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Telecom Decision
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Ottawa, 17 March 1988 |
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Telecom Decision CRTC 88-3 |
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BELL CANADA - ACCOUNTING FOR REAL ESTATE
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I INTRODUCTION
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On 31 July 1987, the Commission received an application from
Bell Canada (Bell) regarding a proposed change in the method of accounting
for real estate expenditures. |
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On 16 September 1987, in CRTC Telecom Public Notice 1987-52,
the Commission announced a public proceeding to consider the issues raised in
Bell's application. British Columbia Telephone Company (B.C. Tel), CNCP
Telecommunications (CNCP), Northwestel Inc. (Northwestel), Terra Nova
Telecommunications Inc. (Terra Nova), Teleglobe Canada and Telesat Canada
(Telesat) were joined as parties to the proceeding and were invited to file
comments on Bell's application, and to file their own proposals regarding the
appropriate method of accounting for real estate expenditures for regulatory
purposes. In response to the Commission's invitation to other persons, the
Ministry of Culture and Communica tions, Government of Ontario (Ontario) and
the Consumers' Association of Canada (CAC) also became parties to the
proceeding. |
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II BACKGROUND
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In Inquiry into Telecommunications Carriers' Costing and
Accounting Procedures Phase I: Accounting and Financial Matters, Telecom
Decision CRTC 78-1, 13 January 1978 (Decision 78-1), as amended by Inquiry
into Telecommunications Carriers' Costing and Accounting Procedures Phase I:
Accounting and Financial Matters, Revision to Certain Directives Contained in
Telecom Decision CRTC 78-1, Telecom Decision CRTC 79-9, 8 May 1979 (Decision
79-9), and Bell Canada and British Columbia Telephone Company - Accounting
for Station Connections, Telecom Decision CRTC 86-4, 18 March 1986 (Decision
86-4), the Commission set out certain regulatory directives regarding
depreciation and accounting practices. The method of accounting for real
estate expenditures is included in those directives. Under the current method
of accounting, a building is composed of many retirement units which, in
turn, are composed of minor items. When a retirement unit is replaced, the
cost of the replacement is capitalized and the cost of the old retirement
unit is removed from the carrier's books. When a minor item is replaced,
however, the cost is expensed. |
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III POSITIONS OF THE PARTIES
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A. General
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In its application, Bell expressed concern that the current
method of accounting for real estate results in overcapitalization of
investment. In order to reduce the amount of capitalized investment, Bell
proposed that a complete building be considered as a single retirement unit
and that it be composed of various major "building systems". Bell described a
building system as a logical grouping of building components which, together,
accomplish a specific purpose within the structure. |
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To the same end, Bell proposed that additions of or to
building systems costing less than $5,000 be expensed, that replacement of
building systems costing less than $5,000 also be expensed, and that
replacements costing more than $5,000 be expensed where the major purpose of
the expenditure does not represent an enhancement to the building system. |
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B. Retirement Unit
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At present, a building is composed of several retirement
units, such as heating and ventilating systems. In its application, Bell
proposed that a complete building constitute a single retirement unit
consisting of various major systems. |
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In its submission, CNCP stated that it did not agree with
Bell that the current method of applying retirement unit accounting to real
estate necessarily leads to overcapitalization of investment. In CNCP's view,
overcapitalization can only occur when an existing component of a building is
replaced by a new one, and the new system is capitalized while the old one is
not removed from the books. CNCP also noted that Bell's proposal ignores the
fact that individual components have useful lives not related to the useful
life of the building and that generally accepted accounting principles
require that the components be capitalized and depreciated. |
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CNCP also noted that Directive 20(f) of Decision 78-1 states
that "a plant unit [retirement unit] shall not be so broadly defined that a
major acquisition of equipment will be charged to maintenance expense." B.C.
Tel submitted a proposal outlining certain revisions to its accounting
manual. In its proposal, the company continued to use retirement units as
parts of a complete building. |
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Telesat supported Bell's proposal, with the caveat that the
other CRTC regulated carriers have the option to continue to treat major
building components as separate retirement units. Northwestel also agreed
with Bell's proposal. |
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In reply, Bell commented that it is not trying to eliminate
retirement unit accounting, but is proposing that the large volume of
relatively low value retirement units be removed from the capital accounting
process. In the company's view, numerous retirement units of small value
should not receive capitalization and retirement accounting treatment because
they only maintain the operating capacity of a building. |
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C. Additions
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Bell proposed that additions of or to a building system
costing less than $5,000 be expensed. This proposal was supported by B.C.
Tel, CNCP, Northwestel, Telesat and Ontario. Telesat, however, suggested that
the option of capitalizing additions of less than $5,000 should remain with
the carriers. |
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D. Replacements
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Bell filed three separate proposals in connection with
replacements. |
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1) Expense if no Enhancement |
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Bell proposed that the replacement of a system, or components
thereof, by materials which contain no element of enhancement, be expensed.
No other party addressed this issue. |
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2) Expense if less than $5,000 |
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Bell proposed that all replacement expenditures of less than
$5,000 be expensed. Apart from Terra Nova and CAC, neither of whom addressed
this issue, all parties were in favour of this change. Telesat suggested that
the option of capitalizing a replacement expenditure of less than $5,000
should remain with the carriers. |
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3) Expense if over $5,000 and less than 51% Enhancement |
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Bell proposed that in the case of replacement expenditures
over $5,000, the total expenditure should either be expensed or capitalized,
depending on the nature of the expenditure. Should 51% or more of the cost be
for enhancement, the total cost would be capitalized. If less than 51% was
for enhancement, the total cost would be expensed. |
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Northwestel and Telesat agreed with this proposal. Telesat
again proposed an option whereby any expenditure adding value to a building
would be capitalized, subject only to a minimum capitalization threshold. All
other parties opposed this proposal. |
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In opposing this proposal, Ontario suggested that, with no
stated limit to the dollar amount of the replacement, it would be possible to
completely renovate a fully depreciated building and expense the total cost.
In its reply, Bell disagreed, noting that a complete renovation of a building
would be considered reconstruction and the costs would be capitalized. |
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E. Initial Construction
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Bell did not propose any change to the requirement arising
from Decision 78-1 that, on initial construction of a building, all costs be
capitalized. In its proposal, however, B.C. Tel advocated that any initial
construction costs amounting to less than $5,000 be expensed. No other party
addressed the treatment of initial construction costs. |
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F. Extension/Reconstruction
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Bell proposed to continue to capitalize expenditures for
extensions to or reconstruction within a building. |
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B.C. Tel, in its proposal, advocated that extension and
reconstruction costs of less than $5,000 be expensed. As with the proposed
expensing treatment for initial construction under $5,000, B.C. Tel noted
that there are few circumstances where such costs would be less than $5,000.
No other party addressed the treatment of extension or reconstruction costs. |
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G. Minimum Rule
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Several parties sought to increase the minimum rule set out
in Directive 16 of Decision 79-9 which states that items with a unit value of
$1,500 or more shall be capitalized. CNCP was in favour of increasing the
threshold to $5,000. Northwestel and Terra Nova, supported by CAC, proposed
an increase to reflect inflation. While noting that the subject of an
increase to the minimum rule went beyond its current proposal, Bell agreed
that it may be appropriate to increase the $1,500 level to reflect changes
due to inflation. |
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H. Office Furniture |
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Telesat submitted that a major system category not listed in
Bell's application is office furniture. Telesat proposed that expenditures on
furniture and office equipment be expensed unless the expenditures constitute
the original purchase of new furniture for a new building or an extraordinary
purchase of furniture in large quantities, in which cases the expenditures
should be capitalized as a major system. |
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IV CONCLUSIONS
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As noted by CNCP, Directive 20(f) of Decision 78-1 states
that "a plant unit [retirement unit] shall not be so broadly defined that a
major acquisition of equipment will be charged to maintenance expense." In
the Commission's view, Bell's proposal that a complete building constitute a
single retirement unit represents a major departure from the principles
established in Decision 78-1. Based on the record of this proceeding, the
Commission is not persuaded that such a departure is warranted. Neither is it
persuaded that a real estate minimum rule should be established. In the
Commission's view, the determination of whether replacement expenditures
should be capitalized or expensed should continue to be made on the basis of
whether they are properly characterized as retirement units or minor items. |
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The Commission notes that Decision 78-1 also established, in
Directive 14, that, on initial installation, all expenditures associated with
the construction of plant should be capitalized, except in cases of distinct
items such as tools, furniture, etc., where a minimum rule for capitalization
should apply. Directive 14 specified further that the minimum rule would not
apply to plant items. The Commission has departed only once from the
above-noted rule. In Decision 86-4, the Commission modified Directive 14 and,
citing dramatically changed conditions, permitted the expensing of business
inside wiring. The Commission maintains the view that, in general, on initial
installation, the expenditures associated with the construction of plant
should be capitalized, except in cases of distinct items, which are subject
to the minimum rule. In light of the above, the Commission denies Bell's
application and B.C. Tel's proposal. |
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The Commission notes that several parties were in favour of
increasing the amount of the minimum rule set out in Decision 79-9. However,
as stated in Bell Canada - Review of Revenue Requirements for the years 1985,
1986 and 1987, Telecom Decision CRTC 86-17, 14 October 1986, the Commission
does not intend to approve any proposed accounting refinements which do not
conform to existing directives without first seeking public comment. Since
Bell's application made no reference to the minimum rule, the Commission will
not make a determination on this question at this time. The Commission would,
however, consider an application from any of the carriers who care to
propose, with supporting reasons, changes in the minimum rule. Similarly,
Telesat or the other carriers may, if any of them so desire, submit an
application proposing, with supporting reasons, changes in the treatment of
office furniture expenditures. Upon the receipt of any such applications, the
Commission will initiate a proceeding to permit a more complete examination
of any possible accounting changes. |
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Fernand Bélisle
Secretary General |
Date Modified: 1988-03-17 |