IAS 36 – Impairment of Assets
The objective of this standard is to ensure that assets of an entity are not being carried at more than their recoverable value. If the carrying amount of an asset is more than its recoverable amount then in such a scenario the asset would be described as being impaired, and the amount of carrying value exceeding the recoverable amount will be treated as impairment loss in the statement of comprehensive income while the value of the asset presented on the statement of financial position would be reduced to its recoverable value. When an entity is to recognize an impairment loss in its accounts as a result of carrying out an impairment test on its assets then in such circumstances IAS 36 requires the entity to give appropriate disclosures regarding the impairment loss in its financial statements for the relevant accounting period.
Definitions of Relevant Terms
- Recoverable Value: This value is determined by using the higher off method, by using two values in relation to an asset or Cash generating-unit (CGU), the fair value less costs to sell and the value in use.
- Impairment Loss: If the asset has a carrying value more than the value that can be recovered from the sale its sale, the amount of carrying value exceeding the recoverable value will be treated as impairment loss in the entity’s accounts.
- Costs to Sell: Any cost or expense incurred in the process of selling the asset is treated as costs to sell. Taxes are not a part of this cost.
- Carrying Value: This is the book value of the asset which appears in the statement of financial position of the entity. The carrying value of an asset is computed after deducting the accumulated depreciation from the cost or fair value of the asset. This is known as subsequent measurement of the asset.
- Value in Use: This is the inflow of the benefits that company would be getting by using the asset over its useful life and disposal.
- Useful Life: The time period in which the asset is available to the management of the company for use is actually called the useful life of an asset.
Scope of Impairment Testing
- If an intangible asset has definite life, then whenever there is evidence available that the asset may have been impaired then appropriate impairment testing would be required to be conducted by the entity.
- If there is an asset with an indefinite life then that specific asset should be tested annually to check whether the asset needs to be impaired or not, irrespective of any evidence. Any recent calculations of the recoverable value in the relevant accounting period can be used for the purpose of the annual impairment test only if the required criterion is fulfilled.
- Recoverable value of the asset available for use should be tested annually to check for any impairment loss irrespective of any impairment evidence.
- Any goodwill that has been acquired as part of the acquisition of a business will be tested annually for impairment.
Indications of Impairment
- Significant change or decrease to be precise in the actual cash flows than estimated
- Physical damage to the asset
- Asset is generating operating loss
- Expenses being frequently incurred on the repair and maintenance of the asset.
- Fall in the market value of the asset
- Any technological, legal or environmental change that can have an adverse impact on the entity and its assets
- The Increase in the rates of interest, this can affect the future cash flow projections in relation to an asset or a CGU
- Decline in the demand of an asset or the product for whose preparation the asset is used.
Measuring the Value in Use
The factors which should be reflected in the calculation of the value in use of an asset includes the following:
- An estimate of future cash flow of the benefits that entity is expecting to get from the relevant asset.
- Expectations about the possible changes in the amount and time of those estimated inflows.
- The time value of money including the impact of the current market risk-free interest rate.
- Price for the uncertain inherent in the asset
- Other factors like liquidity that market participants will affect somehow the future inflows that company is expecting to generate from the asset.
Other than above given factors, management should also make sure that:
- Assumptions of making the cash flow projections about the asset are reasonable and appropriate.
- Current projections are consistent with the past projections and actual outcome of those projections. In this way the best projections can be ensured.
- Any future cash flows (both inflows and outflows) are excluded which can arise from the future restructuring of the asset to which an entity is not yet committed to or estimated cash flows (both inflows and outflows) with reference to improving the asset’s performance.
Measuring the Recoverable Value
- It is not necessary to measure both the value in use and fair value less costs to sell to perform an impairment test. If any one of these would show that asset has lower carrying value then asset should be impaired.
- Sometimes it is impossible for the entity to measure the fair value less costs of disposal in relation to an asset. Sometimes asset’s market transaction price cannot be estimated and it is not feasible for that moment so if this is the case then only value in use can be considered.
- If there is no reason to believe that the value in use of an asset will exceed the fair value less costs of disposal then only the latter can be used for conducting impairment testing of that asset.
Recoverable value is determined for an individual asset unless the asset does not directly generate or contributes directly towards the generation of cash inflows independently from the other group of assets.
Recognizing and Measuring an Impairment Loss
Excess of the carrying value more than the recoverable value will be considered as an impairment loss in the entity’s statement of comprehensive income. An impairment loss would be recognized immediately as an expense in the statement of comprehensive income unless the asset is revalued as per any other standard such as IAS 16. The impairment loss will first be settled against the revaluation gain if exists any with reference to the same asset class on which the loss has occurred. The remaining loss will be treated as an expense to the statement of comprehensive income.
If the amount estimated for an impairment loss is more than the carrying value of an asset itself then this would give rise to a liability in this respect. The liability should be recorded properly in the entity’s books of accounts. If the loss is recognized then it would be important to consider some additional factors as it can contribute towards the difference among the tax and accounting base of the asset.
Impairment Test for CGU (Cash Generating Units)
If it is not possible to conduct an impairment test for a specific asset, then the entity should conduct a test for the entire CGU to which the asset relates. The following are the circumstances in which it may be difficult to estimate the recoverable value in case of a specific asset:
- If the Asset does not generate any cash inflows if it is separated from a class of assets
- If the value in use for a specific asset cannot be measured or if this value is significantly different from the asset’s “fair value less costs to sell” value
The CGU (Cash generating Units) will be identified consistently from period to period for the same asset or type of assets.
Recoverable Amount and Carrying Amount of CGU (Cash Generating Units)
The recoverable amount of a CGU is the value that is higher of value in use and fair value less costs to sell. Carrying amount of the CGU should also be consistently compared with its recoverable value. Carrying value of the CGU will only include the assets that can directly contribute or help in generating cash inflows in the future. Any liability would not be considered for this carrying value unless it is not possible to measure the carrying value without considering this liability.
It may be necessary to recognize some liabilities as it would be necessary for the buyer to consider this liability at the time of disposal. In this case, fair value less costs to sell of the CGU would be the price to sell these assets and liability together.
Goodwill on its own does not contribute in generating any economic benefit so it would be grouped with the class of assets to which the goodwill is expected to help in generating future cash inflows. Each CGU or group of CGU’s to which the goodwill is allotted to shall:
- Represent the lowest level in the entity with reference to the assessment of the goodwill for the internal management purposes.
- Not larger when compared with the operating segment that is defined by the standard IFRS 8.
Recognizing the Impairment Loss for a CGU (Cash Generating Unit)
If the carrying value of the CGU is more than its recoverable value then impairment loss should be recognized in the following manner:
- First allocate the loss to the goodwill until it becomes of zero value
- Then the remaining loss would be charged to the each remaining asset (in the CGU) on proportion basis with respect to the carrying value of the respective assets.
But while allocating the loss of impairment to the assets, carrying value of each asset should not be decreased more than the higher off of the Recoverable value and the Zero value.
Reversal of the Impairment Loss
- Impairment loss can be reversed but it should not be reversed more than the depreciated historical cost that would have been if no impairment test would have been conducted.
- Reversal of impairment loss of an asset would be recognized in the statement of comprehensive income unless that asset had been revalued in previous years.
- Depreciation for future periods would have to be adjusted.
- Reversal of the loss relating to impairment for a CGU should be allotted to each asset as per pro rate basis according to the carrying value of the assets. However, the loss relating to the impairment of the goodwill is irreversible.
The disclosures which are required of an entity regarding the impairment of an asset or a CGU in its financial statements for a relevant accounting period are as follows:
Disclosures Required for a Class of Assets
- The amount of Impairment losses reversed or recognized in statement of comprehensive income during a specific accounting period.
- The line items of the statement of comprehensive in which the losses resulting from impairment testing are recognized or reversed.
- The amount of impairment losses on assets previously revalued are recognized through other comprehensive income during a specific accounting period.
- The amount of impairment losses on assets previously revalued are reversed through other comprehensive income during a specific accounting period.
Disclosures Required for Reportable Segments
- Impairment losses recognized in statement of comprehensive income during a specific accounting period.
- Impairment losses reversed in statement of comprehensive income during a specific accounting period
An entity would be required to provide the following disclosures regarding each material impairment loss or reversal of it:
- The events resulting in the recognition or reversal of impairment loss
- The amount by which loss is recognized or reversed in statement of comprehensive income
- For an individual asset disclose the nature and segment of the asset
- For a CGU disclose the unit’s description, amount of impairment loss or reversal of it by class of assets and the segment to which the unit relates only if the entity reports segment information
- Whether the recoverable amount of an asset is its value in use or fair value less costs of disposal
- If recoverable value is value in use or fair value less costs of disposal using present value method then disclose the discount factor/ rate used for the estimate
- If recoverable amount is fair value less costs of disposal then disclose the basis used for determining the aforementioned amount.
If aggregate impairment losses recognized or reversed are material to the financial statements as a whole then disclose:
- Main classes of assets impacted by the recognition and reversal of impairment losses
- Main events/ circumstances resulting in the recognition or reversal of impairment losses.
The entity is also required to give detailed information regarding the estimates used for determining the recoverable value of CGUs that includes goodwill as well as other intangible assets having indefinite useful lives