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Chapter 11 HKAS 36 Impairment of Assets

1. Objectives

1.1 State the principle of value to business related to impairment.

1.2 Define the meaning of impairment, carrying amount, recoverable amount, net

realizable value and value in use.

1.3 Identify the events to trigger off an impairment review.

1. !ompute the impairment loss.

1." #$plain the allocation of goodwill for a cash%generating unit.

1.& #$plain the allocation of impairment loss for a cash%generating unit.

1.' #$plain the accounting treatments for impairment loss for a cash%generating unit and

an individual asset.

1.( #$plain the disclosure re)uirements by *+S 3&.

D i s c l o s u r e

S u b s e ) u e n t

- e v i e w

, c c o u n t i n g f o r

I m p a i r m e n t . o s s

! a s h / e n e r a t i n g

0 n i t s

I d e n t i f y

I m p a i r m e n t

S c o p e 1

D e f i n i t i o n

2. Introduction

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2.1 n enterprises assets are normally recorded at the value of transactions at the time

when they are ac)uired. Subse)uently, the enterprise may revalue their assets as times

goes by to reflect their fair value of the assets as stated in the balance sheet.

2.2 4oreover, it has long been established that if there are permanent decline in the value

of assets, i.e. the assets are impaired, the assets carrying amount should be written

down to their recoverable amount.

2.3 5he purpose of *+S 3& is to ensure that enterprises do not carry assets at a value in

e$cess of their recoverable amount ( ). lso, it gives some specific

guidance on when and how to apply the test of impairment.

2. 5he logical thin6ing and deduction on the concept of impairment is based on the

principle of 7value to the business8 9or deprival value:. ;alue to the business is the

lower of an assets carrying amount and its recoverable amount.

2." DEFINITIONS

9a: Impairment ( )is a reduction in the recoverable amount of a fi$ed

asset or goodwill below its carrying amount.

9b: Carrying amount ( )is defined in *+S 3& as the amount at which an

asset is recognized in the balance sheet after deducting any accumulated

depreciation and accumulated impairment losses thereon 9 :.

9c: Recoverable amountis the higher of fair value less costs to sell 9or net selling

price or net realizable value: and its value in use.

9d: Net realizable value ()or fair value le cot to ellis the amount

at which an asset could be disposed of, less any direct selling costs 9

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123456:.

9e: !alue in ue ( )is the present value of the future cash flows obtainable

as a result of an assets continued use, including those resulting from its

ultimate disposal 9789 :;

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D e p r e c i a t e d c o s t

9 s a y ( < :

= a i r v a l u e l e s s

c o s t t o s e l l

9 s a y " :

; a l u e i n u s e

9 s a y & < :

h i g h e r o f

- e c o v e r a b l e a m o u n t

. o w e r o f

! a r r y i n g a m o u n t

2.& =rom the above flowchart, it can be 6nown that the carrying amount of the asset

should be valued at &

#et # C D

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;alue to be stated in balance sheet

9lower of carrying amount and

recoverable amount:1

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of the asset is, or will be, worse than e$pected.

3. It is important to stress that the above is a list of events that indicate that an

impairment review may be appropriate. 5he indicators will only trigger off an

impairment review if they are relevant to the measurement of the goodwill or fi$ed

assets.

3." =or e$ample, there are circumstances in which short term interest rates are increased

without affecting the re)uired rate of return on long term basis. 5his may be because

the mar6et e$pectations are that the increase in interest rates will be relatively short%

lived. In these circumstances there is no effect on the recoverable amount of such

assets and no impairment review would be re)uired.

3.& #ven if there are no indications of impairment, the following assets must alaybe

tested for impairment annually.

9i: n intangible asset with an in+efinite ueful lifeB

9ii: /oo+illac)uired in a business combination.

". Computin! Impairment #oss

(#) Ca* generating unit

.1 Chen attempting to assess the value in use of an asset, it may be difficult because the

asset does not generate income or cash flows on its own but only as part of a larger

unit.

.2 5he procedure to be adopted in this case is to estimate the recoverable amount of the

whole unit, and to recognize an impairment if the value of the whole unit is found to

be below its carrying value.

.3 DEFINITION

ca*0generating unit 9E5 HIJ : is a group of assets, liabilities and

associated goodwill that generates income that is largely independent of the reporting

entitys other income streams. 5he assets and liabilities include those directly

involved in generating the income and an appropriate portion of those used to

generate more than one income stream 99:;

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. E"#$%&E 1

mining company owns a private railway that it uses to transport output from one of

its mines. 5he railway now has no mar6et value other than as scrap, and it is

impossible to identify any separate cash inflows with the use of the railway itself.!onse)uently, if the mining company suspects an impairment in the value of the

railway, it should treat the mine as a whole as a cash generating unit, and measure

the recoverable amount of the mine as a whole.

." E"#$%&E 2

bus company has an arrangement with a towns authorities to run a bus service on

four routes in the town. Separately identifiable assets are allocated to each of the bus

routes, and cash inflows and outflows can be attributed to each individual route.

5hree routes are running at a profit and one is running at a loss. 5he bus company

suspects that there is an impairment of assets on the loss%ma6ing route. *owever, the

company will be unable to close the loss%ma6ing route, because it is under an

obligation to operate all four routes, as part of its contract with the local authority.

!onse)uently, the company should treat all four routes together as a cash generating

unit, and calculate the recoverable amount for the unit as a whole.

() Step for computing impairment lo

.& 5he following steps should be applied in computing impairment loss>

9a: Identify individual asset or group of assetsB

9b: #stimate future cash inflowsB

9c: !hoose appropriate discount rate 9E^:B

9d: Determine recoverable amountB

9e: Crite down carrying amount to recoverable amount.

(a) Identify individual asset or group of assets

.' If cash flows cannot be identified with individual asset, it becomes necessary to group

the assets to perform impairment test. 5he re)uirement is that grouping of assets, i.e. a

cash%generating unit, should be identified for the smallest or the lowest level groups of

assets together to generate an identifiable and independent stream of cash flows.

.( In practice, the groupings may be at departmental level, product line, output of

material, labour, overhead, etc. 5o a certain e$tent, aggregation process may be

necessary when the enterprises operation is integrated.

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. *+S 3& re)uires cash%generating units, once have been identified, be applied

consistently from period to period for the same asset or types of assets.

(b) Estimate future cash flows

.1< 5he estimates of future cash inflows should include>

9i: proEections of cash inflows from continuing use of the asset or group of assetsB

9ii: proEections of cash outflows that are necessarily incurred to generate the cash

inflows from continuing use of the asset or group of assetsB and

9iii: net cash flows, if any, to be received 9or paid: for the disposal of the asset or

group of assets at the end of its useful life.

.11 Chen estimating future cash flows, past e$perience is very important for proEection. In

addition, management should consider various factors such as the industry pattern,

economic conditions, etc. on%cash costs such as depreciation, cash flow from

financing activities and income ta$ receipts or payment should not be included in the

estimates.

(c) Choose appropriate discount rate

.12 5he discount rate adopted for computing the discounted present value of cash inflows

should be a pre%ta$ rate that reflects current mar6et assessments of the time value of

money and the ris6s specific to the asset or group of assets.

.13 s a starting point, *+S 3& provides that the enterprise may ta6e into account the

following rates>

9i: the enterprises weighted average cost of capitalB

9ii: the enterprises incremental borrowing rateB and

9iii: other mar6et borrowing rates.

(d) Determine recoverable amount

.1 Determine net selling price @ 5he determination of net selling price appears relatively

simple. et selling price is the amount obtainable from the sale of an asset in an arms

length transaction between 6nowledgeable, willing parties, less the cost of disposal.

.1" Determine value in use @ ;alue in use is the present value of estimated future cash

flows e$pected to arise from the continuing use of an asset and from its disposal at the

end of its useful life. Cith the proEected cash inflows and the appropriate discount rate,

value in use can be computed.

.1& Determine recoverable @ -ecoverable amount is the higher of an assets net selling

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price and its value in use.

(e) Write down carrying amount to recoverable amount

.1' n impairment loss is the amount by which the carrying amount of an assets e$ceeds

its recoverable amount. 5hus, to recognize the loss, the carrying amount of individual

asset or group of assets is written down to its recoverable amount.

.1( E"#$%&E 3

5he operations of A td was divided into two cash%generating units, !/0I and

!/0II>

C/4I C/4II

Ca* flo 5666 5666

Fear

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3 "<

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9i: to assets other than goodwill on a pro%rata basis based on the carrying amount

of each asset in the unitB and

9ii: to goodwill allocated to the cash%generating unit, provided that the impairment

loss was originally caused by a specific e$ternal event of an e$ceptional nature

that is not e$pected to recur, and subse)uent e$ternal events have occurred that

reverse the effect of the original event. 5hus, the reversal of goodwill may

seem only to arise under very rare situation.

6. Accountin! for Impairment #oss ( Individua& Asset

&.1 ,E- %OINT

If the asset is carried at a revalued amount, the impairment loss should be recognized

directly against any revaluation surplus for the asset to the e$tent that the impairment

loss does not e$ceed the amount held in the revaluation surplus for that same asset,

the balance will then be charged to the profit and loss account as an e$pense.

&.2 fter the recognition of an impairment loss, the depreciation 9amortisation: charge for

the asset should be adEusted in future periods to allocate the assets revised carrying

amount, less its residual value, on a systematic basis over its remaining useful life.

&.3 E"#$%&E 8

!ost of machinery purchased at 1.1.2

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-evaluation reserve 2"

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increase in the carrying amount of an asset above the carrying amount that

would have been determined had no impairment loss been recognized for the

asset in prior year is a revaluation.

9ii: reversal of an impairment loss for an asset should be recognized as income

immediately in the profit and loss account, unless the asset is carried at

revalued amount.

9iii: reversal of an impairment loss on a revalued asset is credited directly to

e)uity under the heading 7revaluation surplus8. *owever, to the e$tent that an

impairment loss on the same revalued asset was previously recognized as an

e$pense in the profit and loss account, a reversal of that impairment loss is

recognized as income in the profit and loss account.

9iv: fter a reversal of an impairment loss is recognized, the depreciation charge

for the asset should be adEusted in future periods to allocate the assets revised

carrying amount, less its residual value, on a systematic basis over its

remaining useful life.

'.2 E"#$%&E 9

=ollowing the e$ample " in the previous section, assume that the recoverable amount

of the machinery at 31 December 2

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Depreciation for 2

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disclosures include the following>

9i: 5he amount of impairment losses recognized in the profit and loss account,

and the line item9s: under which they are included, and its disclosure under

segment reporting.

9ii: 5he amount of reversals of impairment losses recognized in the profit and loss

account, and the line item9s: under which they are included, and its disclosure

under segment reporting.

9iii: 5he amount of impairment losses recognized directly in e)uity.

9iv: 5he amount of reversals of impairment losses recognized directly in e)uity.

9v: otes giving details of the events and circumstances leading to impairment

losses or reversals.

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E.amination Style :uetion

:uetion '

dvent is a publicly listed company.

Details of dventNs non%current assets at 1 October 2

5he following information is relevant>

9i: 5he land and building were revalued on 1 October 2

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9 mar6s:

95otal Q 13 mar6s:

9!! 2." =inancial -eporting December 2