B301 Unit 3 Tangible fixed assets and intangible assets

HKSSAP17 Property, Plant and Equipment                                                Top

• "Property, plant and equipment: are tangible assets
  • are held by an enterprise for use in the production or supply of goods and services, for rental to others or for administrative purposes; and
  • are expected to be used during more than one accounting period.
• HKSSAP 17 does not apply to the following assets:
  • Forests and regenerative resources, expenditure on the exploration for the extraction of minerals, oil, natural gas and similar non-regenerative resources
  • Fixed assets held in charitable, government subvented and not-for-profit organizations
  • Investment properties
• Recognition criteria:
  • Future economic benefits of the assets will flow to the enterprise and
  • The cost of the asset can measured reliably.
• Carrying amount: the amount at which an asset is recognized in the balance sheet after deducting any accumulated depreciation & accumulated impairment losses.
• Cost:
  • Purchase price & directly related costs (import duties, taxes, installation costs etc.)
  • Excludes trade discounts, rebates.
  • Subsequent upgrading expenditure improves the condition of the asset that bring additional future economic benefits.
  • Maintenance & repairs -- treated as expense and charged to P & L a/c.
• Exchange of assets
  • Similar asset -- no gain or loss recognized. The new cost is the carrying amount of the asset given up.
  • Dissimilar asset -- new asset is measured at a fair value of the asset received. Gain or loss generated.
• Transfers between different types of assets
  • E.g., property (fixed assets) --> investment properties
  • The carrying amount of original class is deemed to be the cost of new class asset
  • Any previous revaluation reserves of original class -- frozen until the retirement or disposal of the asset.
  • Upon the retirement of disposal, the frozen revaluation reserves -- transferred to retained earnings directly & not through P & L a/c.

Accounting for depreciation

"Depreciation": the systematic allocation of the depreciable amount of an asset over its estimated useful life (HKSSAP17).

• Depreciable amount: the historical cost or other amount substituted, less the estimated residual value.
• Useful life is either;
  • the period of time over which an asset is expected to be used; or
  • the number of production or similar units that is expected to be obtained.

Major rules:

• The depreciable amount of an asset is allocated to the profit and loss account for each accounting period over the expected useful life (matching or expense recognition).
• Once a depreciation method is selected by an entity, this should be applied every period unless there are changes in circumstances (consistency).
• Factors affect the useful life of a depreciable asset: physical wear and tear, obsolescence & legal or other limits
• Review the useful lives periodically.

Revaluation -- If tangible fixed asset's carrying amount

• Increase
  • credited directly to revaluation reserves
  • recognized as income (through P & L a/c) to reverse a revaluation decrease previously recognized as an expense of the same asset
• Decrease
  • charged directly against any related revaluation reserves (up to the amount held in the reserves)
  • recognized as an expense (through P & L a/c)

Example (pg.118 of Chow)

In 19x1,ABC Ltd bought a piece of freehold land for $110 million.  In 19x2, due to the property market boom, the building was revalued to $130 million.  In 19x3, the property market crashed and the building was revalued to $105 million.  In 19x4, the property market boomed again and the piece of land was revalue to $135 million.

The accounting treatment will be:

Note: the $5 million previously recognised as an expense is now reversed and credited to the P & L a/c as income.

Retirement and disposal

• Any gain or loss -- recognized as income or expense.
• Gain or loss from discontinuation of significant parts of business -- disclosed separately.

HKSSAP 17 Disclosure requirements

• Each class of tangible asset: disclose measurement bases. depreciation methods, rates, gross carrying amount and accumulated depreciation, a reconciliation of the gross carrying amount and the accumulated depreciation.
• If stated at a revalued amount, the revaluation basis, date, names and qualifications of persons making the revaluation, the carrying amount, and revaluation reserves should be disclosed.
• Information relating to the recoverable amount, gains or losses from the retirement or disposal of assets, restriction or pledge on title, commitments, and capitalization of borrowing costs should be disclosed.

HKSSAP31 Impairment of assets (Jan 2001)                                                                             Top

• The recoverable amount should be estimated annually to see whether the value of assets is decreasing.
• "Recoverable amount" -- the higher of an asset's net realizable value (net selling price) and its economic value (value in use).
• Recognition & measurement: recognized as an expense in P & L a/c unless it reverses (see below).
• Cash-generating units: an asset or group of assets that can generate cash inflows from continuing use. E.g., a power plant that supplies and sells electricity for cash inflows. The power plant as a whole is a cash-generating units.
• The recoverable amount will be compared with the carrying amount of the cash-generating units to see whether there is an impairment loss.

Impairment of corporate assets

• Corporate assets: provide services to, or are used by, the whole enterprise; e.g., headquarter buildings, EDP equipment and research centers.
• Cannot generate cash inflows.
• Accounting treatments:
  • "Bottom-up": can be allocated to individual cash-generating units
    • allocate the carrying amount of corporate assets to the cash-generating units
    • compare the recoverable amount of the individual cash-generating units to its carrying amount
    • allocates impairment losses to individual cash-generating units and corporate assets on a pro-rata basis according to their carrying amounts.
  • "Top-down": cannot be allocated to individual cash-generating units
    • compare the recoverable amount and carrying amount of the 'larger' cash-generating unit.
    • the 'larger' cash-generating unit is the smallest cash-generating unit that corporate assets can be allocated to it.

Reversal of an impairment loss

• Review annually for such assessment.
• When reversed, increase the carrying amount of the asset to its recoverable amount
• Recognized as income immediately in P & L a/c if the asset is carried at cost.
• Treated as a revaluation increase and credited directly to the revaluation reserves if the asset is carried at revalued amount.

　HKSSAP29 Intangible assets                                                                 Top

• An identifiable non-monetary asset without physical substance held for use in the production or supply of goods or services, for rental to others, or for administrative purposes.
• Non-monetary assets: fixed assets, investments and inventories.
• Criteria to qualify as an intangible assets:
  • Identifiability: if the asset can be clearly distinguished from other assets and it can be rented, sold or exchanged for other assets or can otherwise distribute its future economic benefits.
  • Control: express its control through the legal right that obtaining the future economic benefits generated.
  • Future economic benefits: may include revenue generated from the sale of products/services or cost savings from the use of the asset.
  • and
    • it can generate future economic benefits
    • the cost incurred for the asset can be measured reliably.

Measurement of an intangible asset

• Separate acquisition: measured initially at cost, & any subsequent expenditure on an intangible asset. Only expenses after its purchase will be capitalized if:
  • can generate additional future economic benefits in excess of its original level &
  • can be measured reliably
• Acquisition as part of a business combination: the cost is its fair value (current bid price of similar transactions in active marketing trading) at the date of acquisition. If it cannot be measured reliably, it should be included in goodwill.
• Acquisition by way of a government grant: not a common type of subsidy in HK. Then recognize
  • both the intangible asset and the grant at fair view or
  • the intangible asset at a nominal amount plus any directly attributable expenditure.
• Exchange of assets:
  • Similar asset: the cost of the new asset is the carrying amount of the asset given up. No gain or loss.
  • Dissimilar asset: measured at its fair value. Gain or losses are recognized.
• Internally generated intangible assets: recognized only if the recognition criteria (identifiability, probable future economic benefits, reliability of measurement of cost) are met.

Revaluation

• Benchmark treatment: carried at its cost less accumulated amortization & any impairment loss.
• Allowed alternative treatment: carried at a revalued amount less any subsequent accumulated amortization & any impairment loss after its initial recognition at cost.
• Accounting treatment is the same as for tangible fixed assets (revaluation reserves --> revaluation surplus).

Amortization

• Also have limited useful life and must be amortized on a systematic basis.
• Residual value assumed = 0.
• Since no physical substance, use "amortization" rather than "depreciation".
• Amortization period: not exceeding 20 years. Can be extended to over 20 years if there is persuasive evidence to support this. Reviewed annually and amended to reflect any significant changes.
• Method: generally the straight-line; the declining balance or the unit of production may be used.

Recoverability of the carrying amount and impairment losses:

• Regularly review the impairment of its intangible assets.
• Estimate the recoverable amount of
  • those intangible assets not yet available for use
  • those intangible assets amortized over a period of over 20 years.

Retirement and disposal

• Eliminated from the balance sheet upon its disposal or when future economic benefits are not expected from its use.
• Gain or loss-- recognized as income or expense in the P & L a/c.

Disclosure requirements

• Similar nature: grouped together to form a class
• May include: brands, mastheads and publishing titles, computer software, licences and franchises, copyrights and patents, models and prototypes.
• For each class, a distinction must be made between internally generated intangible assets and other intangible assets
• Disclose:
  • the useful life or amortization rates
  • the amortization methods
  • the gross carrying amount and accumulated amortization at the beginning and end
  • the amortization charged to income statement
  • a reconciliation of the carrying amount at the beginning and end.

HKSSAP 29 Internally generated intangible assets (R&D) Item 39 to 52       Top

• Research phase:
  • Activities undertaken to discover new knowledge.
  • It is difficult to show that an intangible asset will be subsequently generated.
  • Expenditure -- treated as expenses and charged to P & L a/c.
• Development phase:
  • Activities applying research findings to develop or design new or improved products and processes that can generate future economic benefits.
  • Expenditure should be recognised as an asset if and only if all the following conditions are met (item 45):
    • the technical feasibility of completion;
    • the enterprise intends to complete the intangible asset;
    • its ability to use or sell the intangible asset;
    • the existence of a market or to be used internally;
    • availability of adequate technical, financial and other resources to complete the development;
    • the ability to measure the expenditure reliably.
• Cost:
  • expenditure incurred from the date when it first meets the criteria.
  • research expenses cannot be restated during the development phase.
  • includes: materials used or consumed, direct employment costs, other direct attributable expenditure and overhead allocated on a reasonable basis.
  • excludes: indirect costs such as selling, admin. and other general overhead expenses, staff training expenses, identified inefficiencies and initial operating losses.
• Other interanlly generated intangible assets: internally generated brands, mastheads, publishing titles, customers lists should not be recognized as intangible assets. For purchased intangible items, these can be recognized as assets if and only if all the recognition criteria are met.

Goodwill (Included in HKSSAP30 Business Combinations)                                   Top

• Internally generated goodwill: is not recognised as an asset because of the non-identifiable nature of costs & cannot be separated from other parts of the business.
• External acquired goodwill:
  • the excess of the price paid for the acquisition over the acquirer's interest in the fair value of the identifiable assets and the liabilities of the company acquired.
  • e.g., the acquisition of Hong Kong Telecom (HKT) by Pacific Century Cyberworks Ltd (PCCW)- the goodwill was valued at HK$172 billion.
  • it can be positive or negative

• Positive goodwill: amortised systematically over its useful life. Writing off goodwill once and for all directly against the enterprise' reserve is no longer permitted. In UK, it is still acceptable not to amortize goodwill if it is regarded "as having an indefinite useful economic life" (UK FRS10).
• Negative goodwill:
  • a portion of negative goodwill should be recognized as income to match the future losses and expenses (matching concept);
  • other than the above, recognized as income
    • the amount of negative goodwill up to the fair values of acquired identifiable non-monetary assets as income on a systematic basis over the remaining weighted average useful life of these non-monetary assets and
    • the amount of negative goodwill in excess of the fair values of acquired identifiable non-monetary assets should be recognized as income immediately.
• Impairment of goodwill: recognized immediately as an expense.
  • not an easy task
  • similar to those for tangible fixed assets -- "bottom-up" & "top-down" test.
• Reversal of an impairment loss of goodwill (item 109-112):
  • only if the impairment is caused by certain specific external events of an exceptional nature that will not recur.
  • e.g., introduction of new regulations that would significantly reduce operating activities and profitability.