IAS 36 STATES the concept of Impairment of Assets which states that an entity’s assets are NOT carried at more than their recoverable amount (i.e. the higher of fair value LESS costs of disposal and value in use).
Table of Contents
IAS 36 Impairment of Assets – Key Definitions
1. Recoverable Amount
It is defined as the higher of its Fair Value MINUS costs of disposal and its Value in Use.
2. Fair Value (FV)
It is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between Market Participants at the measurement date.
3. Disposal Costs
These are incremental costs directly attributable to the disposal of an asset or cash-generating unit (CGU), EXCLUDING finance costs and income tax expenses.
4. Value in Use
It is the present value of future cash flows from using an asset, INCLUDING its eventual disposal.
5. Impairment Loss
It is the amount by which the carrying amount of an asset (or a cash-generating unit) EXCEEDS its recoverable amount.
6. Cash-Generating Unit (CGU)
It is the smallest identifiable group of assets that generates cash flows that are Largely Independent of the cash inflows from other assets or group of assets.
7. Corporate Assets
Corporate assets are assets other than goodwill that contribute to the future cash flows of BOTH the CGU under review and other CGUs.
IAS 36 Impairment Test
1. Annual Testing
IAS 36 states that ‘Annual Impairment Testing’ is COMPULSORY for:
- Intangible assets with an indefinite useful life (such as trademarks);
- Intangible assets not yet available for use;
- Goodwill acquired in a business combination; AND
- CGUs to which goodwill has been allocated.
2. Indication Based Testing
IAS 36 states that an entity shall estimate the recoverable amount of the assets when there is an indicator of impairment.
Indicators are ASSESSED at each reporting date.
2.1 Internal Indicators
| (a) Obsolescence or physical damage of an asset. |
| (b) Significant changes with an adverse effect on the entity related to the use of an asset. e.g. – The asset becoming IDLE; – Plans to discontinue or restructure the operation to which the asset belongs; – Plans to dispose of an asset before the previously expected date; – Reassessing the useful life of an asset as finite rather than indefinite. |
| (c) Evidence from internal reporting indicating that the economic performance of an asset is or will be worse than expected. |
2.2 External Indicators
| (a) Significant decline in the market value of the assets below that would be expected as a result of the passage of time or normal use. |
| (b) Significant changes with an adverse effect on the entity in the technological, market, economic or legal environment in which the entity operates or in the market to which an asset is dedicated. |
| (c) Increased market interest rates or other market rates affecting discount rate used in calculating asset’s value in use and decrease the asset’s recoverable amount materially. |
| (d) Carrying amount of the net assets of the entity is higher than its market capitalization. |
Calculating the Impairment as Per IAS 36
Asset is IMPAIRED if:
Carrying Amount (CA) > Recoverable Amount
Impairment = Carrying Amount – Recoverable Amount
| (a) An impairment loss shall be recognized – To P&L; OR – As a Revaluation Decrease if the asset is carried at the revalued amount in line with other IFRS. |
| (b) Adjust the depreciation in future periods in order to reflect the asset’s new carrying amount. |
1. Recoverable Amount
It is the higher of asset’s or CGU Value in Use and Fair Value LESS Cost to Sell.
1.1 Value in Use
It is the present value (PV) of the future cash flows expected to be derived from an asset or CGU.
| Step 1: Estimate the Future Cash Flows |
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| (a) To Measure value in use, base cash flow projections on: – Reasonable and supportable assumptions that represent management’s best estimate of the economic conditions that will exist over the remaining useful life of the asset. – The most recent financial budgets/forecasts but for a maximum period of 5 years. – Extrapolation of cash flow projections for the periods beyond 5 years using a steady or declining growth rate for subsequent years. |
| (b) Include the following in cash flows estimations: – Projections of cash inflows from continuing use of the asset. – Projections of cash outflows necessarily incurred to generate the cash inflows from continuing use of the asset. – Net cash flows for disposal of the asset at the end of its useful life. |
| (c) DO NOT include the following in cash flows estimations: – Cash flows from receivables/payables. – Cash outflows expected from future restructurings which are not yet committed. – Cash outflows expected from improving or enhancing the asset’s performance. – Cash flows from financing activities. – Income tax receipts and payments. |
| (d) Be consistent in projecting cash flows & selecting discount rate. Either: – Adjust future cash flows by the inflation and use the nominal discount rate; or – Alternatively, project future cash flows in real terms and use the real discount rate. |
| Step 2: Determine Discount Rate |
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| Discount rate shall be a pre-tax rate that reflects current market assessment of: – Time value of money; & – Risks specific to the asset for which future cash flow estimates have not been adjusted. |
1.2 Fair Value LESS Cost to Sell
| (a) Rules and guidelines for measuring the Fair Value of any assets are set by the standard IFRS 13. |
| (b) Disposal Costs are legal costs, stamp duties and similar transaction taxes, costs of removing the asset and direct incremental costs to bring an asset into condition for sale. |
Cash-Generating Units (CGU)
IAS 36 states that CGU is the smallest identifiable group of assets that generates cash flows that are Largely Independent of the cash inflows from other assets or group of assets.
A CGU with allocated goodwill shall be tested for impairment at least annually.
If the recoverable amount of CGU is lower than its carrying amount, then an entity shall RECOGNIZE the Impairment Loss.
Impairment of Goodwill
IAS 36 clarifies that if there is goodwill acquired in a business combination, then it must be allocated to each of the acquirer’s cash-generating units (or group of them) that are expected to benefit from the synergies of the combination.
[Goodwill should be TESTED for impairment on an annual basis].
1. Goodwill Relating to Single CGU
| Impairment shall be Allocated to Reduce the Carrying Amount of the Assets of the CGU in the Following Order: |
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| (a) Reduce the Carrying Amount (CA) of goodwill first. |
| (b) Then, allocate the remaining impairment to other assets of the CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of: – Fair Value LESS cost of disposal; – Value in use; – Zero. |
2. Goodwill Relating to Multiple CGU’s
2.1 Goodwill Allocable to Multiple CGU’s
| Compare the Carrying Amount of the Impaired CGU (INCLUDING Goodwill Allocated) with the Recoverable Amount of that CGU (INCLUDING Goodwill). Impairment shall be Allocated to Reduce the Carrying Amount of the Assets in the Following Order: |
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| (a) Reduce the carrying amount (CA) of the goodwill allocated to that CGU first. |
| (b) Then, allocate the remaining impairment to other assets of that CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of: – Fair Value LESS cost of disposal; – Value in use; – Zero. |
2.2 Goodwill Not Allocable to Multiple CGU’s
Test the impaired CGU first by comparing the carrying amount (CA) of the impaired CGU (EXCLUDING goodwill) with the recoverable amount of that CGU (EXCLUDING goodwill).
Impairment shall be allocated to reduce the carrying amount (CA) assets of that CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of:
– Fair Value LESS cost of disposal;
– Value in use;
– Zero.
| Compare the Carrying Amount of the Group of CGU’s (INCLUDING Goodwill) with the Recoverable Amount of the Group of CGU’s. Impairment (If Any) shall be Allocated in the Following Order: |
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| (a) Reduce the Carrying Amount (CA) of goodwill first. |
| (b) Then, allocate the remaining impairment to other assets of the CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of: – Fair Value LESS cost of disposal; – Value in use; – Zero. |
Impairment of Corporate Assets
Corporate assets are assets other than goodwill that contribute to the future cash flows of both the CGU under review and other CGUs as per IAS 36. e.g. headquarters building, EDP equipment or a research center, etc.
1. Corporate Asset Allocable to Multiple CGU’s
| Compare the Carrying Amount of the Impaired CGU (PLUS Allocated Portion of Corporate Asset) with its Recoverable Amount. Impairment shall be Allocated to Reduce the Carrying Amount of the Assets in the Following Order: |
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| (a) Reduce the Carrying Amount (CA) of goodwill first. |
| (b) Then, allocate the remaining impairment to other assets (INCLUDING the allocated portion of the corporate asset) of the CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of: – Fair Value LESS cost of disposal; – Value in use; – Zero. |
2. Corporate Asset Not Allocable to Multiple CGU’s
Test the impaired CGU first by comparing the carrying amount (CA) of that CGU (WITHOUT corporate asset) with its recoverable amount. Impairment shall be allocated to reduce the carrying amount (CA) of the assets in the following order:
(a) Reduce the Carrying Amount (CA) of goodwill allocated to that CGU (if any) first.
(b) Then, allocate the remaining impairment to the carrying amount of other assets (NOT corporate asset) of the CGU pro rata on the basis of the carrying amount of each asset in the CGU. In allocating impairment don’t reduce the carrying amount of any asset below the highest of:
– Fair Value LESS cost of disposal;
– Value in use;
– Zero.
| Compare the Carrying Amount of the Group of CGU’s (INCLUDING Corporate Asset) with the Recoverable Amount of the Group of CGU’s. |
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| Impairment (if any) shall be allocated to the group of CGU’s and corporate asset pro rata on the basis of their carrying amounts (CA). In allocating impairment, don’t reduce the carrying amount of any CGU and corporate asset below the highest of: – Fair Value LESS cost of disposal; – Value in use; – Zero. |
IAS 36 – Reversal of Impairment
IAS 36 requires that at the end of each reporting period, the entity should determine whether an impairment loss recognized in prior periods for an asset (OTHER THAN goodwill) may no longer exist or may have decreased.
An Impairment Loss to be REVERSED only if there has been a change in the estimates used to determine the asset’s recoverable amount.
However, the carrying amount (CA) of an asset is NOT increased above the lower of:
– Recoverable amount;
– Historical cost.
1. Goodwill
| Once recognized, impairment losses on goodwill are NOT REVERSED. |
2. Individual Assets
| Reversal of impairment is recognized in the profit or loss (P&L) UNLESS it relates to a revalued asset. However, the carrying amount (CA) of an asset is not increased above the lower of: – Recoverable amount; – Historical cost. |
3. Cash-Generating Unit (CGU)
| Reversal of impairment is allocated to the assets of the CGU (EXCEPT for goodwill) pro rata with the carrying amount of these assets. However, the carrying amount (CA) of assets is not increased above the lower of: – Recoverable amount; – Historical cost. |
Synopsis
IAS 36 was REISSUED in March 2004 and applies to ‘goodwill’ and ‘intangible assets acquired in business combinations‘ for which the agreement date is on or after 31 March 2004, and for all other assets prospectively from the beginning of the first annual period beginning on or after 31 March 2004.
Chartered Accountant – ICAP
Bachelor of Accounting (Honours) – AeU, Malaysia