Question

A manufacturing corporation has installed a plant and machinery in its factory as on 5th January, 2018. The purchase price of that plant and machinery was OMR 220,000 and on this price 8% of trade discount was included and 5% of rebates were included after deducting the trade discount. Initial delivery cost was OMR 12,500 in that 20% of which was handling cost of the whole machinery in the factory building. Cost of testing was OMR 7,500, professional fees to technician amounted to OMR 10,200 in that OMR 2,200 was included for the cost of introducing the new plant and machinery. The cost of transport to bring the plant and machinery to factory site was OMR 15,500 in that OMR 5,200 was the transport charges for replacing that equipment already functioning in the factory.

Administrative and other general overhead cost was OMR 9,500. Initial operating cost when the plant and machinery was operated at less than full capacity. Cost of relocating the total of the factory’s operations was OMR 47,500.

The payment for the purchase price of the plant and machinery was deferred to the supplier for three months beyond the normal credit terms. The interest for that amount charges for three months was at the rate of 8% per annum.

Required:

On the role of an accountant consider the costs relevant to the plant and machinery:

a) Explain the accounting treatment of those costs to be capitalized.

b) Explain those costs which should not be capitalized and those costs were treated as an expenses as per the

requirements of IAS 16.

Answer 1

* Initial Assumption:

Purchase price of P&M given as OMR 220,000 is assumed that net cost after considering rebate and trade discounts. As the statement in question uses the terms " on this price 8% of trade discount was included and 5% of rebates were included after deducting the trade discount ".

* Cost to be capitalized and those to be treated as expenses- Computation

Cost to be Capitalised - OMR 267,900

Cost to be expensed off - OMR 59,200

S.No	Nature	Calculations	Amount in OMR	Note	Remarks ( Basis)
1	Purchase price (net)		2,20,000	a	To be capitalized
2	Initial Delivery Cost	12500-2500	10,000	a	To be capitalized ( Para 17 of IAS 16)
3	Handling Cost	12500*20%	2,500	a	To be capitalized ( Para 17 of IAS 16)
4	Cost of testing		7,500		To be capitalized ( Para 17 of IAS 16)
5	Professional Fee to the technician	10200 bifurcated as stated	8,000		To be capitalized ( Para 17 of IAS 16)
6	Cost of introducing the new P&M	2,200		Not to be capitalized ( Para 19 of IAS 16)
7	Cost of Transportation	15500 bifurcated as stated	10,300	a	To be capitalized ( Para 17 of IAS 16)
8	Cost of replacing the equipment already functioning	5,200	b	To be capitalized ( Para 17 of IAS 16)
9	Admin & General OH		9,500		Not to be capitalized ( Para 19 of IAS 16)
10	Cost of relocating total factory's operation		47,500	c	Not to be capitalized ( Para 19 of IAS 16)
11	Interest on deferred payment made for P&M @ 8% p.a	220000*8%*3/12	4,400	d	To be capitalized

* Notes:

a_ As discussed in IAS 16, The cost of an item of property, plant, and equipment comprises:

- its purchase price, including import duties/non-refundable purchase taxes, after deducting discounts and rebates

- any costs directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating

- the initial estimate of the costs of dismantling and removing the item and restoring the site on which it is located.

b_ Cost of replacing the equipment already functioning is in the nature of the amount spent on, site preparation and qualifies to be capitalized.

c_ Cost of relocating total factory operation cannot be capitalized according to para 19 of IAS 16. This cost represents a cost incurred for conducting business in a new location.

d_ IAS 16 clearly states, "If payment for an item of property, plant, and equipment is deferred, interest at a market rate must be recognized or imputed". So, interest has to be capitalized.