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morePiotr STASZKIEWICZ
statutory auditor, Audit Partner at RSM Poland
As we financiers and accountants know, the use of IFRS[1] in Poland is not popular (yet); solutions included in the Accounting Act prevail, and with respect to recognising and subsequent depreciation of property, plant and equipment, these are also often solutions derived from the Income Tax Act. But what can we do? That is the way it is. And as long as every second or at least every third entity fails to apply IFRS as basic principles for the preparation of the financial statements, there will be no lively, rational discussion on topics related to international standards.
Valuation of fixed assets - different approaches
At present, just the declaration of IFRS application unfortunately does not guarantee a high level of reporting. Even in specialist magazines, which try to offer an insight into the IFRS issues, I have recently found articles, according to which, pursuant to the standard concerning property, plant and equipment (IAS 16), subsequent valuation (the first and every subsequent reporting day) is possible to be carried out in two manners: according to the acquisition price less depreciation and impairment losses (first approach (1), to the presentation of which I have no comments) or according to the revaluation model equivalent to the annual valuation to the fair value of property, plant and equipment (alternative approach (2), with which it is impossible to agree). And now a few words about this approach, i.e. what IAS 16 actually states.
It is true that IAS 16 allows for an alternative approach, the so-called revaluation model (model 2); but it is not true that property, plant and equipment are measured at a fair value subject to annual revaluation, and differences are recognised directly in the income statement. Such approach may be at best applied to an investment property (IAS 40), as discussed in another article. According to IAS 16, for property, plant and equipment, the revaluation model is the determination as at the reporting date of the value of the fixed asset, at market price, and then making depreciation write-offs on that new value (and impairment losses, if any). Changes in the valuation/revaluation are recognised in equity including any possible adjustment by differences between depreciation according to the new value subject to depreciation and depreciation that would have been charged according to model 1.
Depreciation and changes in the valuation of fixed assets according to IAS 16
The following example illustrates this approach: let us assume a fixed asset for a start (period t0) at an initial value (purchase price) of 100 units. According to internal arrangements, the company decided that this asset will bring economic benefits to the company for the period of 10 years, and then it will be sold (the sales price is irrelevant, we exclude the residual value). The company decided to present the fixed asset according to the revaluation model (model 2)[2]; let us assume that at the end of the year t+1, the company has the valuation of this asset (market valuation) at the level of 95 units, at the end of the period t+2 the market value amounted to 92 units, and at the end of the period t+3 80 units.
Therefore:
| Depreciation costs in the income statement in the period t+1: | 10 units |
| Recognition of the increase to the market valuation |
5 units |
| Depreciation costs in the income statement in the period t+2: |
10.6 units[3] (which results in the net value of assets at the level of 84.4 units but the valuation is at the level of 92 units, therefore...) |
| Recognition of the increase in the market valuation (corresponding equity) | 7.6 units |
Attention should be paid to the provisions of IAS 16 that, in my opinion, are not entirely clear[4]. According to them, under equity, in the item retained earnings, the cumulative depreciation can be recognised which would have been achieved if the write-offs had been made according to model 1 (i.e. after 2 years cumulatively there would be 20 units of depreciation); according to the above data, the cumulative depreciation is at the level 10 + 10.6 = 20.6 units. This means that 0.6 units are "transferred" between items in equity (from the item retained earnings to (decrease of) revaluation of property, plant and equipment measured according to the revaluation model.
| Depreciation costs in the income statement in the period t+3: |
11.5 units[5] (which results in the net value of assets at the end of the year at the level of 80.5 units, but the measurement at the end of year t+2 is at the level of 80 units; therefore, there is a write-off at the level of 0.5 units as a decrease (debit entries) of the revaluation capital of property, plant and equipment measured according to the revaluation model. At the same time, 1.5 units are "transferred" between items in equity (from the item retained earnings to (decrease of) revaluation of property, plant and equipment measured according to the revaluation model.0 |
Per balance sheet
Thus, at the end of the year t+3 we achieve the value of property, plant and equipment at the level of 80 units; and in equity, the item revaluation of property, plant and equipment measured according to the revaluation model amounts to 5+7.6-0.6-1.5-0.5 = +10 units; at the same time, in the item retained earnings, accumulated depreciation amounts to the value that would have been achieved had model 1 been applied, i.e. 30 units (such depreciation, after three years, would have been in equities in model 1). Per balance sheet, in equity we have +10-30 = 20 units, i.e. the value by which our property, plant and equipment are lower compared to the purchase price (100-20 = 80 units). Certainly, changes in the service life can be added to the example (change in depreciation rate), as well as the change in the depreciation method (natural, degressive instead of linear) or residual value may be introduced; however, the aim of this article was only to present the effects in the valuation of property, plant and equipment according to the revaluation model.
You can read on other cases related to IFRS erroneously presented in Polish literature or in reports of companies applying IFRS on our blog www.rsmpoland.pl/en/blog.
[1] IFRS are the International Accounting Standards, International Financial Reporting Standards and their interpretations issued by the Standards Board in London.
[2] It should be applied to the entire class of similar property, plant and equipment (e.g. means of transport); an interesting fact may be that, according to IAS 8, the change in the valuation of property, plant and equipment from model 1 to model 2 is not a change that would result in the need to adjust the comparable data, that is the way it should be done, e.g. during the change of the accounting policy in the valuation of inventory consumption from FIFO to weighted average. And the "shift" from the revaluation model (2) to the model of measurement of property, plant and equipment (1) results in the necessity to adjust the comparable data "as if the company had always" measured its property, plant and equipment according to model 1 (purchase price less depreciation and impairment losses).
[3] Calculated as 95 divided by the number of remaining years (9).
[4] IAS 16, par. 41; relevant provisions in the accounting policy are therefore suggested and the consistent application of adopted rules.
[] Calculated as 92 divided by the number of remaining years (8).