Infrastructure for public services—such as roads, bridges, hospitals, airports, water distribution facilities, energy supply etc.—constructed, operated and maintained by the public sector and financed through public budget appropriation.
Scope: arrangement involves a private sector entity (an operator) constructing, operating and maintaining the infrastructure. The operator is paid for its services over the period of the arrangement. Such an arrangement is often described as a ‘build-operate-transfer’, a ‘rehabilitate-operate-transfer’ or a ‘public-to-private’ service concession arrangement.
Applicable to: Public-to-private service concession arrangements if:
- Grantor controls services the operator must provide with the infrastructure and control over the price to be charged from the public;
- Grantor controls—through ownership, beneficial entitlement or any significant residual interest in the infrastructure at the end of the term of the arrangement.
Treatment of the operator’s rights over the infrastructure
Infrastructure shall not be recognised as property, plant and equipment of the operator because the contractual service arrangement does not convey the right of control to the operator.
Accounting model (consideration for services provided)
Which of the accounting models to apply –
Financial asset model (right to receive the consideration from the grantor) and Intangible asset model (right to receive cash flows from the users of those infrastructure services).
Financial asset:
- to the extent operator has an unconditional right to receive cash / financial asset from or at the direction of the grantor; or
- operator has an unconditional right to receive cash if the grantor contractually guarantees to pay:
(a) specified or determinable amounts or
(b) the shortfall (between amounts received from users of the service and specified amounts); or
- even if payment is contingent that infrastructure meets specified quality or efficiency requirements.
Intangible asset: to the extent that operator receives a right to charge users of the public service (not an unconditional right because the amounts are contingent on the extent that the public uses).
Example: Construction of hospital on public-to-private service concession agreement; terms of consideration: operator will receive from the grantor, depending on the actual occupancy at hospital. Grantor has not assured minimum occupancy to the operator.
Reply: Intangible asset (operator is bearing demand risk, amount depends on usage of infrastructure i.e., the right is not unconditional)
Deciding which model is applicable, can sometimes become very tricky – in that case, judgements will have to be applied.
Accounting under Financial asset model:
Financial asset is accounted for in accordance with Ind AS 109 i.e., initially to be measured at Fair value. Subsequent measurement:
- amortised cost; or
- fair value through OCI; or
- fair value through profit or loss.
If measured at: amortised cost or fair value through OCI, Ind AS 109 requires interest calculated using the effective interest method to be recognised in profit or loss (Refer example below).
Accounting under Intangible asset model:
Ind AS 38 applies to the intangible asset recognised and it says intangible assets has to be recognised at cost (i.e., fair value).
Subsequent measurement: operator should amortise the intangible asset over the period of the service concession agreement.
Further, amounts received from the usage of the services shall be recognised as revenue. This way, amount of revenue is being booked twice under Intangible asset model. Refer example, explaining twice booking of revenue, given at last of this article.
Contractual obligations to restore infrastructure to a specified level of serviceability:
The operator may have contractual obligations it must fulfil:
- maintain the infrastructure to a specified level of serviceability
- to restore the infrastructure to a specified condition before it is handed over to the grantor at the end of the service arrangement.
These contractual obligations (present obligation i.e., when it is not considered as a separate performance obligation) shall be accounted for in accordance with Ind AS 37 i.e., at the best estimate of the expenditure that would be required to settle the present obligation at the end of the reporting period.
Borrowing costs
Financial asset model: In accordance with Ind AS 23, borrowing costs attributable to the arrangement shall be recognised as an expense in the period in which they are incurred.
Intangible asset model: Borrowing costs attributable to the arrangement shall be capitalised during the construction phase of the arrangement in accordance Ind AS 23.
Items provided to the operator by the grantor: Grantor may also provide other items to the operator that the operator can keep or deal with as it wishes. If such assets form part of the consideration payable by the grantor, they are not government grants as per Ind AS 20. Instead, they are accounted for as part of the transaction price as per Ind AS 115.
Disclosures:
An operator and a grantor shall disclose the following in each period:
- description of the arrangement;
- significant terms of the arrangement that may affect the amount, timing and certainty of future cash flows (e.g., period of the concession, re-pricing dates and the basis upon which re-pricing or re-negotiation is determined);
- the nature and extent (e.g., quantity, time period or amount as appropriate) of:
- rights to use specified assets;
- obligations to provide or rights to expect provision of services;
- obligations to acquire or build items of property, plant and equipment;
- obligations to deliver or rights to receive specified assets at the end of the concession period;
- renewal and termination options;
- other rights and obligations (e.g., major overhauls);
- changes in the arrangement occurring during the period; and
- how the service arrangement has been classified.
- amount of revenue and profits or losses recognized in the period on exchanging construction services for a financial asset or an intangible asset.
The disclosures required shall be provided individually for each service concession arrangement or in aggregate for each class of service concession arrangements.
A class is a grouping of service concession arrangements involving services of a similar nature (e.g., toll collections, telecommunications and water treatment services).
Other points:
- The grantor does not need to have complete control of the price: it is sufficient for the price to be regulated by the grantor (e.g., capping mechanism).
Example: contract purports to give the operator freedom to set prices, but any excess profit is returned to the grantor, the operator’s return is capped and the price element of the control test is met.
- The grantor’s control over any significant residual interest should both restrict the operator’s practical ability to sell or pledge the infrastructure.
Background: Ind AS 38 (Intangible assets) prohibits revenue based amortisation method for intangible asset amortisation which was allowed under IGAAP.
ITFG Clarification Bulletin 7, Issue 9
A Ltd. is a first-time adopter of Ind AS from financial year 2016-17. It had entered into a service concession arrangement with government in respect of toll roads in the year 2014.
Paragraph D22 of Ind AS 101, First-time Adoption of Indian Accounting Standards permits revenue based amortisation for the intangible assets arising from service concession arrangements in respect of toll roads recognised in the financial statements for the period ending immediately before the beginning of the first Ind AS reporting period.
As on 1st April 2016, the construction of toll road is in progress.
Can A Ltd claim the exemption?
Response:
Exemption can be availed in respect of intangible assets arising from service concession arrangements in respect of toll roads recognised in the financial statements before the beginning of first Ind AS reporting period. In the given case, A Ltd. cannot avail the exemption because the intangible asset is in progress and the same has not been recognised before 1st April, 2016 and amortisation has not begun.
Example on Financial model and Intangible model
Financial Model:
Contract for construction of Road; contract type is Public-to-Private service concession agreement.
Construction time period: 2 years at estimated cost of Rs. 5 crores (Rs. 2.5 crores per year)
Operating and maintenance for 3 years at cost of Rs. 1 crore per year
Restore Infrastructure before handing over at 5th year end: Rs. 1 crore
Consideration: Rs 4 crores from 3rd year onwards upto 5th year
Response:
Financial asset initially to be measured at Fair value and subsequently to be measured at Amortised cost.
Revenue will be recognised every year on the basis of Input cost method (for measuring the progress towards satisfaction of performance obligation).
Let’s say Margin over cost is 10%.
Accounting:
Revenue shall be credited with the amount of cost mentioned above plus 10% margin for the first two years i.e., Rs. 2.5 crores plus 10% Margin per year.
For the further three years it shall be credited with the amount of cost plus 10% margin i.e., Rs. 1 crores plus 10% Margin per year.
Financial asset (amount of consideration to be received from the grantor is a financial asset as per Ind AS 109): It will be debited as Receivable from Grantor with the corresponding credit to Revenue account and Finance Income. Receivable from Grantor Account will be debited from 3rd year onwards with the amount received from the Grantor.
Change in the above example: Consideration will be collected from the users of the road as toll charges with the same amount per year i.e., Intangible asset model.
Accounting:
Revenue shall be credited with the amount of cost mentioned above plus 10% margin for the first two years i.e., Rs. 2.5 crores plus 10% Margin per year.
And for the further three years it shall be credited with the amount of consideration (toll charges) received i.e., Rs. 4 crores plus 10% Margin per year.
Whereas the actual revenue was Rs. 1 crore plus 10% Margin, therefore this way revenue is being booked twice.
Subsequent measurement: operator should amortise the intangible asset over the period of the service concession agreement.
Intangible asset recognised for Rs. 5 crores plus 10% Margin shall be amortised over the period of three years i.e., period of the concession agreement.
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Can you please share the journal entries also?