In finance, a revaluation of fixed assets is an action that may be required to accurately describe the true value of the capital goods a business owns.[1] This should be distinguished from planned depreciation, where the recorded decline in the value of an asset is tied to its age.
Fixed assets are held by an enterprise for the purpose of producing goods or rendering services, as opposed to being held for resale for the normal course of business. An example, machines, buildings, patents, or licenses can be fixed assets of a business.
The purpose of a revaluation is to bring into the books the fair market value of fixed assets. This may be helpful in order to decide whether to invest in another business. If a company wants to sell one of its assets, it is revalued in preparation for sales negotiations.
It is common to see companies revaluing their fixed assets. It is important to make a distinction between a 'private' revaluation and a 'public' revaluation which is carried out in the financial reports. The purposes are varied:
The common methods used in revaluing assets are:
Under this method, indices are applied to the cost value of the assets, to arrive at the current cost of the assets. The Indices by the country's departments of Statistical Bureau or Economic Surveys may be used for the revaluation of assets.
CMP of an existing asset = CMP of comparable new asset × remaining useful life of asset ÷ original useful life of asset.
Under this method, technical experts are called in to carry out a detailed examination of the assets with a view to determining their fair market value. A proper appraisal is necessary when the company is taking out an insurance policy for the protection of its fixed assets. It ensures that the fixed assets are neither over-insured nor under-insured. The factors which are considered in determining the value of an asset, are as follows:
Selective revaluation can be defined as the revaluation of specific assets within a class or all assets within a specific location.
A manufacturing company may have its manufacturing facilities spread over different locations. Suppose it decides to undertake a revaluation of its plant and machinery. Selective revaluation will mean revaluing specific assets (such as the boiler, heater, central air-conditioning system) at all locations, or revaluing all items of Plant and Machinery at a particular location only. Such revaluation will lead to unrepresentative amounts being shown in the fixed asset register (FAR). In case of revaluation of specific assets of a class, while some assets will be shown at a revalued amount others will be shown at historical cost. The same will happen in case of revaluation of all assets of plant and machinery at a particular location only.
It is not consistent to value and depreciate fixed assets using different bases. Therefore, selective revaluation is generally not considered best practice.
Revaluation will typically require liaison between the company's Production Department, Accounts Department, Technical Department, and external appraisers. To commission the project they should set out their conclusions to the following questions:
The FASB in the U.S. does not allow upward revaluation of fixed assets to reflect fair market values although it is compulsory to account for impairment costs in fixed assets (downward revaluation of fixed assets) as per FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.
In other countries, upward revaluation is mainly done for fixed assets such as land, and real estate whose value keeps rising from year to year. It seems the concept of upward revaluation of fixed assets such as real estate has not been widely welcomed by a majority of companies in USA on account of fear of paying higher property and capital gains taxes. Further, the provision against upward restatement ensures conservative valuation.
The United Kingdom, Australia, and India allow upward revaluation in the values of fixed assets to bring them in consonance with fair market values. However, the law requires disclosure of the basis of revaluation, amount of revaluation made to each class of assets (for a specified period after the financial year in which revaluation is made), and other information. Similarly, the law prohibits payment of dividend out of any reserve created as a result of the upward revaluation of fixed assets. The law in Australia has been amended recently to allow for the payment of dividends from the increase in the value of non-current assets in certain instances where a company meets other liquidity tests (see section 254T of the Corporations Act 2001 (Cth)).
Revaluation does not mean only an upward revision in the book values of the asset. It can also mean a downward revision (also called impairment) in the book values of the assets. However, any downward revision in the book values of the assets is immediately written off to the Profit and Loss account. Under IFRS, an asset is considered to be impaired (and is thus written down) if its carrying amount is greater than its recoverable amount. The recoverable amount is the greater of the asset's value in use (present value of future values) or net realizable value.
An upward revaluation of a fixed asset which has been previously subject to downward revaluation, an amount of the upward revaluation equal to the amount previously expensed is credited back to the Profit and Loss Account.
Example:
Machinery 'A' is purchased on 01-04-1999 for $100,000. It is depreciated using the Straight Line Method at the rate of 10% p.a.
| Particulars | First Revaluation | Second Revaluation | |
|---|---|---|---|
| Nature of Revaluation | |||
| Date of Revaluation | 01-04-2001 | 01-04-2004 | |
| Gross Cost | 100,000 | 93,750 | |
| Less: Depreciation | 20,000 | 46,875 | |
| Net Book Value | 80,000 | 46,875 | |
| Revalued – Appraisal Method | 75,000 | 55,000 | |
| Increase / (Decrease) in Net Book Value | (5,000) | 8,125 | |
| Debit to Profit and Loss a/c | 5,000 | 0 | |
| Credit to Profit and Loss a/c | 0 | 5,000 | |
| Credit to Revaluation Reserve | 0 | 3,125 |