LKAS 16 PPE

(IAS 16)

W.A.K.RANDIMA
 List of Learning Outcomes

1. Identify the criteria for recognition of PPE and their measurement at recognition.

2. Describe and distinguish between the cost model and the revaluation model for

measurement of PPE after recognition.

3. Describe the nature and recognition of depreciation.

4. Accounting for disposal of PPE

5. Provide disclosures relevant to PPE.

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What is PPE?

“Tangible items that are held by

an enterprise for use in the
production or supply of goods or
services or for rental to others or
for administrative purposes and
are expected to be used during
more than one period”.
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LKAS 16 does not apply to

1. Property plant and equipment classified as held for sale in accordance with
SLFRS 5

2. Biological assets related to agricultural activity(LKAS 41)

3. The recognition and measurement of exploration and evaluation assets

(SLFRS 6)

4. Mineral rights and mineral reserves such as oil, natural gas and similar non-
regenerative resources.

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Activity 01

• Amal, a property developer, has a following list of assets. He wants to know which of the following
assets can be considered as PPE as per LKAS 16
Applies under
S/N Item Explanation
LKAS 16
1 Property for resale No Treated as inventory under LKAS 2 (Inventories)
Classified under SLFRS 5 (Non-current Assets Held for Sale and
2 Office Building held for sale No Discontinued Operations)
3 Office building Yes Recognized as property, plant, and equipment under LKAS 16
4 Furniture in the office Yes Recognized as property, plant, and equipment under LKAS 16
Trade license for a period of
5 3 Years No Considered an intangible asset under LKAS 38 (Intangible Assets)
Elevator of the office Part of the office building, thus recognized under property, plant,
6 building Yes equipment under LKAS 16
Part of the office building, thus recognized under property, plant ,
7 Parapet wall Yes equipment under LKAS 16
8 Machinery Yes Recognized as property, plant, and equipment under LKAS 16
9 Inventory of stationery No Treated as inventory under LKAS 2 (Inventories)
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 Recognition criteria for PPE

The cost of an item of PPE should be recognized as an asset if, and only if
(Paragraph 7 of LKAS 16) :

• It is probable that future economic benefits associated with the asset will
flow to the enterprise; and

• The cost of the item can be measured reliably.

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Activity 02

• State whether following scenarios give rise to recognize an item of PPE as per LKAS 16
Scenario 1
QL PLC is a hand glove producing company and maintain extra set of hand moulds of 500 units which
is estimated to have a lifetime of over one year, worth of Rs 25,000 in the plant to be used in the
production process whenever a need arise.
Answer
Major spare parts and stand by equipment that are expected to be used for more than one period; falls
under PPE definition and are recognized as per LKAS -16.
Company has large number of moulds which nevertheless are used in more than one accounting
period. The standard suggests that it may be appropriate to aggregate individually insignificant items
and to apply the criteria to the aggregate value.
Therefore QL PIc Can recognized the moulds under PPE and depreciate the aggregate value
together.
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Scenario 2
Air XY is in the Air line industry of which the aircraft interiors such as seats and galleys needs to be
replaced four times during the twenty-year life of the aircraft. The cost of these interior has amounted
to Rs 1,200,000.
Answer

Under paragraph 13, when parts of some PPE require replacement at regular intervals, an entity
recognizes in the carrying amount of an item of property, plant and equipment the cost of replacing
part of such an item when that cost is incurred if the recognition criteria are met as per paragraph 7.
The carrying amount of those parts that are replaced is derecognized in accordance with the
derecognition provisions of this Standard

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Scenario 3
Amal PLC has obtained an Enterprise Resource Planning (ERP) system, an application software for
Rs 3,500,000.
Answer
The question is whether the software could be capitalized under PPE? The answer to this is depends
on determining which element is more significant: the PPE element or the intangible element. The
intangible part is more likely to be an asset in its own right if it was developed separately, or if it can be
used independently of the item of PPE of which it forms a part.
For example, operating software is an integral part of the hardware as without it the hardware cannot
operate. Hence, it could be capitalized as PPE. However, application software is independent of the
hardware. Hence, it is an intangible asset.
In this situation, ERP is an application software where it is independent of the hardware. There for it
doesn't come under PPE.
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Scenario 4
BT Textiles, a garment manufacturer has obtained two new desktop computers for Rs 150,000 and the
operating license has cost Rs 40,000 for two computers.
Answer

The question is whether the software could be capitalized under PPE? The answer to this is depends
on determining which element is more significant: the PPE element or the intangible element. In this
situation, operating system is an integral part of the computer without which it cannot be functioned
properly. Hence, it could be capitalized as PPE.

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Scenario 5
Dex PLC is a chemical manufacturer who has done a plant enhancement for Rs1,500,000 to install
certain new chemical handling processes in order to comply with environmental requirements on the
production and storage of dangerous chemicals.
Answer
As per paragraph 11, Items of property, plant and equipment may be acquired for safety or
environmental reasons. The acquisition of such property, plant and equipment, although not directly
increasing the future economic benefits of any particular existing item of property, plant and
equipment, may be necessary for an entity to obtain the future economic benefits from its other
assets. Such items of property, plant and equipment qualify for recognition as assets because they
enable an entity to derive future economic benefits from related assets in excess of what could be
derived had those items not been acquired.

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 Components of cost

• The standard lists the components of the cost of an item of property, plant and
equipment.
• Purchase price, less any trade discount
• Import duties and non-refundable purchase taxes
• Directly attributable costs of bringing the asset to working condition for its
intended use, eg:

– The cost of site preparation

– Initial delivery and handling costs
– Installation costs
– Testing
– Professional fees (architects, engineers)
• Initial estimate of the unavoidable cost of dismantling and removing the asset and
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restoring the site on which it is located.
Cost cannot be included in determining the cost of PPE

 Costs of opening a new facility

 Costs of introducing a new product or service, including costs of
advertising and promotional activities.
 Costs of conducting business in a new location or with a new class
of customer (including costs of staff training)
 Administration and other general overhead costs.
 Costs 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 losses, such as those incurred while demand for
the item's output builds up.
 Costs of relocating or reorganizing part or all of the entity's
operations.
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Activity 03

AD PLC ceremoniously opened its new factory building recently. In order to acquire the land in which the new factory is
located, company issued 10,000 ordinary shares at Rs.250. each. Company used its own funds to complete the factory
building. The costs incurred are as follows;
Cost of site preparation 300,000.00
Cost for architecture 150,000.00
Cost of construction materials 1,760,000.00
Cost of labour 540,000.00
Overheads relating to the construction of factory building 310,000.00
Administration costs 128,500.00
Cost of consultant fees 125,000.00
Cost of Engineer fees 350,000.00
Cost of installing fire extinguishers under safety regulations 88,000.00
Additional costs incurred for waste management practices to comply with environmental regulations 102,000.00
General overheads 50,000.00
Initial estimation of present value of dismantling cost 125,000.00
Cost of opening ceremony 180,000.00
Total cost incurred 4,208,500.00

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Required:
Determine the recognition cost relating to Land & Factory Building
Answer

Cost of land = Rs 250 x 10,000 Shares = Rs 2,500,000

Cost of site preparation 300,000.00 300,000.00
Cost for architecture 150,000.00 150,000.00
Cost of construction materials 1,760,000.00 1,760,000.00
Cost of labour 540,000.00 540,000.00
Overheads relating to the construction of factory building 310,000.00 310,000.00
Administration costs 128,500.00 -
Cost of consultant fees 125,000.00 125,000.00
Cost of Engineer fees 350,000.00 350,000.00
Cost of installing fire extinguishers under safety regulations 88,000.00 88,000.00
Additional costs incurred for waste management practices to comply with environmental regulations 102,000.00 102,000.00
General overheads 50,000.00 -
Initial estimation of present value of dismantling cost 125,000.00 125,000.00
Cost of opening ceremony 180,000.00 -
Total cost incurred for Building 3,850,000.00
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Activity 04

The following information was extracted from Ernesto Ltd. The company has imported a machinery and the
following cost s were incurred.
1. Supplier's price with insurance and freight charges is Rs 1,500,000
2. Import duty and other unrecoverable taxes Rs 600,000
3. Clearing charges Rs 40,000
4. Trade discount of 5% was given on marked price
5. The machinery was obtained to settle within 03 months and Rs 25,000 was given as a discount due to settling within a month.
6. Payment of technical service on electricity supply Rs 60,000
7. Payment of material on electricity supply Rs 45,000
8. Loading and unloading charges Rs 35,000
9. Before importing the machinery, a professional engineer has tested and Rs 120,000 was paid as professional fee.
10. Testing production has been done whether the machinery is run properly and cost of Rs 100 per unit was incurred. 1000 Units
were made during the testing run
11. Produced units were sold at Rs 80 per unit 16
12. Life time of the asset was estimated as 5 years. It is estimated that Rs 100,000 will be required after the life time of asset to
remove it. Discount rate is 10% per annum.
13. Electrical equipment was burnt due to erroneously fixing the electricity supply. cost of replacement was Rs80,000.
14. Purchase order was raised by procurement department to purchase this machine. Monthly salary of the procurement
department is Rs 220,000.
Calculate the cost of the machinery as per LKAS 16

Supplier's price with insurance and fright charges 1,500,000.00

Less Trade discount = 1,500,000 x 5 % (75,000.00)
Import duty and other unrecoverable taxes 600,000.00
Clearing charges 40,000.00
Payment of supply of electricity, technical services (45,000+60,000) 105,000.00
Loading and unloading charges 35,000.00
Professional charges 120,000.00
Payment on testing run 100,000.00
Less: Sales value on production done in test run (100*80) (80,000.00)
Present value of removal of machinery after life time =100,000/(1+0.1)^5 62,092.13 17
cost of the machinery 2,407,092.13
Measurement after initial Recognition

• Cost Model
• Revaluation Model

The class of property Plant and equipment is a grouping of similar nature and use in entity’s
operations.

As per paragraph 37, followings are some examples for separate class of PPE.
• Land
• Land and building
• Machinery
• Bearer plant
• Ships
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Cost model after Recognition as an Assets (parh
30)

• PPE should be carried its cost less accumulated depreciation any accumulated impairment losses.

Carrying Value = Cost - accumulated depreciation - accumulated impairment losses

Deprecation of PPE
• Depreciation represents the recognition of the decrease in the service potential of an asset
across time.
• Depreciation is defined as the systematic allocation of the depreciable amount of an asset
over its useful life.

Depreciable Amount = Cost - Residual Value

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Useful life of an Asset
• The useful life of an asset is defined in terms of Asset expected utility of the business not in
the terms of economic life.
• Useful life of an asset may be shorter than its economic life .

Factors to be considered in determining the useful life of an asset as per LKAS 16

 Expected usage of the asset
 Expected physical wear and tear
 Technical or commercial obsolescence arising from change or improvements in production,
or from a change in market demand for the product or service output of the asset
 Legal and similar limits on the use of the asset , such as the expiry date of related leases.

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Depreciation Methods

An organization uses depreciation method to reflect the pattern of which the asset’s future
economic benefits being consumed by the organization.

-Straight-line method
results in a constant charge over the useful life if the asset's residual value does not change.
-Diminishing balance method
results in a decreasing charge over the useful life
-Unit of production method
charge based on the expected use or output.

LKAS 16 does not prescribe a particular depreciation method and instead states that the
depreciation method used should reflect the pattern in which the asset's future economic 21

benefits are expected to be consumed by the entity.

Depreciation of an asset
Begins when it is available for use,
When it 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 of the date that the asset is classified as held for sale (or included in a disposal
group that is classified as held for sale) in accordance with SLFRS 5, and the date that the
asset is derecognized.
Depreciation does not cease when the asset becomes idle or is retired from active use
unless the asset is fully depreciated.
Depreciation of an asset is recognized even if the fair value of the asset exceeds its carrying
amount, as long as its residual value does not exceed its carrying amount.
Carring Residual
Fair value Depreciate?
amount amount
1,000 500 800 yes
1,000 500 1,200 yes 22
1,000 1,200 1,500 NO
• The residual value and the useful life of an asset should be reviewed at least at each
financial year-end.
• If these estimates are changed, the changes should be accounted as a change in an
accounting estimate in accordance with LKAS 8.

Is depreciation always an expense?

The depreciation charge for each period is recognized in profit or loss unless it is included in
the carrying amount of another asset.

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Activity 05

Tara Ltd commenced its business on 1st April 2017. Cost, residual values and fair values of PPE are given below (Rs.'000).
cost Residual value FV at 31.3.2018

Land 2000 - 4000

Building 2500 500 2400
Machinery 3000 1000 2500
Factory Equipment 2200 700 2000
Office Equipment S 500 200 500
Machinery is expected to produce 1,500,000 units and during the period, the company has produced 300,000 units. The expected
useful life of the machine is 4 years. The factory equipment are used for the production department and the technology associated
with them are expected to upgrade often. The useful life of the equipment are estimated to be 3 years. The expected useful life of
the building and office equipment are 20 years and 5 years respectively. Both the building and office equipment are expected to be
use evenly during its useful life .
Required
I. Advice management in determining the appropriate depreciation method for each category of PPE.
II. Calculate depreciation for the year ending 31 March 2018 and carrying amount of PPE as at 31st March 2018 .

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Answer

Depreciation Methods cost Residual value Useful life Calculation Depreciation

Land - 2000 -
Building Straight-line method 2500 500 20 "=(2500-500)/20" 100
Machinery Unit of production method 3000 1000 4 "=(3000-1000)/1500*300 400
Factory Equipment Diminishing balance method 2200 700 3 "=2200*32% 698.08
Office Equipment S Straight-line method 500 200 5 "=(500-200)/5 60
Diminishing Rate=1-(Residual Value/cost)^(1/n)

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 Component Depreciation

 An entity can allocate the amount initially recognized in

respect of an item of PPE to its significant parts and
depreciates separately each such part.

 That is, if an asset comprises two or more major components

with different economic lives, then each component should be
accounted for separately for depreciation purposes and
depreciated over its own useful economic life.

 Professional judgment is required to decide which parts are

significant and which parts are not of an item of Property,
Plant and Equipment.

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Activity 06

Blue Sky Aviation PLC purchased an aircraft on 1st April 2017 at a cost of Rs.650 million. The following information relates to the
aircraft.

Cost (Rs. Mn) Cost Useful Life Residual Value (Rs. Mn)
Air frame 200 10 20
Engines 290 7 10
Other parts 160 5 8
650

Calculate the depreciation charge of the aircraft for the year ending 31st March 2018.

Cost (Rs. Mn) Cost Useful Life Residual Value (Rs. Mn) Depreciation
Air frame 200 10 20 18
Engines 290 7 10 40
Other parts 160 5 8 30.4
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 Revaluation of PPE

• After recognition as an item of PPE, whose fair value can be measured reliably,

should be carried out at its revalued amount (fair value at the date of

revaluation) less any subsequent accumulated depreciation and any

subsequent accumulated impairment losses.

Subsequent Subsequent
Carring Value = Revalued Amount - Accumulated - Impairment
Depreciatio Losses

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Revaluation of PPE (Cont'd)

• The fair value of land and buildings is usually determined from market-based evidence by appraisal that is normally
undertaken by a professionally qualified valuer.

• The fair values of other items of PPE are usually their market values determined by appraisal.

• When there is no market for an asset, its fair value is determined based on income or depreciated replacement cost
approach.

When an asset is revaluated, its accumulated depreciation at the date of revaluation should be treated in one of the
following methods.
 Eliminate against gross carrying amount of assets. (When assets are revalued at market value)
 Restate proportionately with the change in the gross carrying amount of assets. (When assets are revalued at
depreciated replacement cost)

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Activity 07
The following balances are given as at 1.04.2018

Machine (Rs.) 2,300,000

Accumulated depreciation (Rs.) 900,000
This machine was revalued on 01.04.2018 at Rs1,500,000 based on its market value for the
first time.

State the journal entries to account for revaluation.

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 Answer
Step 01 Step 02
Machinery Machinery
Bal 2300 Rev 800
Bal 2300 Cum 900
Re.surplus 100 Bal C/d 1500
2400 2400
Bal C/d 1500
2400 2400 Accumulated Depreciation
Reval 900 Bal 900

Accumulated Depreciation
900 900
Machi 900 Bal 900
Revaluation
Machi 800 Acc/Dep 900
R/reseve 100
900 900
900 900
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Activity 08
The following balances are given as at 1.04.2018

Cost (Rs.) Accumulated depreciation(Rs.)

Building 2,000,000 400,000

It was decided to revalue this building on 01.04.2017. However, there was no active market for the
building. Nevertheless, the fair value of the building was estimated at Rs.1,800,000 using depreciated
replacement cost method.
State the journal entries to account for revaluation
State how the relevant figures to be shown in the financial statements

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 Answer
Cost Acc Dep CV
Before Rev 2000 400 1600
After Rev "2000*1.125=2250 "400*1.125=450 1800

"1800/1600" = 1.125
Step 01 Step 02
Building
Bal 2000 Building
Rev 250 Bal 2000
Bal C/d 2250
2250 2250
Re.reserva 200
Acc.Dep 50 Bal C/d 2250
Accumulated Depreciation 2250 2250
Bal 400
Rev 50
Bal C/d 450 Accumulated Depreciation
450 450
Bal C/d 400
Revaluation Building 50
Acc/Dep 50 Building 250 Bal C/d 450
R/reseve 200
450 450 33
250 250
 Revaluation of Assets Under LKAS 16
Cost of Asset (Carring Amount) Rs.500,000

Frist Time
R.s 400,000 R.s 650,000

Asset Dr 150,000
P & L Dr 100,000 OCI Cr 150,000
Asset Cr 100,000 OCI Dr 150,000
Revaluation Reserve Cr 150,000

R.s 370,000 R.s 520,000 R.s 460,000 R.s 750,000

Asset Dr 120,000 OCI [Reval.Res] Dr 150,000

Asset Dr 100,000
P&L Cr 100,000 P&L Dr 40,000
OCI Cr 100,000
P &L Dr 30,000 OCI Cr 20,000 Asset Cr 190,000
o
Asset Cr 30,00 o o
OCI Dr 100,000
OCI Dr 20,000 Revaluation Reserve Dr 150,000
Revaluation Reserve Cr 100,000
Revaluation Reserve Cr 20,000 OCI Cr 150,000

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Disclosures
The financial statements shall disclose, for each class of property, plant and
equipment:
a) the measurement bases used for determining the gross carrying amount;
b) the depreciation methods used;
c) the useful lives or the depreciation rates used
d) the gross carrying amount and the accumulated depreciation (aggregated with
accumulated impairment losses) at the beginning and end of the period
e) a reconciliation of the carrying amount at the beginning and end of the period
f) Existence and amounts of restrictions on title, and property, plant and equipment pledged
as security for liabilities;

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f) Existence and amounts of restrictions on title, and property, plant and equipment pledged as
security for liabilities;
 the amount of expenditures recognized in the carrying amount of an item of PPE in the course of its construction;

 the amount of contractual commitments for the acquisition of property, plant and equipment

 if it is not disclosed separately in the statement of comprehensive income, the amount of compensation from third

parties for items of property, plant and equipment that were impaired, lost or given up that is included in profit or loss.

g. If PPE are stated at revalued amounts, the following information should also be disclosed
 The effective date of the valuation

 Whether an independent valuer was involved

 Methods and significant assumptions used in assessing fair values

 The extent to which fair values were measured by reference to observable prices in an active market, recent
market transactions on an arm's-length basis, or were estimated using other techniques
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Thank you

Phone
O78-6010833
Email
associate1@auxiliume.com