Subsequent Measurement: Property, Plant and Equipment

PROPERTY, PLANT, and EQUIPMENT SUBSEQUENT MEASUREMENT: either COST MODEL or REVALUATION MODEL Fair Value @ Revaluation date REVALUATION MODEL Sound Value (if Fair Value is not available) COST MODEL Example: PHYSICAL DEPRECIATION Depreciation A decline in the ability of fixed asset to provide service. NOTE! Depreciation does not affect cash flows of a business; however, depreciation expense is subtracted in determining net income. Occurs from wear and tear while the asset is in use and action of the weather. FUNCTIONAL DEPRECIATION Occurs when fixed asset is no longer able to provide service at the level for which it was intended. For example, a computer I 1980s would not be able to provide internet connection. Start depreciating when: DEPRECIATION PERIOD Asset is available for use. PPE is derecognized. Stop depreciating when: PPE becomes available for sale. Whichever is Earlier NOTE! Depreciation does not cease when the asset becomes idle or not actively used. Depreciation The cost of PPE is gradually reduced each period through “depreciation”, an expense account, in a systematic manner during the useful life. Depreciable Amount FACTORS IN COMPUTING Expected Useful life Residual Value Is the amount that is spread over the asset’s useful life as depreciation expense. The period of time which an asset is expected to be used. Is the estimated value of fixed asset at the end of its useful life. DEPRECIATION METHOD Straight-line method Fixed Charge Method Composite method also known as Uniform Method These methods are function of time which means Depreciation is caused by passage of time. Annual Straight-line depreciation divided by total cost is the formula for “Composite rate”. Composite method applies to dissimilar items of Property, plant, and equipment. Group method Annual Straight-line depreciation divided by total cost is also the formula for “Group rate”. Group method applies to similar items of Property, plant, and equipment. NOTE! In Composite / Group method, there is no gain or loss on disposal of PPE. Working hours method Variable Charge Method Depreciable amount divided by Total Estimated service hours is known as “Depreciation rate per hour”. also known as Use-factor method These methods are function of usage which means Depreciation is related to the estimated production capability. When the asset is not used during the period, no depreciation is recognized. Unit of production method This method is also known as Output method Depreciable amount divided by Total Estimated units of output is known as “Depreciation rate per output”. DEPRECIATION METHOD Sum-of-the-years-digits (SYD) method Accelerated Method also known as Decreasing charge method When the calculation of the depreciation expense is higher in early years and lower depreciation in the later years of the life of the asset. It means that the asset is capable of producing more revenue in early years than later years. NOTE! Declining Balance method Also known as “Percentage on diminishing carrying amount method” When Declining balance method is used, the estimated residual value is not considered in determining the Depreciation rate. However, the asset should not be depreciated below the residual value. Diminishing Value Initially, during the first year the diminishing value is the cost of the asset. Subsequent years’ diminishing value is the Carrying Amount Double declining balance method (200%) 150% declining balance method DEPRECIATION METHOD Replacement Method No depreciation is recorded until the asset is replaced. Other methods of depreciating Tools Disposed X Cost of latest purchase Retirement Method No depreciation is recorded until the asset is retired. Tools Disposed X Cost of earlier purchase Inventory Method Depreciation is computed after actual physical count. Expensed 1. Ordinary repairs of PPE. 2. If cost incurred did not improve the asset. 3. Cost that benefits only the current period. SUBSEQUENT EXPENSES Costs after initial recognition of PPE Capitalized as cost of PPE 1. If cost incurred improved the asset. 2. Cost that provides benefit over more than one accounting period. 3. Major repair expenses or extraordinary repairs. Extended the useful life of the asset. Improve quality of output. Lower operating cost Production of more units (Efficiency) Addition of floors to a building REVALUATION MODEL PRIORITY 1: Fair Value @ Revaluation date Also known as PRIORITY 2: Sound Value (if Fair Value is not available) Depreciated Replacement Cost Significant change in Fair Value Revaluation is required if Fair Value differs materially from the current Carrying Amount of Property, Plant, and Equipment. Annual Revaluation Insignificant change in Fair Value Revaluation is not necessary if the change in Fair Value is immaterial or insignificant. Revaluation every 3 to 5 years Either revaluation is necessary or not, Revaluation applies to ENTIRE CLASS OF PPE. Proportional Method also known as Depreciated replacement cost basis. The difference is known as REVALUATION SURPLUS NOTE! Revaluation Surplus can be transferred to the Retained Earnings either Lumpsum (one-time) or Piecemeal (installment). Depreciable PPE Revaluation Surplus can be transferred one-time to Retained Earnings, however Non-depreciable PPE, such as Land, cannot be transferred to Retained Earnings in a piecemeal method. The accumulated depreciation @ the date of revaluation is restated proportionately with the change in gross Carrying amount of the asset. Elimination Method the accumulated depreciation is eliminated against the gross Carrying amount of the asset and the net amount is restated to revalued amount. ILLUSTRATION: Solution: Original cost of the machine and accumulated Depreciation is given, however the accumulated depreciation under the replacement cost is not. Therefore, to compute this, using the Proportional Method, compute the percentage of the original accumulated depreciation by dividing 200,000 by 2,000,000 to get the 10% rate. Now that we know the proportion of the original accumulated depreciation, the 10% will serve as the New accumulated depreciation of the Fair Value 3,500,000. Thus, the new accumulated depreciation is 350,000 computed as (3,500,000 x 10%). The difference between 3,150,000 and 1,800,000 is the Revaluation Surplus on January 01, 2024.