Asset Management

Topic: Consumption Depreciation (or the lifespan of a fairy)

Anonymous Member
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1.  Consumption Depreciation (or the lifespan of a fairy)

Posted 24 days ago
Edited by intouch 24 days ago
Unfortunately we have come to the end of our patience. Having to explain to another council that their 40 year old buildings do not have another 110 years life left in them, that the fair value of those assets are not equivalent to 95% of their reproduction cost, that component items do not have longer lives than the parent asset and so on. It has become tiresome and stressful as these councils are now forced to make significant adjustments to their financial plans to correct the inaccurate advice they have previously paid for.

As consumption depreciation (the one spruiked to local government not the MS skewed version of reality) is not transparent it is hard to establish what the goal(s) of the concocted delirium really are as it is blanketed in a fog of confusing discourse. But from what we have seen, when consumption depreciation is implemented by a council, their asset values enter a different realm.

We understand councils are desperate to achieve financial sustainability, so if a dodgy depreciation calculation assists in achieving the desired outcome, then can a council be blamed for turning a blind eye? We know councils have undertaken scenario analysis to find out if adopting consumption depreciation would be favourable to their financial position, so it is hard to deny the reason behind its adoption.

So, where are the gatekeepers, those entities tasked with oversight? Does it fall to LGA associations, State Government or the audit community? Do auditors acknowledge consumption depreciation delivers a true picture of local government's position?

We are fed-up with seeing bull**** valuations and in our search for a better understanding we challenge any council currently using consumption depreciation or any auditor tasked with auditing those councils to justify the use of consumption depreciation as it relates to asset valuations.








------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------


2.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 23 days ago
Hi Martin,

Love this topic :)))

I agree that adopting a consumption (condition) based depreciation model is not an easy exercise. And councils whishing to adopt one should have a very sophisticated model supported by sound evidence. Therefore there are not so many of them having that. In fact, most councils in Australia are using straight line depreciation. Having said that, consumption based depreciation is still allowable by the Accounting Standards (it is annuity method which is prohibited) and the Code (NSW). It is also acceptable by auditors if council can provide sound and justifiable model.

From my knowledge, one of the best examples of the working consumption based depreciation model is with City of Ryde Council. They have been using it since 2013 with clear audit opinions. Have a look at their financial statements for those periods. The last financials for 2017 was audited by Audit Office of NSW and it is all good.

Cheers,
Igor.





3.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 19 days ago
Dear Martin

What's "consumptive depreciation"?

PWS


4.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 19 days ago

Hi Martin,

It is often difficult to determine the most appropriate method of depreciation for long-lived assets that don't have a market value, so it's probably not all that surprising that it leads to some "interpretation"!

I've been discussing this subject with John Comrie (one of the principal authors of the Australian Infrastructure Management Manual).

Accounting standards require that the depreciation method utilised reflect the pattern of consumption of an asset's value, and IPWEA's Australian Infrastructure Financial Management Manual discusses the options and argues that the straight-line method of depreciation is often the most suitable (See Section 12.10).

Annual depreciation expenses will also depend on the useful life estimates of assets. This item has also been enthusiastically discussed in this forum as useful life is also often difficult to reliably predict. Useful life is the period an entity expects to hold and utilise an asset. Accounting standards require that estimated remaining useful lives of assets be reviewed annually and the asset register updated as appropriate. 

Detail to guide determining and reviewing useful life estimates can be found in IPWEA Practice Note 12, Useful Lives (and, also more concisely in AIFMM Section 12.9). Ultimately suitable depreciation methods and useful life estimates are up to councils. Auditors determine whether they believe the methods and estimates utilised are reasonable and appropriate for financial reporting.

Regards

Allen




5.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 19 days ago
Just a couple of points to add to the discussion to clarify a couple of  common misconceptions  -

  • Depreciation under the accounting standards is NOT based on the expect changes in value but rather is the allocation of the cost (or amount substituted for cost (i.e. Replacement Cost). As such there is no link between the determination of the Fair Value and the calculation of depreciation expense. This point is made in AASB13 as well as the AASB's Residual Value decision. They are two separate concepts and covered individually under different accounting standards
  • Under AASB13 the value is to be determined based on the key characteristics which are specifically noted as condition, location and restrictions on sale as well as obsolescence. No mention is made in AASB13 about Useful Life, RUL or depreciation. This is because they are separate unrelated independent concepts. Valuations based on depreciation expense estimates are fundamentally flawed and likely to be materially incorrect.
  • The comment about the 'pattern of consumption' not needing to be constant is correct. Prior to 1997 the old AAS4 Depreciation standard used to state that entities 'should' use a method that matched the pattern of consumption but if that was too hard to use the straight-line method. When the new standards were implemented the wording changed to mandate that the entity MUST adopt a method that matched the pattern of consumption and withdrew straight-line as a default option. Despite this change from almost 20 years ago most entities still use straight-line for depreciation expense calculations. However there is nothing stopping an entity using a more appropriate pattern based on sound logic and justification. Ultimately it is the responsibility of the entity to determine the pattern of consumption. If they use straight-line they technically need the same level of support to justify this assumption.
  • Depreciation expense is not related to the estimated RUL and the accounting standards do not require an annual assessment of RUL. They actually require an annual review of the Useful Life and depreciation must be based on the Depreciable Amount. If you were using straight-line the formula would be  (Replacement Cost  -  Residual Value )  /  Useful Life.   Formulas using the RUL and the Carrying Amount are technically incorrect and will often result in over-depreciation. 

On a final note I think it is critical to recognise that Fair Value under the Cost approach (Current Replacement Cost) and Depreciation Expense are unrelated concepts covered by different accounting standards and should not be confused with each other. The valuation is to be undertaken in accordance with AASB13 using an appropriate methodology compliant with that standard whereas Depreciation Expense is covered by AASB116 (and other standards) and is wholly the responsibility of the entity.


------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



6.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 17 days ago
Hi Peter,

As you can see from the responses, no-one, including it would appear users of consumption depreciation, know what it is. And obviously those who do utilise this depreciation methodology or tasked with auditing it are prepared to publicly support it.

Comments posted to this topic infer 'interpretation' is an acceptable basis for divergent valuation outcomes as long as auditors sign-off on the script. This then brings into question the role of the auditor.

Maybe those tasked with oversight need to revisit the role of the auditor when it comes to reviewing valuation outcomes. The topic of valuation is such a complex one that simply referring to passages from standards just doesn't come close to addressing the intricacies involved.

On this point, we would strongly support the creation of an independent valuation auditor, one that sits alongside the financial auditor. The valuation auditor would be tasked with assisting financial auditors when queries such as whether the appropriate valuation approach has been adopted, what markets might exist for certain assets, whether 999 years is an acceptable useful life for roads or if 150 years is an appropriate useful life for concrete floors when componentising assets. Even the requirement for councils to report their assets at their highest and best use is, for some asset categories, such a complex concept we question the ability of auditors to audit the process let alone decide if the outcomes are relevant.

However, that is off-topic.

To answer your question Peter, only those entities that use consumption depreciation know the lifespan of a fairy.

------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



7.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Hi Martin

[This is an extract from the minutes of a board meeting in the offices of the White Star Line in Liverpool around the start of WW1]

"…….and can we satisfy the loss adjusters as the total cost of the claim and submit it to the auditors before the closing of the annual accounts? Mr Beresford, I'm told there is still one outstanding item. As Chief Accountant, perhaps you would explain it to the Board?"

"Thank you, Mr Chairman for the opportunity to bring this final, essential matter forward for scrutiny by the assembled members. You will recall, sirs, that there was talk that someone was rearranging the ……"

He was forcibly interrupted by the Managing Director who spoke…

"I really must scotch this stupid rumour which has gotten around. What actually happened was that one of the stewards had ascertained that there were not going to be enough life jackets to go around. Being a resourceful soul, he liberated a number of the deckchairs and tossed them overboard to act as flotation devices. However well intentioned, it was actually of little use as the sea was so cold that no one survived for more than a few minutes in the freezing water."

"Yes, sir," continued the accountant, "but that's not the issue. In order to finalise the insurance claim, we need a complete valuation of all of the assets which were lost in the disaster. Everything else is accounted for and agreed with the loss adjusters but they are refusing to sign off the deckchairs as some of them were tossed overboard and hence, being made of wood, did not sink with the ship. They are saying that, under the terms of the policy, they are not responsible for flotsam and jetsam; the chairs having being thrown overboard and hence jetsam. International law would appear to support their case."

"But what's the problem?" enjoined the MD. They only cost about ten pounds each and there can't have been more than a hundred!"

"But we don't know how many were lost and if any were picked up when the rescue vessels attended after the sinking – the auditors are asking us to justify our claim for their total write-off and I will need the Board's approval to ……………………"

 Further discussion did not reach a solution but it may be noted that many years later, around the dawn of the new century, a single deckchair with the name of the Line and of the Ship went, at auction, for just over $30,000.

[from 'Hoggrills End' by Stilovsky and Schrodinger]




8.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 16 days ago

Hi David,

I think that Fair Value (Carrying amount) should be depreciated over the remaining useful life. Frankly, I think that answer B is correct and your answer will be A for the following question. I would like to get other people's feedback on this.

Assuming a component of an infrastructure asset is revalued on 30 June 20XX. The summary of revaluation is as follows:

  • Gross Replacement Cost (GRC) $367,537.50
  • Fair Value (FV) $238,531.84
  • Useful life (UL) 75 years
  • Remaining useful life (RUL) 28.13 years
  • Residual value (RV) null

 

What is the estimated annual depreciation expense for the following financial year?

      A.  (GRC - RV)/UL=($367,537.50 - 0)/75 = $4,900.50
      B.  (FV - RV)/UL=($238,531.84-0)/28.13=$8,479.62

Regards,
Bataa




9.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 16 days ago
Bataa

Your example demonstrates very clearly that there can be a significant difference in calculation of depreciation expense depending on whether you depreciate the gross over the useful life or the carrying amount over the RUL.  This is why the  AASB when issuing the standards mandate that the depreciation MUST be based on the Depreciable Amount and allocated over the Useful Life.

It is important to note that the term RUL does not exist in the accounting standards other than for its use in depreciating the recoverable amount of assets impaired under AASB136.  Also important to note that AASB136 no longer applies to specialised public sector assets that are not held for the generation of revenue and valued using cost approach.

This also highlights the previous comment about there being absolutely no relationship between Depreciation Expense and Fair Value.

------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



10.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 16 days ago
Hi David,

We understand you have some involvement in Consumption Depreciation. Given non-one else in this forum appears able to explain to us how this concept works and is applied to the accounting equation; and there is very little narrative on the topic, maybe you can enlighten us?


------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



11.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 16 days ago
Apologies spelling and iphone keypads don 't mix

------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



12.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Certainly Martin. And thank you for the timely discussion on the calculation of depreciation expense. Depreciation expense is a highly material figure in the financial statements and, from my personal perspective, unfortunately many councils overstate it and many of the Auditors-General and regulators have tried to over-simplify the sustainability of local government down to a few ratios with most being highly affected by the depreciation expense figure.

Given the high materiality and variations in this figure across councils it really casts doubts as to the usefulness of such ratios. I would also argue that depreciation expense is about consumption in the last 12 months and has nothing to do with the future so to put so much focus on it as a measure of sustainability to me is a bit unrealistic. Instead the focus should be on the asset management plan and analysis of how able to council is to continue to provide services and generate sufficient revenue. Neither of course relate to depreciation expense.

In terms of calculation using a consumption based depreciation method there is nothing terribly secret or complex. I think where the confusion comes in is that most accounting systems are unable to handle anything other than straight-line. Some might suggest this also applies to may accountants, valuers, engineers and auditors.  In order to enable common accounting systems to deal with consumption based depreciation the system requires the depreciation rate applied to be converted into a Useful Life (note: this is an accounting system issue). Such useful life figures can look way out wack with reality.

What many miss however is that the rate applied only relates to the expected rate of consumption while the asset is that specific phase of the life cycle and is not applied for the entire life cycle. The rate will change over time. Hence they can assume the assumption is incorrect but this is because of a lack of understanding of the overall consumption profile. Consumption Based Depreciation is is effect a straight-line depreciation method.

AASB116 requires the Depreciable Amount to be depreciated over the Useful Life. However paragraph 60) often not quoted by those who demand straight-line) requires that the pattern used reflect the expected consumption. Consumption Based Depreciation, based on the asset management life cycle, breaks the total life cycle down into phases and uses a straight-line depreciation method to calculate the rate of depreciation while the component is in that specific phase. In the phase the calculation is simply the expected change in future economic benefit over the expected change in Useful Life. Over the life of the asset 100% of the service potential is depreciated over 100% of the Useful Life. If an asset has a low rate of depreciation in some phases it will be compensated for by a corresponding high rate in another phase. It is nothing more than a process to better match the pattern of consumption to reflect the asset management reality. Drivers of consumption include many things other than age. For example - wear and tear and obsolescence.

Having said all of that, given that Useful Life and Depreciation has no direct impact on the determination of Fair Value, Depreciation Expense is solely the responsibility of the entity and combined with a predisposition for auditors to want a simple straight-line approach and the limitations of most accounting systems, we have been supplying estimated depreciation for clients on the straight-line method for the past five years. If entities wish to apply a consumption based approach that is rightly their choice and they should be able to provide auditors with a sound argument to support their 'pattern of consumption'. Whatever depreciation method is used by a council it is important that it reflects their best understanding of how their assets are consumed. It is not the role of external consultants, valuers or auditors. All we can do is help facilitate them through the accounting standard requirements to ensure the assumptions and methodologies used reflect their asset management reality.

I hope this answers our question and provides you with the necessary knowledge to understand that there is nothing fundamentally wrong with Consumption Based Depreciation methods. It is just that they are based on a more sophisticated analysis of the asset life cycle and because of that, when trying to convert to a straight-line paradigm, produce outcomes that look a little crazy to some. But when the whole life cycle is taken into account results in the full 100% of the future economic benefit (Depreciable Amount) being allocated over 100% of the assets Useful Life using a method that matches the expected pattern of consumption (para 60). Given that the default use of straight-line was removed from the standards in 1997 it might be time for everyone to challenge they way they traditionally think about depreciation. THey say change in government takes 30 years so based on that perhaps we will see common use of methods other than straight-line in about 10 years from now.



------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



13.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Thanks David,

Maybe a worked example might assist with understanding the methodology.

------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



14.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 16 days ago
Hi Bataa,

Hope you are doing well. I remember this question you raised during the coffee break on APV workshop :)))
I would agree with Dave here. AASB 116 clearly states that depreciation should be based on depreciable amount. In your example what you call FV is not a depreciable amount but more a carrying amount.

The funny thing is that your concept would work if NSW local government councils had the net based accounting for revaluation of assets (FV becomes depreciable amount). But we are using gross based accounting where Replacement Cost and Accumulated depreciation should be shown and adjusted separately. There are some obvious reasons for that but this is subject to another discussion...

If councils would follow your logic then the subsequent accumulated depreciation will be overstated as Dave pointed out. Therefore, in order to avoid this over-depreciation councils actually have to adjust the accumulated depreciation as part of the revaluation exercise.

Every revaluation effect is always an effect of two factors: change in unit rates and the change in accumulated depreciation element of fair value. The latter I call effect of reassessed condition (or obsolescence). Therefore, from your example, to avoid over-depreciation of the asset  council will have to increase the accumulated depreciation component as part of the revaluation adjustment.

There is another issue how actually councils account for this element of the revaluation adjustment but this another story...

Hope this makes sense,

Igor.

------------------------------
Igor Ivannikov CA, ACCA
Local Government Financial Consultant
iivannikov100@gmail.com
P: 0412 932 174
------------------------------



15.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Igor

I'm sorry, but it doesn't make sense to me.

AASB 116 clearly states that if the gross restatement method is used, at the time of revaluation accumulated depreciation equals restated gross replacement cost less fair value.  In fact, it defines this as the method for determining accumulated depreciation at the point of revaluation.

As I have shown on another post in this forum, if the useful life used in estimating fair value is consistent with the useful life used in calculating depreciation, there will be no material difference.  This will be the case whether or not one calculation used actual life to date and the other used estimated remaining useful life - but they must be consistent with the total useful life in each case.

Cheers

David


16.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Bataa

Your example clearly shows that the Fair Value - from which your carrying value is derived - is wrong - or alternatively that your useful lives are wrong.

In saying this I am making 2 assumptions:
1.   That Fair Value was estimated using the depreciated replacement cost method.
2.  That the valuation was made at the current date (which doesn't affect my argument, but simplifies my calculations).

If the gross replacement cost is $367,537.50 and the fair value is $238,531.84, then the valuation is based on a remaining useful life of 48.67 years out of the total useful life of 75 years.

If your calculation B is redone on the same basis - (FV - RV) / Remaining UL = annual depreciation - ($238,531.84 - 0) / 48.67 = $4,901.00 - then the answer effectively matches your calculation A.

I would accept either answer.

There are far too many instances where the basis on which a depreciation is charged is inconsistent with the basis on which the valuation was made.

In relation to consumption depreciation, or more accurately the units of use method.
This is more easily understood by taking the example of (say) a truck, when it is Council practice to change these over after (say) 200,000 Km.

The depreciation charge is calculated as (Cost less estimated Residual Value) divided by expected units of use = $xx.xx per km.  As the unit is used (probably based on your plant records) the depreciation charge is booked.

The depreciation charge is recalculated:
*  if Council practice in changing over after 200,000 km is changed
*  if particular circumstances affecting this truck mean that it will be changed over earlier or later
*  following the annual review and re-estimate of residual value
In each case, new revised depreciation charge is applied prospectively, not retrospectively.

This method basically relies on a reliable estimate of expected total use, and a reliable method of measuring the actual use.  Personally I have doubts whether either of these requirements exist for most infrastructure assets.

Cheers

David


17.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 13 days ago
Hi Igor  & David Maxwell,

All of those values, including the RUL of 28.13 years (37.% of useful life), FV of 238,531.84 (64.9% of GRC), and Accumulated Depreciation of $129,005.66, have been determined by an external valuer based on their condition assessment of an asset.

Regards,
Bata


18.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 12 days ago
Hi Bataa,

I think David Edgerton's responses were clear enough but to finalise it, can you please provide with the UFL, Gross Replacement Cost and Accumulated Depreciation figure for this asset just before revaluation? It would be good to see what was the Accumulated Depreciation as a percentage to Gross Replacement Cost before revaluation? 

Thanks,
Igor. 

------------------------------
Igor Ivannikov CA, ACCA
Local Government Financial Consultant
iivannikov100@gmail.com
P: 0412 932 174
------------------------------



19.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 12 days ago
Martin. Hope this helps.

Assume Replacement Cost = $200,000, Residual Value = nil and Useful Life = 50 years. Also assume that based on current condition the reaming level of service potential (RSP%) is assessed as 80% = $160,000 and RUL% is assessed as 80% = 40 years.

Also assume that based on expected life cycle that in 10 years time the expected RSP% will be 75% (FV = $150,000) and the RUL will be 60% (30 years).

The rate of depreciation is calculates as follows   Change in RSP % (80 - 75) = 5%
Change in RUL% (80 - 60) = 20%
Factor adjustment = Change in RSP% / Change in RUL% = 5%/20% = 0.25.
Straight-line equivalent UL  = Standard UL (50) / Factor adjustment (0.25) = 200.

Therefore depreciation expense = $200,000 / 200 = $1,000 per annum. Over the space of 10 years the WDV (assuming no revaluation) would drop from $160,000 to $150,000.

------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



20.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 11 days ago
Hi David,

Thanks for the example and taking the time to provide one.

Assuming this asset is a council asset and council adheres to a five year revaluation program, and the FV of $150,000 was derived at the last full valuation, what would be the fair value of this asset for each of the next four subsequent years before the next full valuation?

------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



21.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 9 days ago
Assuming no revaluation is done over the five year period the Carrying Amount (this is different to Fair Value) is the previous Fair Value less any accumulated depreciation.  ie. If starting Fair Value was $150,000 and depreciation expense was estimated at $1,000 per annum the Carrying Amount after one year would be $149,000 and after two yeas $148,000. After five years it would be $145,000 at which point a revaluation would be done.

It is also important to note that under AASB116 if there are indicators that the Fair Value is significantly different to the Carrying Amount that a full revaluation of the entire asset class is required. Hence the reason why a set 5 year rotation is non-compliant with AASBs and why some jurisdictions are now making the necessary changes to comply.

------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



22.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 9 days ago
Hi David,

Thanks again.

Can you confirm the example you have provided reflects relevant inputs and outcomes to the model (i.e. not just random numbers) and what you have described in this forum is principally what some call consumption depreciation?

------------------------------
Martin Burns
National Director of Valuations
Liquid Pacific
North Sydney NSW
02 9025 3788
solutions@liquidpacific.com
------------------------------



23.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 9 days ago
Yes ... its that simple Martin.   Two points on a profile showing the change in estimated RSP and RUL along with Useful Life. These combined enable you to calculate a depreciation rate for that specific phase of the asset life cycle.

------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



24.  RE: Consumption Depreciation (or the lifespan of a fairy)

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Posted 5 days ago
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25.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 5 days ago
I think some clarification is required as there has been some major misinterpretation by some. Valuation does of course require the exercise of professional judgement and as a result some valuers tend to have different views than others.

The question asked about Consumption Based Depreciation was about 'Depreciation Expense' which is covered by AASB116. It was not about the determination of Fair Value which is covered by AASB13. Despite this some have misinterpreted my answer about the impact on the WDV of an asset in the years following revaluation.

I want to be clear.  Fair Value is not linked to depreciation expense. Consumption Based Depreciation is about determined depreciation expense. It is not about determining the Fair Value.

There seems to be a major point missed (or not understood) here. The 'Fair Value' is determined under AASB13 and under the standard is a market based assessment determined after consideration of the key characteristics that market participants would take into account. Under paragraph 11 this specifically includes consideration of condition, location and restrictions on sale in addition to general obsolescence. Note that there are no references in AASB13 to depreciation, useful life or RUL.

In the question raised by Martin Burns he asked what the values would be in the years subsequent to a revaluation. I noted that the 'carrying amount' (which I highlighted was not Fair Value) would be reduced from the Fair Value by one years of depreciation expense each year following the revaluation. However also noted that if there were indicators of a significant difference a revaluation would be required - per AASB116.

As noted previously, the determination of Fair Value has nothing to do with the determination of Depreciation Expense. Depreciation Expense is covered by AASB116 which requires the depreciable amount (Gross Cost less Residual Value) to be allocated over the Useful life. This has nothing to do with the Fair Value and likewise the determination of Fair Value has nothing to do with the calculation of Depreciation Expense.

In determining 'Fair Value' each valuer will likely have their own methodology or approach. We for example split the asset into components and then further split each component into short-life and long-life parts as per the AASB Residual Value Decision. This is done to enable clients to correctly depreciate the different parts of the asset with different useful lives. Each part is then assessed against how the market would assess value by taking into account condition, location, restrictions on sale and obsolescence. No part of the calculation is based around the estimated depreciation expense. Methodologies that do not take into account these factor but instead are based on a relationship between the value and RUL and UL are technically non-compliant with AASB13.

It is critical that when doing valuation and depreciation that the two concepts are not confused and are kept separate. Ramblings that try to link the two are simply just that. The accounting standards have changed considerably over the past 20 years. If the methodology has not changed in the last 20 years despite a new definition and concept of Fair Value flowing from the implementation of AASB13 in 2013 then it is probably time to sit back and question whether the valuation approach you are using still complies with the AASBs.

There is of course great variety and inconsistency in practices across Australia. This is being addressed by guides such as CPA Australia's guide the valuation and depreciation of public sector assets (an update is planned for later this year) and the current AASB special project for 'Fair Value in the Public Sector' of which I am a member. Hopefully by the end of the year there will be clear guidance which provide clarity regarding the requirements and appropriate methodology.





------------------------------
David Edgerton. FCPA
Director APV Valuers and Asset Management
Director Asset Valuer Pro
David@assetvaluer.net. David@apv.net
------------------------------



26.  RE: Consumption Depreciation (or the lifespan of a fairy)

Posted 12 days ago
Bata

Again, assuming that the valuation was made on the depreciated replacement cost basis, the total useful life, expired useful life and remaining useful life are inconsistent.

Yet expired useful life + remaining useful life must always equal total useful life.

Your example highlights how important it is to critically examine all valuations received, and to challenge those that do not make sense - as this one doesn't.

If total useful life, expired useful life and remaining useful life are consistent, then the answers to calculations A & B will be similar.  If they are not similar, then challenge the valuation.

Cheers

David