A building worth 5 million… is it an operating asset? A company or establishment owns a commercial complex valued at KD 5 million.
- In the balance sheet it is classified as: “property, plant and equipment”
- Annual depreciation: 2% = KD 100 thousand charged as an expense
- Carrying value in the balance sheet after 10 years: 4 million
Had the same building been classified as “investment property” at fair value:
- Depreciation: zero
- Market value after 10 years: 7 million
- Unrealised gain: 2 million in the statement of comprehensive income
Same building, same market, same rent. Yet the accounting classification turns the company or establishment from profit-making to loss-making on paper!
And this is what happens in 80% of Kuwait’s companies or establishments
1. The trick: why do they flee from IAS 40 to IAS 16?
The standard is perfectly clear:
IAS 16 Property, plant and equipment: an asset that the establishment or company uses for its own activity, such as an administrative building or warehouses of its own
- Measurement at cost – depreciation
- Not revalued except under demanding conditions
IAS 40 Investment property: an asset you hold to rent out or for its value to appreciate (complexes, leased shops, investment land)
- Measured at fair value
- Any increase in value goes to profit
Why do companies and establishments choose IAS 16?
- Escaping valuation: fair value requires an accredited valuer and an annual report; cost is easier
- Deliberately reducing profit: some boards want to show a lower profit so that the proportion of profits distributed does not rise
- Ignorance: the accountant believes every property is “buildings”
The result: a balance sheet that does not reflect the shareholders’ true wealth
2. A simple test: is your property operating or investment?
Ask 3 questions:
(a) Does the building generate rent independently of the business activity? If the answer is yes (a complex of shops) = investment property
(b) Can you sell the building without affecting the core activity of the company or establishment? If the answer is yes = investment property
(c) Is more than 70% of the building’s area leased to others? If the answer is yes = investment property
If two of the answers apply, you are required under IAS 40 to classify it as investment property.
Example: a 4-storey building
- Ground floor: shops for the company or establishment (operating)
- 3 floors: offices leased to others for 120 thousand a year (investment)
- The mistake: classifying the whole building as operating
- The right way: split it – ground floor IAS 16, the three floors IAS 40
3. The problem exposed by IFRS 18
The new IFRS 18 has said it outright: Rental income from investment property never enters operating profit. It must be presented under the “investing” category.
Before that, companies or establishments used to place the rent from complexes in “other operating income” to inflate the operating margin from 4% to 8% artificially. And now? If you have 500 thousand of rent from complexes and you were presenting it as operating, your operating profit will fall by 500 thousand the moment it is applied in 2027.
4. The practical solution for the board of directors
Ask for two reports before the end of 2026:
Report 1: Property inventory A schedule of every property: area, use, annual rent, current classification, correct classification under IAS 40
Report 2: Preliminary valuation at fair value Engage one accredited valuer. You will discover that the equity of your company or establishment is 30-50% higher than what is presented.
The decision:
- Immediate reclassification of all leased properties to IAS 40
- Adoption of the fair value model from 2026 in preparation for 2027
- Disclosure in the balance sheet: “The company or establishment owns property wealth at a fair value of X million”
Conclusion
The greatest injustice to the shareholder is not that the company or establishment is robbed. The greatest injustice is for your company or establishment to own 10 million of property while the balance sheet shows only 6 million because of a wrong classification.
A strong balance sheet is not afraid of fair value. A weak balance sheet is the one that hides behind cost and depreciation.