SIC-14, or “Property, Plant and Equipment – Compensation for the Impairment or Loss of Items,” is a standard issued by the International Accounting Standards Committee (IASC) that provides guidance on how to account for compensation received for the impairment or loss of property, plant, and equipment (PP&E.
Definitions:
Property, Plant, and Equipment (PP&E):
PP&E refers to tangible assets that are used in the production or supply of goods or services, for rental to others, or for administrative purposes. Examples of PP&E include land, buildings, machinery, vehicles, and furniture.
Compensation:
Compensation refers to the amount received from a third party as a result of the impairment or loss of PP&E. It can be in the form of cash, replacement assets, or other forms of consideration.
Explanations:
SIC-14 provides guidance on how to account for compensation received for the impairment or loss of PP&E. When a company’s PP&E is impaired or lost due to events such as damage, destruction, theft, or expropriation, the company may receive compensation from insurance proceeds, proceeds from legal actions, or other sources. SIC-14 provides guidance on how to recognize and measure such compensation in the financial statements.
According to SIC-14, compensation for the impairment or loss of PP&E should be recognized as income in the financial statements when it becomes virtually certain that the compensation will be received and the amount can be measured reliably. Virtually certain means that the receipt of compensation is highly probable, and reliable measurement means that the amount of compensation can be determined with a high degree of accuracy.
The recognition of compensation in the financial statements should be based on the same criteria used to recognize the impairment or loss of PP&E. For example, if an impairment loss on PP&E is recognized when the carrying amount of the asset exceeds its recoverable amount, then compensation for the impairment or loss should be recognized when it becomes virtually certain that the compensation will be received and the amount can be measured reliably.
If compensation is received in the form of replacement assets, the carrying amount of the impaired or lost PP&E should be reduced by the carrying amount of the replacement assets received. Any difference between the carrying amount of the impaired or lost PP&E and the carrying amount of the replacement assets should be recognized as income in the financial statements.
Examples:
ABC Company owns a building that was damaged by a fire. The company received insurance proceeds of $100,000 as compensation for the damage. Based on an assessment of the damage, it is virtually certain that the company will receive the insurance proceeds, and the amount can be measured reliably. In this case, ABC Company should recognize the insurance proceeds of $100,000 as income in the financial statements.
XYZ Company’s vehicle was stolen and not recovered. The company received a settlement of $50,000 from the insurance company as compensation for the loss of the vehicle. The company determined that it is virtually certain to receive the settlement, and the amount can be measured reliably. In this case, XYZ Company should recognize the insurance settlement of $50,000 as income in the financial statements.
Case Studies:
Company A is a manufacturing company that owns a factory building. Due to a natural disaster, the factory building was severely damaged and deemed to be impaired. The company received insurance proceeds of $1 million as compensation for the damage. The company assessed that it is virtually certain to receive the insurance proceeds, and the amount can be measured reliably. In this case, Company A should recognize the insurance proceeds of $1 million as income in the financial statements.
Company B is a construction company that owns heavy machinery used in its operations. One of its bulldozers was destroyed in an accident and deemed to be impaired. The company received a legal settlement of $150,000 as compensation for the loss of the bulldozer. The company determined that it is virtually certain to receive the legal settlement, and the amount can be measured reliably. In this case, Company B should recognize the legal settlement of $150,000 as income in the financial statements.
Company C is a real estate company that owns a portfolio of rental properties. One of its properties was expropriated by the government for public infrastructure development, resulting in the impairment of the property. The company received compensation of $500,000 in the form of a replacement property from the government. The carrying amount of the impaired property was $400,000. In this case, Company C should reduce the carrying amount of the impaired property by the carrying amount of the replacement property, resulting in a gain of $100,000 ($500,000 – $400,000) recognized as income in the financial statements.
In all the above case studies, the recognition of compensation as income in the financial statements is based on the criteria of it being virtually certain to be received and the amount being measured reliably, as per the guidance provided by SIC-14.
In conclusion, SIC-14 provides guidance on how to account for compensation received for the impairment or loss of PP&E. It emphasizes that compensation should be recognized as income in the financial statements when it becomes virtually certain to be received and the amount can be measured reliably. Examples and case studies illustrate how companies should recognize compensation in their financial statements based on the criteria provided by SIC-14. Proper application of SIC-14 ensures that companies accurately account for compensation related to the impairment or loss of PP&E in their financial statements, resulting in transparent and reliable financial reporting.