In the accounting process of the business organizations, the accounting treatment for the impairment for the assets is considered as one of the major aspects. It needs to be mentioned that the business organizations consider an asset as impaired when the asset possesses the market price that is less than the listed value of that asset in the balance sheet (Capalbo 2013). The major assets that are impaired in the organizations are goodwill, long-term assets and accounts receivable as their carrying value has longer time span of impairment. It is required for the business organizations to carry out the impairment accounting as per the required accounting standards. In this context, it needs to be mentioned that the business organizations are required to consider the correct measurement or calculation of crucial aspect of impairment; they are Recoverable Amount, Value in Use and Fair Value less Cost of Disposal/Sale (Linnenluecke et al. 2015). These are three aspects that the companies are required to correctly calculate or measure for correct impairment accounting. The main aim of this essay is to analyze and evaluate the processes of calculating these three aspects in Australia. Before the discussion, it is important to mention that the Australian companies are needed to follow and comply with the standards and principles of Australian Accounting Standard Board (AASB) 136, Impairment of Assets for impairment accounting.
Recoverable amount is considered as a major part of the impairment calculation. Recoverable amount is considered as the higher of the fair value of an asset after the deduction of disposal cost and value in use. The following discussion shows the process to measure or calculate the recoverable amount:
According to AASB 136, Paragraph 18, the definition of recoverable amount is provided as higher of the fair value of an asset or a cash generating unit less selling cost and value in use (aasb.gov.au 2018). There are different kinds of requirements that the accountants are required to consider at the time of calculating the recoverable amount. As per this standard, it is not always necessary for the determination of the fair value of the assets less selling cost and its value in use. In case, either of these two amounts exceeds the carrying value of the assets, the companies do not consider the asset as impaired; thus, there is not any necessity for the estimation of any other amounts (aasb.gov.au 2018). It may be possible for the business organizations for the determination of fair value less costs to sell; this is also applicable in case an asset is not traded in the active market. However, in the absence of the required basis to make the reliable estimation of the obtained amount from the sale of an asset, it is not possible for the companies to determine the fair value of the assets. In this situation, the business entities have the option for using the value of the asset as the recoverable amount (aasb.gov.au 2018).
For this reason, it is required for the business organizations for the correct measurement and calculation of recoverable amount for the impairment accounting of the business organizations (iasplus.com 2018). It is the obligation on the business organizations for the determination of recoverable amount in case the asset fails in the generation of independent cash flows compares to the other assets of the business organizations. In case, this situation can be seen in the business organization, the determination of the recoverable amount is done for the cash-generating unit. At the same time, it needs to be mentioned that the companies are not required to calculate the value of recoverable amount in the presence of two situations. First, the fair value of the asset less cost is greater than the carrying value of that asset. Second, the companies are able in the estimation of the value in use of the asset close to the asset’s fair value less costs to sell. Apart from this, there are some cases; business organizations use various estimates, averages and computational short cuts for the detailed calculation of the recoverable value of the assets (iasplus.com 2018).
As per the above figure, the calculation of recoverable amount is done for the individual assets. In case, a specific assets fails in the generation of cash flow, the recoverable amount is calculated based on the cash generating units of the companies (iasplus.com 2018).
In case of the intangible assets of the companies, it is the obligation in the companies to test the individual asses having individual life for impairment with the help of the comparison between its carrying value and recoverable amount respective of the fact that whether there is any indication of impairment or not (aasb.gov.au 2018). However, in case of intangible assets, the accountants are required to take into consideration certain aspects for the calculation of recoverable assets. The company is required to consider that whether the intangible assets are able to generate independent cash flow or not. After this, the companies are also required to take into consideration the most recent result of the calculation of the recoverable amount in order to ascertain that whether that recoverable amount exceeds the carrying value of the assets or not (aasb.gov.au 2018). Hence, from the above discussion, it can be observed that the business organizations are needed to consider the above-discussed items of asset impairment for the calculation of recoverable amount.
Another major part of asset impairment is the Value in Use. Value in use is considered as the net present value (NPV) of a cash flow or any other benefits generated by the assets under a specific use for specific use. It is required for the companies to make the correct calculation of the value in use and the process to calculation is shown below:
Business organizations are needed to take into consideration some aspects. First, the company is needed to consider an estimation of the future cash flow that the companies are expected to derive from the assets (cpaaustralia.com.au 2018). After that, the expectations related to the possible variation in the amount and timing of the future cash flows is required to be considered. Most importantly, the calculation of value in use requires the time value of money represented by risk free interest rate in the current market. Apart from this, for the calculation of value in use, the companies are also required to take into consideration the price for uncertainty in the assets. Apart from the above, other factors that are required to be taken into consideration are liquidity, market participation, future cash flow and others (cpaaustralia.com.au 2018).
Two major steps can be seen for the estimation of the value in use of the assets. The first step involves in the estimation of future cash inflows as well as outflows that needs to be derived from the continuous use of the assets and its disposal. The second step involves in the application of the correct discount rate to the future cash flows. It needs to be mentioned that the above-mentioned factors can be reflected either in the cash flow or in the discount rate. For this reason, it is the obligation on the business organizations to select the appropriate technique (cpaaustralia.com.au 2018).
Apart from this, there are other factors that the companies are required to consider at the time of the calculation of value in use. The calculation of the value in use needs to be based on the reasonable and supportable assumptions related to the economic condition of the useful life of the assets (ey.com 2018). Apart from this, the calculation of the value of the use of the companies needs to be relevant to the most recent financial budget approved by the management of the companies. Most importantly, the calculation of the value of the value in use must not include cost of borrowing, receipts of income tax, payment of income and capital expenditures that helps in improving the performance of the companies (ey.com 2018). At the same time, the aspects that are required to be considered in the calculation of the value in use are the attributable overheads along with the amount of transaction cost in case it is expected that there will be disposal at the end of the year. Thus, from the above discussion, it can be seen that the business entities are required to take into consideration the above-factors as well as the above manner for the calculation of value in use (ey.com 2018).
Another major part of the impairment accounting of the business organizations is the calculation of fair value less cost of disposal. Same as the above two aspects, the companies are required to follow certain procedures for the correct calculation of the fair value less costs of disposal; and they are discussed below:
One perfect evidence of an asset’s fair value less cost of disposal can be considered as the price of the binding sale agreement in the transaction that is directly attributed towards the disposal of the assets. In case of the absence of the agreement of binding sale of an asset, fair value less costs can be considered as the fair value less cost of disposal (ey.com 2018). In this aspect, the current bid price is considered as the appropriate market price. In the absence of the current bid price, it is the obligation on the business organizations to consider the most recent transaction price as the basis for the calculation of the fair value of the asset less cost of disposal (ey.com 2018). Apart from this, in the absence of the binding sale agreement or the active market for related to the assets, the calculation of air value less cost of disposal is done based on the best information available for reflecting the value of the assets. In this context, it needs to be mentioned that the fair value of an asset less cost of disposal does not reflect any forced sale unless management of the companies has the obligation to sell the asset immediately (ey.com 2018).
Apart from this, while calculating the fair value less cost of disposal, the companies are required to deduct the other costs that are recognized as the liabilities at the time of the determination of the fair value less cost of disposal. The example of some of these costs are stamp duty, legal cost, transaction costs related to taxation, removal costs of the assets, direct incremental costs and others (frascanada.ca 2018). In this context, the companies are required to consider the fact that termination benefits and reducing as well as recognition costs of the businesses will not be considered as the incremental costs of the businesses. For the calculation of the fair value less cost of disposal, sometimes the companies are required to consider the disposal of the asset as the liability and the company has only one year for selling the asset (frascanada.ca 2018). The calculation of the fair value less cost of disposal must be able to reflect all the future events that can affect the expected cash flow related to the impaired asset. Apart from this, the fair value should reflect all the information available related to the assets. Lastly, the market-based assumptions taken for the calculation of the fair value less cost of disposal must be based on the current market. All the above-discussed aspects are required to be taken into consideration while calculating the fair value less cost of disposal (frascanada.ca 2018).
Conclusion
The above discussion indicates towards the fact that the companies have the obligation to consider certain factors at the time to calculate recoverable amount, value in use and fair value less cost of disposal. It can be seen that AASB 136 provides all the required aspects for the calculation of these aspects. It can be observed that the recoverable amount is considered as the higher of the value in use and the fair value less cost of disposal. For the calculation of value in use, the above discussion denotes some major aspects that the companies are required to take into consideration. For the calculation of fair value less cost of disposal, the companies are required to take into consideration all the required market assumptions so that they can reflect all the required information of the assets
References
Aasb.gov.au. (2018). Impairment of Assets. [online] Available at: https://www.aasb.gov.au/admin/file/content105/c9/AASB136_07-04_COMPapr07_07-07.pdf [Accessed 2 Jun. 2018].
Capalbo, F., 2013. Impairment of Assets.
Cpaaustralia.com.au. (2018). IAS 36 IMPAIRMENT OF ASSETS. [online] Available at: https://www.cpaaustralia.com.au/~/media/corporate/allfiles/document/professional-resources/reporting/reporting-ifrsfactsheet-impairment-of-assets.pdf?la=en [Accessed 2 Jun. 2018].
Ey.com. (2018). Impairment accounting – the basics of IAS 36 Impairment of Assets. [online] Available at: https://www.ey.com/Publication/vwLUAssets/Impairment_accounting_the_basics_of_IAS_36_Impairment_of_Assets/$FILE/Impairment_accounting_IAS_36.pdf [Accessed 2 Jun. 2018].
Frascanada.ca. (2018). International Accounting Standard 36 Impairment of Assets. [online] Available at: https://www.frascanada.ca/international-financial-reporting-standards/resources/unaccompanied-ifrss/item45641.pdf [Accessed 2 Jun. 2018].
Iasplus.com. (2018). IAS 36 — Impairment of Assets. [online] Available at: https://www.iasplus.com/en/standards/ias/ias36 [Accessed 2 Jun. 2018].
Linnenluecke, M.K., Birt, J., Lyon, J. and Sidhu, B.K., 2015. Planetary boundaries: implications for asset impairment. Accounting & Finance, 55(4), pp.911-929.
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