Recent updates to the International Financial Reporting Standards (lFRS) IAS 16 and IAS 36 standards - which address the issue of assets and how they are reported financially - now enable organisations to achieve greater value extraction from their assets as financial managers and physical asset managers finally begin to work from the same page and speak the same language.
Historically, physical asset managers and financial managers had two separate standards for managing their assets. The physical asset manager needed to break the asset register into component parts in order to effectively manage the whole. He also managed the productivity, cost and availability of each component to ensure that maximum benefit was derived from the whole asset. Financial asset managers, on the other hand, were driven by the requirements of accounting standards linked to tax reporting.
When reporting assets, financial asset managers typically recorded lump-sum quantities, regulated by the South African Revenue Service, that depreciated steadily over the lifecycle of each asset. When this value reaches zero, the asset is simply held on the register with a continuing nil value, giving the appearance that the asset held no tangible benefit or cost to the organisation.
Physical asset managers recognise that their role in the organisation is to see that assets are used beyond life expectancy as dictated by SARS, and that they continue to add value to the business. They also continue to be an expense, as they require ongoing maintenance and management. The result is that financial managers and physical asset managers were never able to use common data for cross-correlation of the value assets contributed towards the organisation.
The IFRS took steps to amend this situation and the 2003 revised IAS16 became effective at the beginning on 2005. The objective of IAS 16 is to prescribe the accounting treatment for property, plant and equipment, considering issues such as the recognition of assets, the determination of their carrying amounts and the depreciation charges to be recognised in relation to them. In order for this to be effective, IAS 16 prescribes that large asset bases must be broken down into component parts were the components carry a significant amount of value in comparison to the whole. This breakdown component structure is similar to the traditional component structure that physical asset managers have used in the past.
The challenge to be tackled as a result of this breakdown is how to value these new entities in the asset register. This is dealt with through IAS36. The objective of the IAS36 is to ensure that assets are carried in financial records at no more than their recoverable amount. It also defines how financial managers are required to calculate recoverable amounts.
For example: should the organisation buy a juice bottling line that consists of a filling machine, a capping machine, a labelling machine and a shrink-wrapping machine, this asset may no longer be recorded as simply one entity with a value of, say, R10 million. According to the amended IFRS standards, each component of this juice bottling line must now be recorded as individual assets. Therefore, the asset register must now list a filling machine valued at say R4 million, a capping machine worth R2 million, a labelling machine worth R1.5 million and a shrink wrapping machine worth R2.5 million.
In so doing, financial managers can now more accurately write off asset costs when technology is upgraded or new legislation introduces different compliance requirements. If it becomes mandatory for the capping machine to be replaced with a new machine that includes a tamper-proof seal, it is not necessary that the entire juice bottling line be discarded on the asset register or financial statement.
In reality, if a component of the line required an upgrade, the chances are remote that the entire setup would be replaced anyway. This would prove to be unrealistic and financially unviable. However, with the IFRS amendments it is no longer a complicated procedure to capture, value, devalue and depreciate any asset in the organisation. Asset registers and financial statements become mirror images of each other and now reflect the asset situation in the organisation accurately.
But, more than bringing financial statements and asset registers in line, the updates to IAS 16 and IAS 36 have also changed the way assets are valued. Historically, valuing assets involved beginning with the purchase of the asset at year zero and then depreciating its value over the suggested life span of the asset as determined by SARS. The IFRS now requires financial managers to account for asset in terms of their remaining useful life, allowing for anticipated future costs and impairment of the assets.
The challenge these changes impose on organisations is to ensure that they have access to the resources and skills to effectively determine the remaining useful life, permitting anticipated future costs and impairment values. No longer can these values be extrapolated linearly or formalistically. Rather, they now require the input of subject matter experts. In addition, different industries have different challenges. For example, in the mining and petrochemical industry anticipated future costs should include rehabilitation of the environment in which the organisation operates. These types of costs have not been accounted for before in many instances and will significantly alter the way businesses are valued.
In the municipal and local government environment the physical assets have been classified under a single line entry for multi-million wastewater treatment plants. Various components of these plants have been replaced, upgraded or written-off. The remaining assets in terms of the IFRS need to be broken down into logical components and those components valued according their expected remaining useful life.
All of this closes the great divide between physical asset managers and financial managers. While physical asset managers continue to track asset lifecycles, life spans and the value and cost of asset during their lives, financial managers can now work from the same page.
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