IAS 16 and IAS 38 — Contingent pricing of property, plant and equipment and intangible assets

Date recorded:

The Committee previously considered a request to clarify the accounting for contractual costs to be incurred by an operator in a service concession arrangement. The request for clarification relates to whether these costs should be recognised at the start of the concession arrangement as an asset with an obligation to make the related payment, or treated as executory in nature and recognised over the term of the concession arrangement.

At previous meetings, the Committee asked that the staff develop a principle associated with the accounting for variable concession fees. The Committee acknowledged that the Board’s project on leases considers the accounting for variable payments. However, the Committee preferred not to wait until the completion of the Board’s leases project before advancing the issue. Therefore, the Committee directed the staff to recommend the appropriate accounting for such fees in consideration of the principles currently being discussed as part of the leases project. The staff was asked to bring a paper for discussion at the September meeting which considered:

  • Whether the characteristics of contingent payments for the separate purchase of property, plant and equipment and intangible assets are similar to the characteristics of variable payments in leases;
  • What IFRS amendments would be required to enable the accounting for contingent payments for the separate acquisition of property, plant and equipment and intangible assets to be consistent with the principles in the leases project; and
  • Whether the accounting for contingent payments in IFRS 3 Business Combinations can be applied by analogy to the accounting for contingent payments as an alternative to the principles in the leases project.

At this meeting, the staff identified multiple models that could be used for the accounting for variable payments for the separate acquisition of property, plant and equipment and intangible assets. Those models included:

  • A leases model, based on tentative decisions taken so far by the Boards in the Leases project;
  • A financial liability model, based on the principles in IAS 32 Financial Instruments: Presentation, IAS 39 Financial Instruments: Recognition and Measurement and IFRS 9 Financial Instruments on the accounting for the financial liability;
  • An IFRS 3 model, based on the accounting for contingent consideration in IFRS 3;
  • An IAS 16/IAS 37 Provisions, Contingent Liabilities and Contingent Assets/IFRIC 1 Changes in Existing Decommissioning, Restoration and Similar Liabilities model; and
  • An ‘expensed as incurred’ model.

The staff concluded that the proposed model for the accounting for the separate purchase of property, plant and equipment and intangible assets should largely mirror that of the Leases project (although a few exceptions were noted between the staff’s proposals and that of the Leases project). In particular, the proposed model would have the following principles:

  • Variable payments that are dependent on the purchaser’s future activity should be excluded from the initial measurement of the asset and liability.
  • Changes in the measurement of the financial liability should not be always recognised in profit or loss, but should be recognised as an adjustment to the cost of the asset to the extent that those changes relate to future economic benefits to be derived from the asset.
  • For financial liabilities that include variable payments that are dependent on a floating rate, variations in the rate or the index should not trigger any adjustment to the carrying amount of the liability, or if there is an adjustment to the carrying amount of the liability, it should be recognised as an adjustment to the cost of the asset.

Four primary concerns were expressed by Committee members in relation to the principles outlined by the staff.

  • The first concern expressed by many Committee members was whether the staff’s proposed model was appropriate. Specifically, several Committee members were not convinced that the staff’s proposal provided more relevant information than either the IAS 32/39 or IAS 37 models. As a result, Committee members requested that the staff provide a more thorough basis for its conclusion that a model most akin to the Leases project was most appropriate.
  • Many Committee members expressed concern that the staff’s proposals were not entirely aligned to the Board’s proposals on the Leases project. For example, under the staff’s proposals, the liability to make payments for the separate purchase of property, plant and equipment or intangible assets would be subsequently accounted for at amortised cost in accordance with IAS 39. Under the proposed leases model, spot rates (and not forward rates) would be used for the estimation of cash flows that are dependent on an index or a rate and for the determination of the discount rate. In IAS 39, forecasting techniques (i.e., forward rates) should in principle be used. These Committee members requested additional information supporting the reason to diverge from the Leases project in limited circumstances and questioned whether the basis of any project undertaken by the Committee could be supported when an alternative approach to a separate IASB project was being proposed at the Board level.

However, other Committee members expressed concerns that completely tethering this project to the Leases project represented a significant risk given that the Leases project was not yet finalised. These same Committee members did not, however, express uniform support for the proposals described by the staff. Many communicated concerns that the staff’s proposals represented unique principles from those captured in either other IFRSs or the Board’s latest thinking (i.e., leasing proposals), and therefore, was outside of the remit of the Committee.

  • The staff’s proposals were generally scoped to consider in what circumstances an operator should recognise a change in the measurement of a liability as an adjustment to the cost of the asset. However, many Committee members, in reviewing illustrative examples of the proposals prepared by the staff, expressed concerns with staff conclusions regarding the liability recognition event. As a result, many Committee members requested that the scope of the project be expanded to consider the liability recognition event.
  • Finally, in considering the staff proposal that changes in the measurement of the financial liability should be recognised as an adjustment to the cost of the asset to the extent that those changes relate to future economic benefits to be derived from the asset, many Committee members were not certain how the principle would be applied in practice. A specific example expressed was a royalty payment contingent on cumulative revenue generation. It was not clear if this payment would be recognised in profit or loss or as an adjustment to the cost of the asset based on the specific wording in the staff proposal, although the Committee member acknowledged that this is broader issue across IFRSs.

In response to the feedback, the Committee Chair outlined three possibilities: ‘Quit’ the project; focus exclusively on the debit side of the transaction (i.e., in what circumstances an operator should recognise a change in the measurement of a liability as an adjustment to the cost of the asset); or ask the staff to consider the feedback provided and develop a paper for a future meeting. The Committee elected for the last alternative and asked that the staff bring a paper to a future meeting which considers the feedback received during the September meeting.

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