Chapter 6: Non-current and current assets

Impairment of assets (IAS 36)

 Objective and scope of IAS 36

 Identifying that an asset may have impaired
 Measuring the recoverable amount
 Recording the impairment
 Cash generating units

4 Impairment of assets (IAS 36)

4.1 Objective and scope of IAS 36

The objective of IAS 36: Impairment of assets is to ensure that assets are ‘carried’ in
the financial statements at no more than their recoverable amount.

The recoverable amount of an asset is defined as the higher of its:

 fair value minus costs of disposal, and
 value in use.

Value in use is the present value of future cash flows from using an asset, including
its eventual disposal.
IAS 36 applies to all assets, except for:
 inventories (IAS 2)
 deferred tax assets (IAS 12)
 assets arising on a pension scheme (IAS 19)
 financial instruments (IFRS 9)
 investment property that is measured at fair value (IAS 40)
 assets held for sale (IFRS 5).

IAS 36 does cover impairments of property, plant and equipment and intangible
non-current assets, including purchased goodwill.

There are various stages in accounting for an impairment loss:

(1) Establish whether there is an indication of impairment.
(2) If so, assess the recoverable amount.
(3) Write down the affected asset (by the amount of the impairment) to its
recoverable amount.

Each of these stages will be considered in turn.

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4.2 Identifying that an asset may have been impaired

An entity is required to assess at the end of each reporting period whether there is
an indication that an asset may be impaired. If an indication of impairment is found,
then work must continue to ascertain the recoverable amount of the asset.

In addition, a calculation of the recoverable amount must take place annually,

regardless of any indications of impairment, for the following assets:
 goodwill
 intangible assets with an indefinite useful life
 an intangible asset not yet brought into use (development costs that have been
capitalised, but where amortisation has not yet started).

Indicators of impairment
When assessing whether there is an indication of impairment, IAS 36 requires that,
as a minimum, the following sources are considered:

Sources of information indicating impairment

External sources Internal sources
 An unexpected decline in the asset’s  Evidence that the asset is damaged
market value. or no longer of use to the entity.
 Significant changes in technology,  There are plans to discontinue or
markets, economic factors or laws restructure the operation for which
and regulations that have an the asset is currently used.
adverse effect on the company.
 An increase in interest rates,  There is a reduction in the asset’s
affecting the value in use of the expected remaining useful life.
asset.
 The company’s net assets have a  There is evidence that the entity’s
higher carrying value than the expected performance is worse than
company’s market capitalisation expected.
(which suggests that the assets are
over-valued in the statement of
financial position).

4.3 Measuring the recoverable amount

An asset must be carried at no more than its recoverable amount. If the carrying
value is higher than the recoverable amount, the asset has suffered impairment and
must be written down. An asset is therefore carried in the statement of financial
position at the lower of:
 its current carrying value, and
 its recoverable amount.

But what is the ‘recoverable amount’ of an asset?

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Recoverable amount is the higher of:

 an asset’s fair value minus costs of disposal, and
 its value in use.
In summary:

Value at the lower of

Recoverable amount:
Carrying value
the higher of

Fair value less

costs of disposal Value in use

Fair value minus costs of disposal

Fair value is normally market value. If no active market exists, it may be possible to
estimate the amount that the entity could obtain from the disposal.
Direct selling costs normally include legal costs and costs necessary to bring the
asset into a condition to be sold. However, redundancy and similar costs (for
example, where a business is reorganised following the disposal of an asset) are not
direct selling costs.

Value in use
Value in use is calculated by:
 estimating future (pre-tax) cash flows from the use of the asset (including those
from ultimate disposal)
 discounting them to present value.
Estimates of future cash flows should be based 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 net present value is derived by discounting back the future operating cash
flows at an appropriate (pre-tax) risk adjusted discount rate.

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Example

A company has a machine in its statement of financial position with a net book
value of $300,000. The machine is used to manufacture the company’s best-selling
product range, but the entry of a new competitor to the market has severely affected
sales. As a result, the company believes that the future sales of the product over the
next three years will be only $150,000, $100,000 and $50,000. The asset will then be
sold for $25,000. An offer has been received to buy the machine immediately for
$240,000, but the company would have to pay shipping costs of $5,000.

An appropriate risk adjusted discount rate is 10%.

Market changes indicate that the asset may be impaired and so the recoverable
amount for the asset must be calculated.
 Fair value minus costs of disposal is $235,000 ($240,000 fair value minus $5,000
disposal costs)
 Value in use is the discounted future cash flows from keeping the asset. This is:
150,000 100,000 50,000  25,000
   $275, 357
1.1 1.12 1.13

The recoverable amount is the higher of (1) value in use and (2) fair value minus
costs of disposal. In this example, this is $275,357 (the higher of $235,000 and
$275,357).

The asset has a carrying value of $300,000, which is higher than the recoverable
amount from using the asset. The asset should be valued at the lower of carrying
value and recoverable amount. It must therefore be written down to the recoverable
amount, and an impairment of $24,643 must be recorded. (Impairment = $300,000 –
$275,357.)

4.4 Recording the impairment

The impairment loss should normally be recognised immediately in profit or loss.

However, if the impairment relates to a revalued asset, it is treated as other

comprehensive income (as a downward revaluation) and the impairment loss so
recognised reduces the revaluation reserve balance relating to that asset in the
statement of changes in equity. Impairment not covered by a previously recognised
surplus on the same asset is recognised in profit or loss.

Following the recognition of the impairment, the future depreciation of the asset
should be based on the revised carrying amount, minus the residual value, over the
remaining useful life.

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Example

The previous example is now continued.

The $300,000 carrying value for the machine is based on a revaluation that was
made two years previously, which gave rise to a revaluation reserve of $20,000.
Required
Explain the accounting treatment for the $24,643 impairment loss.

Answer

The earlier revaluation gain on the asset, currently recorded in the revaluation
reserve, is reversed before any loss is charged to profit or loss. The accounting
treatment of the impairment loss is to:
 Treat the first $20,000 of the impairment as a downward revaluation, to
eliminate the $20,000 for the asset in the revaluation reserve. This is reported as
other comprehensive income for the financial year
 Write off the remaining $4,643 as an impairment loss in profit or loss for the
financial year.
$ $
DR Revaluation reserve 20,000
DR Profit and loss (balancing figure) 4,643
CR Property, plant and equipment 24,643

Reversing an impairment loss

An impairment loss may be reversed when there is evidence that this has happened.
Any reversal:
 must be justifiable, by reference to an improvement in the indicators of
impairment, and
 should not lead to a carrying amount in excess of what the carrying amount of
the asset would have been without the recognition of the original impairment
loss.

A reversal should be:

 recognised immediately in profit or loss, unless
 the original impairment was reported as other comprehensive income and
charged directly to the revaluation reserve, in which case the reversal should be
reported as other comprehensive income and credited to the revaluation reserve.

Depreciation charges for future periods should be adjusted to allocate the asset’s
revised carrying amount, minus any residual value, over its remaining useful life.

An impairment loss that has arisen on goodwill cannot be reversed.

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4.5 Cash-generating units

In most situations, one asset is not capable of generating cash flows individually.
Instead, assets are used together with other assets. When a group of assets together
generate the cash flows, they are called a ‘cash-generating unit’ (CGU).

A cash-generating unit is the smallest identifiable group of assets that generates

cash outflows that are largely independent of those of other assets or groups of
assets. For example, a CGU of a restaurant chain may be an individual restaurant.

An asset that is potentially impaired may be part of a larger group of assets which
form a cash-generating unit. It may therefore not be possible to estimate the asset’s
recoverable amount in isolation from the other assets in the CGU.

This may be particularly relevant to goodwill. A CGU must include all assets that
generate the cash flows, including goodwill. This is because goodwill does not
generate cash flows independently, but it does contribute to the output of the
company. Purchased goodwill on the acquisition of a subsidiary must therefore be
allocated to one or more CGUs. A CGU (or collection of CGUs) to which goodwill is
allocated for the purpose of impairment test cannot be larger than an operating
segment (as defined in IFRS 8: Operating Segments).

IAS 36 requires that goodwill should be reviewed for impairment annually, and the
value of goodwill cannot be estimated in isolation. The assessment of impairment
will have to take into consideration the entire CGU.

It may be possible to allocate goodwill across several cash-generating units. If

allocation is not possible, the impairment review is carried out in two stages:

1 Carry out an impairment review on each of the cash generating units

(excluding the goodwill) and recognise any impairment losses that have
arisen.

2 Then carry out an impairment review for the entity as a whole, including the
goodwill.

Allocating an impairment loss to assets in a cash-generating unit

When an impairment loss arises on a cash generating unit, the impairment loss is
allocated across the assets of the cash-generating unit in the following order:
 first, to assets that are obviously impaired
 next, to the goodwill allocated to the cash-generating unit
 then , to the other assets in the cash-generating unit, on a pro-rata basis.

However, the carrying amount of an asset cannot be reduced below the highest of:
 its fair value less costs of disposal (if determinable)
 its value in use (if determinable), and
 zero.

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Example

A cash-generating unit (CGU) consists of the following assets:

Asset Carrying value

$
Machine 300,000
Feeder 30,000
Packer 70,000
Share of factory space used (1/20 × $2 million) 100,000
License to produce the product range 50,000
Allocated goodwill (1/12 × $240,000) 20,000
Total carrying value of CGU 570,000

The recoverable amount of the CGU is $470,000, giving rise to an impairment loss of
$100,000.

Required
Explain how the impairment will be allocated across the cash-generating unit.

Answer

Impairment Impaired
Carrying write-down value
Asset value (see working) (see working)
$ $ $
Machine 300,000 43,636 256,364
Feeder 30,000 4,364 25,636
Packer 70,000 10,182 59,818
Share of factory space 100,000 14,545 85,455
License 50,000 7,273 42,727
Allocated goodwill 20,000 20,000 0
Total carrying value of CGU 570,000 100,000 470,000

Working
The impairment is first allocated against the goodwill. The remaining $80,000 is
apportioned across the other non-current assets in the cash-generating unit (CGU)
according to their value.

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$
Impairment 80,000
Total non-current asset value (excluding goodwill) 550,000

Impairment per $1 of value $0.145

In the above table, the impairment write-down for all assets except the goodwill is
therefore $0.145 for each $1 carrying value of assets.

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IFRS 5: non-current assets held for sale and discontinued operations

 The need for an accounting standard on discontinued operations

 Definition of discontinued operations
 The measurement of non-current assets and disposal groups held for sale
 Allocation of an impairment loss on a disposal group
 Presentation and disclosure

5 IFRS 5: Non-current assets held for sale and

discontinued operations

5.1 The need for an accounting standard on discontinued operations

IFRS 5 Non-current assets held for sale and discontinued operations sets out requirements
for disclosure of financial information relating to discontinued operations and non-
current assets that will soon be sold off.

The reason for requiring disclosure of information about discontinued operations is

as follows:
 Closing down some operations will affect the future financial prospects of the
entity.
 It is therefore appropriate that users of the financial statements should be
provided with relevant information about the discontinuation. This will help
them to predict the future performance of the entity.

This information can be produced by providing information about discontinued

operations separately from information about continuing operations.

5.2 Definition of discontinued operations

IFRS 5 defines a discontinued operation as a component of an entity that either:
 has been disposed of in the period, or
 is classified as ‘held for sale’ (but has not yet been disposed of).

A ‘component’ of an entity is defined as operations and cash flows that can be

clearly distinguished, operationally and for financial reporting purposes, from the
rest of the entity. The component of the entity must:
 represent a separate major line of business or a significant geographical area of
operations, or
 be a part of a single and co-ordinated plan to dispose of a separate major line of
business or a significant geographical area of operations, or
 be a subsidiary company acquired exclusively with a view to re-sale.

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If an entity disposes of an individual non-current asset, or plans to dispose of an

individual asset in the immediate future, this is not classified as a discontinued
operation unless the asset meets the definition of a ‘component of an entity’. The
asset disposal should simply be accounted for in the ‘normal’ way, with the gain or
loss on disposal included in the operating profit for the year.

Non-current assets held for sale

Non-current assets ‘held for sale’ can be either:
 specific non-current assets, or
 a ‘disposal group’. A disposal group is a group of cash-generating assets (and
perhaps some liabilities) that will be disposed of in a single transaction.

A non-current asset (or a disposal group) should be classified as held for sale if its
carrying amount will be recovered mainly through a sale transaction rather than
through continuing use. For this to be the case:
 the non-current asset or disposal group should be available for immediate sale,
in its present condition under terms that are usual and customary; and
 its sale should be highly probable.

For the sale to be highly probable:

 management must be committed to the sale
 an active programme to locate a buyer must have been initiated
 the asset or disposal group must be actively marketed for sale at a price that is
reasonable in relation to its current fair value
 the sale should be expected to take place within one year from the date of
classification as ‘held for sale’
 significant changes to the plan or the withdrawal of the plan should be unlikely.

An operation cannot be classified as discontinued in the statement of financial

position if the criteria for classifying it as discontinued are not met until after the
end of the reporting period. For example, suppose that an entity with a financial
year ending 30 June shuts down a major line of business in July and puts another
major line of business up for sale. It cannot classify these as discontinued operations
in the financial statements of the year just ended in June, even though the financial
statements for this year have not yet been approved and issued.

An asset that has been abandoned cannot be classified as ‘held for sale’.

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Example

Entity R had the following assets at 31 March Year 4.

(1) A property that it offered for sale for $5 million during June Year 3. The market
for this type of property has deteriorated and at 31 March Year 4 a buyer had not yet
been found. Management does not wish to reduce the price because it hopes that the
market will improve. Shortly after the year end the entity received an offer of $4
million and the property was eventually sold for $3.5 million during May Year 4,
shortly before the financial statements were authorised for issue.

(2) Plant with a carrying value of $2.5 million. At 31 March Year 4 the entity had
ceased to use the plant but was still maintaining it in working condition so that it
could still be used if needed. Entity R sold the plant on 14 May Year 4.

Can either of these assets be classified as ‘held for sale’ in the financial statements
for the year ended 31 March Year 4?

Answer

Property

A non-current asset qualifies as ‘held for sale’ if it is available for immediate sale in
its present condition and actively marketed for sale at a price that is reasonable in
relation to its current fair value. The property had not been sold at the year end
although it had been on the market for some time. It appears that the reason for this
was that management were asking too high a price.

Therefore the property cannot be classified as ‘held for sale’.

Plant

At the year-end management had not made a firm commitment to sell the plant.
Even though the plant was sold just after the year-end, IFRS 5 prohibits the
classification of non-current assets as ‘held for sale’ if the criteria are met after the
end of the reporting period and before the financial statements are signed.

Therefore the plant cannot be classified as ‘held for sale’.

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5.3 The measurement of non-current assets and disposal groups held for
sale
Assets held for sale and disposal groups should be valued at the lower of:
 their carrying amount, and
 fair value minus costs to sell.

If the value of the ‘held for sale’ asset is adjusted from carrying amount to fair value
minus costs to sell, any impairment should be recognised in profit or loss for the
period.
A non-current asset must not be depreciated (or amortised) while it is classified as
‘held for sale’ or while it is part of a disposal group that is held for sale.

5.4 Allocation of an impairment loss on a disposal group

IFRS 5 requires that if an impairment loss is recognised for a disposal group, the loss
should be allocated to non-current assets in the disposal group in the following
order:
 First, allocate the impairment loss to any goodwill in the disposal group
 If there is no goodwill in the disposal group, or if the impairment loss is greater
than the goodwill in the impairment group, the remaining unallocated loss
should be allocated to the other non-current assets in the disposal group pro rata
on the basis of their carrying values.

Example

An entity has decided to dispose of a group of its assets in an asset sale, and the
assets together form a disposal group that is held for sale. The assets in the disposal
group are measured as follows:

Carrying amount of assets:

At the end of the As re-measured
reporting period immediately before
prior to classification classification as held
as held for sale for sale
$ $
Goodwill 20,000 20,000
Property, plant and equipment
(carried at re-valued amounts) 60,000 52,000
Property, plant and equipment
(carried at cost) 80,000 80,000
Inventory 25,000 21,000
Financial assets 20,000 17,000
Total 205,000 190,000

The entity should recognise an impairment loss of $15,000 (= $205,000 - $190,000)

immediately before classifying the disposal group as held for sale.

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Suppose that the entity estimates that the ‘fair value less costs to sell’ of the disposal
group is $160,000. A disposal group should be measured at the lower of:
 the carrying amount of its assets, and
 fair value less costs to sell.

This means that there is a further impairment loss of $30,000 (= $190,000 - $160,000),
and this is recognised immediately the disposal group is classified as held for sale.
 The first $20,000 of the impairment loss should be used to reduce the goodwill to
$0.
 The remaining $10,000 of the impairment loss should be allocated to the non-
current assets in the disposal group pro rata to their carrying value.
Carrying amount Allocated Carrying
as re-measured impairment amount after
immediately loss allocation
before of impairment
classification as loss
held for sale
$ $ $
Goodwill 20,000 20,000 0
Property, plant and equipment
(carried at re-valued amounts) 52,000 3,939 48,061
Property, plant and equipment
(carried at cost) 80,000 6,061 73,939
Inventory 21,000 0 21,000
Financial assets 17,000 0 17,000
Total 190,000 30,000 160,000
This impairment loss of $30,000 will be included in the reported profit or loss from
discontinued operations.

5.5 Presentation and disclosure

IFRS 5 states: ‘An entity shall present and disclose information that enables users of
the financial statements to evaluate the financial effects of discontinued operations
and disposals of non-current assets (or disposal groups)’.

Disclosure in the statement of financial position

Non-current assets classified as held for sale must be disclosed separately from
other assets in the statement of financial position.

Similarly, assets and liabilities that are part of a disposal group held for sale must
be disclosed separately from other assets and liabilities in the statement of financial
position. The assets and liabilities in a disposal group should not be offset and
presented as a single net amount.

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Statement of profit or loss disclosure

Information about discontinued operations (both operations already discontinued
and those classified as held for sale) must be presented in profit or loss or in a note
to the financial statements.

There must be a single amount on the face of the statement of profit or loss for the
total of:
 the after-tax profit or loss for the period from the discontinued operations, and
 the after-tax gain or loss on measurement to fair value (less costs to sell) or on
the disposal of the asset or disposal group.
On the face of the statement of profit or loss or in a note to the accounts, this total
amount should be analysed into:
 the revenue, expenses and pre-tax profit for the period from the discontinued
operations
 the related tax expense
 the pre-tax gain or loss on measurement to fair value (less costs to sell) or on the
disposal of the asset or disposal group
 the related tax expense.
If this analysis is shown on the face of the statement of profit or loss, it should be
presented in a separate section relating to discontinued operations, separately from
continuing operations.
For comparative purposes, the figures for the previous year should be re-presented,
so that disclosures relating to discontinued operations in the prior period relate to
all discontinued operations up to the end of the current year.

Note on discontinued operations and the statement of cash flows

IFRS 5 states that in the statement of cash flows, there should be separate disclosure
of the net cash flows in the period attributable to operating activities, investing
activities and financing activities of the discontinued operations. These disclosures
may be presented either on the face of the statement or in the notes to the accounts.

Additional disclosures
Additional disclosures about discontinued operations must be included in the notes
to the accounts. These include:
 a description of the non-current asset or disposal group
 a description of the facts and circumstances of the sale
 in the case of operations and non-current assets ‘held for sale’, a description of
the facts and circumstances leading to the expected disposal and the expected
manner and timing of the disposal.

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Example

Information relating to discontinued operations might be presented as follows:

Statement of profit or loss
ABCD Entity
Statement of profit or loss for the year ended 31st December 20X6
20X6 20X5
$000 $000
Continuing operations
Revenue 9,000 8,500
Cost of sales (5,100) (4,700)
–––––––– ––––––––
Gross profit 3,900 3,800
Other income 50 100
Distribution costs (1,200) (1,000)
Administrative expenses (1,400) (1,200)
Other expenses (150) (200)
Finance costs (300) (300)
–––––––– ––––––––
Profit before tax 900 1,200
Income tax expense (300) (400)
Profit for the period from continuing operations 600 800
–––––––– ––––––––
Discontinued operations
Profit for the period from discontinued operations 250 180
–––––––– ––––––––
Profit for the period 850 980
–––––––– ––––––––
Note
In this example, a single figure of $250,000 is shown for after-tax profit or loss from
discontinued operations. This figure should be analysed in a note to the accounts, as
explained earlier. Alternatively, the analysis could be given on the face of the
statement of profit or loss.
Statement of financial position
An entity has two disposal groups held for sale:
Disposal group
Group 1 Group 2
$000 $000
Property, plant and equipment 600 300
Liabilities (50) (20)
––––––– –––––––
Net carrying amount 550 280
––––––– –––––––
An amount of $50,000 relating to the assets of disposal group 1 has been recognised
directly in equity, as a result of an asset revaluation.

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The summarised statement of financial position of the entity might be as follows:

$000
Assets
Non-current assets
Property, plant and equipment 2,000
Current assets
Inventory 300
Receivables 400
Cash 20
–––––––––––––

2,720
Non-current assets classified as held for sale 900
–––––––––––––

Total assets 3,620

–––––––––––––

Equity and liabilities

Share capital 1,000
Reserves 1,900
Amounts recognised directly in equity relating to non-current assets
held for sale 50
–––––––––––––

Total equity 2,950

–––––––––––––
Non-current liabilities: loan 400
–––––––––––––

Current liabilities
Trade payables 200
Liabilities directly associated with non-current assets classified as
held for sale 70
–––––––––––––

270
–––––––––––––

Total liabilities 670

–––––––––––––

Total equity and liabilities 3,620

–––––––––––––

In the statement of financial position, the comparative figures for the previous year
are not re-presented. The amount for discontinued operations in the previous year
does not include discontinued items for the current year. The presentation in the
statement of financial position therefore differs from the statement of profit or loss
presentation.

Note: In this summarised statement of financial position, the non-current assets

classified as ‘held for sale’ are the sum of the non-current assets of disposal groups 1
and 2 ($600,000 + $300,000). Similarly the ‘liabilities directly associated with non-
current assets classified as held for sale’ are the sum of the liabilities for disposal
groups 1 and 2.

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