Plant, property, and equipment (PPE), which are the fixed assets, are utilised in the supply of goods and services, manufacturing process, executive functions, or any other tasks in your company. There are two ways an accountant can determine the value of fixed assets, which are the historical cost model and the revaluation model. We will focus more on revaluation of fixed assets in this article.
The revaluation of a fixed asset involves the gain or drop of a fixed asset’s carrying value in the event of important changes in the fair market value of the fixed asset and reflected in the accounts by journal posting (Also see Books of Accounts – Journal). Keep in mind that revaluation is not the same as expected depreciation which is usually related to the useful life of the fixed asset.
Here are a few reasons why you should revalue the fixed assets of your company:
- To calculate the precise financial return on funds related to the asset
- To identify the fair market value of the fixed asset, particularly after a substantial growth since you obtained the asset.
- To acquire a loan from the bank by utilising the asset as collateral (appropriate revaluation may cause a higher amount of loan).
- To discuss a better price for the asset if the other firm obtains your company.
Upward Asset Revaluation
Upward asset revaluation leads to growth in the asset’s carrying value. This increase ought to be reported as comprehensive income in the shareholders’ equity as a revaluation surplus. This indicates that upward revaluation of asset leads to a growth in shareholders’ equity and decreases the net income as a result of high depreciation (Also see Straight-line Depreciation and Accelerated Depreciation).
Downward Asset Revaluation
Downward asset revaluation leads to a drop in book value of the fixed asset. Keep in mind that you need to record the loss in the income statement of your company. In future, if the asset’s carrying amount boosts, possibly because of a boost in the fair market value, you need to state this growth as profit in your income statement. Keep in mind that you should only report this growth not more than the loss you have reported before for the same asset. You should report the extra profit realised after the revaluation of asset under the comprehensive income category in the shareholder’s equity.
Impacts of Revaluation of Assets
- A decline in the asset’s value, which results in lower net income.
- Growth in the asset book value, which causes higher equity as well as total assets. This results in a decrease in leverage.
- If the carrying amount of a fixed asset decreases, both ROE and ROA will decline as well (Also see Accounting – Financial Ratios You need to know)
Revaluation of fixed assets is crucial in accounting as it influences a lot of financial statements. If you require any assistance, do not hesitate to hire an accounting firm in Johor Bahru.