When To Undertake An Impairment Test

What is Impairment?

Impairment refers to the state where value the asset of the company as it sits in the books becomes more that what can be realised form it if sold in the market. In short impairment is the state where the carrying amount of the asset exceeds its recoverable amount. (Gibson, 2013)

It is important for all the entities to have the impairment test done (Greite, 2007). Impairment of all the assets are required to be done except for the following few assets:

• Inventories
• Assets involved in construction contracts
• Investments which are valued at fair value
• Employee benefit Assets
• Financial Assets
• Biological assets
• Insurance contracts
• Non-current assets which have been classified as held for sale.
• Deferred tax assets

It is important for the entities to know about the impairment of the assets. As discussed when the recoverable amount falls below the carrying amount the assets is said to impair (Ittelson, 2009). There exits certain conditions and situations whereby the entity will know that it is time for them to check for the impairment of asset. Also there are certain situations when there is no information about impairment and still the entity takes up the impairment test. (Loftus, 2013)

The entity is required to access at the end of every financial year if there are any indications of impairment of assets. If the entity finds such indications then it is required to estimate the recoverable amount and calculate the amount the impairment loss and treat them in the books of accounts. (Mard, Hitchner and Hyden, 2011)

Let us now discuss about the indications of impairment of asset. Under these circumstances the entity is required o undertake the impairment test and calculate the impaired amount. The indications may be known with the help of external factors and internal factors. (Rahman, 2014)

External factors of which indicate impairment are the factors that exist in the economy and point words the impairment of the asset. These indications include the following:

• When the value of the asset declines to a great level irrespective of its period of use of life. Under this circumstances market indicates that the asset is not worth as much as it was before. (Revsine, 2015)
• The entity can see some changes that are to take place in the industry, economy is it technological, legal or market related. These changes are expected to affect to harm the entity and its position in near future or have already affected the entity in an adverse manner. Under such circumstances the assets will be affect and thus indicate impairment of asset.
• When the interest rate or rates of return on investment increase significantly in a short span of time, this also is an indication of impairment. Under such circumstances the discounting rate for the economic benefit to be derived for the asset also increases, when this rate increases the value of the asset at which it is recorded falls. Hence results in impairment of assets.
• When the market capitalisation of the entity tends to fall below the carrying amount of the assets of the entity, it is time for impairment test to be done.

These were the external factors which indicate towards the impairment of assets. Let us now discuss about the internal factors which indicate towards the impairment (Wahlen et al., n.d.). These factors are the factors which exist within the entity and aim towards the impairment of assets. These factors include the following:

• These exists situation or indications which point toward the obsolescence or physical harm made to the asset of the entity.
• There are indications or situations which are to make significant changes in the entity, its management or its business. These changes are to affect the use of the assets, manner in which they are uses or abandoning the use of such assets. It may also include discontinuance of the stream of the business in which such assets are used. It may be a restricting plan which may render the assets to be useless or may make the asset be disposed as per the existing conditions.
• There exist evidences about from internal sources that indicate that the use of the asset will be decline whether due to its physical conditions or other conditions. Indications of adverse results from the use of the asset also point towards impairment of asset.

These were the internal and external factors which point towards the impairment of the asset. Let us now see the situations when there are no indications and still the assets are to be checked for impairment tests.

• Impairment for the intangible assets which are expected to have indefinite life or the intangibles which are not to be used for impairment, the recoverable amount of these assets should be calculated any day before the end of the reporting period. These assets are to be checked for impairment every year on the same date on which they were earlier checked. In case of a new intangible asset which has not been earlier checked for impairment will be checked any day for impairment any day before the end of reporting period.
• Goodwill which has been acquired in the process of business combination should also be check for impairment annually before the close of reporting period.

The list of situations when the impairment test should be carries out is an exhaustive one.  There are several other cases or indications which may point the entity towards decline in the recoverable amount of the asset. Few of these are fall in operating cash flows generated from the asset, increase in budgeted losses, etc. therefore, the management should be diligent and should be aware of such circumstances when indicate towards the impairment of the assets.

We are given with the following information:

	Carrying Amount
Land	101,000
Equipment	23,000
Building	14,000
Inventory	6,000
Goodwill	5,000
Total CA	149,000

Also that the total recoverable amount of these is $ 134,000 and that of land alone is 97341.

Total impairment loss amounts to $ 15000 (149000-134000)

Of which impairment of land amounts to $3659 (101000-97341)

Also, the whole of goodwill amounting to 5000 will be impaired fully.

This leaves the impairment loss to be $ 6341 (15000-3659-5000). This will now be allocated amongst the reaming assets in the ratio of their carrying amounts.

Particulars	Carrying Amount	Ratio	Impairment Loss
Equipment	23,000	0.53	3,392
Building	14,000	0.33	2,065
Inventory	6,000	0.14	885
	43,000		6,341

The following journal entry on impairment of assets will be passed:

Accumulated Impairment Loss ……..Dr
To Land	3,659.00
To Equipment	3,391.70
To Building	2,064.51
To Inventory	884.79
To Goodwill	5,000.00
(Being impairment on assets realised)

References

Gibson, C. (2013). Financial reporting & analysis. 1st ed. Mason, Ohio: South-Western.

Greite, S. (2007). The development of the Australian accounting standards after the end of the G4+1. 1st ed. Mu?nchen: GRIN Verlag.

Ittelson, T. (2009). Financial statements. 1st ed. Franklin Lakes, N.J.: Career Press.

Loftus, J. (2013). Understanding Australian accounting standards. 1st ed. Milton, Qld.: John Wiley and Sons.

Mard, M., Hitchner, J. and Hyden, S. (2011). Valuation for financial reporting. 1st ed. Hoboken, New Jersey: John Wiley & Sons.

Rahman, A. (2014). The Australian Accounting Standards Review Board. 1st ed. Oxfordshire, England: Routledge.

Revsine, L. (2015). Financial reporting & analysis. 1st ed. New York, NY: McGraw-Hill Education.

Wahlen, J., Bradshaw, M., Baginski, S. and Stickney, C. (n.d.). Financial reporting, financial statement analysis, and valuation. 1st ed.