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PROPERTY PLANT AND EQUIPMENT

 Cost Model
carrying amount is at its cost less any accumulated depreciation and any accumulated
impairment losses

Concept of Depreciation

 Depreciation
It is the systematic allocation of the depreciable amount of an asset over its estimated useful
life.When computing for depreciation, each part of an item of PPE with a cost that is significant
in relation to the total cost of the item shall be depreciated separately. It begins when the asset is
available for use, i.e., when it is in the location and condition necessary for it to be capable of
operating in the manner intended by management. It ceases when the asset is derecognized or
when it is classified as “held for sale” under PFRS 5, whichever comes earlier.

Technically, depreciation refers to PPE, depletion to wasting assets and amortization to

intangible assets.

 Depreciable amount
It is the “cost of an asset. or other amount substituted for cost , less its residual value.

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 Residual value
It is the estimated amount that an entity would currently obtain from disposal of the asset,
after deducting the estimated cost of disposal if the asset were already of the age and in
the condition expected at the end of its useful life.

 Useful life
It is the period over which an asset is expected to be available for use by the entity; it is
the number of production units expected to be obtained from from the asset by an entity.

Selection of depreciation method

There are various methods of depreciation. The entity shall select the method that most closely
reflects the expected pattern of consumption of the future economic benefits embodied in the
asset.
However, a depreciation method that is based on revenue that is generated by an activity that
includes the use of an asset is not appropriate.

Common types of depreciation methods

1. Straight line method – depreciation is recognized evenly over the life of the asset by dividing
the depreciable amount by the estimated useful life. It consider depreciation as a function of time
rather than function of usage

Depreciation = (Historical cost – Residual value)

Estimated useful life

Example:
The following data relate to equipment acquired at the beginning of the first year:

Equipment P210, 000

Residual value 10,000
Useful life 5 years

Depreciation Table-straight line

Accumulate
d Carryin
Yea Depreciatio g
r Particular Depreciation n Amount
Acquisition cost 210,000
1 Depreciation 40,000 40,000 170,000

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2 Depreciation 40,000 80,000 130,000

3 Depreciation 40,000 120,000 90,000
4 Depreciation 40,000 160,000 50,000
5 Depreciation 40,000 200,000 10,000

Note: at the end of the useful life the carrying amount is equal to the residual value

2. Sum-of-the-years’ digits (SYD) depreciation – depreciation is computed by applying a

series of fractions to the depreciable amount of the asset.

Depreciation = (Historical cost – Residual value) x Fraction

Example:

Machinery P860, 000

Residual value 60,000
Estimated useful life 4 years

Depreciation Table-SYD

Accumulate
d Carryin
Depreciatio Depreciatio g
Year Particular n n Amount
Acquisition cost 860,000
1 4/10 x 800,000 320,000 320,000 540,000
2 3/10x 800,000 240,000 560,000 300,000
3 2/10 x 800,000 160,000 720,000 140,000
4 1/10x 800,000 80,000 800,000 60,000

3. Double declining balance method – depreciation is computed by applying a fixed rate on the
carrying amount of the asset at the end of each period. Unlike for other depreciation methods, the
residual value is initially ignored when computing depreciation under the double declining
method.

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Depreciation = Carrying amount x Rate

Example:

Machinery P860, 000

Residual value 60,000
Estimated useful life 4 years

Note: to get the yearly rate of depreciation simply multiply the straight line rate by 2
so in this example the SL rate is 25% (100%/4) hence DDR is 50% ( 25% x 2)
Residual value is ignored on the first year however on the last year of useful life the depreciation
is the difference between the carrying amount and the residual value.

Accumulate
d Carrying
Year Particular Depreciation Depreciation Amount
Acquisition cost 860,000
1 50% x 860,000 430,000 430,000 430,000
2 50% X 430,000 215,000 645,000 215,000
3 50% x 215,000 107,500 752,500 107,500
4 107500-60,000 47,500 800,000 60,000

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4. Units of production method (Activity method or Variable-charge method)

The units-of-production method relates depreciation to the estimated production capability of an
asset and is expressed in a rate per unit of output or per hour of input.

Depreciation = (Historical cost – Residual value) x Rate

Depreciation rate= Depreciable amount/Estimated total units of output (Output method)

based in units

Example:

Machinery at cost 300,000

Residual value none
Estimated useful life:
Years 5 years
Service hours 30,000 hours
Output 75,000 units

Actual Operation Service hours Output

1st year 7,000 17,000
2nd year 6,500 16,000
3rd year 5,000 12,500
4th year 5,500 14,500
5th year 6,000 15,000
30,000 75,000

Output method

Accumulate
d Carrying
Year Particular Depreciation Depreciation Amount
Acquisition cost 300,000
1 17,000 x 4 68,000 68,000 232,000
2 16,000 x 4 64,000 132,000 168,000
3 12,500 x 4 50,000 182,000 112,000
4 14,500x 4 58,000 240,000 60,000
5 15,000x 4 60,000 300,000 _

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Depreciation rate = 300,000/75,000=4/unit

Depreciation rate = Depreciable amount/ Estimated total hours of input (Input method)
based on hours.

Using the example above

Input method

Accumulate
d Carrying
Year Particular Depreciation Depreciation Amount
Acquisition cost 300,000
1 7,000 x 10 70,000 70,000 230,000
2 6,500 x 10 65,000 135,000 165,000
3 5,000 x 10 50,000 185,000 115,000
4 5,500 x 10 55,000 240,000 60,000
5 6,000 x10 60,000 300,000 _

Depreciation rate = 300,000/30,000=10/unit

5. Composite and Group Method

Under the composite method, assets that are dissimilar in nature or assets that have different
physical characteristics and vary widely in useful life are grouped and treated as a single unit.
Under Group method, assets that are similar in nature and in estimated useful life are grouped
and treated as a single unit.

Composite method

Depreciable Useful Annual

Asset Cost Residual Value Amount Life Depreciation

Building 325,000 25,000 300,000 15 20,000

Machinery 110,000 10,000 100,000 8 12,500
Equipment 65,000 15,000 50,000 4 12,500
500,000 50,000 450,000 45,000

Composite Life = Depreciable amount/ annual depreciation

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450,000/ 45,000= 10 years

Composite Rate= Total annual depreciation / total cost.

45,000/ 500,000= 9%

To record the annual depreciation

Depreciation 45,000
Accumulated Depreciation 45,000

** Note that the accumulated depreciation account is not related to any specific account
in the group thus the statement of financial position at year end would report as follows:

Building 325,000
Machinery 110,000
Equipment 65,000
Total 500,000
Accumulated Depreciation (45,000)
Carrying amount 455,000

6. Retirement Method
Under the retirement method, the original cost of an asset is retained in the books and charged
as expense only when the asset is retired. Any salvage proceeds received on the asset retired is
deducted from the expense recognized.

Using the example above, If the equipment is retired after 4 years and sold for 10,000, the
journal entry is:

Cash 10,000
Accumulated Depreciation 55,000
Equipment 65,000

If there are no proceeds from the retirement:

Accumulated Depreciation 65,000

Equipment 65,000

After the retirement, the remaining cost would be P435,000, hence the annual depreciation would
be P39,150 computed by multiplying the composite rate of 9% by the remaining cost of
P435,000.

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7. Replacement Method
Under the replacement method, the original cost of an asset is retained in the books. The cost
of replacing the asset is charged as expense when the asset is replaced. Any salvage proceeds on
the asset replaced is deducted from the expense recognized.

Upon retirement of the equipment, the same is replaced by a similar asset costing P 80,000.
Thus, the total cost of the asset in the group is now P515,000.

So, starting in the fifth year, annual depreciation should be P46, 350 (515,000 x 9%)

Depreciation shall be discontinued when the same would result to a carryng amount of the assets
in the group which is below the residual value of the assets in the group.

8. Inventory Method
Under the inventory method, depreciation for the period is computed as the difference
between costs at the beginning and end of the period after adjustments for cost of acquisitions
and salvage proceeds from asset retired

Small tools
Jan 1. 20x1 bal 75,000 12,500 proceeds from retired /replace tools
Additions 30,000 37,500 depreciation for 2ox1 (squeeze)
55,000 December 31,20x1

Capitalization Policy

Items of PPE are capitalized based on entity’s adopted policy. For example an entity may adopt
a policy to capitalize all acquisitions amounting to P5, 000 or more and charge as expense those
below this amount. The capitalization policy is disclosed in the notes.

Leasehold Improvements
Leasehold improvements are depreciated over the useful life of the improvements or the
remaining lease term, whichever is shorter.
An option to renew the lease is considered when determining the shorter between the useful life
and the remaining lease term if it is probable that the renewal option will be exercised.

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Changes in depreciation method, useful life, and residual value

A change in depreciation method, useful life, or residual value is a change in accounting estimate
accounted for prospectively.
Prospective accounting means the change affects only the current period and/or future periods.
The change does not affect past periods.

Accounting procedures in Accounting Changes in Accounting Estimates

Step 1: Determine the carrying amount of the asset as at the beginning of the period of change.
Step 2: Depreciate the carrying amount computed in step 1 using the revised depreciation
method, useful life or residual value.
Example:
ABC Company decided to change from SYD to straight line method of depreciation on January
1,2020.
The asset was purchased on January 1,2018 at a cost of P500,000 and has estimated useful life
of 4 yrs.
Cost- January 1 ,2018 500,000
Accumulated Depreciation
2018 4/10 x 1,000,000 200,000
2019 3/10 x 1,000,000 150,000 (350,000 )
Carrying amount -January 1, 2020 150,000

Depreciation=150,000/2=75,000. Divide the remaining carrying amount with the remaining

useful life of the asset.