Accounting for wind power

By Wenda Lynn M. Loyola
(First of two parts)

First Published in Business World (3/4/2013)

With the growing focus on sustainability, environmentalism and global climate change, more and more countries are seeking alternative sources of energy.

One such alternative source is wind power which has gained significant relevance in the energy sector, especially since global power consumption has grown tremendously in the recent years. Naturally, the rapid demand for power in developed markets comes with commensurate challenges in creating incentives for industries to invest in clean technologies and job creation, and in meeting the goals of climate change. As the path towards renewable energy (RE) becomes more complex, the financial reporting and accounting consequences of companies in this industry need to be reassessed as well.

The high potential for wind power in the Philippines is attributable to its favorable location in the Asia-Pacific monsoon belt. The good wind sites are sizeable compared to developed markets such as Germany, Spain, US, Denmark, and India. A study conducted by the US National Renewable Energy Laboratory (US NREL) identified several locations in six regions with a potential installed capacity of 76,600 megawatts (MW) over an area of 10,000 sq. km. Potential investment opportunities are located in: (1) Pamplona and Aparri in Cagayan Valley, (2) Saoit and Nagsurot, Burgos, Ilocos Norte, (3) Mauban Quezon, (4) Pagudpud, Ilocos Norte and (5) Camiguin Island.

Our wind power advantage is clearly demonstrated by the fact that the Philippines is now the top wind power producer in Southeast Asia with 33 MW wind turbines in Bangui, Ilocos Norte.

Feed-in tariff for wind power

To encourage the country’s RE developers, the Energy Regulatory Commission (ERC) issued Resolution No. 16, Series of 2010 or the Feed-in Tariff Rules (FIT) Rules. Feed-in tariff, or the fixed-price system, refers to a renewable energy mechanism that offers guaranteed, fixed rate payments per kilowatt-hour produced by emerging RE sources, in compliance with the renewable portfolio standards of the Renewable Energy Act of 2008. For wind power, the FIT rate approved last July 2012 is P8.53 per kilowatt hour.
In 2011, the Department of Energy approved and allowed local developers to establish facilities with a total capacity of 760 MW within a three-year period, consisting of 250 MW each for hydroelectricity and biomass, 200 MW for wind power, 50 MW for solar energy and 10 MW for ocean technology. The 200MW allocated for wind power will further be distributed among the local wind power developers.

Government Incentive Programs

Government also presented a number of incentive programs in Chapter VII of the RE Act, which includes:
1) Income tax holiday (ITH) of seven years from start of commercial operations;
2) Duty free importation of RE machinery, equipment and materials within the first 10 years;
3) Special real property tax rates on RE equipment and machinery;
4) Net operating loss carryover (NOLCO) for the next seven years immediately following the year in which the NOL was incurred;
5) Corporate tax rate of 10%;
6) Accelerated depreciation;
7) Zero% value-added tax (VAT) rate;
8) Ten-year exemption from tariff duties;
9) Cash incentive for missionary electrification;
10) Tax exemption on carbon credits;
11) Tax credit on domestic capital equipment, and
12) Net metering for RE to allow consumers generating their own power to sell back to the grid.

Accounting for Wind Power

Alongside the intricacies faced by plant owners and project developers are the key accounting issues that need careful consideration and judgment to come up with appropriate accounting solutions in accordance with Philippine Financial Reporting Standards (PFRS). Among the prevalent issues across the industry are accounting for research and development (R&D) costs; presentation of capitalizable costs as intangible or tangible assets; property, plant and equipment (PPE); and revenue from carbon credits.

R&D Costs

Before the wind farm reaches the commercial level, it passes through a rigorous pre-development stage. Companies enter into service contracts with the Department of Energy giving them exclusive rights to explore and conduct wind resource assessment and feasibility studies for the financing, construction and operation of government designated wind areas. While all the activities are undertaken during the R&D phases, one of the major considerations is whether the related expenditure will either be capitalized or expensed outright. Another area of concern is the recording of capitalizable costs on the balance sheet as either PPE or intangible assets.

As defined in PAS 38, Intangible Assets, Development is “the application of research findings or other knowledge to a plan or design for the production of new or substantially improved materials, devices, products, processes, systems or services before the start of commercial production or use.” Commercial production is not defined in PAS 38, but the term suggests that it includes an approved technology or any output from its use being available for sale to customers. This is when the project is probable of being technically, commercially and financially viable, such as when favorable results of a system impact study are received, interconnect agreements are obtained, and project financing is in place.

On the other hand, research is defined as original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding. For projects in the development phase, expenditures should only be capitalized if the wind turbines are developed into assets that can operate in their intended manner. Meanwhile, expenditures for projects assessed to be in the research phase must be expensed outright.

Presentation as intangible or tangible assets

During the development phase, the physical nature of the wind turbines is secondary to its characteristic as a prototype for wind feasibility study. Therefore, R&D projects should be treated as intangible assets under development if these meet the capitalization requirements in PAS 38. Until the wind turbines are developed into assets that can operate as intended, the classification of project development costs should remain as intangible assets. However, management needs to exercise careful assessment to determine whether it is more appropriate to recognize these assets as part of PPE. Normally, wind farms in the testing phase are presented as PPE only when they are in commercial operation.

In next week’s article, we will continue the discussion on how PFRS should be applied to the wind power industry, looking at areas such as PPE and revenue from carbon credits.

Wenda Lynn M. Loyola is a Senior Director of SGV & Co.

This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the author and do not necessarily represent the views of SGV & Co.