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Every fixed asset must be depreciated; and for the purpose of
depreciation, the life of each asset is to be taken as stated in the table
given in the Seventh Schedule. As regards the depreciation method
that can be applied, the Act makes provision for only two, viz., (a)
Compound Interest or Sinking Fund Method, and (b) Straight Line

Under the Compound Interest Method a certain sum is set aside every
year and accumulated at compound interest of 4% p.a. This process of
setting aside a certain sum continues throughout the prescribed period
of the life of the asset till an amount equal to 90% of the original cost
of the asset is reached.

Under this method interest at the rate of 4% p.a. on the opening

balance of the Depreciation Reserve must be transferred from the
Revenue Account to the Depreciation Reserve Account.

Under the Straight Line Method of depreciation, an allowance is made

each year which is equivalent to 90% of the cost of the asset divided by
the prescribed period of the life of the asset.

When an asset has been written down to 10% (or less) of its original
cost, no further depreciation is allowed in respect of that asset.

When a fixed asset becomes obsolete or inadequate or superfluous or

is discarded for any other reason, it cannot be depreciated any further.

2. Contingency Reserve:
Every electricity company is required to maintain a contingencies
reserve. Reserve is created by transferring from the Revenue Account
every year an amount equivalent to not less than 1/4 per cent and not
more than 1/2 per cent of the original cost of the fixed assets until it
equals 5 per cent of the original cost of the fixed assets. The amount is
to be invested in trust securities.
It can be utilised with the approval of the State Government
for the following purposes:
(i) Meeting expenses or loss of profits arising out of accidents, strikes
or circumstances beyond the control of the management.

(ii) Meeting expenses of replacement or removal of plant or works

other than the expenses necessary for normal maintenance or renewal.

(iii) Paying compensation payable under law for which no other

provision has been made.

3. Development Reserve:
The reserve is created by transfer of an amount equivalent to income-
tax and super-tax (calculated at current rates) saved on account of
development rebate allowed by the income-tax authorities. If in any
accounting year the clear profit excluding the special appropriations
together with the accumulations, if any, in the Tariffs and
Development Control Reserve fall short of reasonable return, the
appropriations to this reserve can be reduced by the amount of
shortfall. The amount of such reserve is to be invested in the same
electricity undertaking and is to be handed over to purchaser of the
business in case the business is sold away.

4. General Reserve:
Section 67 of the Act provides for the creation of a General Reserve. An
annual contribution at a rate not exceeding ½% of the original cost of
the fixed asset can be made after providing for interest and
depreciation. This Reserve can be created until the total of such
Reserve exceeds 8 per cent of the original cost of the assets.

5. Tariffs and Dividend Control Reserve:

The reserve is created out of profits in excess of the reasonable return
earned by an electricity undertaking. This can be utilised whenever the
clear profit is less than the reasonable return. The balance in the
reserve should be handed over to the purchaser in case the business is
sold away.
6. Remuneration:
The remuneration given to Managing Agents is, in the first place, a
percentage of net profits. This percentage cannot exceed 10% of the
first Rs 5 lacs of such net profits and 7% of all net profits in excess of
Rs 5 lacs. In the second place, the amount paid to Managing Agents is
subject to a minimum payment which should not exceed Rs 2 p.a. for
each Rs 1,000 of paid up share and debenture capital.

The office allowance which Managing Agents can draw is to include

the salaries and wages of all persons employed in the office but not the
salaries of the engineering staff employed for purposes of the

This allowance is to be a percentage of:

(a) The operating expenditure during the year of account and

(b) The capital expenditure during the year of account.

7. Reasonable Return:
The Electricity (Supply) Act, 1948, imposes restrictions on
electricity undertakings on earning too high a profit, by
means of the concept of reasonable return, which stipulates
the following:
1. A yield at the standard rate which is the Bank Rate stipulated by the
Reserve Bank of India from time to time, plus 2% on the Capital Base.

2. Income derived from investments excluding investments made

against the Contingencies Reserve.

3. An amount equal to ½% on any loans advanced by the Board.

4. An amount equal to ½% on the amounts borrowed from

organisations or institutions approved by the State Government.

5. An amount equal to ½% on the amounts realised by the issue of

6. An amount equal to ½% on the accumulations in the Development

7. Any other amount as may be allowed by the Central Government,

having regard to the prevailing tax structure in the country.

The procedure for computing the capital base is given below:

Para XVII of the Sixth Schedule of the Act provides

guidelines for the computation of clear profits which means
the difference between the amount of income and the sum of
expenditure plus specific appropriation.

This is done in the following statement:

An electricity company must adjust the rates so that the clear profit in
any year does not exceed the reasonable return by more than 20 per
cent of the reasonable return. In case it exceeds, it should be credited
to Customers Rebate (or Benefit) Reserve.
Moreover, even the surplus within 20 per cent of the
reasonable return has to be disposed of as follows:
(i) 1/3 of the surplus not exceeding 5 per cent of the reasonable return
will be at the disposal of the undertaking.
(ii) Of the balance, 1/2 will be transferred to the Tariffs and Dividend
Control Reserve.

(iii) The balance left will be distributed among consumers by way of

reduction of rates or by way of special rebate.

The following balances have been extracted from the books
of an electricity company at the end of the accounting year:

In the accounting year, the company earned a profit of Rs. 28, 00,000
after tax. Assuming the bank rate is 10%, show how you deal with
profits of the company.