all
borrowing cost will form part of the cost of an asset. Only those borrowing costs
associated for qualifying asset will be capitalized otherwise it will be expensed.
 Assets financed by specific borrowing
 PAS 23 provides that if the funds are borrowed specifically for the purpose of
acquiring a qualifying asset, the amount of capitalizable borrowing cost is the
actual borrowing cost incurred during the period less any investment income
from the temporary investment of those borrowings.
 Illustration: At the beginning of the current year, an entity obtained a loan of
P4,000,000at an interest rate of 10%, specifically to finance the construction of a
new building. Availments from the loan were made quarterly in equal amounts. Total
borrowing costs incurred amounted to P250,000 for the current year. Prior to the
disbursement, the proceeds of the borrowing were temporarily invested and earned
interest income of P40,000. The building was completed at the current year-end.
Compute the capitalizable borrowing cost?
 Answer: P250,000 – 40,000 = P210,000
 Assets financed by general borrowings
 Capitalizable borrowing costs for general borrowings will be computed using the
capitalizable rate to the expenditure on the asset. Capitalization rate is the
weighted average of the borrowing costs applicable to all borrowings of the entity
that are outstanding during the period. It should exclude in the computation the
applicable borrowing costs for specific borrowings. Furthermore, the capitalizable
borrowing cost should not exceed should not exceed the amount of borrowing costs
it incurred during the period.
 Illustration: Computation of Capitalization Rate
 An entity had the following borrowings on January 1 of the current year. The
borrowings are made for general purposes and the proceeds were partly used to
finance the construction of a new building.
 Principal Borrowing cost
 10% bank loan 3,000,000 300,000
 12% short-term note 1,500,000 180,000
 8% long-term loan 3,500,000 280,000
 8,000,000 760,000
 The capitalization rate is computed by dividing the total annual borrowing cost by
the total general borrowings. Thus, P760,000 divided by P8,000,000 equals 9.5%
 The amount of capitalizable borrowing cost is the average carrying amount of the
building multiplied by the capitalization rate.
 The entity starts capitalizing borrowing costs at the commencement date. A
commencement date is the date when the entity first meets all of the following
conditions: (1) it incurs expenditures for the asset; (2) it incurs borrowing costs; and (3)
it undertakes activities that are necessary to prepare the asset for its intended use or
sale. Technical and administrative work prior to the commencement of physical
construction (like permits on the construction) can be considered activities already in
preparing the asset for its intended use.
 Capitalizing borrowing cost is suspended when there is no production or development
that changes the physical condition of an asset. However, it is not suspended even if
there are no developments (1) in a period of substantial technical and admin work to
prepare the asset for its intended use or (2) there are temporary delays due to
processing.
 Capitalization of borrowing costs ceases when substantially all the activities necessary
to prepare the qualifying asset for its intended use or sale is complete. The assets are
ready for use or sale when the physical construction of the asset is complete already
even though admin work or minor modification such as decorations are still outstanding
or continuing.
 Furthermore, when an entity completes the construction of a
qualifying asset in parts and each part is capable of being used while
construction continues on other parts, the entity ceases capitalizing
borrowing costs when it completes substantially all the activities
necessary to prepare that part for its intended use or sale.
 PAS 36 – IMPAIRMENT OF ASSETS
 Under PAS 16, Property, Plant and Equipment will be subsequently measured under
Cost or Revaluation model. Under both models, there is a need to deduct accumulated
depreciation and impairment loss to arrive at the carrying amount of the asset.
Depreciation is under PAS 16, while the impairment has a separate standard under
PAS 36.
 Impairment loss – is the amount by which the carrying amount of an asset or a cash
generating unit exceeds its recoverable amount.
 Recoverable amount of an asset or a cash generating unit – is the higher
between the fair value less cost of disposal and its value in use.
 Value in use – is the present value of the future cash flows expected to be derived
from an asset or cash generating unit
 Impairment Loss = Carrying amount – Recoverable Amount (higher amount
 between fair value – cost of disposal and value in use)
 Carrying amount – is the amount at which an asset is recognized after
deducting any accumulated depreciation (amortization) and accumulated
impairment losses thereon.
 Impairment – is a fall in the market value of an asset so that the recoverable
amount is now less than the carrying amount in the statement of financial
position.
 An entity shall assess at the end of each reporting period whether there is
any indication that an asset may be impaired. If any such indication exists, the
entity shall estimate the recoverable amount of an asset.
 Basic principle: There is an established principle that an asset shall not be
carried at above the recoverable amount. An entity shall write down the
carrying amount of an asset to the recoverable amount if the carrying amount is
not recoverable in full. If the carrying amount is higher than recoverable
amount, the asset is judged to have suffered an impairment loss. The asset
shall therefore be reduced by the amount of the impairment loss.
 External sources of information that may indicate that an asset is impaired:
 a) Observable asset value declined during the period significantly more than would be
expected as a result of passage of time or normal use.
 b) Significant changes in the technological, market, economic or legal environment in
which the entity operates.
 c) An increase in market interest rates or other market rates of return on investments
which will affect the discount rate used in calculating value in use.
 d) the carrying amount of the net assets of the entity is more than its market
capitalization.
 Internal sources of information that may indicate that an asset is impaired:
 a) Evidence is available of obsolescence or physical damage of an asset.
 b) Significant changes with an adverse effect on the entity have taken place during the
period, or will take place in the future. These changes include the asset being idle’ plans
to discontinue or restructure the operation to which an asset belongs, plans to dispose of
an asset before the previously expected date, and reassessing the useful life of an asset.
 c) Evidence is available from internal reporting that indicates that the
economic performance of an asset is, or will be worse than expected.
 Measuring Recoverable Amount
 The recoverable amount of an asset is the fair value less cost of
disposal or value in use, whichever is higher.
 It is not always necessary to determine both an asset’s fair value less
cost of disposal and its value in use. If either of these amounts exceeds
the asset’s carrying amount, the asset is not impaired and it is not
necessary to estimate the other amount.
 Cost of disposal – is the incremental cost directly attributable to the
disposal of an asset or cash generating unit, excluding finance costs and
income tax expense. Example: cost of removing the asset; direct
incremental costs to bring an asset into condition for sale.