Non-current Assets: Learn how to account for non-current assets, including property, plant, and equipment.
Accounting for non-current assets, particularly property, plant, and equipment (PPE), is a significant aspect of financial reporting and analysis. These assets are vital for the long-term operations of a business. Here’s a detailed guide on how to account for them:
Identification and Classification
Non-Current Assets
These are assets that a company does not expect to convert into cash within one year of the balance sheet date. They are also known as long-term assets.
Property, Plant, and Equipment (PPE):
This category includes tangible assets such as land, buildings, machinery, vehicles, furniture, and fixtures that are used in the operation of a business and have a useful life of more than one year.
Initial Recognition
Purchase Price
The asset is initially recorded at its cost, including the purchase price and any other costs necessary to bring the asset to its intended use, such as installation, transportation, and legal fees.
Self-Constructed Assets
When a company constructs an asset for its own use, the cost includes material, labor, and an appropriate share of overheads.
Valuation after Initial Recognition
Cost Model:
Under this model, the asset is carried at its cost less any accumulated depreciation and impairment losses.
Revaluation Model:
This model allows assets to be carried at a revalued amount, which is their fair value at the date of revaluation less subsequent depreciation and impairment. Revaluations should be made regularly so that the carrying amount does not differ materially from that which would be determined using fair value at the balance sheet date.
Depreciation Method:
The cost of the asset (less its residual value) should be allocated over its useful life. Common methods include straight-line, declining balance, and units of production.
– **Useful Life and Residual Value**: These are estimated based on the expected utility of the asset. They should be reviewed at least annually and adjusted if expectations differ from previous estimates.
Impairment
If there is an indication that an asset may be impaired (its carrying amount exceeds the recoverable amount), an impairment test is required.
Recoverable Amount:
The higher of an asset’s fair value less costs to sell and its value in use.
Impairment Loss:
If the recoverable amount is less than the carrying amount, the difference is recognized as an impairment loss.
Disposal or Retirement
When an asset is disposed of or permanently withdrawn from use, it should be derecognized.
Gain or Loss on Disposal:
This is calculated as the difference between the net disposal proceeds and the carrying amount of the asset.
Disclosure
Financial Statements:
The nature and the carrying amount of PPE should be disclosed, including the movement in their carrying amount during the period, the depreciation methods used, the useful lives or depreciation rates, and details of assets held under lease.
Special Considerations
Leased Assets:
Leases that transfer substantially all the risks and rewards of ownership are classified as finance leases and recognized as assets.
Component Approach:
Significant parts of an item of PPE with different useful lives should be accounted for as separate items.
International Accounting Standards (IAS) and Generally Accepted Accounting Principles (GAAP) Different accounting frameworks (such as IAS and GAAP) have specific guidelines and standards for PPE. It’s important to comply with the applicable standards in your jurisdiction.
Conclusion
Accounting for non-current assets like PPE requires a comprehensive understanding of various accounting principles and standards. It involves initial recognition, valuation, depreciation, impairment testing, and eventually, derecognition. These processes ensure that the financial statements accurately reflect the value and condition of a company’s long-term assets.