Investment Property (HKAS 40) June 2006

Transcription

1 Investment Property (HKAS 40) June 2006 Nelson Lam CFA FCCA FCPA(Practising) MBA MSc BBA CPA(US) ACA Nelson 1 Before HKAS 40 Case Accounting policy (2004/05) on buildings: The cost of construction of the Duke of Windsor Social Service Building the Building has been written down to a nominal value of HK$1. The Council hires out meeting rooms and auditorium in the Building to third parties and lease out some portion of usable floor area to certain bodies approved by the Government. Income derived from hiring meeting rooms and auditorium and leasing out usable floor area have been accounted for in the statement of operations as hiring fees, rental and management fee income. Is it investment property? Nelson 2 1

2 Some Cases First Case See a latest and actual case For the 6 months ended (30 June) 2004 HK$ M Turnover 562 Profit before tax 695% HK$ M 613 3, % After crediting: Fair value changes on investment properties - 2,799 Profit is even higher than the revenue Nelson 3 Some Cases First Case 4 Early adopted one HKAS, HKAS 40, in 2005 For year ended 30 June 2004 HK$ M Turnover 4,544 Profit before tax 6,023 After crediting: Fair value changes on investment properties 3,235 5, HK$ M 6,955 8,752 45% 45% If profit without such fair value 2,788 3,349 20% 20% only only Nelson 4 2

3 From SSAP 13 to HKAS 40 - Summary 1. Scope 2. Definitions 3. Recognition and Measurement at Recognition 4. Measurement after recognition 5. Transfers 6. Disposals 7. Disclosure Exemption to certain companies removed Redefine investment property Introduce owner-occupied property Same recognition principle applied to all costs (aligned with HKAS 16) Measurement of assets from exchange of assets introduced (aligned with HKAS 16) Introduce cost model, chosen between fair value model Fair value model refined Transfer requirements are similar to those in SSAP 17 PPE before Introduce new requirements Detailed disclosure required, including fair value of investment property Nelson 5 1. Scope Exemption Removed Exemption for some entities eliminated The exemption in SSAP 13 for certain insurance companies and charitable, government subvented and not-for-profit organisations was eliminated in HKAS 40 Insurance co., not-forprofit entities must follow Implies that all these entities are required to apply HKAS 40 from the financial period beginning from 1 Jan Specific transitional provisions for this elimination additionally introduced in Nov More to be discussed later Nelson 6 3

4 2. Definitions - Revised Amended and clearer definition on an investment property SSAP 13 An investment property is an interest in land and/or buildings: a) in respect of which construction work and development have been completed; and b) which is held for its investment potential, any rental income being negotiated at arm s length HKAS 40 Investment property is property (land or a building or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather than for: a) use in the production or supply of goods or services or for administrative purposes; or b) sale in the ordinary course of business Nelson 7 2. Definitions - Revised Amended and clearer definition on an investment property SSAP Examples 13 of investment property under HKAS 40 include: An Property investment leased property out under is an operating interest leases in land and/or buildings: Property a) in respect held for of long-term which construction capital appreciation work and development have been completed; and Property held for a currently undetermined future use b) which is held for its investment potential, any rental income Vacant being property negotiated to be leased at arm s out length under operating leases HKAS 40 Investment property is property (land or a building or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather than for: a) use in the production or supply of goods or services or for administrative purposes; or b) sale in the ordinary course of business How s about property held by the lessee under an operating lease? Nelson 8 4

5 2. Definitions - Extend to Operating s A property interest that is held by a lessee under an operating lease may be classified and accounted for as An entity has a choice investment property if, and only if the property would otherwise meet the definition of an investment property and the lessee uses the This classification alternative is available on a property-by-property basis However, once this classification alternative is selected for one such property interest held under an operating lease, all properties classified as investment property shall be accounted for using the Simple? How s about Let s property term this held classification by the lessee as under an operating Operating lease? IP Alternative Nelson 9 2. Definitions Extend to Operating s Entity GV has 3 properties as follows: hold property A hold property B Freehold property C All the properties are held to earn rental. What is the implication of HKAS 40 on its properties? Example Property C is is an an investment property under HKAS and and GV GV must use use HKAS to to account for for it it Property A and and B are are not not investment property under HKAS However, GV GV can can choose to to account for for either A or or B or or both both as as investment property under HKAS If If Property A and and B are are not not accounted for for under HKAS 40, 40, they they will will be be accounted for for under HKAS Measurement under HKAS to to be be discussed later Nelson 10 5

6 2. Definitions - Owner-Occupied Property Introduce a new term, owner-occupied property Defined as a property held (by the owner or by the lessee under a finance lease) for use in the production or supply of goods or services or for administrative purposes In substance, a property under HKAS 16 Being one of the examples that is NOT an investment property Nelson Definitions - Owner-Occupied Property Example Examples that are NOT investment property include: Owner-occupied property Property (completed or under development) intended for sale in the ordinary course of business Property being constructed or developed for third parties Property leased out under finance lease Property that is being constructed or developed for future use as investment property How s the classification for existing investment property being redeveloped for continued future use as investment property? Which HKAS? HKAS 16 & 17 HKAS 2 HKAS 11 HKAS 17 HKAS 16 & 17 Still Investment Property Nelson 12 6

7 2. Definitions Owner-Occupied Property Case Annual Report 2004 stated that: Investment and hotel properties with an unexpired lease term of more than 20 years are included in the balance sheet at their open market value It is the group s practice to maintain hotel properties such that the residual values result in depreciation being insignificant. The related maintenance expenditure is dealt with in the income statement in the year in which it is incurred. Hotel furniture and fixtures is included in other fixed assets and is depreciated Nelson Definitions - Owner-Occupied Property Refer back to HKAS 16 for definition of property, plant and equipment Property, plant and equipment are tangible items that: a) are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes; and b) are expected to be used during more than one period. Both for rental, how to distinguish? Cash Flow Extent of Ancillary Services Investment Property Owner-occupied Property Nelson 14 7

8 2. Definitions - Owner-Occupied Property Cash Flow One of the key indicators in determining the classification between investment property and owner-occupied property Investment Property Owner-occupied property held to earn rentals or for capital appreciation or both therefore, generates cash flows largely independently of the other assets held by an entity. the production or supply of goods or services (or the use of property for administrative purposes) generates cash flows that are attributable not only to property, but also to other assets used in the production or supply process Nelson Definitions - Owner-Occupied Property Cash Flow Ancillary Investment services not Property significant Extent of Ancillary Services investment property owner-occupied property provided by an entity to the occupants of a property it holds is also considered e.g. a owner-managed hotel is not an investment property Significant Owner-occupied ancillary services property provided If owner-managed hotel was classified as investment property before 2005, it should be reclassified as property, plant and equipment (HKAS 16) or lease (HKAS 17) Significant impact on hotel group Nelson 16 8

9 2. Definitions - Owner-Occupied Property It may be difficult to determine whether ancillary services are so significant that a property does not qualify as investment property for example, there may be a spectrum from one end to another: Ancillary services not significant Passive investor Investment property Use HKAS 40 How to determine those in between these 2 ends? Then, judgement is required to determine Entities should develop consistent criteria for use in exercising the judgement Significant impact on hotel group Significant ancillary services provided Significant exposure to variation in the cash flows Owner-occupied Use HKAS Nelson Definitions Owner-Occupied Property Case Beijing Enterprises Holdings Ltd. Has early adopted all new HKFRS in 2004 and stated that: Hotel properties were previously not depreciated (except where the unexpired term of the lease is 20 years or less) stated at their open market values on the basis of annual professional valuations performed at the end of each financial year Upon the adoption of HKAS 16 and HKAS 40, hotel properties would be stated at valuation less accumulated depreciation and any accumulated impairment losses As a consequence of this change in accounting policy for hotel properties an aggregate amount of HK$6,797,000 was charged to the consolidated profit and loss account for the year ended 31 Dec Nelson 18 9

10 2. Definitions - Owner-Occupied Property Case Shangri-La Asia Ltd. (extracted from 2003 Annual Report and Announcement of 17 Dec. 2004) Before 2005, its hotel properties are classified as investment properties, which are stated at annual professional valuations at the balance sheet date It announced on 17 Dec that its hotel properties will no longer be accounted for as investment properties from 2005 It will adopt the following accounting policies retroactively: 1. The underlying buildings and integral plant and machinery will be stated at cost less accumulated depreciation and impairment 2. The underlying freehold land will be stated at cost less impairment 3. The underlying leasehold land will be stated at cost and subject to annual operating lease rental charge (amortization of land cost) Owner-managed hotels cannot be classified as Significant investment property impact on They hotel can group be classified as property, plant and equipment (HKAS 16) and/or leases (HKAS 17) Nelson Definitions - Owner-Occupied Property Case Shangri-La Asia Ltd Final Results Announcement of 31 Mar further stated that, from 1 Jan. 2005: Adoption of these new accounting policies will have the following significant consequences: a) The net book value of fixed assets, the overall provision for deferred tax liabilities and the net asset value of the Group will be reduced b) The annual depreciation and lease rental charges will increase and this will reduce the profit after tax attributable to the shareholders ( PAT ) and the earnings per share ( EPS ) of the Group. Owner-managed hotels cannot be classified as investment property They can be classified as property, plant and equipment (HKAS 16) and/or leases (HKAS 17) Nelson 20 10

11 2. Definitions Owner-Occupied Property Case Shangri-La Asia Ltd. Let s do some comparison for 2004 (in US$ 000) Net assets at as reported in 2004 Annual Report 3,109 23% 23% as announced on 26 Aug ,379 Depreciation for the year ended as reported in 2004 Annual Report 39,038 as announced on 26 Aug % 21% 47, Nelson Definitions - Partially Used Only Some properties comprise a portion held as investment property and another portion NOT held as investment property. If these portions: Could be sold separately Could not be sold separately or leased out separately under a finance lease an entity accounts for the portions separately the property is investment property only if an insignificant portion is NOT held as investment property Nelson 22 11

12 2. Definitions - Partially Used Only Case Accounting policy (2004/05) on buildings: The cost of construction of the Duke of Windsor Social Service Building the Building has been written down to a nominal value of HK$1. The Council hires out meeting rooms and auditorium in the Building to third parties and lease out some portion of usable floor area to certain bodies approved by the Government. Income derived from hiring meeting rooms and auditorium and leasing out usable floor area have been accounted for in the statement of operations as hiring fees, rental and management fee income. Point for consideration: Fulfil the definition of investment property? Generate passive cash flow or owner-occupied? Separable under HKAS 40? If not, significant portion for rental? Nelson Definitions - Partially Used Only An entity owns property that is leased to, and occupied by, its parent or another subsidiary The property does not qualify as investment property in the consolidated financial statements, because the property is owner-occupied from the perspective of the group But, from the perspective of the entity that owns it, the property is investment property if it meets the definition of investment property The lessor treats the property as investment property in its individual financial statements. Consolidated Individual Changed from SSAP 13 15% benchmark is removed Property leased to group companies is still investment property in an entity s individual financial statements Nelson 24 12

13 3. Recognition and Measurement Recognition criteria Initial Cost Subsequent Expenditure Same as IAS 16 Property, Plant and Equipment Investment property shall be recognised as an asset when, and only when: a) it is probable that the future economic benefits that are associated with the investment property will flow to the entity; and b) the cost of the investment property can be measured reliably Nelson Recognition and Measurement Recognition criteria (capitalisation) for Initial Cost Subsequent Expenditure Old IAS 16 Now IAS 16 and IAS 40 Criteria not the same Same criteria Probable that future Probable that future economic benefit of of economic benefits in in the asset will flow to to excess of of the originally the enterprise assessed standard of of Cost measured performance of of the reliably existing asset will flow to to the entity Probable that future economic benefit of of the asset will flow to to the entity Cost measured reliably Same criteria applied to to both costs Expenditure not fulfilling the recognition criteria will be charged to income statement Clearer approach on on so-called Component Accounting Nelson 26 13

14 3. Recognition and Measurement Measurement at Recognition An investment property shall be measured initially at its cost. Transaction costs shall be included in the initial measurement. The initial cost of a property interest held under a lease and classified as an investment property shall be as prescribed for a finance lease in IAS 17 i.e. the asset shall be recognised at the lower of the fair value of the property and the present value of the minimum lease payments. An equivalent amount shall be recognised as a liability in accordance with that same paragraph. Introduce the measurement base for investment property acquired from exchange Same as IAS 16 Property, Plant and Equipment Nelson Recognition and Measurement Rule on Exchange of Assets Revised Same amendment in in IAS 16 and IAS 38 Cost of PPE acquired in exchange is measured at fair value But not required if: Commercial Substance of of Exchanged Asset In SSAP 17 it is an exchange for similar assets In IAS 16 the exchange transaction lack of Commercial Substance, or the is not reliably measurable (both asset received and given up) If the acquired item is not measured at fair value, its cost is measured at the carrying amount of the asset given up Nelson 28 14

15 4. Measurement after Recognition Introduce Cost and choose either and Cost HKAS 40 implicitly implies that the choice can only be elected on the first-time adoption of HKAS 40 The model chosen should be applied to all investment properties, except for 1. Property held under operating lease classified as investment properties 2. Investment property backing liabilities that pay a return linked directly to the fair value of, or returns from specific assets including that investment property 3. Investment property with a fair value that cannot be reliably determinable on a continuing basis (i.e. inability to determine No choice, only fair value model Choose a model for all such properties No choice, only cost model fair value reliably) Nelson Measurement after Recognition Introduce Cost and choose either and Cost However, even Cost is adopted, HKAS 40 still requires all entities to determine the fair value of investment property For disclosure purpose, the fair value of the investment property has to be disclosed in notes to the financial statement! In determining the fair value of investment property for both cost model and fair value model an entity is only encouraged, but not required, to rely on a professional valuer s valuation More Flexible? Nelson 30 15

16 4. Measurement after Recognition After initial recognition, an entity that chooses shall measure all of its investment property at fair value, except in the cases that 1. the fair value cannot be determined reliably, or 2. the cost model is chosen for the investment property backing liabilities that pay a return linked directly to the fair value of, or returns from specific assets including that investment property When a property interest held by a lessee under an operating lease is classified as an investment property the fair value model must be applied for all investment properties A gain or loss arising from a change in the fair value of investment property shall be recognised in profit or loss for the period in which it arises Depreciation? Tax Implication? Nelson Measurement after Recognition Example Entity GV has 3 properties, leasehold property A, leasehold property B and freehold property C All the properties are held to earn rental. What is the implication of HKAS 40 if GV chooses to account for A as investment property? Then, GV GV has has no no choice in in accounting for for the the investment property. It It must adopt fair fair value model in in accounting for for all all investment properties including property A and and C (subject to to specific exceptions) While property A is is accounted for for at at fair fair value model under HKAS 40, 40, property B can can still still be be accounted for for under HKAS Nelson 32 16

17 4. Measurement after Recognition HKAS 40 Uses fair value, instead of open market value but in substance, they are similar not the same as SSAP 13, HKAS 40 only encourages, but not requires, a profession valuation on a fair value Fair value is defined as the amount for which an asset could be exchanged between knowledgeable, willing parties in an arm s length transaction Same definition used in other HKFRSs and HKASs But HKAS 40 provides more explanations unique for a fair value of a property The fair value of investment property shall reflect market conditions at the balance sheet date No depreciation required in HKAS 40 Depreciation? Tax Implication? Not our concern this time! Nelson Measurement after Recognition Case Interim Report 2005 clearly stated that: The directors consider it inappropriate for the company to adopt two particular aspects of the new/revised HKFRSs as these would result in the financial statements, in the view of the directors, either: not reflecting the commercial substance of the business or being subject to significant potential short-term volatility, as explained below Nelson 34 17

18 4. Measurement after Recognition Case Interim Report 2005 clearly stated that: HKAS 40 Investment property requires an assessment of the fair value of investment properties. The group intends to follow the same accounting treatment as adopted in 2004, which is to value such investment properties on an annual basis. Accordingly, the investment properties were not revalued at 30 June 2005, since the directors consider that such change of practice could introduce a significant element of shortterm volatility into the income statement in respect of assets which are being held on a long-term basis by the group It is not practicable to estimate the financial effect of this non-compliance as no interim valuation of the properties has been conducted Nelson Measurement after Recognition Under HKAS 40 Fair value has the following attributes: No deduction for transaction costs it may incur on sale or other disposal Time-specific as of a given date Reflects rental income from current leases and from future leases in light of current conditions (with reasonable and supportable assumption) Refers to knowledgeable, willing parties Refers to an arm s length transaction Difference from value in use, as fair value does not consider the effects of factors that may be specific to an entity, including: a) additional value derived from creation of a portfolio of properties; b) synergies between investment property and other assets; c) legal rights or restrictions that are specific only to the current owner; and d) tax benefits or tax burdens that are specific to the current owner Nelson 36 18

19 4. Measurement after Recognition The best evidence of fair value is given by current prices in an active market For similar property in the same location and condition and Subject to similar lease and other contracts. An entity takes care to identify any differences in the nature, location or condition of the property, or in the contractual terms of the leases and other contracts relating to the property Nelson Measurement after Recognition If NO current prices in an active market, an entity considers the information from a variety of sources, including a) current prices in an active market for properties of different nature, condition or location (or subject to different lease or other contracts), adjusted to reflect those differences; b) recent prices of similar properties on less active markets, with adjustments to reflect any changes in economic conditions since the date of the transactions that occurred at those prices; and c) discounted cash flow projections (based on reliable estimates of future cash flows, and using discount rate with appropriate adjustments and assumptions) Considers difference conclusions to arrive reliable estimate of fair value within a range of reasonable fair value estimates Nelson 38 19

20 4. Measurement after Recognition There is a rebuttable presumption that an entity can reliably determine the fair value of an investment property on a continuing basis. However, in exceptional cases and in initial recognition of investment property, there is clear evidence that the fair value of the investment property is not reliably determinable on a continuing basis. This arises when, and only when, comparable market transactions are infrequent and alternative reliable estimates of fair value (for example, based on discounted cash flow projections) are not available. In such cases, an entity shall measure that investment property (alone) using the cost model in HKAS 16 residual value shall be assumed to be zero apply HKAS 16 until disposal of the investment property shall continue to account for other investment properties using the fair value model Nelson Measurement after Recognition If an entity has previously measured an investment property at fair value it shall continue to measure the property at fair value until disposal or cessation to be investment property, even if comparable market transactions become less frequent or market prices become less readily available. Once you you chose Fair, you you cannot fall fall back to to Cost Nelson 40 20

21 4. Measurement after Recognition After initial recognition, an entity that chooses Cost shall measure all of its investment properties in accordance with the requirements of HKAS 16 for that cost model other than those that meet the criteria to be classified as held for sale (or are included in a disposal group that is classified as held for sale) in accordance with HKFRS 5 Non-current Assets Held for Sale and Discontinued Operations then, those investment properties shall be measured in accordance with HKFRS 5 Once you you chose Fair, you you cannot fall fall back to to Cost Nelson Measurement after Recognition Case Hang Seng Bank (2004 Annual Report) Hang Seng Bank has NOT early adopted HKAS 40 but stated that: By adoption of HKAS 40, investment properties are carried at fair value with the changes in fair value reported directly in the profit and loss account. The Group will continue to adopt the fair value model for investment properties. The change in fair value of investment properties will cause volatility in the profit and loss account. Once you you chose Fair, you you cannot fall fall back to to Cost Nelson 42 21

22 4. Measurement after Recognition Case See a latest and actual case For the 6-month HK$ M Turnover 613 Profit before tax 695% 3, HK$ M After crediting: Fair value changes on investment properties 2,799 - Once you you chose Fair, you you cannot fall fall back to to Cost Cost Profit is even higher than the revenue Nelson Measurement after Recognition Case Interim Report 2005 stated that: Six months ended 30 June (HK$ 000) Revenue 1,563,020 1,280,895 Profit before tax 1,478% 2,783, ,357 Once again, profit is even higher than the revenue Fair value changes on investment properties 2,500,169 - Profit before tax without HKAS 40 (by estimate) 283, , Nelson 44 22

23 5. Transfer Introduce transfer section (but is similar to those in SSAP 17 before) Transfers to, or from, investment property shall be made when, and only when, there is a change in use, evidenced by: Change in use Transfer from investment property a) Commencement of owneroccupation b) Commencement of development with a view to sale Change in use a) End of owner-occupation b) Commencement of an operating lease to another party c) End of construction or development Measurement at at transfer? Owner-Occupied Property Inventories Transfer to investment property Owner-Occupied Property Inventories End of construction Investment Property Investment Property Depend on the model the entity is using Nelson Transfer When an entity uses Cost transfers DO NOT change the carrying amount of the property transferred and they DO NOT change the cost of that property for measurement or disclosure purposes. Measurement at at transfer? Nelson 46 23

24 5. Transfer For a transfer from investment property (i.e. the following cases) carried at fair value Change in use a) Commencement of owneroccupation b) Commencement of development with a view to sale Transfer from investment property Owner-Occupied Property Inventories Investment Property the property s deemed cost for subsequent accounting in accordance with HKAS 16 or HKAS 2 shall be its fair value at the date of change in use. Measurement at at transfer? Nelson Transfer Example GV has adopted HKAS 40 and stated its investment properties at fair value even the properties are held under operating leases. On 1 Jan. 2005, GV s investment property A held under operating lease was stated at fair value of $1,000. Its original cost was $800. On 10 Feb. 2005, the lease of property A expired and GV decided and began to hold it as its office. What is the accounting implication on the decision? Property A would no no longer be be investment property and and would be be reclassified as as owner-occupied property. Even property A is is held held under operating lease, such operating lease interest would still still be be accounted for for as as a finance lease continuously in in accordance with with HKAS and and classified and and measured as as property, plant and and equipment in in accordance with with HKAS The The fair fair value at at the the date date of of change in in use, use, i.e. i.e Feb. Feb will will be be regarded as as the the deemed cost cost in in property, plant and and equipment Nelson 48 24

25 5. Transfer For a transfer to investment property (i.e. the following cases) and that investment property will be carried at fair value Change in use a) End of owner-occupation b) Commencement of an operating lease to another party c) End of construction or development Transfer to investment property Owner-Occupied Property Inventories End of construction Investment Property Measurement at at transfer? Nelson Transfer For a transfer to investment property (i.e. the following cases) and that investment property will be carried at fair value Owner-Occupied Property Investment Property apply HKAS 16 up to the date of change in use. Revaluation reserve is treat any difference at that date between its frozen and carrying amount under HKAS 16, and accounted for in its fair value accordance with in the same way as a revaluation under HKAS 16 HKAS 16 subsequently Inventories End of construction Measurement at at transfer? Investment Property any difference between the fair value of the property at that date and its previous carrying amount shall be recognised in profit/loss Nelson 50 25

26 5. Transfer Example GV has adopted HKAS 40 and stated its investment properties at fair value even the properties are held under operating leases. On 1 Mar. 2005, freehold property B stated at revalued amount of $1,000 (originally used as its own office) has been leased out to derive rental income. Revaluation surplus recognised for B was $300 while B s fair value at that date should be $1,200. What is the accounting implication on the decision? Property B would be be reclassified as as investment property. In In accordance with with HKAS 40, 40, GV GV should apply HKAS on on B up up to to the the date date of of change in in use use and and treat treat any any difference at at that that date date between its its carrying amount under HKAS 16, 16, and and its its fair fair value in in the the same way way as as a revaluation under HKAS Thus, Thus, a revaluation surplus surplus of of $200 $200 would would be be further further recognised. Total Total revaluation reserves would would become $500 $500 ($200 ($200 + $300) $300) The The revaluation reserves of of $500 would be be frozen and and accounted for for in in accordance with with HKAS subsequently Nelson Derecognition (or Disposals) An investment property shall be derecognised (eliminated from the balance sheet): 1. on disposal or 2. when the investment property is permanently withdrawn from use and no future economic benefits are expected from its disposal Gains or losses arising from the retirement or disposal of investment property shall be determined as the difference between 1. the net disposal proceeds and 2. the carrying amount of the asset, and shall be recognised in profit or loss (unless HKAS 17 requires otherwise on a sale and leaseback) in the period of the retirement or disposal Nelson 52 26

27 7. Disclosure a) Disclosure for both and Cost whether the fair value model or the cost model is adopted if fair value model is applied, whether property interests held under operating leases are accounted for as investment property if classification is difficult, the criteria to distinguish investment property from owner-occupied property and from property held for sale in the ordinary course of business the methods and significant assumptions applied in determining the fair value of investment property whether (and the extent to which) the fair value of investment property is based on a valuation by a qualified independent valuer the amounts recognised in profit or loss, say for rental income from investment property, and direct operating expenses (including repairs and maintenance) arising from investment property the existence and amount of restrictions on the realisability of investment property or the remittance of income and proceeds of disposal contractual obligations to purchase, construct, or develop investment property or for repairs, maintenance or enhancements Nelson Disclosure b) Additional Disclosure for A reconciliation between the carrying amounts of investment property at the beginning and end of the period similar to that of property, plant and equipment When a valuation obtained for investment property is adjusted significantly for the purpose of the financial statements, the entity shall disclose a reconciliation between the valuation obtained and the adjusted valuation included in the financial statements In the exceptional cases when there is inability to determine fair value reliably and cost model is applied to a particular investment property, additional disclosures are required Nelson 54 27

28 7. Disclosure c) Additional Disclosure for Cost the depreciation methods used; the useful lives or the depreciation rates used; the gross carrying amount and the accumulated depreciation (aggregated with accumulated impairment losses) at the beginning and end of the period; a reconciliation of the carrying amount of investment property at the beginning and end of the period, similar to that of property, plant and equipment the fair value of investment property In the exceptional cases when there is inability to determine fair value reliably, additional disclosures are required Nelson Transitional Arrangements Adopted Opening balance of retained earnings shall be adjusted Comparative information Example: listed co. Entities previously disclosed the property s fair value encourage (but not require) to restate comparative information Entities NOT previously disclosed the property s fair value shall NOT restate comparative information Example: unlisted shall disclose this fact co., charities Included the charities taken Adopted Cost exemption of SSAP 13 before Deem the carrying amount of an investment property immediately before the applying HKAS 40 on its effective date (or earlier) as its cost Any adjustments shall be made to the opening balance of retained earnings for the period in which HKAS 40 is first applied Depreciation on deemed cost commences from the time at which HKAS 40 is first applied Nelson 56 28

29 8. Transitional Arrangements Case Hang Seng Bank (2004 Annual Report) Hang Seng Bank has NOT early adopted HKAS 40 but stated that: By adoption of HKAS 40, investment properties are carried at fair value with the changes in fair value reported directly in the profit and loss account. The Group will continue to adopt the fair value model for investment properties. The change in fair value of investment properties will cause volatility in the profit and loss account. On transition, the investment revaluation reserve will be transferred to retained profits. The Group will not restate its 2004 accounts, as permitted under paragraph 80 of HKAS Nelson Transitional Arrangements Case Hang Lung Properties adopted a different transitional treatment from Hang Seng Bank As a result of the adoption of HKAS 40, the Group s net profit attributable to ordinary shareholders has increased by $5,136.1 million (2004: $3,035.0 million) and the net assets as at the year has increased by $128.9 million (2004: $130.0 million). These changes in accounting policies have been adopted retrospectively, with the opening balances of retained profits and reserves and the comparative information adjusted for the amounts relating to prior periods as disclosed in the consolidated statement of changes in equity and note 23 of the accounts Nelson 58 29

30 8. Transitional Arrangements Case Interim Report 2005 stated that: Hotel properties In previous periods, the Group s self-operated hotel properties were carried at revalued amounts and were not subject to depreciation. HK Interpretation 2 requires owner-operated properties to be classified as property, plant and equipment in accordance with HKAS 16 The Group has resolved to account for their hotel properties using the cost model. In the absence of any specific transitional provisions in HK Interpretation 2, the new accounting policy has been applied retrospectively. Comparative figures have been restated (See Note 3 for the financial impact) Nelson Transitional Arrangements Case Interim Report 2005 stated that: Six months ended 30 June (HK$ 000) Note 3 to the interim report Increase in depreciation arising from reclassification of hotel properties and owneroccupied properties to PPE 73,245 50,767 Condensed consolidated income statement Profit before tax (without fair value changes on investment properties) 283, ,357 Percentage to the above profit 25.8% 28.8% Nelson 60 30

31 That s all Nelson 61 That s all A locally developed interpretations for properties HK Interpretation 2 The Appropriate Policies for Hotel Properties Practical application of HKAS 40 in Hong Kong Nelson 62 31

32 Application of HKAS 40 in HK Cost Nelson 63 Application of HKAS 40 in HK As stated before, when a property interest held by a lessee under an operating lease is classified as an investment property the fair value model must be applied for all investment properties a gain or loss arising from a change in the fair value of investment property shall be recognised in profit or loss for the period in which it arises Cost Since the land element of an property in HK can only be held under operating leases (per HKAS 17), does it imply that: There is no choice for all investment properties in HK? All such properties shall use? With all resulting gain or loss recognised in profit or loss? Alternatively, they can only accounted for as operating leases in accordance with HKAS 17? Nelson 64 32

33 Recap on HKAS Deleting one sentence 2. Introducing several new paragraphs New requirements with significant impact, mainly Land and Building Separate measurement (of (of the the land land and and buildings buildings elements) elements) Land only Building only Nelson 65 Recap on HKAS 17 As before, lease classification is made at the inception of the lease leases of land and buildings are classified as operating or finance leases in the same way as leases of other assets Land only Building only Nelson 66 33

34 Recap on HKAS 17 of land Land normally has an indefinite economic life If title of leasehold land is not expected to pass to the lessee Lessee normally does not receive substantially all of the risks and rewards incidental to the ownership In which case the lease of land will be an operating lease payment acquiring such leasehold represents prepaid lease payments amortised over the lease term in accordance with the pattern of benefits provided Examples: Land Land purchased in in HK HK Land Land use use right right acquired in in PRC PRC Land only hold land without title pass Operating Nelson 67 Recap on HKAS 17 of land of land and buildings If a lease contains land and buildings elements 2 elements are considered separately for lease classification If title of both elements is expected to pass to the lessee Both elements are classified as finance lease If title of land or both elements is NOT expected to pass to the lessee The land element alone is normally classified as an operating lease The building element is considered separately Title passed to the lessee? Land Operating Finance Nelson 68 No Building Yes 34

35 Recap on HKAS 17 of land and buildings To classify and account for a lease of land and buildings the minimum lease payments (including any lump-sum upfront payments) are allocated between the land and the buildings elements in proportion to the relative fair values of the leasehold interests in the land element and buildings element of the lease at the inception of the lease If the lease payments cannot be allocated reliably between the 2 elements the entire lease is classified as a finance lease unless it is clear that both elements are operating leases, in which case the entire lease is classified as an operating lease For a lease of land and building if the land is immaterial The lease may be treated as a single unit and classified as finance or operating leases Land only Building only Nelson 69 Recap on HKAS 17 of land and buildings Minimum lease payment allocated in in proportion to to the the relative fair fair values of of land and and building elements Title passed to the lessee? No Can land and building be reliably separated? Yes Yes No Land Building Operating Finance Nelson 70 35

36 Application of HKAS 40 in HK Cannot be reliably separated Can the lease of land and building be reliably separated? Complicated by HKAS 17 since land is only held under operating lease Reliably separated Since the land element of an property in HK can only be held under operating leases (per HKAS 17), does it imply that: There is no choice for all investment properties in HK? All such properties shall use? With all resulting gain or loss recognised in profit or loss? Alternatively, they can only accounted for as operating leases in accordance with HKAS 17? Nelson 71 Application of HKAS 40 in HK Cannot be reliably separated Can the lease of land and building be reliably separated? Land and Building Finance Cost The entire lease is accounted for as a finance lease (under HKAS 17) If the definition of investment property under HKAS 40 is fulfilled, HKAS 40 must be followed and either one of the following models can be chosen Cost Simple! Simple! Nelson 72 36

37 Application of HKAS 40 in HK Land (and building) under operating lease Choose to either HKAS 17 HKAS 40 (using Operating IP Alternative) Building under finance lease HKAS 40 must be followed and either one of the following models can be chosen Cost Can the lease of land and building be reliably separated? Cost Building Finance Be careful Reliably separated At Cost Under HKAS 17 Land Operating Under HKAS Nelson 73 Application of HKAS 40 in HK Can the lease of land and building be reliably separated? If land is accounted for under HKAS 40 by using Operating IP Alternative all the investment properties must be accounted for by using no choice for all investment properties then! Building Finance Reliably separated Land Operating Under HKAS Nelson 74 37

38 Application of HKAS 40 in HK Can the lease of land and building be reliably separated? Reliably separated Building Land Choice Choice under under HKAS HKAS exists exists only only if if land land is is not not accounted for for as as investment property. Cost Finance Under HKAS 40 At Cost Under HKAS 17 Operating Nelson 75 Application of HKAS 40 in HK Can the lease of land and building be reliably separated? Cannot be reliably separated Reliably separated Land and Building Building Land Finance Finance Operating Cost Cost At Cost Under HKAS 40 Under HKAS 17 Under HKAS Nelson 76 38

39 Application of HKAS 40 in HK But Can the lease of land and building be reliably separated? Fair value is is still needed for all all investment properties Cannot for disclosure be purpose Reliably reliably separated separated No matter which model you have chosen, it is always a Land and Building The difference Building is - Recognised or Disclosed The difference is - to P/L or in Notes Finance Finance Land Operating Cost Cost At Cost Under HKAS 40 Under HKAS 17 Under HKAS Nelson 77 Application of HKAS 40 in HK Can the lease of land and building be reliably separated? Cannot be reliably separated Reliably separated Land and Building Building Land For simplicity, just adopt, or Finance should be termed as Recognised Fair Value Finance Operating Nelson 78 39

40 Application of HKAS 40 in HK Advantages: Can the lease of land and building be reliably separated? More relevant (as implied in HKAS 8) More simple (no Cannot additional be disclosure is required) Reliably No need to reliably separate separated the land from the property separated Whether land and building can be separated would not be an issue Land and buildings Land and can be grouped for disclosure Building Land Minimum changes Building only gain/loss to be recognised in profit and loss For simplicity, just adopt, or Finance should be termed as Recognised Fair Value Finance Operating Nelson 79 Application of HKAS 40 in HK Case Jardines Group (2003 Annual Report) Investment properties are properties held for long-term rental yields. definition (and/or for capital appreciation) Investment properties are carried at fair value, representing open market value determined annually by independent qualified valuers. adopt (Recognised) with independent revaluation Changes in fair values are recorded in the consolidated profit and loss account. changes in fair value recognised in P/L In accordance with IAS 40 (revised), leasehold properties held for longterm rental yields are classified as investment properties and carried at fair value. same as the requirement in HKAS 40.75(b) This is a change in accounting policy as in previous years these properties were carried at depreciated cost. The comparative figures for 2002 have been restated to reflect the change in policy Nelson 80 40

41 Application of HKAS 40 in HK Case Recruit (2004 Annual Report published in Feb 2005) Early adopted one new HKAS, HKAS 40, only Accounting policies In the current year, the Group has adopted HKAS 40 Investment Property in advance of its effective date Investment property including a property interest that is held under an operating lease, which is property held to earn rentals and/or for capital appreciation, is stated at fair value at the balance sheet date. Gains or losses arising from changes in the fair value of investment property are included in profit or loss for the period in which they arise. Notes to financial statements The Group's investment property was revalued at 31st December 2004 by Dynasty Pemium Asset Valuation and Real Estate Consultancy Limited, an independent firm of professional property valuer, on fair value basis Nelson 81 Application of HKAS 40 in HK Case Bank of East Asia (2004 Fin. Statements published in Feb 2005) Again, early adopted one new HKAS, HKAS 40, only Accounting policies Investment properties are stated at fair value. External independent valuation companies, having an appropriate recognised professional qualification and recent experience in the location and category of property being valued, value the portfolio annually. The fair values are based on market values, being the estimated amount for which a property could be exchanged on the date of valuation between a willing buyer and a willing seller in an arm s length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently and without compulsion. A property interest under an operating lease is classified and accounted for as an investment property when the Group holds it to earn rentals or for capital appreciation or both. Any such property interest under an operating lease classified as an investment property is carried at fair value Nelson 82 41

42 Application of HKAS 40 in HK Case Bank of East Asia (2004 Fin. Statements published in Feb 2005) Again, early adopted one new HKAS, HKAS 40, only % HK$ M HK$ M Profit before tax 2,374 2,824 19% Impact of early adoption - (175) Adjusted profit before tax 2,374 2,649 12% Maybe, you can also do some analysis on Nelson 83 Application of HKAS 40 in HK Any element held under lease? Can the lease of land and building be reliably separated? Whether the element can be reliably separated? Cannot be reliably separated Land and Building Building Reliably separated Land Choose the available options Finance Cost Finance Cost At Cost Operating Under HKAS 40 Under HKAS 17 Under HKAS Nelson 84 42

43 Summary Land and building cannot be reliably separated Property for for own use Finance Revaluation Cost Under HKAS 16 Investment property Finance Cost Under HKAS Nelson 85 Summary Land and building can be reliably separated Building Land Finance Operating Under HKAS 16 Property for for own use 1 st Choice 2 nd Choice 1 st Choice Cost Revaluation Under HKAS 40 Cost Cost Cost Disclose fair value Cost Under HKAS 17 Investment property 2 nd Choice Cost 3 rd Choice Under HKAS Nelson 86 43

44 Application of HKAS 40 in HK Last question Can we still group investment property with PPE and present them as a single item in the face of the balance sheet? Example Can t unless immaterial! HKAS 1 Presentation of of Financial Statements paragraph states: As As a minimum, the the face of of the the balance sheet shall include line items that present the the following amounts: a) a) property, plant and equipment b) b) investment property c) c) intangible assets Nelson 87 Investment Property (HKAS 40) June 2006 Nelson Lam Nelson Lam nelson@nelsoncpa.com.hk Nelson 88 44