IAS 36 Impairment: Definition, Rules And Exceptions

What is IAS 36 Impairment?

In the given report, the annual financial statements of the company named Tutt Byryant company Limited needs to be analysed with respect to the impairment diclosures and accounting being done by the company. The company last prepared its own financial statement in 2010 and the it was acquired by TUT post which it did not prepare its standalone financial statements, for this reason the annual accounts being considered for analysis is of 2010. It needs to be  studied, analysed and commented upon that what are the provisions for impairment being used by the company, whether it has been correctly reported, what are the estimates and assumptions being used and whether the same is baised, is there any subjectivity involved in the calculation and where are the impairment expenses being shown in the financials. Further it also needs to be commented that whether or not the company has used the fair value measurement concept. In the 2^nd case study, the old leasing standard has been compared with the new leasing standards. It needs to be analysed how the new leasing standard removes the shortcomings of the old leasing standards and how the companies will be at par and the new changes will bring transparency and level playing field when the operating leases will also be reported in the financial statements. Also, the benefits to the investors in the better decision making through this change has also been highlighted.

Impairment is often defined as the permanent decline in the value of the asset, which when recognised the book value of the asset is written off and charged to Profit and loss account. This is governed by IAS 36. The concept states that the assets hould not be carried in the books of accounts at more than the recoverable value of the asset, i.e., in case the recoverable value of the assets is less than the carrying amount of the asset, the same should be impaired in the books. The recoverable value is higher of the value in use or the fair value less cost of disposing the same (Belton, 2017). The fair value is calculated in accordance with the relevant accounting standard. All the assets needs ot be checked and assessed for impairment when the internal or external factors so exists and hints towards the same. The only exception is the goodwill and the intangible assets which needs to be assessed annually. Goodwill once impaired cannot be reversed. In case the single assets is not identifiable as the cash generating segment, the smallest group of assets which is capable of generating the cash independently needs to be considered and the impairment assessment needs to be done. It is called cash generating unit. The concept is not applicable to a number of asets like the agricultural assets or deffered tax assets, the insurance and construction contracts, inventory and financial assets (Alexander, 2016). The internal factors include asset lying idle or the future economic benefits not commensurate with the book value of the asset or increased obsolescence. The external factor include technology upgradation, decrease in the market rates or decrease in asset’s market value.

1. IN the given company, many assets types have been subject to the impairment testing some of which are:
2. Intangible assets including customer relationship and computer software.
3. Goodwill
4. Property, Plant and Equipment
5. Trade receivables (Bromwich & Scapens, 2016)
6. Other Financial assets and other non financial assets excluding inventory and defereed tax assets.

How is the recoverable value calculated?

All these assets have been assessed for impairment based on different internal and external risks that existed. The methods being used is amortised cost method and fair value method and management estimates and judgements were being used while calculating the recoverable value.

The impairment testing has been done on the basis of many internal and external factors that existed. For example, for debtors the credit risk, the liquidity risk and the market risk has been considered for checking the impairment. The firm has checked the recoverable value of the asset and in case the same is found to be below the carrying value, then the asset is impaired. Goodwill and other intangible assets on the other hand are assessed for impiairment on an annual basis(Carlin T. a., Goodwill impairment testing under IFRS: a false impossible shore, 2011). The impairment on CGU and receivables is only recorded when an objective evidence of impairment thereby exists. The value in use in case of different assets has been calculated by estimating the present value of the future inflows of the cash that can be derived from the asset discounted at the requied rate of return. In case of impairment of intangibles and CGUs, the impairment loss is first allocated to the goodwill and then to the rest of the assets. It has also been mentioned clearly that goodwill once impaired is not reversed back in any circumstance and in case of any other asset, the reversal should not exceed the amount by which the asset was impaired previously. IN case of receivables, the impairment is done only when it is certain that the amount will not be collectible.

As per the notes on accounts of the company, the impairment losses are generally recorded in the profit and loss account of the company. It is difficult to find the categorization of the same and ifurcation of the same as it has been recorded alongwith the depreciation and amortization expenses in the Profit and loss account(Carlin T. a., Resisting compliance with IFRS goodwill accounting and reporting disclosures evidence from Australia, 2010). However, impairment on the trade receivables has been shown as a part of the other expenses in the income statement and the screenshot of the same is attached above.

1. There have been many accounting estimates and judgemnts that have been used by the company in calculation of the impairment losses. Some of these are:

1. The rate of discounting while calculating the fair value has been considered to be 15% for the projected cash flows(Carlin T. F., 2009) (Md Khokan Bepari, 2014).
2. The growth rates being considered for all the CGUs is 0-3% based on the management;s knowledge and past experiences.
3. Cash flows for next 5 years have been considered on extrapolated basis.
4. Kingston Industries Pty limited is an exception to the key assumption that non on the CGUs will be valued at more than the carrying amount. This is because the company is expected to give good operating margins in the coming years.

1. There is a lot of subjectivity being involved when it comes to assumptions with respect to intangible asset. It depends on the company’s management as to which method is being used by the company when valuing the intangible assets and while calculation of the fair value and the value in use. The company has used all the 3 methods namely effective interest method, the amortized cost method and other fair value method for valuation. Also, the GAAP and IFRS standards call for indefinite life of certain intangible asset but the company has used 4-7 years of customer intangibles and 3 years for softwares. All this may lead to a lot of subjectivity(Das, 2017). All this can have a substantial impact on the result of the impairment testing.
2. The most interesting thing was that possibly all the assets which could be impaired have been checked for impairment testing. All the impairment assumptions considered by the management were also interesting. The difficult part was to understand and bifurcate the impairment losses in case of the trade receivables among the company and the group. The confusing part was the use of so many methods of valuation and not maintaining the uniformity.

• The new insights which were found in the company’s financials were that the detailed notes on accounts on impairment and that there are many other assets besides goodwill and other intangible asstes that can be impaired(Jefferson, 2017).
• As per the study and analysis of the financial statements of the company, it can be said that the company has maintained excellent transparency in terms of calculation of the fair value which is very critical in impairment and valuation consideration. Fair value of the asset is primarily the market value of the asset that the company wishes to receive in the future discounted at the pre tax returns on capital. It is to be calculated in the most rational manner. It takes into account many other factors like the supply vs demand, the present market value, the risk foreseen, etc(Erik & Jan, 2017).

In the given case study, the IASB Chairperosn has mentioned that the new leasing standard has done away with many of the shortcomings of the old leasing standard. The sama has been highlight via the below answers.

Which assets need to be checked for impairment?

The Chairperson of IASB, Mr. Hans Hoogervorst has told in his address in Belgium that the old leasing standard did not relcetd the economic reality and was not giving a true and fair view of the liabilities in the financial statements to the investors and shareholders(Goldmann, 2016). This is so because the world currently has almost 3 trillion euros of leasing liability (for all listed companies) out of which nearly 85% pertains to operating lease, which was not reported in the balance sheet as liabilities as per the former accounting standards but was reorted as off balance sheet item (Visinescu, Jones, & Sidorova, 2017). The same would have had the impact of increasing the liabilities by 66 times in case these were recorded as liabilities. Thus, it is giving wrong view as companies having debt and those not having debt both look to be the same in the balance sheet and investors are being deceived out of it.

As per the former accounting standards, the reporting entities off balance sheet lease liability was about 66 times greater than the reported debt liability. This is because of the reason that the companies were not required to report the operating leases in the balance sheet due to which even though the companies were carrying huge liabilities, the same was hidden and not reported. This only didn’t give wrong picture of the growth and financial status of the company but also the accounts prepared lacked comparability(Kangarluie & Aalizadeh, 2017). Also, the impact has been such that many companies have gine bankrupt when they were asked to pay it off.

The Chairperson of IASB also mentioned that in case of airline companies specifically, the old accounting standard was not a level playing field as generally the airline companies operate their fleets of airplanes which are bought on leases and since the old accounting standard did not warrant reporting of the same, the companies did away with window dressing and hiding the actual liabilities. Due to this, the balance sheet ratio and profitability looked much more than actual. There were some other companies which bought the planes as their own and they had to report the same as fixed assets(Sithole, Chandler, Abeysekera, & Paas, 2017). Thus, the financial statements of both the groups looked similar inspite of varied actual liabilities. This has been overcome by the new accounting standard.

1. The Chairperson has also stated that the new leasing standard would not be popular with the people and companies because of multiple issues, First of all, change is opposed by everybody because of the fact that the new systems would have to be implemented and that would amount to increased costs and efforts for the companies. Furthermore, it would also lead to the balance sheet of the companies look more risky as now the liabilities would be multiplied and share prices would fall(Werner, 2017). Also, all the cosmetic benefits that could have been derived out of it would now be disappearing and only the real benefit of the leases can be availed.
2. The Chirperson has also mentioned that the new leasing standard would increase the visibility of the financials being prepared by the company and would lead to better and informed decisions by the investors. This is because now all the companies would be on even grounds and no hidden liabilities would be there in respect of leases, the comparability of the company would be enabled and the transparency would be ensured(Linden & Freeman, 2017). Also, this would help in taking many capital budgeting decisions and help in managing the cash flows. Also, the IASB has given relaxation from reporting of small ticket lease and those which are very short term.

References

Alexander, F. (2016). The Changing Face of Accountability. The Journal of Higher Education, 71(4), 411-431.

Belton, P. (2017). Competitive Strategy: Creating and Sustaining Superior Performance. London: Macat International ltd.

Bromwich, M., & Scapens, R. (2016). Management Accounting Research: 25 years on. Management Accounting Research, 31, 1-9.

Carlin, T. a. (2010). Resisting compliance with IFRS goodwill accounting and reporting disclosures evidence from Australia. Journal of Accounting and Organizational Change, 6(2), 260-280.

Carlin, T. a. (2011). Goodwill impairment testing under IFRS: a false impossible shore. Pacific Accounting Review, 23(3), 368-392.

Carlin, T. F. (2009). Goodwill accounting in Malaysia and the transition to IFRS – a compliance assessment of large first year adopters. Journal of Financial Reporting & Accounting,, 7(1), 75-104.

Das, P. (2017). Financing Pattern and Utilization of Fixed Assets – A Study. Asian Journal of Social Science Studies, 2(2), 10-17.

Erik, H., & Jan, B. (2017). Supply chain management and activity-based costing: Current status and directions for the future. International Journal of Physical Distribution & Logistics Management, 47(8), 712-735.

Goldmann, K. (2016). Financial Liquidity and Profitability Management in Practice of Polish Business. Financial Environment and Business Development, 4, 103-112.

Jefferson, M. (2017). Energy, Complexity and Wealth Maximization, R. Ayres. Springer, Switzerland . Technological Forecasting and Social Change, 353-354.

Kangarluie, S., & Aalizadeh, A. (2017). ‘The expectation gap in auditing. Accounting, 3(1), 19-22.

Linden, B., & Freeman, R. (2017). Profit and Other Values: Thick Evaluation in Decision Making. Business Ethics Quarterly, 27(3), 353-379.

Md Khokan Bepari, S. F. (2014). Firms’ compliance with the disclosure requirements of IFRS for goodwill impairment testing: Effect of the global financial crisis and other firm characteristics. Journal of Accounting & Organizational Change, 10(1), 116-149. Retrieved from https://doi.org/10.1108/JAOC-02-2011-0008

Sithole, S., Chandler, P., Abeysekera, I., & Paas, F. (2017). Benefits of guided self-management of attention on learning accounting. Journal of Educational Psychology, 109(2), 220.

Visinescu, L., Jones, M., & Sidorova, A. (2017). Improving Decision Quality: The Role of Business Intelligence. Journal of Computer Information Systems, 57(1), 58-66.

Werner, M. (2017). Financial process mining – Accounting data structure dependent control flow inference. International Journal of Accounting Information Systems, 25, 57-80.