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Accounting Standard (AS) -16 Borrowing Costs VINOD JAIN, FCA, FCS, FCWA , LL.B.,DISA CHAIRMAN INMACS MANAGEMENT SERVIC

Accounting Standard (AS) -16 Borrowing Costs VINOD JAIN, FCA, FCS, FCWA , LL.B.,DISA CHAIRMAN INMACS MANAGEMENT SERVICES LTD. Mobile: 98110 40004 E-mail: vinodjain@inmacsindia.com vinodjainca@gmail.com. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com. INMACS. Borrowing Costs.

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Accounting Standard (AS) -16 Borrowing Costs VINOD JAIN, FCA, FCS, FCWA , LL.B.,DISA CHAIRMAN INMACS MANAGEMENT SERVIC

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  1. Accounting Standard (AS) -16 Borrowing Costs VINOD JAIN, FCA, FCS, FCWA , LL.B.,DISA CHAIRMAN INMACS MANAGEMENT SERVICES LTD. Mobile: 98110 40004 E-mail: vinodjain@inmacsindia.com vinodjainca@gmail.com Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  2. Borrowing Costs Applicability : Effective from accounting periods commencing on or after1st April, 2000. Nature : Mandatory for all enterprises Objective of AS – 16 : To prescribe theaccounting treatment for borrowing costs. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  3. Borrowing Costs Borrowing Costs Interest & commitment charges on Borrowings Amortisation of ancillary costs relating to Borrowings Exchange Differences* Amortisation of Discount / Premium on Borrowings Finance charges for assets acquired on Finance Lease *To the extent they are regarded as an adjustment to interest cost Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  4. Q: Exchange Differences – When to be treated as Borrowing Costs? Ans: To the extent regarded as ‘adjustment to interest cost’. The adjustment is restricted to amount of exchange loss on principal due to devaluation of currency Adjustment = Interest on local currency borrowing – Interest on foreign currency borrowing Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  5. Treatment of Exchange Differences Loan Amount : USD 10,000 Rate of Interest (in U.S.A.) : 8% p.a. Exchange rate as at 01.04.2005 : Rs. 40 per USD Exchange rate as at 31.03.2006 : Rs. 45 per USD Rate of Interest (in India) : 12% Contd.. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  6. Treatment of Exchange Differences • Computations to be made: • Interest for the Period = USD 10,000 x 8% x Rs. 45 • = Rs. 36,000- • Increase in liability towards the principal amount • = USD 10,000 x (45-40) • = Rs. 50,000/- • Interest if loan was raised in India • = USD 10,000 x 48 x 12% • = Rs. 57,600/- • Difference (2-1) = Rs. 57,600 – Rs. 36,000 • = Rs. 21,600/- Contd.. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  7. Treatment of Exchange Differences Treatment of Exchange Differences of Rs. 50,000/- Rs. 21,600/- Rs. 28,400/- To be treated as borrowing cost as per AS -16 To be capitalised to loan obligation as per SCH VI Note: The amount of borrowing costs capitalised during a period should not exceed the amount of borrowing costs incurred during the period Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  8. Qualifying Assets • Definition: • an asset • that takes substantial period of time • to get ready for intended sale or usage • According to ASI – 1, a rebuttable presumption of a period of 12 months is considered as a substantial period of time. • Qualifying asset may be: • - Fixed assets • - Inventories Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  9. Treatment of Borrowing Costs Borrowing Costs • Directly attributable* for: • acquisition • construction • production of QualifyingAssets Assets other than Qualifying assets Capitalised as part of asset Treated as revenue expenditure *or that could have been avoided if the expenditure on qualifying assets had not been made Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  10. Criteria for Capitalisation • Criteria • Future Economic Benefits • Reliable Measurement • Note : Expenses not fulfilling the criteria to be treated as revenue expenditure Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  11. Borrowings Cost (Interest) Borrowings Cost Specifically for Qualifying Assets Generally but part used for Qualifying Assets Apply weighted average rate of interest Apply actual rate of Interest Capitalise the Borrowing Costs less interest income, if any Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  12. Calculation of Weighted Average Rate of Interest Illustration ABC Co. Ltd. undertakes significant expansion program and incurs following capital expenditure: • Additional Information: • Rs. 20 Lacs , 11% p.a. secured debentures raised on July2004 redeemable in four equal installments commencing July 1, 2005 • Loan from financial institutions amounting to Rs. 30 Lacs bearing interest at 14% p.a. obtained for construction of Plant I & II on May 1,2005 • Rs. 5 Lacs, 14% working capital loan obtained on April 1, 2005 and repaid Rs. 1 Lac on December 31, 2005. Contd.. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  13. Calculation of Weighted Average Rate of Interest • Solution • Calculation of borrowing costs for the year ended on March 31, 2006 • Secured debentures • = 20,00,000 x 11% x 3 / 12 = 55,000/- • = 15,00,000 x 11% x 9 /12 = 1,23,750/- • Loan from financial Institutions • = 30,00,000 x 14% x 11 / 12 = 3,85,000/- • Working Capital Loan • = 5,00,000 x 14% x 9 / 12 = 52,500/- • = 4,00,000 x 14% x 3 / 12 = 14,000/- • Calculation of average unspecified borrowings outstanding during the year • Secured debentures • = 20,00,000 x 3 / 12 = 5,00,00/- • = 15,00,000 x 9/12 = 11,25,000/- • Secured working capital loan • = 5,00,000 x 9 / 12 = 3,75,000/- • = 4,00,000 x 3 / 12 =1,00,000/- • Total (1+2) 21,00,000/- Contd.. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  14. Calculation of Weighted Average Rate of Interest • Solution • Calculation of average interest on unspecified borrowings for the year • Secured debentures • = 20,00,000 x 11% x 3 / 12 = 55,000/- • = 15,00,000 x 11% x 9 /12 = 1,23,750/- • Working Capital Loan • = 5,00,000 x 14% x 9 / 12 = 52,500/- • = 4,00,000 x 14% x 3 / 12 = 14,000/- • TOTAL (1+2) 2,45,250/- • Average interest rate for the year ( C / B ) • = (2,45,250 / 21,00,000) * 100 = 11.67% • Contd.. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  15. Calculation of Weighted Average Rate of Interest • Solution • Interest Capitalised • Plant I • On specific borrowings: 22,00,000 X 14% X 7 / 12 = 1,79,667/- • On general Borrowings: 8,00,000 x 11.67% x 7 / 12 = 54,460/- • Plant II • On specific borrowings: 8,00,000 X 14% X 6 / 12 = 56,000/- • On general Borrowings: 12,00,000 x 11.67% x 6 / 12 = 70,020/- Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  16. Excess of the Carrying amount of the Qualifying asset over recoverable Amount Actual Cost of the Asset Recoverable + Borrowing Cost Capitalised amount of the Asset <= Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  17. Commencement of Capitalisation • Expenditurefor the • acquisition • construction • production • of a qualifying asset is being incurred Borrowing costs are being incurred Conditions Necessaryactivities for preparation of qualifying assets are in progress Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  18. Suspension of Capitalisation • Criteria • Capitalisation to be suspended during extended periods in which active development is hampered. • Suspension not to take place in case: • substantial technical & administrative work is being carried on • temporary delays necessary for preparation of qualifying assets (seasonal rains etc.) Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  19. Cessation of Capitalisation • Criteria • Capitalisation should cease when substantially all the the activities necessary to prepare the qualifying asset for its intended use or sale are complete. • Cessation to take place even if: • routine administrative work still continues • minor modifications to property as per users’ specifications is to be made • Cessation to take place in part if: • Construction of qualifying asset is completed in parts and a part is capable of being used separately Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  20. Disclosure Requirements • The financial statements should disclose: • the accounting policy adopted for borrowing costs • The amount of borrowing costs capitalised Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  21. Disclosure Requirements • The financial statements should disclose: • the accounting policy adopted for borrowing costs • The amount of borrowing costs capitalised Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  22. Disclosure Requirements Example 1 Name of the Company : MRF Financial Year : 2004-05 Auditors : Sastri & Shah M.M. Nissim & Co. Significant Accounting Policy Borrowing costs that are attributable to the acquisition of or construction of qualifying assets are capitalized as part of the cost of such assets. A qualifying asset is one that necessarily takes substantial period of time to get ready for intended use. All other borrowing costs are charged to revenue. Notes to Accounts The total borrowing cost capitalized during the year is Rs. 4.13 Crores. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  23. Disclosure Requirements Example 2 Name of the Company : NICHOLAS PIRAMAL INDIA LIMITED Financial Year : 2004-05 Auditors : Price Waterhouse Notes to Accounts Interest amounting to Rs. 2.4 Million has been capitalized during the year in compliance with AS-16. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  24. Disclosure Requirements Example 3 Name of the Company : GHCL Financial Year : 2004-05 Auditors : Jayantilal Thakkar & Co. Rahul Gautam Divan & Associates Significant Accounting Policy Borrowing Costs that are attributable to the acquisition , construction or production of qualifying assets are capitalized as part of cost of such assets. The capitalized rate is the weighted average of the borrowing costs applicable to the borrowings of the company that are outstanding during the period. All other borrowing costs are recognized as an expense in the period in which they are incurred. Notes to Accounts Borrowing Costs capitalized during the year Rs. 8.26 Million (Previous Year Rs. 5.54 Million) Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  25. Disclosure Requirements Example 4 Name of the Company : EIH LIMITED Financial Year : 2004-05 Auditors : Ray & Ray Significant Accounting Policy   Borrowing Costs that are attributable to the acquisition / construction of fixed assets are capitalized as part of the cost of the respective assets. Other borrowing costs are recognized as expenses in the year in which they arise. Notes to Accounts Interest debited to the Profit & Loss Account is net of interest capitalized amounting to Rs. Nil (2004 – Rs. 233,156,467) Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  26. COP - Capitalisation of Borrowing Costs • Q. Whether borrowing cost avoidable or unavoidable? • Said to be unavoidable if expenditure on qualifying assets had been incurred and borrowing is taken ,Existing borrowing exercise of judgement required. • Factors to be considered as to whether and to what extent general borrowings have been so used • A. Information of cash inflows and outflows, close scrutiny required. • General borrowings made but equity specifically infused for financing qualifying assets • No question of capitalizing borrowing cost. • Calculation of weighted average borrowing rate? • A. Based on borrowing during period of expenditure and not borrowings made for the whole year. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  27. COP - Capitalisation of completed parts of a project Q. Capitalisation of commissioned packages when capitalization of remaining incomplete packages is pending? A. Necessary to capitalize commissioned packages . Q. Date of capitalization? A. Date on which package is ready to commence commercial production. Q. Allocation of incidental expenditure during construction? A. On appropriate basis. Q. Capitalisation of independent packages which are complete when capitalization of main packages is pending ? A. Capitalisedwhen ready for their intended use. Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  28. COP - Capitalisation of completed parts of a project Q. Capitalisation of main packages when capitalization of ancillary packages is pending or vice versa? A. Capitalisation of main packages to be done when ready to commence commercial production or ready for use. Q. Treatment of general and administrative overheads after part capitalisation? A.Segregation on appropriate basis between P/L A/C & Expenditure during construction A/C Q. Treatment of depreciation on infrastructure? A.Allocation on appropriate basis to P & L A/c and Expenditure during construction A/c Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

  29. Thank You VINOD JAIN, FCA, FCS, FCWA , LL.B.,DISA CHAIRMAN INMACS MANAGEMENT SERVICES LTD. Mobile: 98110 40004 E-mail: vinodjain@inmacsindia.com vinodjainca@gmail.com Vinod Jain, FCA, FCS, FCWA Vinodjain@inmacsindia.com INMACS

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