IAS 36 Impairment of Assets Submitted by – Mukesh Thakur
What is impairment • Impairment is diminution in the value of assets otherwise than by depreciation
Objective of the standard • To state the carrying amount of the assets at no more than its recoverable amount. • Implications • The standard has deep impact on capital intensive industries that capitalize its assets more than the current requirement like steel factories, fibre and glasses, textiles etc. • This standard does also have adverse impact on poor performing industries. • However, there will be no impact on service industries and good performing industries.
Impairment of Asset • An entity should assess at end of each reportingperiod whether there is any indication that an asset may be impaired. • If any indication exists, the entity will estimate the recoverable amount of the asset. • However, the following assets will be tested annually even if no indicator of impairment exists • In case of intangible assets having indefinite life, • intangible asset not yet available for use and • Goodwill • Annual impairment tests for these assets can be performed at any time during the financial year provided that the testing is performed at the same time in subsequent periods. • Different assets may be tested at different times of the year.
Impairment Test • If the recoverable amount of asset is less than its carrying amount • The asset is impaired. • The asset’s carrying amount will be reduced to recoverable amount. • Impairment Loss will be Debited and assets will be credited. • Should an impairment test be performed at interim balance sheet date? • Yes at each reporting date including interim balance sheet dates an entity is required to assess whether there is any indication that assets may be impaired.
Impairment of Revalued Assets • IAS 16 states, where entity chooses revaluation model, the revalued amount of its property, plant and equipment should not differ materially from fair value. • Fair value is the amount for which an asset could be exchanged between knowledgeable willing parties in an arm’s length transaction. • IAS 36 states that an entity should reduce the carrying amount of its assets to recoverable amount. • Recoverable amount is higher of fair value less costs of disposal and asset’s value in use. • Hence, whether impairment test of revalued asset is required depends on the basis of determining fair value.
Example Fact • A branch of a business in southern gurgaon located close to a chemical factory, was largely destroyed in an explosion. The insurance assessors are examining the damage and management is confident that the full cost of rebuild plus compensation for the loss of profit will be received. Is the asset impaired? Given that it will be replaced. Solution • Yes, the asset is impaired as it has been destroyed. The replacement will be a new asset. The costs of construction are capitalised when it is built. Insurance proceed for the rebuilding costs will be credited to income. The impairment loss is charged in current period.
Determining Net selling price • Net Selling Price (or NRV) is • Fair Value (-) cost of disposal • Evidence of Fair Value • Binding sale agreement • Market price in active market • Best information available
Value in use • Present value of estimated cash flows expected to arise from • Continuing use of the assets and • Disposal at the end of its useful life. • Estimates of future cash flow should include • Cash inflows from continuing use of the asset • Cash outflows that • Are necessarily incurred to generate cash inflows and • Can be directly attributable or allocated on a reasonable basis to assets. • Net cash flows for the disposal of asset at the end of its useful life.
Value in Use - Projection of Cash flow • Projection of cash flows should not include • Cash inflows and outflows from financing activities; • Income tax receipts and payments (since these are not considered in determining discount rate) • Estimated future cash flow should not include cash flows that are expected to arise from • A future restructuring to which the entity is not yet committed or • Improving or enhancing assets performance
Value in Use - Projection of Cash flow • Based on • management’s best estimate of economic conditions over the remaining useful life of asset; • most recent financial budgets or forecasts approved by management. • These projections should cover a maximum period of five years unless a longer period is justified. • Cash flows in foreign currency • Estimate cash flow in original currency • Discount the same using appropriate discount rate • Convert the present value using spot rate at the time of calculation of value in use.
Discount Rate • Discount rate should be Current market assessment of the time value of money and the risks specific to the asset • independent of capital structure and financing of asset • pre-tax rate of interest • When asset-specific rate not available • capital asset pricing model, incremental borrowing rate, other market borrowing rates
Impairment Recognition and Treatment • Recoverable amount < Carrying amount • Reduce carrying amount upto recoverable amount. • Impairment loss Profit and Loss A/C • In case of revalued assets under IAS 16 impairment loss will be treated as revaluation decrease. • If Impairment Loss > carrying amount Recognize liability if required by another standard. • Depreciation will be charged on revised carrying amount.
Higher of Assess Impairment conditions Value in use Impairment Condition Exists? Net Selling Prive No impairment Review NO YES Identify Assets/CGU Binding Sale Agreement Active Market Best Estimate Determine Recoverable Amount Cash Flow Discount Rate No impairment Provision NO Carrying Amount > Recoverable Amount? Follow up with Annual Impairment Review Impairment Provision = Carrying Amount – Recoverable Amount YES
Example Cost 1,000 Accumulated depreciation 400 Carrying amount 600 Net selling price 200 Value in use 100 Recoverable amount 200 Impairment loss 400 Revised carrying amount 200
Cash Generating Unit • After impairment test, recoverable amount should be calculated for individual asset. • If it is not possible to estimate recoverable amount of individual, estimate recoverable amount of Cash Generating Unit (CGU) to which the asset belongs. • CGU is smallest identifiable group of assets that generates cash inflows that are largely independent of the cash inflows of other assets or group of assets. • Example East India Minerals P. Limited owns a private railway line to support its mining activities. The private railway could only be sold for scrap value and it does not generate cash inflows that are largely independent of the cash inflows from other assets of mine. Recoverable amount of CGU i.e. mine as a whole will be estimated.
Cash Generating Unit • Allocate of Impairment Loss to assets in following order • Goodwill allocated to the CGU • Other assets on pro-rata basis • Carrying amount of any asset will not be less than the highest of • Its Net selling price • Its value in use and • Zero
Impairment of Goodwill • Goodwill acquired in business combination should be allocated, from the acquisition date to each of the acquirer's CGU that is expected to benefit from the synergies of the combination. • Even if assets and liabilities of the aquiree are assigned to those units or group of units to which the goodwill is so allocated. • Such allocated unit should • Represent the lowest level within the entity at which the goodwill is monitored for internal management purposes and • Not be larger than an operating segment as per IFRS 8. • If initial allocation is not completed before the end of financial year in which business combination took place, it will be completed within one annual period from the acquisition date.
Impairment of Goodwill • Where financial statement includes goodwill in relation to CGU the entity should • Perform ‘Bottom up Approach’ i.e. • Identify if goodwill can be allocated to the CGU and • Compare recoverable with carrying (including goodwill) and recognize impairment loss. • If carrying amount of goodwill cannot be allocated on a reasonable and consistent basis, then also perform ‘Top down Approach’ i.e. • Identify smallest CGU on which goodwill can be allocated and • Compare recoverable amount of larger CGU to its carrying amount (including goodwill) and recognize Impairment loss.
Example • X Ltd. has 3 units A, B and C. Goodwill appearing in books is Rs. 40 millions and cannot be identified and allocated to any unit. Rs. Crores • Determine impairment required.
Solution Bottom up for A Rs. Crores Carrying Amount 150 Recoverable Amount 115 Impairment Loss (35) Top Down This 30 Crores will be adjusted with Carrying amount of Goodwill of Rs. 40 Crores. Total Impairment Loss = 35 + 30 = 65 Crores.
Example • X Ltd. has 3 units A, B and C. Goodwill appearing in books is Rs. 40 millions and can be identified and allocated to A and B. Rs. Crores • Determine impairment required.
Solution Bottom up for A Rs. Crores Carrying Amount 150 Recoverable Amount 115 Impairment Loss (35) Top Down for A & B Carrying Amount (115 + 100 + 40) 255 Recoverable Amount (260 – 40) 220 Impairment Loss (35) This Rs. 35 crores will be adjusted from goodwill of Rs. 40 crores. Remaining goodwill of Rs. 5 crores will be carried forward. Total impairment loss = 70 Crores.
Corporate Assets • Assets other than goodwill that contribute to the future cash flows of CGU under review and other CGU e.g. Building of Headquarter, EDP equipment etc. • Same treatment as goodwill. • If carrying amount of the corporate asset can be allocated to CGU, apply bottom up Approach. • If carrying amount of the corporate asset cannot be allocated to the CGU, apply both bottom up and top down test.
Reversal of Impairment Loss • Impairment loss recognised in prior years should be reversed if there is indication that such losses does not exists any long. • Reversal amount should be limited to earlier impairment losses recognised as per IAS 36. Indicators
Accounting Treatment of Reversal of impairment Loss • Goodwill – Impairment Loss will not be reversed. • Revalued Assets – Reversal will be treated as revaluation increase under IAS 16. • Other Assets – Reversal will be recognised in Profit and Loss Account immediately. • Further depreciation will be charged on revised carrying amount.
Disclosures • Impairment Losses/reversals recognised in • Profit and loss account and • Equity directly. • Line items in the income statement in which impairment losses and reversals have been recognised. • Where the entity applies Segment Reporting as per ‘IFRS 8’ For each reportable segment • The amount of impairment losses/reversals recognised in • Profit and Loss Account • Equity directly
Disclosures • For each material impairment loss recognised/reversed • The events and circumstances that led to recognition of impairment loss or reversals. • The amount of Impairment Loss recognised or reversed. • For each individual asset • The nature of the asset and • The segment to which the asset belongs • For each CGU • A description of CGU • The segment to which CGU belongs • Change in the composition of CGU, if any with reasons. • The fact that recoverable amount of asset is its fair value less cost of sales (NSP) or its value in use.
Disclosures • If recoverable amount is NSP, the basis used to determine NSP. • If recoverable amount is Value in use, the discount rate used in current estimate and previous estimate of value in use. • For aggregate of Impairment Losses/reversal not covered in 4 above • The main classes of assets affected by impairment losses/ reversals. • The main events and circumstances that led to the recognition of impairment losses and reversals of impairment losses.