1.30  Query:    

Accounting treatment of mandatory spares procured along with main equipments.

1. A public company is engaged in construction, operation and maintenance of transmission lines and associated sub-stations. The company is governed by the Electricity Supply Act, 1948, in addition to the Companies Act, 1956.

2. The company is required to purchase capital spares (hereinafter referred to as mandatory spares) along with the capital equipments compulsorily.

3. The querist has informed that as per Electricity (Supply) Annual Accounts Rules, 1985, the capital spares at a generating station are to be capitalised when the generating station for which the spares are procured is capitalised. The spares are to be accounted for the entire lot and not item-wise. Depreciation is allowed on the cost of the spares.

4. The querist has further informed that as per section 18A of the Electricity Supply Act, 1948, a generating company is also required to establish, operate and maintain such generating stations and the lines, sub-stations and main transmission lines connected therewith, as per the directives of the concerned government(s). Therefore, the annual accounts rules relevant to generating stations shall also be applicable to transmission activities.

5. The querist has also informed that K.P. Rao Committee on Tariff Fixation for Central Power Stations has mentioned about the treatment of mandatory spares procured along with the main equipments, which is as follows: -

“Where the initial spares procured do not exceed a set percentage (say 5%) of the equipment cost and such procurement is accounted by the organisation in the books as capital cost, the same may be reckoned as capital cost for the purpose of tariff determination also. Where for various reasons, the initial procurement of spares is substantially higher than this limit, such spares should be held on the inventory. Spares included in the project cost based on which tariff is calculated should be capitalised and on consumption will not be again charged through O & M charges.”

6. The querist has also informed that the company is booking the mandatory spares under the head “Capital Work-in-Progress (CWIP) – Mandatory Spares”. On commissioning of the main equipments, the mandatory spares are capitalised along with the main equipments. In case the foreign exchange fluctuation arises before commissioning of the system, the same is loaded/unloaded to the value of CWIP- Mandatory Spars and in case it arises after capitalisation of spares, the same is loaded/unloaded to the value of fixed assets and depreciation is being charged.

7. The querist has also informed that the Government auditors are of the opinion that such spares in stock on the date of commercial operation of the system/fixed asset should be transferred to the current assets and corresponding foreign variation is to be charged to profit and loss account.

8.  The querist has sought the opinion of the Expert Advisory Committee on the following issues:

(a)        Whether mandatory spares should be treated as part of capital work-in-progress/fixed asset in terms of Electricity Supply Rules or it should be treated as current assets?

(b)        Is it necessary to transfer such mandatory spares from fixed assets to current assets on commissioning of the fixed assets and should the exchange rate variation on such spares be capitalised or charged to profit and loss account?

                                                                                         Opinion                   February 8, 1995

1.  The Committee has not examined the matter of applicability of the Electricity Supply Act, 1948, and the Electricity (Supply) Annual Accounts Rules, 1985, since the Committee is prohibited to go into matters involving interpretation of legal enactments as per Rule 2 of the Advisory Service Rules. The Committee has, therefore, relied on the assertion of the querist, as per the facts, that the aforesaid Act and Rules are applicable to the company. In view of this, the Committee considers that the accounting standards issued by the Institute of Chartered Accountants of India would not be relevant in this case, since as per the Preface to Statements of Accounting Standards, where an accounting treatment has been prescribed in the relevant law, and/or rules framed thereunder, the same would prevail over the accounting standards (para 4.2).

2. The Committee notes Rules 2.57, 2.58 and 2.84 of the Electricity (Supply) Annual Accounts Rules, 1985, which are reproduced as follows: -

“2.57    Capital spares at a generating station purchased prior to commissioning of the generating station shall be capitalised upon capitalisation of the generating station for which the spares are purchased.”

“2.58    Capital spares purchased subsequent to the commissioning of the generating station shall be capitalised upon purchase.”

“2.84    The accounting policies for all other matters in relation to capital spares are laid down in the following paragraphs:

(1)        The capital spares at generating stations should be treated as a capital asset.

(2)        Accounting shall be done together for the entire ‘lot’ of the spares and not item by item.

(3)        The total cost of all the spares shall be capitalised.

(4)        No accounting shall be done at the time of issue of such spares for replacement in the generating plant.

(5)        However, on the other hand, depreciation shall be charged on the total cost of the entire lot of spares.

(6)        For the purpose of charging depreciation, the estimated useful life of the spares shall be assumed to be equal to the estimated useful life of the generating plant.

(7)        On this basis, depreciation equal to 100% (not 90% as in case of other assets) of the cost of spares shall be charged by the time the generating plant is to be retired.

(8)        On expiry of the life, the spares will therefore be valueless.

(9)        The spares remaining unutilised may be sold along with the retired generating plant. Entire sale proceeds should be treated as gain on sale of assets since 100% depreciation is charged in the past.

(10)      In respect of the stock of spares remaining unsold on retirement of the plant, no accounting shall be necessary.

(11)      If some spares are sold and some are not sold, the accounting is necessary only for spares sold, i.e., treat the sale proceeds as gain on sale of assets.

(12)      If some spares are transferred by the generating station to another generating station requiring them, no accounting is necessary in such case.”

3.  On the basis of the above, the Committee is of the view that the capital spares, should be capitalised along with the main equipments and until then, they should be shown as a part of capital work-in-progress of the relevant main equipment. Accordingly, such spares should not be transferred to current assets after the commissioning of the fixed assets.

4. With regard to the accounting treatment of foreign exchange fluctuations, the Committee wishes to draw the attention of the querist to an earlier opinion given on the query raised by another querist from the same company, which is published at page XIV-48 of this compendium.

5.  On the bais of the above, the Committee is of the following opinion, subject to para 1 above, in respect of the issues raised at para 8 of the query:

(a)        Capital spares should be treated as part of capital work-in-progress/fixed asset in terms of Electricity (Supply) Annual Accounts Rules, 1985.

(b)        No. The capital spares should not be transferred from fixed assets to current assets on commissioning of the fixed assets. With regard to treatment of foreign currency fluctuations, please refer to para 4 above.

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