How do firms account for property, plant, and equipment?

PROPERTY, PLANT, AND EQUIPMENT

Firms initially record property, plant, and equipment, sometimes referred to as fixed assets, at acquisition cost, the cash paid or the fair value of other consideration given in exchange for the asset. Acquisition cost includes all costs necessary to prepare the asset for its intended use. Firms capitalize into the asset's carrying amount subsequent expenditures that extend the service life or increase the benefits of a fixed asset beyond those initially anticipated. Buildings and equipment have a finite life, so firms must depreciate their acquisition cost less estimated salvage over the expected service life. Firms may use a straight-line method or accelerated depreciation methods. If new information becomes available that indicates that the expected service life or estimated salvage value differs significantly from that initially anticipated, the firm revises its depreciation prospectively.

IFRS permits firms to remeasure property, plant, and equipment upward for increases in fair value under certain conditions. U.S. GAAP does not permit such upward remeasurements.

Firms must test property, plant, and equipment for possible asset impairment when conditions indicate that a significant decrease in fair value has occurred. Under U.S. GAAP, firms initially compare the undiscounted cash flows expected from the asset to the asset's carrying value. A fixed asset impairment occurs when the asset's carrying value exceeds the undiscounted cash flows. The amount of the recognized impairment loss is the excess of the carrying value over the fair value of the asset. IFRS does not apply the initial test comparing undiscounted cash flows with the carrying value. Instead, IFRS requires that firms recognize an impairment loss when the carrying value of a fixed asset exceeds its recoverable amount, the higher of (1) the fair value less cost to sell, and (2) value in use (present value of future cash flows from the asset in its current use by the firm).

The financial reporting standards for property, plant, and equipment are similar under U.S. GAAP and IFRS except for upward remeasurements for fair value increases and for recognition and measurement of asset impairment losses. Controversial issues involve (1) the appropriateness of the undiscounted cash flow recoverability test under U.S. GAAP, and (2) the use of recoverable amount instead of fair value under IFRS. Recoverable amount under IFRS differs from fair value under U.S. GAAP in that fair value excludes transaction, or selling, costs and measures value based on how external market participants would use the asset.