What Is a Plant Asset and How Is It Accounted For?

Plant assets are a fundamental component of a business’s operational capacity and financial health. This article explores the nature of plant assets and their accounting treatment, providing insights into their significance for businesses.

Understanding Plant Assets

Plant assets, also known as property, plant, and equipment (PP&E) or fixed assets, are tangible resources that businesses use in their operations to generate revenue. They possess physical substance, unlike intangible assets such as patents or trademarks. A defining characteristic of these assets is their long-term nature, as they are expected to provide service to the company for more than one year.

These assets are held for use in producing goods or services, for rental to others, or for administrative purposes, rather than being held for sale. Examples include land, buildings, machinery, equipment, vehicles, and office furniture. Unlike inventory, which is held for immediate sale, or short-term investments, plant assets are foundational to a business’s ongoing operations.

Determining the Cost of Plant Assets

The initial cost of a plant asset is not merely its purchase price. It includes all expenditures necessary to acquire the asset and prepare it for its intended use. This concept is known as capitalization, where costs are added to the asset’s value on the balance sheet rather than being immediately expensed.

Beyond the base price, the cost of a new machine might include shipping fees, installation charges, and initial testing costs to ensure it functions correctly. For land, capitalized costs could encompass legal fees and survey costs. These additional expenditures are considered part of the asset’s cost because they are essential for the asset to be operational and contribute to the business.

Allocating Cost Over Time (Depreciation)

Depreciation is the accounting process of systematically allocating the cost of a tangible plant asset over its estimated useful life. This process is a method of cost allocation, not asset valuation, and it applies to most plant assets except land. Its purpose is to match the expense of using the asset with the revenues it helps generate over its operational period, adhering to the matching principle in accounting.

Depreciation reflects the wear and tear, obsolescence, or consumption of the asset’s economic benefits as it is used in business operations. Three factors are involved in calculating depreciation: the asset’s initial cost, its estimated useful life, and its estimated salvage value. Common methods for calculating depreciation include the straight-line method, which allocates an equal amount of expense each period, and accelerated methods that recognize more expense in earlier years.

Reporting Plant Assets on Financial Statements

Plant assets are reported on a company’s balance sheet, typically under “Property, Plant, and Equipment” or “Fixed Assets.” They are presented at their net book value, which is their original cost less accumulated depreciation. Accumulated depreciation is a contra-asset account, meaning it reduces the reported value of the assets.

Depreciation also impacts the income statement, where the depreciation expense for the period is recorded, reducing the company’s reported net income. While depreciation is an expense, it is a non-cash expense, meaning it does not involve an outflow of cash in the current period. On the cash flow statement, the acquisition or disposal of plant assets appears under the “Investing Activities” section, reflecting cash inflows or outflows related to these long-term investments.