Impairment Write-Downs In Australian Corporate Sector - A Case Study Of Wesfarmers Limited

Based on the Board's decision, the CFO asks you to draft a business research report addressed to the Board of Directors on the following:

a. Provide a detailed explanation of the impairment write-down(s) made by your company in the year ended 30 June 2017. Your explanation should include a discussion
of the asset/s that were impaired, the amount of the impairment write-down, the indicators of impairment and relevant disclosures in the 30 June 2017 financial report in relation to impairment testing.

b. A critical analysis of some of the complexities and key issues involved in impairment testing. In your analysis, you can refer to one or more publications issued by the ‘Big 4’ firms, accounting professional bodies or academic journals.

c. Critically analyse to what extent the latest annual report of your company meets the disclosure requirements for Impairment as per AASB 136.
d. Based on your findings in part c, critically discuss to what extent the disclosures on impairment align with the objective of general purpose financial reporting and, as a
conclusion, recommend actions for improvement.

In the current era, the quality of financial information that the business organisations provide to their users of financial statements is of utmost importance for aiding in the decision-making process of the users. In this report, emphasis would be placed on the impairment write-downs in the Australian corporate sector. For simplification of the report, Wesfarmers Limited is selected as the organisation, which is the leading retailer of Australia in terms of revenue, size and market share (Wesfarmers.com.au 2018). The different assets that the company tests for impairment are identified and analysed from the critical perspective. The second section would elaborate on highlighting the significant problems encountered while conducting impairment testing. The third segment would identify the extent to which the annual report of the organisation fulfils the impairment disclosure requirements in accordance with AASB 136. Finally, the report would shed light on aligning such impairment disclosures with the objectives laid out in general purpose financial reporting.  

According to the annual report of Wesfarmers in 2017, it has been identified that the major assets tested for impairment include property, plant and equipment, trade receivables, freehold property, goodwill and other intangible assets along with non-financial assets (Wesfarmers.com.au 2018). For property, plant and equipment, the measurement is carried out at cost less accumulated depreciation and impairment. In case of trade receivables, impairment is recognised in the income statement, when evidence is obtained that the organisation would not be able to recover the debts (Beekes, Brown and Zhang 2015).

Goodwill, which is obtained in a business combination, is gauged initially at cost. After the initial recognition, the measurement of goodwill is carried out at cost less any losses related to accumulated impairment. In case of intangible assets, they are obtained separately and their measurement is made on initial realisation at cost (Bepari, Rahman and Mollik 2014). The cost of intangible assets, which are obtained in a business combination, is their fair value when they are acquired. After the initial realisation, the measurement of intangible assets is made at cost less amortisation and any losses of impairment.

It is necessary for all the business organisations operating in the Australian market to review their assets for ascertaining whether there are indicators of impairment at the end of every accounting year and there is no exception to this rule for Wesfarmers Limited as well. The organisation is involved in impairing its property, plant and equipment and intangible assets due to the changes in technology or plan of liquidating any particular business operation. In addition, it is due to the decrease in usefulness of a particular asset and the value of the estimated economic benefits associated with the intangible assets or property, plant and equipment as well (Carvalho, Rodrigues and Ferreira 2016). The following are the values of asset impairments that Wesfarmers Limited has recognised in the financial years 2016 and 2017: 

Significant Problems Encountered in Impairment Testing

There are certain issues related to impairment testing of assets and they are enumerated briefly as follows:

Cash generating units and segments:

The primary question revolving around impairment test is to determine the level at which the test for impairment needs to be made. It would rely on the tested asset and reliance on other assets for obtaining cash inflows (Pwc.com.au 2018). It is probable that certain assets such as machine, brand name and building require other assets in the value chain for supporting carrying amounts. These assets require impairment test with the smallest asset group, which could fetch independent cash inflows from other business segments. If the allocation is made inaccurately, the cash flows derived from successful business segments would support the underperforming asset values.

With the help of far value, it is possible to know the amount that an independent investor would incur for an asset, while value-in-use signifies the internal generating ability of the asset for the business organisation. Such difference is depicted in the assumptions accepted under each model (D’Arcy and Tarca 2016). For instance, fair value could take into account the risks, costs and benefits related to restructuring or asset improvements, which are not included in the balance sheet statement. On the other hand, value-in-use could comprise of synergies and economies of scale, which would be specific to the organisation and this would not be transferred at the time of external sale of the asset. However, this is not the case for fair value.

It has been observed that various organisations use weighted average cost of capital (WACC) and CAPM in order to ascertain their rates of discount for the value-in-use purposes related to impairment testing (Steele 2015). This is validated only; in case, the risks related to any particular cash generating unit do not vary from the overall business. However, in practice, varied discount rates are needed for various cash generating units. This is because of the variations in currency risk, industry risk, product risk, country risk and the market maturity where the units operate.

According to “Paragraph 126 (a) of AASB 136”, it is necessary for the business organisations to realise impairment loss in the income statement (Aasb.gov.au 2018). In case of Wesfarmers Limited, it could be observed that it has disclosed its amount of impairment loss in the income statement laid out in “Page 94 of the Annual Report”. 

In accordance with “Paragraph 126 (b) of AASB 136”, it is mandatory to disclose the amount of reversals realised in the income statement in a particular accounting year. In order to carry out the reversals of impairment, Wesfarmers Limited determines whether any change to the estimates is inherent used in ascertaining the recoverable amount of the asset since its realisation of last impairment. As a result, the asset’s carrying amount is increased to the recoverable amount (Bond, Govendir and Wells 2016). However, the organisation has not made any reversals of impairment loss in 2017, which is stated in its “Page 125 of the Annual Report”. 

Assessment of Adherence to Impairment Disclosure Requirements

In addition, according to “Paragraph 130 (g) of AASB 136”, if the recoverable amount of any CGU is found in the form of value-in-use, the discount rates are used in the current estimate and past estimate, if any, related to value-in-use. In case of Wesfarmers Limited, key assumptions are made for determining the recoverable amounts of the different CGUs of the organisation, which could be observed from “Page 126 of the Annual Report”. 

Finally, “Paragraph 80 of AASB 136” cites that goodwill needs to be allocated to a class of cash generating units estimated to benefit from the combination synergies (Detzen, Stork Genannt Wersborg and Zülch 2016). Wesfarmers Limited has allocated goodwill to groups of cash generating units for the same purpose, which could be identified from “Page 111 of the Annual Report”. 

Based on the above evaluation, it could be stated that Wesfarmers Limited has fulfilled the impairment disclosure requirements effectively in accordance with AASB 136.

As advocated by Gros and Koch (2015), general purpose financial reporting delivers financial information regarding the organisations, which is beneficial to the capital investors. According to “Paragraph 70 of the Conceptual Framework”, there is recognition of impairment loss, if the carrying amount of an asset is not recoverable (Zhuang 2016). In case of Wesfarmers Limited, the impairment loss is recognised only when the carrying amount of the asset is greater than its recoverable amount, as stated in “Page 105 of the Annual Report”. 

In addition, “Paragraph 130 of the Conceptual Framework” states that for asset impairment test under AASB 136, the estimation of cash flows is made from the perspective of the organisation rather than the perspective of the market. In case of Wesfarmers, it does not generate independent cash flows and the value-in-use could not be projected near to the fair value. 

Hence, it could be inferred that Wesfarmers Limited has disclosed its impairment values fully in accordance with the general purpose financial reporting.

However, in order to improve the quality of impairment-related disclosure, Wesfarmers Limited could undertake the following:

• Adequate emphasis could be placed on foreign currency cash flow
• After the impairment of assets is carried out, the same needs to be contrasted with the external market data
• Market capitalisation could be considered before computing the impairment values for different classes of assets
• The discount rate needs to be scrutinised appropriately

Conclusion:

Based on the above evaluation, it could be found out that the major assets tested for impairment include property, plant and equipment, trade receivables, freehold property, goodwill and other intangible assets along with non-financial assets. The issues associated with impairment testing have been described in this paper as well. Finally, it has been evaluated that Wesfarmers Limited has met all the necessary disclosures laid out in the objective of general purpose financial reporting and AASB 136. However, some recommendations have been provided so that the quality of disclosures could be improved further in future.

References:

Aasb.gov.au., 2018. [online] Available at: https://www.aasb.gov.au/admin/file/content102/c3/AASB136_07-04_ERDRjun10_07-09.pdf [Accessed 23 Apr. 2018].

Beekes, W., Brown, P. and Zhang, Q., 2015. Corporate governance and the informativeness of disclosures in Australia: A re‐examination. Accounting & Finance, 55(4), pp.931-963.

Bepari, M.K., Rahman, S.F. and Mollik, A.T., 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 and Organizational Change, 10(1), pp.116-149.

Bond, D., Govendir, B. and Wells, P., 2016. An evaluation of asset impairments by Australian firms and whether they were impacted by AASB 136. Accounting & Finance, 56(1), pp.259-288.

Carvalho, C., Rodrigues, A.M. and Ferreira, C., 2016. Goodwill and Mandatory Disclosure Compliance: A Critical Review of the Literature. Australian Accounting Review, 26(4), pp.376-389.

D’Arcy, A. and Tarca, A., 2016. Reviewing goodwill accounting research: What do we really know about IFRS 3 and IAS 36 implementation effects. Working paper.

Detzen, D., Stork Genannt Wersborg, T. and Zülch, H., 2016. Impairment of Goodwill and Deferred Taxes Under IFRS. Australian Accounting Review, 26(3), pp.301-311.

Gros, M. and Koch, S., 2015. Goodwill Impairment Test Disclosures Under IAS 36: Disclosure Quality and its Determinants in Europe.

Pwc.com.au., 2018. [online] Available at: https://www.pwc.com.au/assurance/ifrs/assets/ifrsinbrief-se-15may13.pdf [Accessed 23 Apr. 2018].

Steele, N., 2015. Accounting: Get the numbers right. Company Director, 31(5), p.41.

Wesfarmers.com.au., 2018. [online] Available at: https://www.wesfarmers.com.au/docs/default-source/default-document-library/2017-annual-report.pdf?sfvrsn=0 [Accessed 23 Apr. 2018].

Zhuang, Z., 2016. Discussion of ‘An evaluation of asset impairments by Australian firms and whether they were impacted by AASB 136’. Accounting & Finance, 56(1), pp.289-294.