Malacasta, Rodelia M.

BSA3B

Definition, Recognition and Measurement of Property, Plant and Equipment

Property, plant and equipment are tangible assets that are held for use in 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.

Accordingly, the major characteristics in the definition of property, plant and equipment are:

• Tangible assets – items of PPE have physical substance

• Used in normal operations – items of PPE are used in the production or supply of goods or services, for
rental, or for administrative purposes
• Long-term in nature – items of PPE are expected to be used from more than a year

Examples of Items of PPE

1. Land used in business

2. Land held for future plant site
3. Building used in business
4. Equipment used in the production of goods
5. Equipment held for environmental and safety reasons
6. Equipment held for rentals
7. Major spare parts and long-lived stand-by equipment
8. Furniture and fixture
9. Bearer plants

Recognition of PPE

The cost of an item of property, plant and equipment shall be recognized as an asset only if:

• 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.

Initial Measurement
An item of PPE that qualifies for recognition as an asset shall be measured at cost. 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.

Elements of Costs

1. Purchase price, including non-refundable purchase taxes, after deducting trade discounts and rebates.
2. Costs directly attributable to bringing the asset to the location and condition necessary for it to be
capable of operating in the manner intended by the management.
3. Present value of decommissioning and restoration costs to the extent that they are recognized as
obligation
Directly Attributable Costs

Examples of directly attributable costs that qualify for recognition are:

• Costs of employee benefits arising directly from the construction or acquisition of PPE;
• Costs of site preparation;
• Initial delivery and handling costs (e.g., freight costs);
• Installation and assembly costs;
• Testing costs, net of disposal proceeds of samples generated during testing; and
• Professional fees.

Cost Not Qualifying for Recognition

Examples of costs that are expensed rather than recognized as element of cost of property, plant and
equipment are:

• Cost of opening a new facility

• Cost of introducing a new product or services, including cost of advertising and promotion
• Cost of conducting business in a new location or with a new class of customer, including cost of staff
training
• Administration and other general overhead cost
• Cost incurred while an item capable of operating in the manner intended by management has yet to
be brought into use or is operated at less than full capacity
• Initial operating loss
• Cost of relocating or reorganizing part or all of an entity's operations

Cessation of Capitalizing Costs to PPE

Recognition of costs in the carrying amount of an item of PPE ceases when the item is in the location
and condition necessary for it to be capable of operating in the manner intended by management.

Measurement of Cost

The cost of an item of PPE is the cash price equivalent at the recognition date. If payment is deferred
beyond normal credit terms, the difference between the cash price equivalent and the total payment is
recognized as interest over the period of credit unless such interest is capitalized in accordance with PAS
23 Borrowing Costs.

Acquisition Through Issuance of Share Capital

Philippine GAAP provides that if share are issued for consideration other than actual cash, the proceeds
shall be measured by the fair value of the consideration received. Accordingly, where a property is
acquired through the issuance of share capital, the property shall be measured at an amount equal to
the following in the order of priority:

1. Fair value of the property received

2. Fair value of the share capital
3. Par value or stated value of the share capital

Acquisition Through Issuance of Bonds Payable

Provides that asset acquired by issuing bonds payable is measured in the following order:

1. Fair value of bonds payable

2. Fair value of asset received
3. Face amount of bonds payable

Acquisition Through Exchange

If the exchange has commercial substance, the asset received from the exchange is measured using the
following order of priority:

1. Fair value of asset Given up

2. Fair value of asset Received
3. Carrying amount of asset Given up

If the exchange lacks commercial substance, the asset received from the exchange is measured at the
carrying amount of asset given up. Commercial substance is a new notion and is defined as the event or
transaction causing the cash flows of the entity to change significantly by reason of the exchange.

Construction

The cost of self-constructed asset is determined using the same principles as for an acquired asset and
usually includes:

• Direct cost of materials

• Direct cost of labor
• Indirect cost and incremental overhead specifically identifiable or traceable to the construction

The cost of abnormal amount of wasted material, labor or overhead incurred in the production of self-
constructed asset is not included in the cost of the asset.

Subsequent Measurement and Derecognition of PPE

Subsequent to initial recognition, an entity shall choose either:

1. the cost model

2. the revaluation model

as its accounting policy and shall apply that policy to an entire class of PPE.

Cost Model
After recognition, an item of PPE is measured at its cost less any accumulated depreciation and any
accumulated impairment losses.
Depreciation
Depreciation is the systematic allocation of the depreciable amount of an asset over its estimated useful
life. When computing for depreciation, each part of an item of PPE with a cost that is significant in
relation to the total cost of the item shall be depreciated separately.

Depreciation begins when the asset is available for use, i.e., when it is in the location and condition
necessary for it to be capable of operating in the manner intended by management. Depreciation ceases
when the asset is derecognized or when it is classified as “held for sale” under PFRS 5, whichever comes
earlier.

Selection of Depreciation Method

There are various methods of depreciation. The entity shall select the method that most closely reflects
the expected pattern of consumption of the future economic benefits embodied in the asset. However,
a depreciation method that is based on revenue that is generated by an activity that includes the use of
an asset is not appropriate.

• Straight-line method - depreciation is recognized evenly over the life of the asset by dividing the
depreciable amount by the estimated useful life.
Depreciation = (Historical cost – Residual value) ÷ Estimated useful life

• Production method - assumes that depreciation is more a function of use rather than passage of time.
The useful life of the asset is considered in terms of the output it produces or the number of hours it
works. Thus, depreciation is related to the estimated production capability of the asset and is expressed
in a rate per unit of output or per hour of use.
• Diminishing balance or accelerated methods - provide higher depreciation in the earlier year and
lower depreciation in the later years of the useful life of the asset. Thus, these methods result in a
decreasing depreciation charge over the useful life. It is based on the philosophy that new assets are
generally capable of producing more revenue in the earlier years than in the later years.

Changes in depreciation method, useful life, and residual value

A change in depreciation method, useful life, or residual value is a change in accounting estimate
accounted for prospectively. Prospective accounting means the change affects only the current period
and/or future periods. The change does not affect past periods.

Revaluation Model
After recognition as an asset, an item of PPE whose fair value can be measured reliably shall be carried
at a revalued amount, being its fair value at the date of the revaluation less any subsequent
accumulated depreciation and subsequent accumulated impairment losses.

Revaluation surplus
Fair value* xx
Less: Carrying amount (xx)
Revaluation surplus – gross of tax xx

*The fair value is determined using an appropriate valuation technique, taking into account the
principles set forth under PFRS 13.
Frequency of Revaluation
For items with significant and volatile changes in fair value, annual revaluation is necessary. For items
with insignificant changes in fair value, revaluation may be made every 3 or 5 years.

Revaluation applied to all assets in a class

If an item of PPE is revalued, the entire class of PPE to which that asset belongs shall be revalued. The
items within a class of PPE are revalued simultaneously to avoid selective revaluation of assets and the
reporting of amounts in the financial statements that are a mixture of costs and values as at different
dates.

Subsequent accounting for revaluation surplus

Revaluation is initially recognized in other comprehensive income unless the revaluation represents
impairment loss or reversal of impairment loss, in which case it is recognized in profit or loss.
Subsequently, the revaluation surplus is accounted for as follows:

1.If the revalued asset is non-depreciable, the revaluation surplus accumulated in equity is transferred
directly to retained earnings when the asset is derecognized.
2.If the revalued asset is depreciable, a portion of the revaluation surplus may be transferred
periodically to retained earnings as the asset is being used.

Derecognition

The carrying amount of an item or PPE shall be derecognized:

• on disposal; or
• when no future economic benefits are expected from its use or disposal