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These Guidance Notes have been prepared in response to Financial Reporting Standard (FRS 15) "Tangible Fixed
Assets" issued by the Accounting Standards Board (ASB) in February 1999. Following the publication of the
ASB's proposals for the initial measurement, valuation and depreciation of tangible fixed assets in its October
1996 Discussion Paper, followed by Financial Reporting Exposure Draft (FRED) 17 in October 1997, a committee of
accountants was formed under the auspices of the British Association of Hospitality Accountants (BAHA) representing
a broad cross section of owners and operators of hotels, hotel accountants and independent auditors. Subsequently,
discussions were held with some of the leading valuers of hotels.
The objective of this committee was to review accounting standards and practices and formulate a set of guidance
notes which will facilitate a uniform framework and ensure that there is more consistency in accounting for fixed
assets within the industry.
These Guidance Notes are not intended to be prescriptive, but to set out an approach generally accepted by the
industry and provide guidance for preparers of hotel company accounts. The Notes are intended to be indicative
of best practice.
Consistent with Financial Reporting Standards, the committee endorses the objectives that:
consistent principles are applied to the initial measurement of tangible fixed assets; where an entity chooses
to revalue tangible fixed assets, the valuation is performed on a consistent basis, kept up-to-date and gains and
losses on revaluation are recognised on a consistent basis; depreciation of tangible fixed assets is calculated
in a consistent manner and recognised as the economic benefits are consumed over the assets' useful economic lives;
sufficient information is disclosed in the financial statements to enable users to understand the impact of the
entity's accounting policies regarding initial measurement, valuation and depreciation of tangible fixed assets
on the financial position and performance of the entity. Following implementation of FRS15, the committee anticipates
that buildings will be depreciated. Companies electing not to depreciate on the grounds that depreciation would
be immaterial (see GN section 4.3.8 and 9) will be the exception and will have to satisfy a number of conditions
relating to residual value and useful economic life. In particular, subsequent expenditure, which has sometimes
been used as a justification not to depreciate, does not negate the need to charge depreciation.
These Guidance Notes follow the structure of the Financial Reporting Standard and should be read in conjunction
with it. References are to the relevant section or paragraph of that document.
The requirements set out in these paragraphs are generally applicable to any type of business, including hotels.
The following notes are intended to provide additional clarification and guidance, where appropriate, on the treatment
employed in respect of assets used in hotel operations.
The advice set out in these Guidance Notes is that of the committee and does not necessarily reflect the views
of the organisations to which the members below:
The principal topics addressed by FRS 15 are summarised below, and are covered in more detail in the sections which
follow.
The Guidance Notes deal with the application of FRS 15 to hotel-owning companies. The general requirements of the
FRS are not repeated, except where they relate to a topic that is dealt with specifically by the Guidance Notes.
In certain areas the Guidance Notes provide further clarification as to how the requirements of the FRS should
be interpreted by hotel-owning companies. The principal matters contained within the Guidance Notes are set out
in the following paragraphs.
In accordance with general requirements, hotel properties and other tangible fixed assets should initially be recorded
at cost. Any capitalisation of costs incurred in bringing the hotel into use should include only directly attributable
costs and should cease once the hotel is substantially complete, even if it has not yet been brought into use.
If the cost of a new hotel exceeds its recoverable amount, it should be written down to its recoverable amount.
This is likely to be the case only if the performance of the hotel is materially worse than was anticipated in
its feasibility appraisal, or if there are material overruns in the cost of construction, or if the company overpaid
for it by a significant amount.
Subsequent expenditure that ensures the hotel maintains its overall standard of performance should be charged to
the profit and loss account as incurred. Subsequent expenditure should be capitalised only when:
it provides for new or enhanced revenue streams (for example, the addition of a leisure facility or the upgrading
of conference rooms to a standard that enables significant new business to be attracted),
or
it relates to the replacement or restoration of fixed assets which have been treated separately for depreciation
purposes and depreciated over their useful economic lives.
It is recognised that on implementation of FRS 15 many hotel companies will not have fixed asset records that enable
them to separately identify assets in sufficient detail for these purposes. The Guidance Notes suggest that, in
these circumstances, approximations of the cost and accumulated depreciation of the assets will need to be made
in order to ensure that these amounts are eliminated from the balance sheet when the assets are replaced.
The Guidance Notes envisage that many hotel-owning companies will revalue their properties periodically, although
it is recognised that some may choose to record them at historical cost or retain the book amount that reflects
previous valuations. Where revaluation is adopted, in accordance with the requirements of the FRS, a full external
valuation should be carried out at least every five years with an interim valuation (either external or internal)
in the third year and annual reviews for impairment in other years where there is an indication that impairment
may have occurred. Alternatively, the portfolio may be valued on a rolling basis such that all properties are revalued
at least once every five years.
Hotels are classified as non-specialised properties and should generally be valued on the basis of existing use
value, unless they are surplus to requirements in which case open market value should be used.
A hotel valuation for balance sheet purposes will normally involve a valuation of the entire business, on the basis
of existing use as an operating hotel, inclusive of trade furniture, fittings and equipment. The allocation of
the overall value between land, buildings and other items (including plant and machinery, motor vehicles, furniture
and fittings) should be carried out by the valuer in accordance with the RICS Red Book (GN5). Generally, allocations
will be estimated for the elements other than land based on depreciated replacement cost, with the balance allocated
to land. There will be instances where it is more appropriate to allocate some of the residual balance to the building.
However, the allocation should produce results that appear reasonable to the valuer in all the circumstances.
The FRS sets the expectation that all tangible fixed assets (other than land) will be depreciated over their useful
economic life to the entity, the only exception being where the amount of the depreciation (both for the year and
on a cumulative basis) would be immaterial. In the past many hotel-owning companies have not depreciated buildings
on the grounds that they maintain them (through subsequent expenditure) to such a standard that makes depreciation
immaterial. The FRS specifically states that subsequent expenditure of this type does not negate the need for depreciation
and, accordingly, the Guidance Notes assume that buildings and other tangible fixed assets (except land) will be
depreciated. Non-depreciation will have to be justified on materiality grounds by reference to the assets' long
life and/or high residual value. If assets are not depreciated or if they are depreciated over more than 50 years,
annual reviews for possible impairment are required.
The Guidance Notes recommend that the total cost or value of a building should be divided into two categories:
the "Building Core" and "Building Surface Finishes and Services". The Building Core will typically
comprise the sub-structure, structure, envelope and cellular completion of the building. It will have a long technical
life which is not subject to periodic replacement other than for reconfiguration of the building or technical failure.
The Guidance Notes address the Useful Economic Life (UEL) of buildings and ranges of UEL are indicated in Appendix
Aii for different categories of building.
By contrast, the elements of the building which are typically exposed to guests and which project the style and
character of the hotel are classified as Building Surface Finishes and Services. Although these may be formed from
durable materials, they are likely to suffer from commercial obsolescence such that the trading performance of
the hotel will be enhanced significantly by their periodic removal and replacement. The Guidance Notes suggest
that Building Surface Finishes and Services should normally be depreciated over useful economic lives of 20 to
30 years.
For new buildings it will generally be possible to obtain an accurate split of the total cost between the Core
and Surface Finishes and Services. For older buildings where this split is not available, an estimate should be
made after consultation with a Quantity Surveyor (probably using a deflated depreciated replacement cost of the
Building Surface Finishes and Services as the starting point).
Plant and machinery and furniture and equipment will usually be carried at historical cost and depreciated over
useful economic lives set out in Appendix A.
The useful economic lives set out above assume the assets are held by the hotel-owning company until the end of
their technical lives when they will have residual values approximately equal to their scrap value. However, companies
may dispose of assets before the end of their technical lives and, if this is the case, the assets concerned will
tend to have a higher residual value at the point of disposal. Generally, a long useful economic life will imply
a low residual value and a shorter economic life may in certain circumstances be associated with a high residual
value.
The Guidance Notes encourage disclosure of repairs and maintenance expenditure and analysis of capital expenditure
between that relating to new revenue streams and other capital expenditure. If certain properties are not depreciated
on the grounds that the depreciation would be immaterial, it is recommended that this fact be stated and the book
value of such properties separately disclosed.
The accounting policies set out in the FRS are mandatory for accounting periods ending on or after 23 March 2000.
Early adoption is encouraged but not required. (Paragraph 103).
When applying the FRS to existing hotels a view needs to be taken on the remaining useful economic life of each
property, its residual value and the allocation between the different asset components which comprise the total
property. Such estimates should generally be made for individual properties, although they may be grouped in the
case of a company with a large portfolio of properties of similar age or style.
Paragraphs 106 to 108 of the FRS explain that the adoption of the FRS will not give rise to a prior year adjustment
except where tangible fixed assets are separated into different components for the first time. It is generally
accepted that this will be the case where the Building Surface Finishes and Services are separated out from the
Building Core but there is debate as to whether the split between land and buildings for depreciation purposes
also falls within paragraph 108 and requires a prior year adjustment to be made.
In March 2000 the Urgent Issues Task Force (UITF) issued a Draft Abstract in which they reached a consensus that
the prior period adjustment required by paragraph 108 of FRS 15, where different components of an asset are identified,
should be restricted to the effects of treating those different components separately. In particular, any prior
year adjustment should not embrace any changes to the useful economic lives or residual values of the other components
of the asset. The Guidance Notes recommend that early discussion takes place between the company and its auditors
in this regard.
Full copies of these guidance notes can be obtained at a cost of £25.00 per copy from BAHA's office, although
members can purchase their first copy for £15.00. Credit card purchases are welcome.
Tel: 01943 880480
Fax: 01943 880311
email: sjdawson@thebaha.demon.co.uk