Service Concession Arrangements
A Service Concession Arrangement (SCA) generally involves a private sector entity (operator or concessionaire) who is made responsible for rendition of public service and a public service entity (grantor). In this arrangement operator constructs or upgrades the infrastructure which is used to provide public service and operates and maintains it for a specified period of time. Such arrangements are also known as public-private partnerships (PPP). Government introduces such an arrangement to attract private sector entities for development, operation and maintenance of infrastructures like roads, bridges, airports, hospitals, energy supply networks etc. Common types of SCA are BOT projects.
Annexure to Ind AS 11 “Construction Contracts” deals with the accounting and disclosure requirements of such an arrangement.
To be within the scope of this standard a SCA has to satisfy the following criteria:
It is pertinent to note that even though operator renders service to the public through the infrastructure controlled by the grantor, it is not an agent of the grantor. It acquires the right to operate the infrastructure and may be subject to demand risk.Control and management of the operator is generally independent of the grantor.The fact that service and its prices are regulated by the grantor or grantor assures minimum guaranteed cash flow to the operator can’t be taken as a basis to construe that the operator is an agent of the grantor.
In some arrangements operator has to submit the report to the grantor at certain intervals to ensure the maintenance of the infrastructure and rendition of the services as per specified quality as agreed in the arrangement.
Accounting of SCA
Since operator doesn’t control the infrastructure, used to provide the public service, it can’t be recognized as PPE as per Ind As 16 “Property, Plant and Equipment” in the books of operator. The operator has only a right to operate the infrastructure to provide the service on behalf of the grantor.
As the operator constructs or upgrades the infrastructure and operates and maintains the same, the consideration received shall be allocated by reference to the fair value of the services provided ( construction/ upgrade service & operation and maintenance service). The revenue and cost relating to construction or upgrade services shall be accounted for in accordance with Ind AS 11 “Construction Contracts” and revenue and cost related to operation service shall be accounted for as per AS 18 “Revenue”.
Consideration for construction or upgrade services may be a financial asset, an intangible asset or both depending upon the nature of arrangement and right to the consideration.The financial asset and / or intangible asset shall be recognized at their fair value.
The arrangement may give rise to a financial asset if operator has unconditional right to receive cash or another financial asset from the grantor. An unconditional right to receive cash refers to a right of the receiver and an obligation on the payee to pay to the receiver without having any discretion or avoidable condition to the payment.
Financial asset is accounted for in accordance with Ind AS 109 “Financial Instruments”. The financial asset is initially recognized at it’s fair value and is subsequently classified as – Amortised Cost or Fair value through other comprehensive income or Fair value through profit or loss.
Under financial asset model fair value of total consideration to be received from the grantor will be equal to the fair value of the services provided over the period of the contract. The effective rate to discount the cash flows is determined at the inception of the contract.
Revenue from the construction contract shall be recognized at cost of construction plus appropriate margin on it and a corresponding financial asset is recognized. Finance income on financial asset is recognized over the period of the contract. Cost of construction is recognized over the construction phase.
An Intangible asset is recognized where operator gets right to charge users of the infrastructure for a specified period of time in exchange for construction service.The intangible asset is initially recognized at fair value, i.e., fair value of construction service and is tested for impairment subsequently as per the requirement of Ind AS 38 “Intangible Assets”
The operator recognizes construction revenue and construction cost in the same manner as in case of financial asset model and an intangible asset instead of a financial asset is recognized as in this case operator gets the right to charge users rather than receiving cash or other financial asset from grantor.
A hybrid or bifurcated model of a SCA gives rise to both a financial asset and an intangible asset. Under such an arrangement operator has a right to receive cash or other financial asset from grantor and charge to users of the infrastructure as well.
Under this model a financial asset is recognized to the extent of fair value of right to receive cash or other financial asset from the grantor and any excess of fair value of construction service over the financial asset is recognized as intangible asset.The cost of construction is recognized in the same manner as in case of above two models and financial asset will accrete finance income over the period of the contract.
Financial Asset Model
Revenue from operation and maintenance activity is recognized at cost plus appropriate margin. Cost of operation and maintenance is charged to profit or loss as and when they are incurred.Finance income on financial asset is recognized over the period of contract
Intangible Asset Model
Revenue from operation and maintenance activity, i.e. amount charged to users, is recognized by the operator and cost of operation and maintenance is charged to profit or loss. The amortization of the intangible assets is done over the operational period.
Under this model cash received from users of the infrastructure and from the grantor to be allocated to revenue from operationand realization of financial asset respectively.Amortization of intangible asset is done and finance income on financial asset is recognized over the period of contract.
The operator may contractually be obliged to maintain the infrastructure to a specified level of serviceability or restore it to a specified condition before it is handed back to the grantor but it doesn’t include any upgrade service. These contractual obligations shall be accounted for in accordance with Ind AS 37, i.e. the liability must be provided for and a corresponding expenditure related to the reporting period to be recognized.
An operator may be required to perform some replacement and maintenance services at a specific point in time or as and when it is required to be done in order to maintain the infrastructure at a specified level of serviceability, however standard doesn’t provide any specified guidance on the treatment of the case where an operator is required to replace and maintain the infrastructure at a specific point in time irrespective of the condition of the respective infrastructure. If the obligation is a separate construction or upgrade service it should be accounted for accordingly, but this requires judgment and consideration of the facts. For instance it may be that the year of mandatory resurfacing work to be done as per the contract and estimated year of resurfacing work to be done, considering the usage of the infrastructure, are same, therefore just because operator is mandatorily obliged to do the resurfacing work at a specific point in time doesn’t make it a separate performance obligation as the operator had to do the resurfacing work done based on the usage of the infrastructure in order to collect the toll and it may not be a separate revenue generating activity in all such cases.
Borrowing cost incurred during a reporting period is to be expensed out, except in case where intangible asset model is applicable (Operator acquires right to charge users), attributable borrowing cost is to be capitalized during the construction phase in accordance with Ind AS 23 “Borrowing Costs”.
An operator enters into a contract with the grantor to construct and operate & maintain a road for a period of 15 years . As per the terms of the contract operator is required to make payment of concession fees of Rs. 200 mn payable semi annually in equal installments. Other details relating to the contract are as under:
Construction cost:Rs. 20 mn
Construction period:3 years
Estimated margin on construction: 5%
Present value of concession fees of 200 mn: Rs. 185 mn
Toll revenue:Rs. 205 mn
Operational cost:Rs. 45 mn
Borrowing Cost (attributable to Intangible asset):Rs. 8 mn
Road resurfacing obligation (estimated to
be done at the end of year 9):Rs. 10 mn
In the above case Intangible asset model will be applicable. The accounting entries shall be as under:
Year 1 -3
1) Intangible asset 21 mn
To Construction revenue Rs. 21 mn
(For recognition of construction revenue ( Rs. 20 mn+5%) and corresponding intangible asset)
2) Intangible asset 185 mn
To liability for concession fees Rs. 185 mn
( For recognition of intangible asset against concession fees payable)
3) Intangible asset8 mn
To Liability/ Bank Rs. 8 mn
(For capitalization of borrowing cost)
4) Construction cost 20 mn
To liability / bank/ cash Rs. 20 mn
(For recognition of construction cost)
5) Finance Charges 15 mn
To liability for concession fees Rs.1 5 mn
(For finance charges on liability recognized at fair value initially)
Year 4 -15
6) Cash/ bank 205 mn
To Toll revenue Rs. 205 mn
(For recognition of revenue on operation of infrastructure)
7) Cost of operation expense 45 mn
To liability/ Bank Rs. 45 mn
(For recognition of operation expenses over the operational phase)
8) Amortization of Intangible Asset 214 mn
To Intangible Asset Rs.214 mn
( For recognition of amortization expense over the operational phase)
9) Resurfacing Expenses8 mn
To Provision for resurfacing expenses Rs.8 mn
(For recognition of obligation of resurfacing expenses in proportion to the no of vehicles used the road during the operational phase and corresponding liability at fair value)
10) Finance expenses 2 mn
To Provision for resurfacing expenses Rs.2 mn
(For unwinding of discount on obligation of resurfacing expenses)
11) Provision for Resurfacing expenses 10 mn
To Bank Rs. 10 mn
(For resurfacing work done at the end of year 9)
An operator enters into a contract with the grantor to construct and operate & maintain a road for a period of 15 years of which construction period is 3 years. The operator has a right to charge users of the road and estimated toll revenue is Rs. 180 mn, of which Rs. 80 is guaranteed by the grantor and fair value of the construction service is Rs. 120 mn and construction cost is Rs. 100 mn. Cost of operation is Rs. 50 mn
The above arrangement is a Hybrid or bifurcated model. The accounting entries shall be as under:
Year 1 – 3
1) Financial Asset 80 mn
To Construction revenue Rs. 80 mn
(For recognition construction revenue and corresponding financial asset against guarantees cash from the grantor )
2) Intangible asset 40 mn
To Construction revenue Rs. 40 mn
(For recognition of construction revenue and corresponding intangible asset to the extent excess of fair value of construction service over financial asset)
3) Construction cost100 mn
To Liability / Bank Rs. 100 mn
(For recognition of construction cost)
Year 4 – 15
4) Financial asset 5 mn
To Finance Income Rs. 5 mn
(For recognition of finance income on financial asset on passage of time)
5) Amortization of intangible asset 40 mn
To Intangible asset Rs. 40 mn
(For amortization of intangible asset)
6) Cash/ Bank/ Receivable180 mn
To Toll Revenue Rs. 95 mn
To Financial Asset Rs. 85 mn
(For recognition of toll revenue and amount received from grantor and users)
7) Operation expense 50 mn
To Bank Rs. 50 mn
(For recognition of operation expenses)
Similar to SCA there are other arrangements where a private sector entity is entrusted with the responsibility of public service by operation and maintenance of the infrastructure. Such kind of arrangements lack the feature of construction or upgrade service therefore they are not regarded as ‘Service Concession Arrangement’ Annexure to Ind AS 11 specifically deals with the Service Concession Arrangement and such arrangements are excluded from the scope of applicability of Annexure to Ind AS 11. Examples of such arrangements may be operation and maintenance of roads, bridges, flyovers,
Under such an arrangement existing infrastructure is provided by the grantor to the operator for the purpose of operation and maintenance thereof for a certain period of time and as per terms of the arrangements. The operator acquires the right to operate the infrastructure(right to charge users of the infrastructure) by payment of concession fees to the grantor as specified in the contract which may be subject to revision as well in future based on the circumstances. The payment of concession fees may be upfrontor over the period of contract (monthly, quarterly, annually) as specified in the contract.The operator’s right to charge users gives rise to an intangible asset as per Ind AS 38 “Intangible Assets”thus accounting of such a right is to be done in accordance withInd AS 38.
As per Ind AS 38 an Intangible asset shall be measured initially atcost.Further if payment for an intangible asset is deferred beyond normal credit terms, its cost is the cash price equivalent and the difference between this amount and the total payments is recognized as interest expenses over the period of contract.
An operator enters into a contract with the grantor operate & maintain a road for a period of 15 years . As per the terms of the contract operator is required to make payment of concession fees of Rs. 14 mn payable annually at the beginning of the year, over the period of contract. Toll revenue and cost of operation for the 1st year are Rs. 20 mn and Rs. 4 mn respectively. As per the terms of the contract operator is required to resurface the road at a cost of Rs.50 mn which is estimated at the end of year 8.(Present value of the concession fees is Rs 106.79mn)
1) Intangible Asset Rs.106.79 mn
To Liability Rs. 106.79 mn
(For recognition of intangible asset at the inception of the contract)
2) Cash/ Bank Rs. 20 mn
To Toll revenue Rs. 20 mn
(For recognition of toll revenue)
3) Operation expenses Rs. 4 mn
To Bank Rs. 4 mn
(For recognition of operational expenses)
4) Resurfacing expenses Rs. 15 mn
To provision for resurfacing expenses Rs. 15 mn
(For recognition of proportionate resurfacing expenses)
Year 2 – 15
During the year 2 to 15 operator shall recognize the toll revenue, operation expenses and proportionate resurfacing expenses for the respective years as in case of year 1.
Apart from above, entry for unwinding of discount on provision for resurfacing expenses shall be done as under for the year 2 to 8.
Year 2 – 8
5) Finance expenses Rs. 2 mn (estimated)
To provision for resurfacing expenses Rs. 2 mn
(For unwinding of discount on provision for resurfacing expenses)