New accounting standards for the costs of bearer plants

SUITS THE C-SUITE By Reginaldo B. Mundo

Business World (10/27/2014 – p.S1/6)

(First of two parts)

COMPANIES engaged in agricultural activities, which is the biological transformation and harvest of crops such as banana, pineapple, sugar, coffee, palm oil and rubber, incur costs of planting (including seedlings), fertilizers and or plant/fruit care prior to commercial harvest. The aggregate of these costs is what is commonly called the costs of bearer plants. These costs are often significant since a farm may cover hundreds, if not thousands, of hectares of land. Given our rapidly growing population, there is constant pressure on agricultural companies to expand operations to meet demand — which in turn means commensurate increases in the cost of bearer plants. These costs can also be substantial when farms are damaged by typhoons or crop diseases, which in some cases require rehabilitation and even replanting.

Currently, biological assets and the related agricultural produce are accounted for under International Accounting Standards (IAS) 41, Agriculture, which requires biological assets to be measured at fair value less costs to sell. The fair value requirement is based on the presumption that fair value can be measured reliably for biological assets (and its agricultural produce). Such presumption can be rebutted “only on initial recognition for a biological asset for which quoted market prices are not available and for which alternative fair value measurements are determined to be clearly unreliable.” In this case, the biological assets are accounted for at cost less accumulated depreciation and any impairment in value. The agricultural produce from the biological assets is measured at fair value less costs to sell at the point of harvest.

Biological assets are living animals and plants classified as either consumable or bearer biological assets. Consumable biological assets are those to be harvested as agricultural produce or as biological assets (e.g. livestock for sale or for the production of meat, fish in farms, crops such as maize/corn, wheat, rice). On the other hand, bearer biological assets are self-generating assets other than consumable biological assets (e.g. dairy cattle, fruit bearing trees, oil-producing palm trees, rubber trees). Both consumable and bearer biological assets are expected to generate cash flows, and therefore embody future economic benefits. The only difference is timing: consumable biological assets provide future economic benefits for one reporting period while bearer biological assets provide future economic benefits for more than one reporting period.

Since they are self-generating, the biological transformation of bearer biological assets stops upon maturity. Once the desired maturity is achieved, the biological assets may be regarded as an asset capable of providing cash flows for more than one reporting period, much like a machinery and equipment capable of producing goods in a manufacturing setting.

Under current accounting, the use of fair value less costs to sell for biological assets means recognition of internal profit. On the other hand, while bearer biological assets and the property, plant and equipment (PPE) supporting it are similar in that both produce future cash flows, internal profit is not recognized for self-constructed PPE. Also, the current measurement requirement of fair value less costs to sell for bearer biological assets is popularly regarded as costly, complex and difficult considering that bearer biological assets normally don’t have active markets.

Moreover, the change in the fair value less costs to sell of bearer biological assets causes volatility in the company’s income statements, even though bearer biological assets are not intended for sale but rather for generating agricultural produce. More importantly, there are concerns on the reliability of fair value measurement of bearer biological assets as the process involves significant management judgment and have the potential for manipulation. Assumptions may also vary among companies having the same bearer biological assets, thereby affecting the comparability of the financial statements. These, among other reasons, resulted in the change in accounting for bearer plants (excluding bearer animals), with the issuance of Agriculture: Bearer Plants (Amendments to IAS 16, Property, Plant and Equipment and IAS 41) by the International Accounting Standards Board in June 2014. The amendments will take effect on January 1, 2016, but allow for early adoption.

The amendments to IAS 16 provide guidance for biological assets that meet the definition of a bearer plant, which is a living plant that:

· is used in the production or supply of agricultural produce;
· is expected to bear produce for more than one period; and
· has a remote likelihood of being sold as agricultural produce, except for incidental scrap sales.

With the amendments, bearer plants will now be scoped in and will be subject to all the requirements of IAS 16, instead of IAS 41. The agricultural produce of biological assets will continue to be accounted for under IAS 41.

In next week’s article, we will continue the discussion on how bearer plants are going to be accounted for under IAS 16 and IAS 41, and the impact these will have on agricultural companies.

Reginaldo B. Mundo is a Senior Director of SGV & Co.