Financial Reporting FR

SIC-23 Property, Plant and Equipment – Major Inspection or Overhaul Costs

SIC-23 Property, Plant and Equipment – Major Inspection or Overhaul Costs
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SIC-23: Property, Plant and Equipment – Major Inspection or Overhaul Costs is a standard issued by the International Accounting Standards Committee (IASC) that provides guidance on the accounting treatment of major inspection or overhaul costs related to property, plant, and equipment (PPE).

 

Definitions:

Major Inspection: Major inspection refers to a significant examination of the physical condition of an item of property, plant, and equipment that is performed with the purpose of detecting any defects, wear and tear, or damage, and determining the need for significant repairs or replacements.

Overhaul: Overhaul refers to the restoration or renewal of an item of property, plant, and equipment to its original or intended operating condition through the replacement of major components or significant repairs.

 

Explanations:

Under SIC-23, major inspection or overhaul costs incurred on PPE are treated differently depending on the nature of the expenditure. If the expenditure is incurred to restore the carrying amount of the PPE to its original condition or to enhance its future economic benefits, it is capitalized as part of the cost of the PPE. On the other hand, if the expenditure is incurred to maintain the PPE at its existing level of performance, it is recognized as an expense in the period in which it is incurred.

 

Examples:

Let’s consider some examples to illustrate the application of SIC-23:

 

Example 1:

XYZ Corp owns a fleet of airplanes, and after 5 years of operation, it performs a major inspection of one of its airplanes, which involves a detailed examination of the airplane’s engines, airframe, and other components. The cost of the major inspection is $500,000, and it is expected to restore the airplane to its original condition and enhance its future economic benefits. Under SIC-23, XYZ Corp would capitalize the $500,000 as part of the cost of the airplane and depreciate it over the remaining useful life of the airplane.

 

Example 2:

ABC Ltd owns a manufacturing plant, and it incurs costs of $100,000 for the overhaul of one of its production machines. The overhaul involves replacing some minor components and repairing minor defects in the machine, and it is expected to restore the machine to its original operating condition. Since the overhaul is performed to maintain the machine at its existing level of performance and does not enhance its future economic benefits, ABC Ltd would recognize the $100,000 as an expense in the period in which it is incurred.

 

Case Studies:

Let’s review some case studies that highlight the application of SIC-23:

 

Case Study 1:

Company A operates a fleet of buses and incurs costs of $1 million for a major inspection of one of its buses. The inspection reveals that the bus requires significant repairs and replacements of major components, which will restore the bus to its original condition and enhance its future economic benefits. Company A determines that the useful life of the bus will be extended by 5 years as a result of the major inspection. Under SIC-23, Company A would capitalize the $1 million as part of the cost of the bus and depreciate it over the extended useful life of the bus.

 

Case Study 2:

Company B owns a power plant and incurs costs of $500,000 for the overhaul of one of its generators. The overhaul involves replacing some major components and repairing significant defects in the generator, which will restore it to its original operating condition. The overhaul is expected to extend the useful life of the generator by 10 years. Since the overhaul is performed to restore the generator to its original condition and enhance its future economic benefits, Company B would capitalize the $500,000 as part of the cost of the generator under SIC-23 and depreciate it over the remaining useful life of the generator.

 

Case Study 3:

Company C owns a manufacturing plant and incurs costs of $200,000 for a major inspection of one of its production machines. The inspection reveals that the machine requires minor repairs and replacements of some components, which will maintain the machine at its existing level of performance. The major inspection does not enhance the future economic benefits of the machine. Under SIC-23, Company C would recognize the $200,000 as an expense in the period in which it is incurred, as it is incurred to maintain the machine at its existing level of performance.

In all these case studies, the application of SIC-23 requires careful assessment of the nature of the expenditure, whether it restores the PPE to its original condition or enhances its future economic benefits, or whether it is incurred to maintain the PPE at its existing level of performance.

 

In conclusion, SIC-23: Property, Plant and Equipment – Major Inspection or Overhaul Costs provides guidance on the accounting treatment of major inspection or overhaul costs related to PPE. It emphasizes the distinction between expenditures that restore the PPE to its original condition or enhance its future economic benefits, which are capitalized as part of the PPE’s cost, and expenditures that maintain the PPE at its existing level of performance, which are recognized as expenses. It is important for entities to carefully assess the nature of the expenditure and apply the principles of SIC-23 in their financial statements to ensure proper accounting treatment of major inspection or overhaul costs related to PPE.