The International Accounting Standards Board (IASB) has amended IAS 16 'Property, Plant and Equipment — Proceeds before Intended Use (Amendments to IAS 16)' regarding proceeds from selling items produced while bringing an asset into the location and condition necessary for it to be capable of operating in the manner intended by management. This change is effective from January 1, 2022, however, it encourages earlier adoption.
Paragraph 17 of IAS 16 specifies examples of costs directly attributable to bringing an item of property, plant, and equipment to the location and condition necessary for it to be capable of operating in the manner intended by management. One such example is the costs of testing. IAS 16 states that the cost of an item of property, plant, and equipment includes the costs of testing whether the asset is functioning properly, after deducting the net proceeds from selling any items produced while bringing the asset to that location and condition.
The IFRS Interpretations Committee had received a request asking two questions about paragraph 17 of IAS 16:
(a) whether the proceeds referred to in that paragraph relate only to items produced from testing; and
(b) whether an entity deducts from the cost of an item of property, plant and equipment any proceeds that exceed the costs of testing.
What triggered this amendment
IASB has pointed out two primary reasons for issuance of this amendment
(a) the issue mainly affects a few industries, such as the extractive and petrochemical industries.
(b) diverse reporting methods are applied. Some entities deduct only proceeds from selling items produced from testing; others deduct all sales proceeds until the asset is in the location and condition necessary for it to be capable of operating in the manner intended by management (ie available for use). For some entities, the proceeds deducted from the cost of an item of property, plant and equipment can be significant and can exceed the costs of testing.
The Board concluded that the amendment would provide relevant information to users of financial statements by requiring entities to recognize all sales as income (including revenue) when they occur. The existing requirements in IAS 16 make it difficult for a user to have a clear picture of an entity’s total revenue in the period because some sales proceeds might be offset against the cost of property, plant, and equipment. Those requirements also make it difficult to have a clear picture of the actual cost of some items of property, plant, and equipment. The cost of those assets can be distorted by deducting sales proceeds before the assets are available for use. This made it difficult for investors to compare the financial positions and performances of companies. The amendments improve transparency and consistency by clarifying the accounting requirements
What is the revised accounting
Paragraph 17 of IAS 16 has been amended to prohibit deducting from the cost of an item of property, plant, and equipment any proceeds from selling items produced before that asset is available for use.
As a consequence, an entity would recognize such sales proceeds in profit or loss.
The Board views its proposals as a simple and effective way of removing the identified diversity in practice in a manner that would improve financial reporting.
Other factors to keep in consideration while applying this amendment
- In applying the amendment, an entity might need to assess whether particular costs incurred are costs of inventories (applying IAS 2), costs of testing (applying IAS 16), or costs the entity would be required to recognize in profit or loss. For example, in assessing whether costs incurred while an item of property, plant, and equipment is being tested are costs of inventories or costs of testing (included in the cost of the item of property, plant, and equipment), an entity would consider whether the items produced during testing meet the definition of inventories in IAS 2. Similarly, an entity might consider whether particular costs represent (a) abnormal amounts of wasted material (recognized in profit or loss); or (b) costs necessary to make the item of property, plant, and equipment available for use or to bring inventories to their present location and condition.
- In addition, to help when assessing costs, the Board has clarified the meaning of ‘testing’, as specified in paragraph 17 of IAS 16. The Board states that when testing whether an item of property plant, and equipment is functioning properly, an entity assesses the technical and physical performance of the asset. The assessment of functioning properly is not an assessment of the financial performance of an asset, such as assessing whether the asset has achieved the level of operating margin initially anticipated by management.
- No amendments are made to IFRS 6 Exploration for and Evaluation of Mineral Resources or IFRIC 20 Stripping Costs in the Production Phase of a Surface Mine as a consequence of these proposed amendments.