Accounting Treatment of Dry Dock Costs After Useful Life Under Ind AS 16

1. Facts

A Limited, a public company (hereinafter referred to as ‘the company’) under the Ministry of Shipping, is engaged in dredging operations across major and minor ports and operates a fleet of various dredgers and ancillary crafts. Four dredgers have completed their estimated useful life of twenty-five years, but continue in active use. The Company depreciates its dredgers over twenty-five years with a residual value of two percent.

All dredgers must undergo periodic IRS inspections every three to five years to remain operational. These inspections require significant dry dock expenditure, including overhaul and repair costs, and the Company capitalises such expenditure as major inspection costs in accordance with paragraph 14 of Ind AS 16, derecognising the previous inspection component.

During the audit for 2021-22 to 2023-24, the CAG observed that dry dock expenditure on dredgers whose useful lives had expired was capitalised, which, in its view, was inconsistent with the Company’s accounting policy and an earlier EAC opinion issued under the IGAAP framework. The CAG held that such costs should have been expensed as repairs and maintenance.

The Company submitted that the earlier EAC opinion was under IGAAP and did not consider Ind AS requirements, including component accounting. It referred to industry guidance and a 2023 EAC opinion permitting capitalisation of subsequent expenditure where future economic benefits arise, even if the main asset has completed its useful life. Dry dock expenditure, in the Company’s view, restores operational utility and extends the dredgers’ usable life; accordingly, the useful lives of the concerned dredgers were reviewed and extended up to the next dry dock cycle in line with paragraph 51 of Ind AS 16.

State whether such treatment is appropriate and whether subsequent expenditure can be capitalised even after the expiry of a dredger’s original useful life.

2. Relevant Provisions

Ind AS 16 – Property, Plant and Equipment

Para 7

The cost of an item of property, plant and equipment shall be recognised as an asset if, and only if:

(a) it is probable that future economic benefits associated with the item will flow to the entity; and

(b) the cost of the item can be measured reliably.

Para 13

Parts of some items of property, plant and equipment may require replacement at regular intervals. For example, a furnace may require relining after a specified number of hours of use, or aircraft interiors such as seats and galleys may require replacement several times during the life of the airframe. Items of property, plant and equipment may also be acquired to make a less frequently recurring replacement, such as replacing the interior walls of a building, or to make a non-recurring replacement. Under the recognition principle in paragraph 7, an entity recognises in the carrying amount of an item of property, plant and equipment the cost of replacing part of such an item when that cost is incurred if the recognition criteria are met. The carrying amount of those parts that are replaced is derecognised in accordance with the derecognition provisions of this Standard.

Para 14

A condition of continuing to operate an item of property, plant and equipment (for example, an aircraft) may be performing regular major inspections for faults regardless of whether parts of the item are replaced. When each major inspection is performed, its cost is recognised in the carrying amount of the item of property, plant and equipment as a replacement if the recognition criteria are satisfied. Any remaining carrying amount of the cost of the previous inspection (as distinct from physical parts) is derecognised. This occurs regardless of whether the cost of the previous inspection was identified in the transaction in which the item was acquired or constructed. If necessary, the estimated cost of a future similar inspection may be used as an indication of what the cost of the existing inspection component was when the item was acquired or constructed.

Para 43

Each part of an item of property, plant and equipment with a cost that is significant in relation to the total cost of the item shall be depreciated separately.

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