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The carrying amount

Written By: wwwcspwritescom

A straightforward definition of carrying amount would be the current value of a particular asset or liability that a company specifies in its books. Far from being simple task, indicating the right carrying value or amount for each financial entity must follow a certain set of rules, depending on its nature, and the reporting methods to be used may differ widely, which will be discussed below.

 

Property plant and equipment

Property plant and equipment refers to items such as machinery, property and manufacturing equipment owned by a company. With the aim of properly stating the current value of every asset, some vital information has to be borne in mind: useful life, initial value, any potential scrap value and the amortization technique to be used.

In the first year of acquisition, full value will be reported, with the following years seeing this number reduced by a percentage related to the chosen amortization technique. The straight line method will deduct even amounts from the original price before reaching the scrap value. Under the accelerated method, bigger amortization will be applied in the early years compared to that of the later stages of the asset’s life.

If applicable, a scrap value will be left as a permanent value should a potential disposal or sale be available.

 

Bonds

A bond’s current value suffers from depreciation, which is tightly related to its interest rate and the current one in the market. Bonds offering an interest rate lower than the market will have to be sold at a discount to their par value; on the other hand, those offering higher interest rates will be offered at premium prices.

This price difference to par value will generate a liability to be amortized for discount bonds and an asset to be sold at premium price. The current value will initially display the purchase price, and this quantity will increase or decrease heading towards the par value as the generated asset or liability does otherwise. The pace at which this amortization is realized usually follows the straight line method.

 

Intangible assets

Intangible assets with a finite life, such as patents, will be amortized using the straight line method at every accounting period. The decreasing carrying value will lead to a final amount which is their assessed residual value.

Intangible assets with an indefinite life are not amortized. Instead, an appraisal can be carried out to look for impairments in the asset’s price; therefore, a correction in the books may be required. An example of this would be goodwill.

 

Revaluations and impairments

Sometimes the carrying amount may largely differ from the current market value of an asset. To reflect these changes in price, revaluation and impairment models can be applied under certain circumstances.

Revaluation will aim to follow the changes in the market by updating the carrying amount upwards or downwards. Notice that this method will only be allowed under IFRS, not US GAAP accounting standards.

Revaluating upwards will generate and increase in equity under a revaluation reserve asset or, otherwise, a reversal of a previous loss on the income statement due to a downwards revaluation.

On the other hand, downward revaluation will reduce an already existing revaluation reserve or, alternatively, generate a loss displayed as an expense on the income statement.

Impairments are more targeted to writing down the historical asset value to reflect a fairer price following damages, becoming obsolete or changing market conditions. Book value will be reduced and an expense will be reflected in the income statement when the carrying amount exceeds the recoverable amount. The recoverable amount will vary depending on the required accounting standard.

Under IFRS, recoverable value will amount to the higher sum between the present value of the asset’s future discounted cash flows and the net realizable amount – or the value of the asset could be sold for less than selling or disposal costs.

Following US GAAP rules, the recoverable amount will be equal to the total value of the expected future undiscounted asset cash flows.