PROPERTY, PLANT AND EQUIPMENT

By the end of this topic the learner should:

i. Describe the characteristics of plant assets and illustrate the accounting for the

acquisition of plant assets.

ii. Describe the nature of depreciation and illustrate the accounting for depreciation

iii. Describe the various methods of calculating depreciation expenses and be

able to use them in calculating depreciation.

iv. Describe and illustrate the accounting for plant asset disposal.

 Property, plant and equipment are long term tangible assets vital to business operation that
are not easily convertible into cash.

 They area also known as fixed assets and they include: Equipment, Buildings,
Machinery,Furniture among others.

 Investment analysts and accountants use property, plant and equipment to determine if a
company uses funds efficiently.

CHARACTERISTICS OF PLANT ASSETS

 They are used directly in operation of revenue generation.

 They have a useful life longer than one year.

 They are tangible, meaning they have a physical presence.

 They are usually, except for land, subject to depreciation.

 INITIAL COST OF FIXED ASSETS
The initial costs of acquiring a plant asset may include; It's purchase price, any import duties,
non-refundable taxes, sales discounts, rebates and any costs directly attributable to bringing
the asset to the location and condition necessary for it to be operational (such as installation
expenses)

ACCOUNTING FOR PROPERTY, PLANTS AND EQUIPMENT

 Property plants and equipment are recorded on a company’s balance sheet.
 PPE are measured using historical cost or the actual purchase cost.
 Example, when purchasing a building for retail operations, the historical cost could
include; purchase price, transaction fees and any improvements made to the building to
bring it to use.
 The gross value of PPE is adjusted for use and depreciation.
 The PPE account is remeasured every reporting period, and after accounting for
historical cost and depreciation, is defined as book value. This figure is reported on the
balance sheet.
 To calculate PPE, add the gross property, plant and equipment listed on the balance
sheet to capital expenditures then subtract accumulated depreciation.

DEPRECIATION
Depreciation is the gradual and permanent decrease in the value of an asset from any cause such
as use and lapse of time.
Fixed assets lose their value over a period of time due to wear and tear. The decrease in the value
of these assets is also a lose to the business which should be considered while calculating for net
profit for any particular year.
The gross value of an asset that is, historical cost or the actual purchase cost is adjusted for use
and depreciation.
NOTE : Land assets are not depreciated because of their potential to appreciate and are always
represented at their current market price.
 DEPRECIATION PROVISION AND TIME FACTOR
There are two methods which are followed to calculate depreciation provisions for asset bought
or sold during any accounting period.
a. Full year’s depreciation is calculated on the assets purchased irrespective of the date of
purchase during any accounting period and no depreciation is charged in the year of sale of
these assets.
b. Depreciation is calculated on the basis of the number of months the asset was in ownership of
the business.

FACTORS AFFECTING DEPRECIATION EXPENSES

Depreciation is the impact of time on the monetary value of a physical Product. It is the process of
losing value

 Acquisition cost/starting value

This is the initial cost of a product. The monetary value that your customers would pay to own the
product. A high starting cost leads to high depreciation

 Estimated lifetime.
This is how long you anticipate that the product will provide use. It can be affected by factors
such as maintenance and intensity of use. A low residual value leads to high depreciation.

 Manufacturer reputation.
This influences the perceived worth and desirability of the product. AS a result, this often reflects
in a high starting value. A higher desirability means a lower depreciation.

 Market Demand.
This is how much call there is for the product on the market. A higher demand correlates with a
low depreciation.

 Obsolescence.
This is similar to the estimated lifetime but is more aligned with technology and software, as
opposed to the usefulness. A fast obsolescence means a high rate of depreciation.
 METHODS OF CALCULATING DEPRECIATION EXPENSES.

I. Fixed Instalment or Straight line method.

The straight-line method calculates an average decline in the value over a period. This is the
most common method and the simplest way to calculate depreciation. In straight line
depreciation, the expenses amount is the same every year over the usefulness life of an asset.
This method can be used on assets such as vehicles, office furniture, equipment and buildings.
The annual depreciation is calculated as follow:

Depreciation = (cost-salvage value of the asset)/ Useful life

If the scrap value is zero;

Depreciation = Cost/Working life of asset.

Where,
i. Cost is the purchase or acquisition price of the asset
ii. salvage value is the estimated value of the asset at the close of the working life.
iii. Useful life of the asset is the number of years an asset is expected to be used.

Example: A machine costing Ksh. 10,000 is purchased. If expected working life is 10 years,
Calculate annual depreciation when:
a. Its scrap value is Ksh 1,000
b. Its scrap value is 0
Solution:
a. Annual depreciation = Ksh ( 10,000-1,000) / 10
= Ksh 900 p.a

b. Annual depreciation = Ksh ( 10,000) / 10

= Ksh 1,000 p.a
II. Reducing balance method/ Diminishing balance / Written down value method

This method assumes that an asset is valuable in its earlier years and losses value in the coming
years. It declines over years until it reaches its salvage value or full depreciation.
Depreciation is calculated as follow:

Depreciation =Beginning book value ×Rate of depreciation

Example: A machine costing Ksh 10000 is purchased. The depreciation is provided at the rate of
20% p.a by the reducing balance method. Show the amount of depreciation for three consecutive
years.

Solution:
Dr. MACHINE ACCOUNT Cr.
KSH KSH
End of Bank/Cash 10,000 Depreciation 2,000
year 1 Bal C/d 8,000
10,000 10,000
End of Bal B/d 8,000 Depreciation 1,600
year 2 Bal C/d 6,400
8,000 8,000
End of Bal B/d 6,400 Depreciation 1,280
year 3 Bal C/d 5,120
6,400 6,400
Bal B/d 5,120

Workings:
Depreciation for:
Year 1: 20% * 10000 = 2,000
Year 2: 20% * (10000-2000)= 1,600
Year 3: 20% *(8000-1600) = 5,120
 Where,
Beginning book value is the asset value at the start of the year
The declining balance method is often best for organization with assets that initially lose greater
value such as new vehicle and that want larger depreciation deduction soon.

III.REVALUATION METHORD

This method is mainly used for livestock, motor vans, loose tools, furniture etc. In this method the
asset is valued annually and the difference between the opening balance and closing balance
represents the depreciation.
Example: A motor van standing on the books at 1st January at Ksh 1,800 is valued at 31 st
December at Ksh 1,350. Find the depreciation for the year

Solution
Depreciation = Book value - Revaluation value
= 1,800-1,350
= Ksh 450

TREATMENT OF DEPRECIATION
Depreciation represents the decrease in the value of the fixed asset.
This lose in value is chargeable against profits made during the working life of the asset
concerned and is charged to the profit of any particular year.
The annual depreciation is recorded as under:

Dr. Profit and loss account

Cr. Asset account or Provision for depreciation account

METHOD OF RECORDING DEPRECIATION

Depreciation can be recorded in the books of accounts by two different methods
a. When a provision for depreciation account is maintained:
Dr. Profit and loss account
 Cr. Provision for depreciation account

b. When provision for depreciation account is not maintained:

Dr. Profit and loss account
Cr. Asset account
The asset account thus appears in the books at written down value.

Example: A machine which costs Sh 10,000 is to be depreciated at the rate of 15% p.a on
the strait line method. Assuming that this machine was purchased on first January 1995,
show the entries to record this as at 31st December 1995,1996 and 1997 by applying the
two-alternative method.
Solution:
METHOD 1: Entries in asset account
Dr. Profit and loss account
Cr. The asset account
Annual Depreciation = Ksh (10,000 * 15%)
= Ksh 1,500
 MACHINERY ACCOUNT
Date Detail Ksh Date Detail Ksh
Jan 1, Bank Dec Profit 1,500
1995 10,000 31,1995 &
loss

Dec Bal 8,500

31,1995 B/d
10,000
10,000
Jan Bal 8,500 Dec Profit 1,500
1,1996 C/d 31,1996 and
loss
7,000
Dec Bal
31,1996 C/d
8,500
8,500
Jan Bal Dec Profit 1,500
1,1997 B/d 7,000 31,1997 and
loss
Dec 5,500
31,1997 Bal
C/d
7,000
7,000
Dec 31, Bal
1997 B/d 5,500
 PROFIT AND LOSS ACCOUNT EXTRACT
DEC 1995 Ksh
Depreciation 1,500
DEC 1996
Depreciation 1,500
DEC 1997
Depreciation 1,500

BALANCE SHEET EXTRACT

Dec 1995
Ksh
Machinery
8,500
Dec 1996
Machinery
7,000
Dec 1997
Machinery
5,500

METHOD 2: Annual depreciation

Dr. Profit and loss account
Cr. Provision for depreciation account
MACHINERY ACCOUNT
Date Detail Ksh Date Detail Ksh
1995 Bank 10,000 1995 Bal C/d 10,000
Jan 1 De 31
 10,000 10,000
1996 Bal B/d 10,000 1996 Bal C/d 10,000
Jan 1 De 31
10,000 10,000
1997 Bal B/d 10,000 1996 Bal C/d 10,000
Jan 1 De 31
10,000 10,000

PROFIT AND LOSS ACCOUNT EXTRACT

DEC 1995 Ksh
Depreciation 1,500
DEC 1996
Depreciation 1,500
DEC 1997
Depreciation 1,500

PROVISION FOR DEPRECIATION ACCOUNT

Date Detail Ksh Date Detail Ksh
1995 Bal C/d 1,500 1995 Profit & 1,500
Dec 31 De 31 Loss a/c
1,500 1,500
1996 Bal C/d 3,000 1996 Bal B/d 1,500
Dec 31 Jan 1
1996 Profit & 1,500
De 31 loss a/c
3,000 3,000
1997 Bal C/d 4,500 1997 Bal B/d 3,000
Dec 31 Jan 1
1997 Profit & 1,500
Dec 31 loss a/c
 4,500 4,500

BALANCE SHEET EXTRACT

Dec 1995 Ksh Ksh
Machinery
Cost 10,000
Less: Provision for depreciation ( 1,500 ) 8,500
Dec 1996
Machinery
Cost 10,000
Less :Provision for depreciation (3,000)
7,000
Dec 1997
Machinery
Cost 10,000
Less :Provision for depreciation (4,500) 5,500

DISPOSAL OF ASSET AND DEPRECIATION PROVISIONS

When an asset is sold, the profit or loss made on the sale of the asset is to be calculated.
The profit or loss on sale of the asset is then transferred to the profit and loss account.
For the purpose of calculating profit or loss on the sale of any asset, disposal of asset account is
opened. The relevant balances are transferred to this account.
The entries in the disposal of asset account are made as follow:
a. Cost price of Asset
 Dr. Disposal of asset account
Cr. The asset account

b. Total depreciation charged against the asset

DR. Provision for depreciation account
Cr. Disposal of asset account
c. Sales proceed of the asset
Dr. Cash/ Bank account
Cr. Disposal of asset account
Any balance in the disposal of asset account will represent a profit or loss on the sale of the
asset. This balance is transferred to the profit and loss account at the end of the year.

Example: On 1st January 1995 a company purchased two motor vans costing Ksh 30,000 each.
The policy of the company is to charge the depreciation at the rate of 20% p.a on reducing
balance. A full year depreciation is charged in the year of acquisition but non-in the year of
disposal. One motor van was sold on 15th October 1997 for Ksh 15,000.
Required:
a. Write up the motor van, depreciation for motor vans and disposal of motor van accounts in
the company’s ledger.
b. Show the relevant entries in the company’s profit and loss account for the year 1995,1996
and 1997 and balance sheet as at 31st December 1995,1996 and 1997.
Solution:
Dr. MOTOR VAN ACCOUNT Cr.
KSH KSH
Jan Bank/Cash 60,000 Dec Bal C/d 6o,000
1,1995 31,1995

60,000
60,000
Jan Bal B/d Dec Bal C/d 60,000
1,1996 60,000 31,1996

60,000
60,000
Jan Bal B/d 60,000 Oct Disposal of van
1,1997 15,1997 30,000
Dec
31,1997 Bal C/d 30,000
60,000
60,000

PROVISION FOR DEPRECIATION FOR MOTOR VAN

Date Detail Ksh Date Detail Ksh
1995 Bal C/d 12,000 1995 Profit 12,000
Dec 31 De 31 & Loss
a/c
12,000 12,000
1996 Bal C/d 21,600 1996 Bal B/d 12,000
Dec 31 Jan 1
1996 Profit 9,600
De 31 & loss
a/c
21,600 21,600
1997 Disposal 10,800 1997 Bal B/d 21,600
Oct 15 of motor Jan 1
van 1997 Profit 3,840
Dec 31 Bal C/d 14,640 Dec 31 & loss
a/c

25,440 25,440
Dr. DISPOSAL OF MOTOR VAN Cr.
KSH KSH
Oct Motor van 30,000 Oct Depreciation provision 10,800
15,1997 15,1997
Oct Bank A/c 15,000
15,1997

Dec
31,1997 Profit & Loss A/c
4,200
30,000
30,000

PROFIT AND LOSS ACCOUNT EXTRACT

DEC 1995 Ksh
Depreciation 12,000
DEC 1996
Depreciation 9,600
DEC 1997
Depreciation 3,840

Loss on sale of Motor van 4,200

 BALANCE SHEET EXTRACT
Dec 1995 Ksh Ksh
Motor van
Cost 60,000
Less: Provision for depreciation ( 12,000 ) 4 8,000
Dec 1996
Motor van
Cost 60,000
Less :Provision for depreciation (21,600) 38,400
Dec 1997
Motor van
Cost 30,000
Less :Provision for depreciation (14,640) 15,360

Workings: Depreciation
1995: 20% * 60,000 = Sh 12,000
1996: 20% * 48,000 =Sh 9,600
1997: 20% * 19,200 = Sh 3,840