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A. Facts of the Case
1. An unlisted State Government undertaking deals in transportation
of passengers by trams and buses in the city of Kolkata. The
company was incorporated at London in the year 1880. Later, the
company was taken over by the State Government in the year
1976 and the new company was incorporated on 15th October,
1982. Apart from regular audit by the Office of the Principal
Accountant General, the company is audited by statutory auditors
appointed by the Comptroller and Auditor General of India (C&AG),
New Delhi. During the financial year 2006-07, a new auditor has
been appointed to audit the accounts of the company. An issue
has been raised by the statutory auditors during the course of
their audit. The background of the issue is contained in the following
paragraphs.
2. The querist has stated that the company spends money every
year out of the fund provided by the State Government for repair
and renovation of operable assets (e.g., tram cars, tram tracks,
buses, bus facilities at depots, workshops and roads along tram
track). The detailed scheme of repairs for the year is approved by
the Board of Directors in the Board meeting and sent to the
Government for release of funds on quarterly basis. During the
year 2006-07, the State Government provided funds amounting to
Rs. 1628 lakh for the purpose of renovations, repairs, renewal
and proper maintenance of various operable assets so that vehicles
can run smoothly on road. No technological improvements are made as the buses have branded chasses and trams are designed
vehicles which are more than 22 to 50 years old. Each tram is
repaired on preventive maintenance basis every year on the
existing chassis of the tramcar. Similarly, buses are repaired if
they are found defective and complaints are lodged by drivers and
technicians to repair and make them road-worthy. The overhead
cables are replaced if these tear and snap or expire their usability
due to normal wear and tear. Usually, spare parts of equipment
for electrical items are also changed if they lose their utility due to
functional failure. The company also repairs tram track, changes
rails and repairs adjoining roads when the roads are broken. Rails
and overhead traction wires are required to be changed on urgent
basis, in small stretches of road due to normal wear and tear of
rail and roads, by contractors / in-house staff of the company. The
above repair is done only for smooth running of tram and other
vehicles. The repairs are always a temporary measure. The repairs
and maintenance are done only on parts of the assets and not on
the assets as a whole, keeping the original infrastructure intact.
3. The querist has stated that the management is of the following
opinion:
(i) The repair and maintenance activity does not result in
increased future benefits from the existing assets beyond
its previously assessed standard of performance in terms
of passenger capacity (load factor), revenue earning
and life of asset. The management believes that such
test is applicable as per Accounting Standard (AS) 10,
‘Accounting for Fixed Assets’, when the company
proposes to capitalise such expenditure.
(ii) The treatment of the expenditure as repair and
maintenance is being followed by the company
consistently year after year and properly disclosed in
the “notes to accounts”. The statutory auditors appointed
by C&AG, Principal Accountant General (of the State)
and Income-tax Department themselves in the past
confirmed the treatment.
(iii) The management of the company does not propose to
capitalise any of the expenditure in the current year accounts as it does not fulfill the parameter set by
paragraph 12.1 of AS 10.
(iv) The company has mentioned in notes to accounts
regarding its policy to treat such expenditure as revenue
expenditure since the repair is routine / preventive in
nature which does not increase the future benefits
beyond its previously assessed standard of performance.
The existing capacity of the vehicles does not increase
as a result of such repair work.
(v) The querist has also submitted the opinion of a technical
expert on the subject for the perusal of the Committee.
4. The querist has also informed that the statutory auditors opined
during the course of audit that they need such expenditure of
repairs asset-wise along with the details of past expenditure since
the inception of the company on the same assets to judge whether
the nature of expenditure is capital or revenue. The auditor’s opinion
is reproduced below:
“Plan loan amounting to Rs. 1628 lakh has been released
during the year by the State Government against budget of
Rs. 2000 lakh. Budgeted expenses include repairs, renewal,
renovation and improvement of tramcars, tram tracks, buses,
and bus facilities at depot and overhead systems. Such
expenses have been treated as revenue expenditure. As per
Accounting Standard 10, subsequent expenses on any fixed
assets should be capitalised only if they increase the future
benefits from the existing asset beyond its previously assessed
standard of performance. In the absence of relevant information
to verify whether there has been increase in the future benefits
from the existing assets beyond its previously assessed
standard of performance, we are unable to comment on the
treatment of expenses as revenue by the company. However,
we have been informed by the management that due to these
expenses, there is no change in the assessed standard of
performance.”
5. The management’s view is that although the Companies Act,
1956 does not prescribe to maintain ‘expenditure’ head asset wise, it is the company’s prudent accounting policy to maintain all
the expenses on repair / maintenance asset-wise under the head
‘Repair & Maintenance’ in the profit and loss account (schedule 18
and sub-schedule 18/1). The current year’s expenditure on repair
and maintenance is Rs. 37.81 crore, which includes expenditure
incurred out of fund received on account of Plan Scheme. For all
practical purposes, it is not possible to match the funds received
with such expenses because it is a continuous process. Funds
received in the last month of a financial year may be spent in the
first quarter of the next financial year. The expenditure is booked
under the head ‘Repair & Maintenance’ as and when it is incurred.
The company’s perception on the basis of its 125 years of
experience is that such a job is not capital in nature. In view of the
above-mentioned qualification by the auditor, the management of
the company as well as the querist are of the opinion that such a
qualification, if not correct, will have far reaching effects in future.
B. Query
6. The querist has been advised to seek expert opinion on the
auditor’s qualification from the Expert Advisory Committee of the
Institute of Chartered Accountants of India. Accordingly, the querist
has sought the opinion of the Expert Advisory Committee as to
whether considering the overall facts, the accounting treatment of
such expenditure by the company is incorrect when the company,
based upon the generally accepted accounting principles, does
not propose to capitalise any of such routine type of repair
expenditure.
C. Points considered by the Committee
7. The Committee while answering the query has examined only
the issue raised in paragraph 6 above and has not touched upon
any other issue arising from the Facts of the Case, such as,
accounting for the funds received from the State Government for
the purpose of repairs, renovations, etc. of the operable assets.
The Committee notes that the basic issue raised in the Facts of
the Case relates to various types of expenditures, namely, repairs,
renovations, renewals, maintenance, improvements, etc. incurred
by the company in the context of various operable assets. Further, sometimes replacements and changes are also made, such as,
that of rails, overhead cables, etc.
8. The Committee notes paragraph 23 of Accounting Standard
(AS) 10, ‘Accounting for Fixed Assets’, which reads as follows:
“23. Subsequent expenditures related to an item of fixed
asset should be added to its book value only if they
increase the future benefits from the existing asset beyond
its previously assessed standard of performance.”
9. The Committee is of the view that expenditure on fixed assets
subsequent to their installation may broadly be categorised into (i)
repairs, and (ii) improvements or betterments. Repairs, in the
Committee’s view, implies the restoration of a capital asset to its
full productive capacity after damage, accident, or prolonged use,
without increase in the previously estimated service life or capacity.
The term often includes maintenance primarily ‘preventive’ in
character. It frequently involves replacement of parts. Expenditure
on repairs and maintenance, including replacement cost necessary
to maintain the previously estimated standard of performance, is
expensed in the same period. On the other hand, in the view of
the Committee, expenditures on improvements or betterments are
expenditures that add new fixed asset unit, or that have the effect
of improving the previously assessed standard of performance,
e.g., an extension in the asset’s useful life, an increase in its
capacity, or a substantial improvement in the quality of output or a
reduction in previously assessed operating costs. Such expenditures
are capitalised.
10. The Committee notes that it has been stated by the querist in
the Facts of the Case that the repairs and maintenance are done
only on parts of the assets and not on the assets as a whole
keeping the original structure intact. It has also been stated in the
Facts of the Case that no technological improvements are made
and that these expenditures are routine/preventive in nature which
do not increase the future benefits beyond the assets’ previously
assessed standard of performance in terms of passenger capacity,
revenue earning and life of the assets. In the absence of any
information to the contrary, the Committee presumes that the nature
of the expenditure is as stated by the querist in the facts of the case. From this, it appears to the Committee that the expenditures
in the present case are of the nature of repairs and, therefore,
should be expensed.
D. Opinion
11. On the basis of the above, the Committee is of the opinion
that the accounting treatment of the expenditure incurred in the
context of various fixed assets as repairs and maintenance is
correct, as such expenditure does not result in increase in future
benefits from previously assessed standard of performance, i.e., a
substantial increase in the life of the assets or the quality of services
/ capacity or revenue earning / substantial reduction in operating
costs as per the presumption contained in paragraph 10 above.
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