Introduction
An impaired asset is that asset of the company for which the market price is less than the value mentioned in the books of the company or the statement of financial position of the company. Different type of accounts may be categorized under the impairment of assets category, and some of these types of accounts include Goodwill of the company, brand name of the company, account receivable and long-term assets. Most of the impaired assets are the intangible assets of the company like goodwill and net worth of the company. In case of adjusting the impairment related to the Asset under consideration, the loss related to the impairment is charged to statement of comprehensive income of the company. Loss related to the impaired asset is charged to statement of comprehensive income mostly because it reduces the profit of the company and the net value for that specific impaired asset. If there is an increase in the value of the Asset, then it will be recorded at the time of selling that specific asset. According to GAAP, loss related to the impairment of assets should be disclosed in the statement of comprehensive income while the increase in the value of that impaired asset should be recorded at the time of sale of that specific asset (Kenton, 2019).
To understand the calculation related to the impairment of asset, let us consider this example. For example, in 2005, company ABC purchased a building for approximately 2 M US dollars. The estimated life of the building is approximately 20 years, and the straight-line depreciation method has been utilized in order to calculate the depreciation of the building on an annual basis. In 2009, the company came to know that a new flyover is going to be deconstructed in front of the building which will reduce the access of customers to the building. This would decrease the value of the building. After analyzing the market, the company came to know that the building can be sold for approximately 1 M US dollars after increasing expenses of approximately 50,000 US dollars. The company also estimated that if the building is used in the future, then it will generate cash flow of approximately 1.2 M US Dollars in present value.
According to the straight-line method, the accumulated depreciation of the building is as follows:
1 Year Depreciation = $.10 M
5 Year Accumulated Depreciation = $.50 M
Net Value of Building = $1.5 M
Recoverable amount is the higher from fair-value minus cost to sell the asset or value in use for the asset.
Fair-value minus cost to sale = $1 M – $0.05 M = $0.95 M
Value in use = $1.2 M
Carrying Value = $1.5 M
According to GAAP, the recoverable amount, in this case, will be 1.2 M US dollars. The difference between the recoverable amount and carrying value is 0.3 M US dollars, and it will be the impairment loss for the company related to building, and this amount will be charged to the statement of comprehensive income of the company as impairment loss related to the building.
A-Is Impairment testing of assets is necessary?
According to GAAP, it is mandatory for companies to consider the impairment of asset concept related to their fixed assets in the statement of financial position. GAAP suggest that the impairment loss should be charged to the statement of comprehensive income of the company while the increase in the value of the asset should be recorded at the time of the sale of the Asset.
According to Australian accounting standard board, impairment of assets is the standard 136. The standard was implemented in August 2015 by the AASB. According to AASB 136, if the market value of the fixed asset is less than the carrying value or book value of the Asset, then the difference is considered as an impairment loss, and it must be recorded in the statement of comprehensive income of the company. Treatment-related to the impairment of assets is necessary for companies following GAAP and international financial reporting standard. It is also important from audit perspective because if proper impairment of assets is not implemented by the management of the company, then the independent external auditor can create objections during the audit of the financial statements and can issue a qualified opinion for the formulated financial statements instead of issuing unqualified audit opinion (Tyler, Godwin and Alderman, 2018).
In any kind of business, the value of the acid does not remain the same. It is important for the Finance Department to make sure that they periodically record the high and low fluctuation of the assets according to the GAAP and IFRS. It is important to understand that if the value of the assets permanently keeps on changing for the worse than it is necessary for the accounts department to calculate impairment of that specific asset in order to record that impairment in the financial statements of the company (Tyler, Godwin and Alderman, 2018).
B-Process required to be addressed in determining any assets impairment that might be necessary.
Procedure for calculation of impairment of fixed assets is different according to Generally Accepted Accounting Principles and IFRS. According to GAAP, there are two basic steps associated with the calculation of impairment of assets while IFRS used a one-step impairment test (Shaari, Abdullah and Aziz, 2013).
As far as GAAP related impairment test is concerned, the first step is associated with comparing the values or carrying amount for the Asset and the undiscounted cash-flows which are expected to be generated by that specific asset. If the value of the carrying amount is less than the undiscounted cash-flows, then there is no need of recording impairment, and step 2 is not necessary. If the carrying amount of the asset is greater than the and discounted cash-flows then step to becomes necessary which is associated with quantification of impairment loss.
According to the step to of GAAP related to the impairment test model, the difference between the carrying amount of the Asset and the fair-value is calculated. Fair-value is considered to be the price of the Asset which will be received by selling that specific asset after reducing the selling expenses related to that asset (Shaari, Abdullah and Aziz, 2013).
As far as IFRS are concerned, there is a simple one-step impairment test involved. According to IFRS, carrying amount related to the Asset under consideration is compared with the recoverable amount related to that asset. If the recoverable amount is greater than the carrying amount of the Asset, then the difference is considered to be impairment loss. According to the IFRS, this impairment loss should be recorded in the statement of comprehensive income of the company considering it a loss.
Steps related to the impairment of goodwill from GAAP and IFRS are also different. The testing model presented by IFRS is based upon a single step while GAAP uses two-steps for impairment of goodwill calculation (Brice, 2016).
C-Information needed in determining asset impairments:
Recently, the Australian securities and investment Commission raised concerns regarding the impairment of intangible assets for Mayer. According to the Australian securities and investment Commission, the intangible assets of the company are required to be reduced by approximately 515 M US dollars related to an impairment loss. This is mostly because of the fact that intangible assets value in the market is less as compared to the intangible assets value in the statement of financial position of the company.
In order to calculate the impairment loss value, it is important first to analyze the value of intangible assets according to the statement of financial position of the company. After extracting this information, it is important to formulate the forecasted cash-flows of the company in order to calculate the value for the impairment. According to the Australian securities and investment Commission, it was recommended that company should reduce the value of goodwill as well as the value of the brand in order to adjust the total amount of 515 M US dollars related to the impairment loss in the first half of 2018. Most of the major shareholders and stakeholders of the company were not happy due to this decision because this significantly reduces the profit of the company (Tyler, Godwin and Alderman, 2018).
Significant information which is important related to the calculation of impairment of assets is related to the cash flow forecasting. The company can use lower cash flow forecast for higher level cash flow forecast in order to calculate the value for impairment. In this case of Myer, it is recommended that lower cash flow forecast should be utilized because a similar technique was used in 2018 in order to calculate the value for impairment loss (Kasztelnik, 2015).
Source: (Mitchell, 2018)
The above graph shows the historical stock price performance for Myer. It can be clearly seen from the historical stock price performance that share price experienced a decreasing trend in 2018 after July. It is mostly because of the fact that the company recorded the impairment loss in 2018 by reducing the value of intangible assets of the company by approximately 515 M US dollars. Some of the amounts were reduced from the brand value of the company while some of the amount was reduced from the Goodwill of the company. This was responsible for negatively influencing the perception of stakeholders and shareholders regarding the stocks of the company being traded in the market.
Another significant information regarding the calculation of impairment of assets is related to market capitalization. Market capitalization is utilized in order to calculate the impairment amount related to Goodwill of the company. Without market capitalization value, it is not possible for the company to calculate impairment value related to Goodwill of the company. These identified elements are significantly important for the calculation of impairment for fixed assets, goodwill, and intangible assets (Tyler, Godwin and Alderman, 2018).
D-Flexibility management in the determination of asset impairments:
Flexibility management is associated with the ability of the management team in order to adapt according to different investment decisions including the scale as well as the timing of the decisions in relation with the prevailing market conditions in order to make sure that the formulated assumptions and goals are achieved. For instance, a mining company can implement the concept of flexibility management in its operational activities in order to benefit from rapidly and significantly increasing mineral prices (Web Finance, 2019).
As far as implementation of flexibility management in impairment of an asset is concerned, it is important to mention that the value of asset rarely increases except value for land and rare items. Concept of flexibility management can be effectively used for calculation of impairment related to land and rare items or unique items. It can also be effectively implemented in relation to the calculation of impairment concept related to Mining industry due to the rapid increase in mineral prices in this industry (Kasztelnik, 2015).
Accounting flexibility is important for effective implementation of impairment of assets. Accounting flexibility is considered to be one of the most significant determinants for Goodwill impairment loss recognition. If the company does not have effective accounting flexibility and management flexibility than it reduces the likelihood of identifying impairment losses and it might negatively influence the financial statements of the company as objections can be raised during the audit procedures regarding the implementation of impairment of assets concept in the financial statements of the company (Vogt et al., 2016).
Conclusion
In the end, it can be concluded after the above discussion that impairment of assets can be calculated by using the rules provided by IFRS or GAAP. It is important to understand that the testing models for impairment of assets for GAAP and IFRS are different. With proper implementation of flexibility management, managers will be able to implement the appropriate model and technique for the calculation of impairment of assets in order to incorporate the results in the financial statements of the company.
References
Brice, S. (2016) Procedural Differences in Impairment Testing, 23 March, [Online], Available: https://www.aicpastore.com/content/media/producer_content/newsletters/articles_2009/cpa/mar/intesting.jsp [12 May 2019].
Kasztelnik, K. (2015) ‘The Impairment of Long-Lived Assets and Reversing Revaluation Review under US GAAP VS. IFRS Models in the United States’, Accounting and Finance Research, vol. 4, no. 3, pp. 106-113.
Kenton, W. (2019) Impaired Asset, 28 February, [Online], Available: https://www.investopedia.com/terms/i/impairedasset.asp [12 May 2019].
Mitchell, S. (2018) ASIC confirms role in Myer’s $515m intangible asset impairments, 28 March, [Online], Available: https://www.afr.com/business/retail/asic-confirms-role-in-myers-515m-intangible-asset-impairments-20180328-h0y2qs [12 May 2019].
Shaari, H., Abdullah, Z. and Aziz, S.A. (2013) ‘Impairment of assets disclosure by public listed companies in Malaysia’, International Journal of Critical Accounting, vol. 5, no. 2, pp. 173-186.
Tyler, J., Godwin, N.H. and Alderman, W.C. (2018) ACCT3 Financial, 2nd edition, Cengage AU.
Vogt, M., Pletsch, C.S., Morás, V.R. and Klann, R.C. (2016) ‘Determinants of Goodwill Impairment Loss Recognition’, Revista Contabilidade & Finanças, vol. 27, no. 72, pp. 349-362.
Web Finance (2019) Managerial Flexibility, [Online], Available: http://www.businessdictionary.com/definition/managerial-flexibility.html [12 May 2019].
