Workbook on IAS 16 Property plant and equipment

IAS 16 Property, Plant and Equipment - Student Handout

📋 Overview

IAS 16 is the International Accounting Standard that governs how companies account for Property, Plant and Equipment (PPE).

Key Facts:

• First issued: 1982, reissued in 2003
• Effective date: January 1, 2005
• Applies to: Tangible assets used in business operations

🎯 Objective of IAS 16

Main Goal: To prescribe the accounting treatment for property, plant and equipment so users can understand:

• The investment in PPE
• Changes in PPE during the period

Key Issues Addressed:

1. When to recognize assets
2. How to measure their value
3. How to calculate depreciation charges
4. How to handle impairment losses

🔍 Scope - What's Included and Excluded

✅ INCLUDED in IAS 16:

• Land and Buildings (factories, offices)
• Machinery and Equipment
• Vehicles (cars, trucks, aircraft)
• Furniture and Fixtures
• Computer Hardware
• Bearer Plants (trees that produce fruit for multiple years)

❌ EXCLUDED from IAS 16:

• Investment Property → IAS 40
• Biological Assets (livestock, crops) → IAS 41
• Assets Held for Sale → IFRS 5
• Intangible Assets → IAS 38
• Mineral Rights (oil, gas reserves)

🚪 Recognition Criteria - When to Record PPE

Record PPE as an asset when BOTH conditions are met:

1. Future Economic Benefits

• Probable that benefits will flow to the entity
• Asset will generate revenue or reduce costs

2. Reliable Measurement

• Cost can be measured reliably
• Have supporting documentation

📝 Recognition Examples

💰 Initial Measurement - What Costs to Include

Rule: PPE is initially measured at COST

Components of Cost:

✅ INCLUDE:

• Purchase price (less trade discounts)
• Import duties and taxes (non-refundable)
• Delivery and handling costs
• Installation costs
• Professional fees (legal, architectural)
• Site preparation costs
• Testing costs (making asset ready for use)
• Dismantling costs (estimated future costs)

❌ EXCLUDE:

• Opening costs (grand opening party)
• Staff training costs
• Operating losses before full capacity
• General administration costs
• Feasibility study costs

📝 Initial Cost Calculation Examples

📊 Subsequent Measurement - Two Models

After initial recognition, choose ONE model for each class of assets:

Model 1: COST MODEL

Formula: Cost - Accumulated Depreciation - Impairment

Advantages:

• Simple to apply
• No revaluation costs
• More conservative

Model 2: REVALUATION MODEL

Formula: Fair Value - Accumulated Depreciation - Impairment

Requirements:

• Regular revaluations needed
• Fair value must be reliably measurable
• Must revalue entire class (not individual assets)

📝 Revaluation Examples

📉 Depreciation - Key Concepts

What is Depreciation?

Systematic allocation of an asset's cost over its useful life.

Depreciation Formula:

Annual Depreciation = (Cost - Residual Value) ÷ Useful Life

When Does Depreciation Start/Stop?

• Starts: When asset is available for use
• Stops: When asset is disposed of or fully depreciated

📝 Depreciation Calculation Examples

Depreciation Methods Comparison:

📝 Different Methods Applied to Same Asset

Asset: Machinery costing $100,000, Residual value: $10,000, Life: 3 years

*Adjusted to reach residual value **Based on actual units produced: 40%, 30%, 30%

🔧 Component Accounting

Rule: If parts of an asset have different useful lives, depreciate them separately.

📝 Component Accounting Examples

💔 Impairment and Disposal

Impairment

When carrying amount > recoverable amount

Recoverable Amount = Higher of:

• Fair value less costs to sell
• Value in use

Disposal

Remove asset when sold or no future benefits expected

Gain/Loss on Disposal:

Proceeds - Carrying Amount = Gain or Loss

📝 Disposal Examples

📋 Key Disclosures Required

For each class of PPE, disclose:

1. Measurement basis (cost or revaluation)
2. Depreciation methods used
3. Useful lives or depreciation rates
4. Gross carrying amounts and accumulated depreciation
5. Reconciliation of opening to closing balances

🚨 Common Student Mistakes to Avoid

1. Including training costs in asset cost
2. Starting depreciation before asset is ready for use
3. Forgetting residual value in depreciation calculations
4. Mixing cost and revaluation models for same asset class
5. Not separating land and buildings (land is not depreciated)

📝 Practice Questions

Question 1: Initial Cost Calculation

A company purchases machinery for $80,000. Additional costs incurred:

• Shipping costs: $2,000
• Installation costs: $5,000
• Staff training costs: $3,000
• Testing costs to ensure proper functioning: $1,000

What is the initial cost of the machinery that should be capitalized?

Question 2: Straight-Line Depreciation

A company purchased equipment for $120,000. The equipment has a useful life of 8 years and an estimated residual value of $8,000.

Calculate the annual straight-line depreciation expense.

Question 3: Component Accounting

A company constructs a building for $2,000,000 with the following components:

• Building structure: $1,600,000 (estimated useful life: 40 years)
• Air conditioning system: $400,000 (estimated useful life: 10 years)

What is the total annual depreciation expense using component accounting?

📝 Practice Question Solutions

💡 Key Takeaways

1. Recognition: Future benefits + Reliable measurement
2. Initial Cost: All costs to get asset ready for use
3. Two Models: Cost model (most common) vs Revaluation model
4. Depreciation: Systematic allocation over useful life
5. Component Approach: Separate significant parts with different lives
6. Impairment: Test when indicators present
7. Disclosure: Comprehensive information required

Remember: IAS 16 ensures that PPE is properly recognized, measured, and disclosed to provide useful information to financial statement users about an entity's investment in its productive assets.