CHAPTER 15, 17,

PROPERTY, PLANT AND EQUIPMENT

PAS 16

TECHNICAL KNOWLEDGE

To know the definition of property, plant and equipment.

To understand the measurement of property, plant and equipment.

To identify the methods of depreciating property, plant and equipment.

PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment are tangible assets that are held for use in
production or supply of goods or services, for rental to others, or for
administrative purposes, and are expected to be used during more than one
period.

Accordingly, the major characteristics in the definition of property, plant and

equipment are:

a. The property, plant and equipment are tangible assets, meaning with
physical substance.

b. The property, plant and equipment are used in business, meaning used in
production or supply of goods or services, for rental purposes and for
administrative purposes.

c. The property, plant and equipment are expected to be used over a period
of more than one-year.

Examples of property, plant and equipment

a. Land

b. g. Motor vehicle

c. Land improvements
 d. h. Furniture and fixtures

e. Building

f. Office equipment

g. Machinery

h. j. Patterns, molds and dies

i. Ship

j. Tools

k. Aircraft

l. Bearer plants

Initial measurement

An item of property, plant and equipment that qualifies for recognition as an

asset shall be measured at cost.

Cost is the amount of cash or cash equivalent paid and the fair value of the
other consideration given to acquire an asset at the time of acquisition or
construction.

Elements of cost

The cost of an item of property, plant and equipment comprises:

 a. Purchase price, including import duties and nonrefundable
purchase taxes, after deducting discounts and rebates
b. Cost directly attributable to bringing the asset to the location and
condition for the intended use
c. Initial estimate of the cost of dismantling and removing the item
for which the entity has a present obligation.

Directly attributable costs

Examples of directly attributable costs that qualify for capitalization as cost

of the asset include:

a. Cost of site preparation

b. Initial delivery and handling cost
c. Installation and assembly cost
d. Professional fee
e. Costs of testing whether the asset is functioning properly.

Subsequent measurement

After initial recognition, an entity shall choose either the cost model or the
revaluation model as the accounting policy for property, plant and
equipment.

The entity shall apply such accounting policy to an entire class of property,
plant and equipment.

The cost model means that property, plant and equipment are carried at
cost less any accumulated depreciation and any accumulated impairment
loss.

The revaluation model means that property, plant and equipment are
carried at revalued carrying amount.

The revalued carrying amount is the fair value at the date of revaluation less
any subsequent accumulated depreciation and subsequent accumulated
impairment loss.
Acquisition on a cash basis

The cost of an item of property, plant and equipment is the cash price
equivalent at the recognition date.

The cost of asset acquired on a cash basis simply includes the cash paid plus
directly attributable costs such as freight, installation cost and other cost
necessary in bringing the asset to the location and condition for the intended
use.

Acquisition on account

When an asset is acquired on account subject to a cash discount, the cost of

the asset is equal to the invoice price minus the discount, regardless of
whether the discount is taken or not.

Cash discounts are generally considered as reduction of cost and not as

income.

Acquisition on installment basis

When payment for item of property, plant and equipment is deferred beyond
normal credit terms, the cost is the cash price equivalent.

In other words, if an asset is offered at a cash price and at an installment

price and is purchased at the installment price, the asset shall be recorded at
the cash price.

The excess of the installment price over the cash price is treated as an
interest to be amortized over the credit period.

Issuance of share capital

Philippine GAAP provides that if shares are issued for consideration other
than actual cash, the proceeds shall be measured by the fair value of the
consideration received.

Accordingly, where a property is acquired through the issuance of share

capital, the property shall be measured at an amount equal to the following
in the order of priority:
 a. Fair value of the property received
b. Fair value of the share capital
c. Par value or stated value of the share capital

Issuance of bonds payable

PFRS 9, paragraph 5.1.1, provides the asset acquired by issuing bonds

payable is measured in the following order of priority:

a. Fair value of bonds payable

b. Fair value of asset received
c. Face amount of bonds payable

Exchange

PAS 16, paragraph 24, provides that the cost of an item of property, plant
and equipment acquired in exchange for a nonmonetary asset or a
combination of monetary and nonmonetary asset is measured at fair value of
the asset given in exchange plus any cash payment.

However, the exchange is recognized at carrying amount of the asset given

in exchange plus any cash payment if the exchange transaction lacks
commercial substance.

Definition of commercial substance

Commercial substance is a new notion and is defined as the event or

transaction causing the cash flows of the entity to change significantly by
reason of the exchange.

Simply stated, an exchange transaction has commercial Simply substance

when the cash flows flows of the asset received differ significantly from the
cash flows of the asset transferred.

Construction

The cost of self-constructed asset is determined using the same principles as

for an acquired asset.

The cost of self-constructed property, plant and equipment includes:

 1. Direct cost of materials
2. Direct cost of labor
3. Indirect cost and incremental overhead specifically identifiable or
traceable to the construction.

PAS 16, paragraph 22, provides that the cost of adnormal amount of wasted
material, labor or overheard incurred in the production of self-constructed
asset is not included in the cost of the asset.

Derecognition

Derecognition means that the cost of the property, plant and equipment
together u ith the related accumulated depreciation shall be removed from
the sictement of financial position.

PAS 16, paragraph 67, provides that the carrying amount of an item of
property, plant and equipment shall be derecognized on disposal or when no
future economic benefits are expected from the use or disposal.

The gain or loss arising from the derecognition of an item of property, plant
and equipment shall be determined as the difference between the net
disposal proceeds and the carrying amount of the item.

Concept of depreciation

Depreciation is defined as the systematic allocation of the depreciable

amount of an asset over the useful life.

Depreciation is not so much a matter of valuation.

Depreciation is a matter of cost allocation in recognition of the exhaustion of

the useful life of an item of property, plant and equipment.

Depreciation period

The depreciable amount of an asset shall be allocated on a systematic basis

over the useful life.
Depreciation of an asset begins when it is available for use, meaning, when
the asset is in the location and condition necessary for the intended use by
management.

Depreciation ceases when the asset is derecognized.

Therefore, depreciation does not cease when the asset becomes idle
temporarily.

Temporary idle activity does not preclude depreciating the asset as future
economic benefits are consumed not only through usage but also through
wear and tear and obsolescence.

Factors of depreciation

In order to properly compute the amount of depreciation, three factors are

necessary, namely depreciable amount, residual value and useful life.

Depreciable amount is the cost of an asset or other amount substituted for

cost, less the residual value.

Each part of an item of property, plant and equipment with a cost that is
significant in relation to the total cost of the item shall be depreciated
separately.

For example, it may be appropriate to depreciate separately. The air frame,

engine, fittings such as seats and floor coverings and tires of an aircraft.

Residual value is the estimated net amount currently obtainable if the asset
is at the end of the useful life.

The residual value of an asset shall be reviewed at least at each financial

year-end and if expectation differs from previous estimate, the change shall
be accounted for as a change in an accounting estimate.

Useful life is either the period over which an asset is expected to be available
for use by the entity, or the number of production or similar units expected
to be obtained from the asset by the entity.

The factors In determining useful life are:

a. Expected usage of the asset

 b. Expected physical wear and tear
c. Technical or commercial obsolescence
d. Legal limit for the use of the asset, such as the expiry date of the
related lease.

Depreciation method

The depreciation method shall reflect the pattern in which the future
economic benefits from the asset are expected to be consumed by the entity.

A variety of depreciation methods can be used.

Depreciation methods include straight line, production method and

diminishing balance method.

Straight line method

Under the straight line method, the annual depreciation charge is calculated
by allocating the depreciable amount equally over the number of years of
useful life.

In other words, straight line depreciation is a constant charge over the useful
life of the asset.

The straight line approach considers depreciation as a function of time rather

than as a function of usage.

Production method

The production or output method assumes that depreciation is more a

function of use rather than passage of time.

The useful life of the asset is considered in terms of the output it produces or
the number of hours it works.

Thus, depreciation is related to the estimated production capability of the

asset and is expressed in a rate per unit of output or per hour of use.

Diminishing balance or accelerated methods

The diminishing balance or accelerated methods providė higher depreciation
in the earlier years and lower depreciation in the later years of the useful life
of the asset.

Thus, these methods result in a descreasing depreciation charge over the

useful life.

The accelerated methods include sum of years’ digits method and double
declining balance method.

Visit Intermediate Accounting Volume One for an exhaustive discussion on

property, plant and equipment, cost model and revaluation model of
measuring property, plant and equipment, and depreciation methods.

CHAPTER 17

BORROWING COSTS

PAS 23

TECHNICAL KNOWLEDGE

To know the concept of qualifying asset for purposes of capitalization of

borrowing costs.

To understand the proper accounting treatment of borrowing costs.

To distinguish specific borrowing and general borrowing in relation to
capitalization of borrowing costs.

BORROWING COSTS

Under PAS 23, paragraph 5, borrowing costs are defined as interest and other
costs that an entity incurs in connection with borrowing of funds.

In other words, as the term suggests, borrowing costs are interest costs
incurred as a result of borrowings from banks and other fir’ancial institutions.

Borrowing can be classified as specific borrowing and general borrowing.

A specific borrowing is intended specifically in acquiring a qualifying asset.

A general borrowing is intended partly in acquiring a qualifying asset and

partly for general or working capital purposes.

Qualifying asset

A qualifying asset is an asset that necessarily takes a substantial period of

time to get ready for the intended use or sale.

Examples include the following:

 a. Manufacturing plant

b. Power generation facility

c. Intangible asset

d. Investment property

PAS 23 requires that borrowing costs incurred in connection with acquisition

of a qualifying asset should be capitalized as cost of the qualifying asset.

Excluded from capitalization

PAS 23 does not require capitalization of borrowing costs relating to the

following assets not considered as qualifying asset:

A. Asset measured at fair value, such as biological asset

b. Inventory that is manufactured in large quantity on a repetitive basis,
such as maturing whisky, even if it takes a substantial period of time to get
ready for sale

d. Asset that is ready for the intended use or sale when acquired

Accounting for borrowing cost

PAS 23, paragraph. 8, mandates the following rules on borrowing cost:

1. If the borrowing is directly attributable to the acquisition,

construction or production of a qualifying asset, the borrowing
cost is required to be capitalized as cost of the asset.

In other words, the capitalization of borrowing cost is mandatory for a

qualifying asset.

2. All other borrowing costs shall be expensed as incurred.

In other words, if the borrowing is not directly attributable to a qualifying

asset, the borrowing cost is expensed immediately.
Asset financed by specific borrowing

PAS 23, paragraph 12, provides that if the funds are borrowed specifically for
the purpose of acquiring a qualifying asset, the amount of capitalizable
borrowing cost is the actual borrowing cost incurred during the period less
any investment income from the temporary investment of those borrowings.

Asset financed by general borrowing

PAS 23, paragraph 14, provides that if the funds are borrowed generally and
used for acquiring a qualifying asset, the amount of capitalizable borrowing
cost is equal to the average carrying expenditures on the asset during the
period multiplied by a capitalization rate or average interest rate.

However, the capitalizable borrowing cost shall not exceed the actual
interest incurred.

The capitalization rate or average interest rate is equal to the total annual
borrowing cost divided by the total general borrowings outstanding during
the period.

No specific guidance is provided for general borrowing with respect to

investment income.

Accordingly, any investment income from general borrowing is not deducted

from capitalizable borrowing cost.
The fraction Is developed from the number of months the expenditures are
outstanding from the date of expenditure to the end of the year.

The January 1 expenditures are outstanding for 12 months, the March 31

expenditures are outstanding for 9 months, the June 30 expenditures are
outstanding for 6 months and the September 30 expenditures are
outstanding for 3 months.

The capitalization rate is computed by dividing the total annual borrowing

cost by the total general borrowings.

Thus, P760,000 divided by P8,000,000 equals 9.5%.

The amount of capitalizable borrowing cost is the average expenditures on

the building multiplied by the capitalization rate.

Thus, P2,000,000 x 9.5% equals P190,000.

The capitalizable borrowing cost shall not exceed the actual borrowing cost.

The amount of P190,000 is the proper capitalizable borrowing cost because it

is less than the actual borrowing cost of P760,000.

The excess of P760,000 over P190,000 or P570,000 is charged to interest

expense

Asset financed both by specific and general borrowing

At the beginning of the current year, an entity borrowed P1,500,000 at an
interest of 10% specifically for the construction of a new building. The actual
borrowing cost on this loan is P150,000.

The entity had also outstanding during the year a 5-year 8% general
borrowing of P7,000,000.

The construction of the building started on January 1 and was completed on

December 31 of the current year.

The average expenditures are considered partly arising from specific

borrowing and partly from general borrowing.

The average expenditures are taken first from specific borrowing and the
balance from general borrowing.

Commencement of capitalization

The capitalization of borrowing costs as part of the cost of a qualifying asset

shall commence when the following three conditions are present:

A. When the entity incurs expenditures for the asset.

b. When the entity incurs borrowing costs.

 d. When the entity undertakes activities that are necessary to prepare the
asset for the intended use or sale.

Cessation of capitalization

Capitalization of borrowing costs shall cease when substantially all the

activities necessary to prepare the qualifying asset for the intended use or
sale are complete.

An asset is normally ready for the intended use or sale when the physical
construction of the asset is complete even though routine administrative
work might still continue.

Disclosures related to borrowing costs

a. The amount of borrowing costs capitalized during the period.

b. The capitalization rate used to determine the amount of

borrowing costs eligible for capitalization.

Segregation of assets that are “qualifying assets” from other assets in the
statement of financial position is not required to be disclosed.
CHAPTER 18

INVESTMENT IN ASSOCIATES

PAS 28

TECHNICAL KNOWLEDGE

To define an associate.

To know the meaning of significant influence.

To understand the equity method of accounting for sha investment.

ASSOCIATE

An associate is simply defined as an entity over which the investor has

significant influence.

Significance influence is the power to participate in the financial and

operating policy decisions of the associate but not control or joint control
over those policies.
If the investor holds, directly or indirectly through subsidiaries, 20% or more
of the voting power of the investee, it is presumed that the investor has
significant influence, unless it can be clearly demonstrated that this is not
the case.

Measurement of investment in associate

The investment in associate is measured using the equity method of

accounting. The accounting procedures under the equity method are:

A. The investment is initially recognized at cost.

b. The carrying amount is increased by the investor’s share of the net

income of the investee and decreased by the investor’s share of the net loss
of the investee.

The Investor's share of the net income or net loss of the investee is
recognized as investment income.

e. Dividends received from an equity investee reduce the carrying

amount of the investment.

D. Note that the investment must be in ordinary shares.

If the investment is in preference shares, the equity method is not

appropriate regardless of the percentage because the preference share is a
nonvoting equity.
 f. Technically, if the investor has significant influence over the investee,
the investee is said to be an associate.

Illustration – equity method

1. On January 1, 2024, an investor purchased 20,000 shares of the

100,000 outstanding ordinary shares of another entity at P200
per share.

The investment represents a 20% equity interest and the investor has a
significant influence over the investee.

Investment in associate Cash

2. The investee reported net income of P5,000,000 for 2024

The investor recognized a share of the net income of the investee equal to
20% of P5,000,000 or P1,000,000.

Investment in associate Investment income

3. Received a 25% share dividend from the investee on December

31, 2024.

Memo-Received 5,000 ordinary shares as 25% share dividend on 20,000

original shares. Shares now held, 25,000 shares.

Note that the 20% equity interest is not affected by the share dividend. The
equity interest is the same before and after the share dividend.

4. The investee reported a net loss of P1,000,000 for 2025.

The investor recognized a share in the net loss of the investee equal to 20%
of P1,000,000 or P200,000.

Loss on investment Investment in associate

5. The investee declared and paid a cash dividend of P2,500,000 on

ordinary shares on December 31, 2025.

The investor recognized a share in the cash dividend paid by the investee
equal to 20% of P2,500,000 or P500,000.

Cash

Investment in associate
Under the equity method, cash dividend is not an income but a reduction of
investment.

Excess of cost over carrying amount

An accounting problem arises if the investor pays more or less for an

investment than the carrying amount of underlying net assets.

For example, if the earning potential of the investee is abnormally high, the
current value of the investee’s net assets is frequently higher than their
carrying amount.

If the investor pays more than the carrying amount of the net assets
acquired, the difference is commonly known as excess of cost over carrying
amount and may be attributed to the following:

a. Undervaluation of the investee’s assets, such as building, land and

inventory.

b. Goodwill

If the assets of the investee are fairly valued, the excess of cost over
carrying amount of the underlying net assets is attributable to goodwill.

If the excess is attributable to undervaluation of depreciable asset, it is

amortized over the remaining life of the depreciable asset.
If the excess is attributable to undervaluation of land, it is not amortized
because the land is nondepreciable.

The excess amount is expensed when the land is sold.

If the excess is attributable to inventory, the amount is expensed when the

inventory is already sold.

If the excess is attributable to goodwill, it is included in the carrying amount

of the investment and not amortized.

However, the entire investment in associate including the goodwill is tested

for impairment at the end of each reporting period.

Excess of fair value over cost

PAS 28, paragraph 32, provides that any excess of the fair value of the
associate’s net assets acquired over the cost of the investment is included as
income in the determination of the investor’s share of the associate’s net
income or net loss in the period in which the investment is acquired.

The excess fair value is included in investment income of the investor on the
date of acquisition.

Discontinuance of equity method

PAS 28, paragraph 22, provides that an investor shall discontinue the use of
the equity method from the date that it ceases to have significant influence
over an associate.

PAS 28, paragraph 22, provides that on the date the significant influence is
lost, the investor shall measure any retained investment in associate at fair
value.

The fair value of the investment at the date it ceases to be an associate shall
be regarded as the fair value on initial recognition as a financial asset.

The difference between the carrying amount of the retained investment at

the date the significant influence is lost and the fair value of the retained
investment shall be included in profit or loss.

Equity method not applicable

PAS 28, paragraph 17, provides that an investment in associate shall not be
accounted for using the equity method if the investor is a parent that is
exempt from preparing consolidated financial statements or if all of the
following apply:

A. The investor is a wholly-owned subsidiary, or a partially owned

subsidiary of another entity and the other owners do not object to the
investor not applying the equity method.

c. The investor’s debt and equity instruments are not traded in a public
market or over the counter market.
 d. The investor did not file or it is not in the process of filing financial
statements with the SEC for the purpose of issuing any class of
instruments in a public market.

D. The ultimate or any intermediate parent of the investor produces

consolidated financial statements available for public use that comply with
Philippine Financial Reporting Standards.