18-Jul-2011 | 14:53 IST | Edited by: Vishal Bagaria

The application of accounting principles and methods stipulated in Ind-AS-16 is sure to usher in significant changes in the accounting practices in India.

Ind As-16 is fully convergent with IFRS (IAS- 16). Two main differences have emerged, between accounting principles stipulated in Ind AS -16 and those stipulated in the IAS-16. Those differences have resulted from the differences between Ind ASs and corresponding IFRSs related to the accounting for government grants and measurement of investment property.

Property, Plant and Equipment (PP&E) form a vital component of the value of assets that a manufacturing company accounts for. For service companies, often, property constitutes a significant portion of the value of assets it possesses. Therefore, accounting policy on the recognition and measurement of items of PP&E has significant impact on the net worth in the balance sheet of an entity.

As an alternative to the compulsory costing method, Ind AS - 16 vouches for fair value measurement of items of PP&E. Going by this, an entity is allowed to revalue items of PP&E at its discretion. It is true that it is their discretion to increase the net worth in the balance sheet. Ind AS- 16 requires an entity to exercise the choice between fair value model and cost model only once, and follow it consistently throughout. However, an entity may choose the fair value model for some class of assets and the cost model for others.

Given that cost is recovered through use rather than sale, the use of fair value to measure items of PP&E is anonymous to conventional wisdom that those assets should be measured at historical cost.

However, the assumption is situational. For example, the conventional accounting wisdom would suggest that land for a factory should be measured using the cost model because the manufacturer will not be able to unlock the value of the land separately. It will generate cash flow by manufacturing products using the land and other items of PP&E. But that might not be true. It might be possible for the company to relocate the manufacturing facility at a distant land without impairing its earning capacity. Thus, it can unlock the value of the land, while continuing its operations. In such a scenario, it is proper to measure the land at fair value. The fair value is evaluated by taking into account the best use of the land.

It is opined by accounting experts that the use of the fair value methology would reduce the information asymmetry between the management and investors. It will better the transparency in corporate financial reporting. In most situations, it might not be appropriate to use fair value model to measure items of plant and machinery. This is so because, usually the cost of those items is recovered through use and not by sale, and estimation of fair value frequently is rather expensive.

Furthermore, any increase in the fair value during the financial period is not taken in profit or loss. It forms a part of 'other comprehensive income' and is taken under 'revaluation reserve', which is presented separately in the balance sheet. However, a reduction in the fair value is recognised as a loss in the profit or loss for the reporting period, if there is no revaluation reserve. If, the balance in the revaluation reserve is inadequate, to the extent that the balance in the revaluation reserve does not cover the reduction in fair value, it is recognised as a loss in the profit or loss for the reporting period.

A testimony has been provided by Ind AS-16 that India has moved towards convergence of its accounting standards with IFRS in true spirit.

External Links:

International Financial Reporting Standards - Official Website

Institute of Chartered Accountants of India - Official Website

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