Fixed Assets They lead to the generation of operational revenue, which speaks of their crucial importance. Hence the need for proper valuation
AS - 10 Meaning and significance of fixed assets Scope and coverage Principles and norms of standard accounting treatment Disclosure reqirements
Meaning and significance Fixed assets represents assets held with the intention of being used for the purpose of producing or providing goods or services and are not held for sale in the normal course of business. Significant portion of total assets Effect on reported results - Expense as fixed asset or revenue expense
Scope and coverage Deals with land, building, plant and machinery, vehicles, furniture and fittings except Regenerative natural resources like forests and plantations Expenditure on the exploration and extraction of non- regenerative sources like minerals, oil and natural gas. mineral rights Expenditure on real estate development Livestock Leased assets The standard however, covers the individual items of those fixed assets which are used to develop or maintain the above mentioned assets and are separable from them
Principles and Norms Determinants of value of Fixed Assets The cost comprises purchase price net of discounts and rebates but inclusive of duties and other non-refundable taxes and any directly attributable cost of bringing the asset to its working condition
Cost of fixed assets The cost may change subsequent to acquisition or construction on account of exchange fluctuations, price adjustments, changes in duties etc. Administrative and other general overhead expenses, as are specifically attributable are included Cost of self constructed fixed asset – direct cost + allocation + other considerations as above Fixed assets acquired in exchange – fair market value or at net book value In exchange for securities – fair market value. Any subsequent expenditure that increases the future benefits beyond its previously assessed benefits.
Amit Industries – cost of fixed assetsDetails Rs RsInvoice Price:List Price 5000000Less: Trade discount 100000Balance 4900000Add: Sales tax and duty 600000 5500000Cenvat credit available 400000Transport charges 25000Spl. foundation and 75000installation
Revaluation of fixed assets Required to accurately describe the true value of fixed assets Reasons To show true rate of return on CE Conserve adequate funds – depreciation – historical cost – inflated profits – excessive dividend To show fair market value of assets Negotiate fair price during merger or acquisition Enable proper reconstruction To issue shares / procure loan / sale
Methods of revaluation Indexation Current Market Price (CMP) Appraisal method
Principles on revaluation Revalued amounts are restated in the financial statements by both gross block value and accumulated depreciation When revalued, an entire class of assets should be revalued, or on a systematic basis (whole class of assets in a plant) Should not result in the net book value greater than recoverable amount of assets. Increase in net book value on revaluation is credited to owner’s interests under the heading “revaluation reserves” and are not available for distribution. At times reversal of previous recorded decrease in P&L account Decrease is charged to P&L unless it reverses a corresponding reserve related to a previous increase on revaluation
Valuation in special cases Jointly owned fixed assets – the extent of the enterprise’s share in such assets, and the proportion of original cost, accumulated depreciation and written down value should be stated in the BS Basket Purchase – apportioned on a fair basis as determined by a competent valuer.
Basket Purchase – Sun TV – cost of each assetDetails Consolidated Market value priceLand 18000000Building built 27000000thereonFurniture and 5400000fixturesMachines and 129600000equipmentsTotal 150000000 180000000
Identification of certain fixed assets Individually insignificant items – long term utility Machinery spares Separable component parts – separate assets
Retirements and Disposal Stated at the lower of their net book value and NRV and shown separately Eliminated from statements on disposal or no further benefit is expected Any loss / gain is charged / credited to P&L Loss / gain of revalued assets – P&L or reversed with revaluation reserve Amount in revaluation reserve after disposal / retirement – general reserve
Disclosures Gross and net book values at the beginning and at the end of the accounting period showings additions, disposals, acquisitions and other movements Expenditure incurred towards fixed assets in the course of construction or acquisition Additional disclosures where fixed assets are stated at revalued amounts Disclosure as per AS-1.
Impact of Government Grants on Fixed asset valuation AS-12 – Accounting for Government Grants Treatments The grant is shown as a deduction from the gross value of the asset concerned in arriving at its book value. When the grant equals virtually whole or whole – shown in BS at nominal value Treated as deferred income in P&L in proportion of depreciation on related assets. Non-depreciable assets – credited to capital reserve or charged to income if it requires fulfillment of certain obligations, over the same period over which the costs of the same are charged.
Impact of Government Grants Non-monetary assets at a concessional rate – acquisition cost – free of cost – nominal value. Disclosures Nature and extent of grants including grants of non-monetary assets given at concessional rate or free of cost, and The accounting policy adopted.
Impact of Borrowing Costs on Fixed asset valuation AS 16 – Borrowing Costs Borrowing costs are interest and other costs, like upfront fee, incurred by an enterprise in connection with the borrowing of funds either for specific fixed assets or for projects or for general purposes. The amount of borrowing costs capitalised (directly attributable) during a particular period should not exceed the amount of borrowing costs incurred during that period
Impact of Borrowing Costs on Fixed asset valuation Conditions for capitalisation Expenditure for the acquisition or construction of an asset is being incurred Borrowing costs are being incurred Activities that are necessary to prepare the asset for its intended use are in progress Borrowing costs are capitalised only up to the point the asset is ready for its intended use
Impact of Borrowing Costs on Fixed asset valuation Specific borrowings – actual borrowing costs incurred less any income on the temporary investment on those borrowings. General borrowings – apply capitalisation rate to the expenditure on that asset. Capitalisation rate – weighted average of borrowing cost applicable to the general borrowings that are outstanding during the period Disclosures – accounting policy adopted and amount of borrowing costs capitalised
Cost of fixed assets of a project under constructionShiva Udyog Ltd has established a new project. Details of the fixed assets and the expenditure incurred during the construction of the project are given below. Determine the cost of each asset at the time of completion of the the project, ready for commercial production.Details Amount (Rs)Land 12500000Buildings 25000000Plant and Machinery 207500000Misc. Fixed assets 5000000Pre-operative expenses 15000000Interest on TL during construction 18000000period
Depreciation on Fixed Assets AS – 6: Depreciation Accounting Meaning and Significance Scope and coverage Principles and Norms Disclosure Requirements
Meaning and Significance A measure of the wearing out, consumption or loss of value of a depreciable asset arising from use, effluxion of time or obsolescence through technology and market changes.
Scope and coverage Applies to all depreciable assets except those specified in AS-10 as mentioned under its scope and coverage. Depreciable assets are assets which Are held by the enterprise for use in the production or supply of goods and service, for rental to others, or for administrative purposes and not for the purpose of sale in the ordinary course of business Are expected to be used for more than one accounting period Have limited useful life.
Principles and Norms Determinants of Depreciaiton Historical cost or revalued amount Expected useful life Estimated residual value Methods of Depreciation SLM WDV
SLM – Amit IndustriesDetails Amount (Rs.)Cost of the Machine 5200000Expected useful life 5 yrsConsideration expected on disposal 280000Estimated cost of removal 20000Estimated realisable value 260000Rate of depreciation, annual and accumulated depreciation for all the years asper SLM, disclosure in the balance sheet, accounting policy
WDV Accelerated method Helps to even out the total charges as expense for the use of the asset every year. Amit Industries
Impact of SLM and WDV on profits Total depreciation is same SLM uniform. WDV declining WDV – higher provision in the early years and hence lower profits and lower taxes. On cumulative basis the tax liability will be the same. WDV Gain on account of TVM Gain in case the rates of tax declines in future Better cash flows during initial years
Statutory requirements and compliance Companies Act 1956 (Sec 205 and 350 – schedule XIV to companies act) Income Tax Act (Section 32, Rule 5) Only WDV is recognised Block of assets Full depreciation for the usage of 180 days or more. For less than 180 days, 50% is provided Does not allow shift depreciation on plant and machinery
Rates of depreciation as per IT Act Incentive to Industry, MAT and deferred Tax IT act depreciation is much higher (except triple shift under WDV of companies act) In the early years, the company will enjoy tax advantage MAT Total depreciation is same. Over the useful life of the machine, the company will be paying the same amount of tax presuming there is no change in the tax rates. Tax advantage of early years will give way to a higher tax liability in later years. (deferring tax liability)
Consistency A change from one method to another can be done only: When the statute governing the enterprise requires the adoption of the new method, or To Comply with the requirements of an AS, or When a change is considered to result in a more appropriate preparation or presentation of the financial statements of the enterprise.
Depreciation charge in special cases Exchange Fluctuations Subsequent expenditure – along with the existing asset or independently Revision of useful life
Revaluation of fixed asset and depreciation Amit Industries. In the beginning of the fourth year a valuer appraises the machine to be worth 65 lakhs with an estimated residual value of 3.25 lakhs. How will the change in the valu eof the machine, the changed depreciation and revaluation reserve be disclosed in the balance sheet from the fourth year onwards?