1. IAS 36 and AASB 136, both details about the impairment of assets. Both these standards’ main aim is to focus upon the methods to be used to conduct a test with regards the impairment of the assets of any corporate so that the assets are not being shown on the balance sheet at a value which is higher than its recoverable amount. In such a case the amount by which the value of an asset falls is described under the head ‘impairment loss’ . The accounting standard not only talks about the accounting part of the same but also states about the various situations when such impairment can be reversed and the relevant disclosures to be made.
The impairment test is conducted at the end of the financial year of the company of all the assets that exist on the balance sheet of the company but for some exceptions such as stock in trade, construction contracts, deferred tax assets, financial assets, insurance contracts and on-current assets which are held for sale or disposal in the near future (Australian Accounting Standards Board, 2009). The simple reason behind the same is that these assets are covered under other standards separately. Thus leaving these assets, if any of the other assets is subject to impairment due to indications, then the same should undergo an impairment test and the amount should be captured in the income statement of the reporting entity as well as the balance sheet.
Longreach Ltd will have to follow some steps for conducting the impairment test. First and foremost it is very important for the company to understand whether the carrying amount exceeds the recoverable amount. Thus, recoverable amount should be calculated at the beginning if there are signals for impairment. For calculating the recoverable amount of the asset the fair value of the asset less the cost of selling the asset and the value-in-use i.e. the NPV of the future cash flows of the asset are calculated and the higher of the two is considered to be the recoverable amount of the asset. Further the difference between the recoverable amount and the present carrying amount is calculated and the same is defined as the impairment loss. Thus the above mentioned basic steps are to be followed while calculating the impairment loss.
Therefore there are some terms which the company should understand in depth which are as follows:
Carrying Amount: It is the value of the asset that reflects in the balance sheet of the company after taking into consideration the accumulated depreciation loss and impairment loss.
Cash Generating Unit (CGU): It is a small cluster of assets that helps to produce cash for a company.
Value-in Use: The net present value of the future cash flows of an asset or a CGU is termed as value-in-use (Dagwell et.al. 2012).
However the above steps are to be conducted only if there exists an indication for impairment of any asset. Factors that indicate impairment can be internal as well as external to the company which Longreach Ltd should consider. The external factors are as under:
- Major reduction in the market value of an asset or the CGU because of the customary wear and tear or time lapse.
- The market capitalisation value is less than the value at which the assets of the corporation are being reflected in the balance sheet of the company.
- The discounting rate at which the value-in-use of the assets are to be calculated has increased because of an increment of the market interest rate and due to this the recoverable amount of the asset or the CGU will fall.
- The asset of the company has become obsolete due to an unexpected technological change.
The internal factors are enumerated as under:
- Any kind of an injury or damage suffered by the asset because of which its value has deteriorated.
- The company has not been performing well.
- If the company is going into any kind of a major acquisition and the carrying amount of the asset is higher than the carrying amount of the investees assets also leads to impairment of assets (Kpmg.com, 2010).
Further whenever impairment happens of the entire CGU, then the impairment of the goodwill happens first to the entire amount. Therefore in case of goodwill impairment, proportionate basis is not applicable. It is also vital for the company to understand the concept of reversal of impairment as in the case of Goodwill impairment, reversal does not happen of the said asset (Ramanna & Watts, 2012). Thus there may be situations wherein the assets once impaired in the past may be reversed. However the same is possible only if the scenario is such which indicates that there has been a change in the estimate of the carrying amount of the asset which is greater than the present carrying amount. But the reversal of the asset is possible only limited to the depreciated historical value of the asset which would have been if the asset was not impaired.
Lastly the said standard also explains the disclosure requirements. They are as under:
- The company will have to disclose the amount recognized as impairment loss or the amount reversed in the profit and loss account and the comprehensive income as well.
- In case of segmental reporting the company will have to disclose the amount of impairment or its reversal in that particular segment’s income statement as well as comprehensive income statement.
- The factors or the various indicators which led to impairment.
- The methodology used for the calculation of the recoverable amount of the asset being impaired.
Therefore, Longreach Ltd. should adhere to the said standard as it will help the investors to get a clearer view of the company’s position as well as state the assets at its actual value and not at an inflated rate (Bond et.al , 2013). Therefore impairment enables the company to publish the true worth of the assets of the company.
2. As per AASB 136, Impairment of Assets, impairment of assets or a CGU of an entity takes place if there are adequate indications of such an impairment. Further to this all assets are not subject to impairment and the said exception is there as some of these are dealt with by the other accounting standards. Similarly, all the assets of Crossbow Limited is not subject to impairment. Inventory will not be impaired as it is discussed about in the other accounting standard and the brand ‘Crossbow Shoes’ will also not be subject to impairment as the impairment of assets is being taken place due to the company’s online buying strategy wherein the brand value is not hampered or affected. Further it is this brand value which has enabled the company to perform well. Thus apart from these two, all other assets i.e. land, shoe factory, machinery for manufacturing shoes and Goodwill on acquisition of competing companies are subject to impairment as per the standard.
In the present case the recoverable amount of the land is known separately therefore a distinct accounting for impairment is to be done for land. As on 30 June 2015, the position of the company financially was $1680000. The estimated recoverable amount is $1420000. Therefore as per the formula the impairment amount is
$1680000 - $1420000= $260000.
But since the recoverable amount of the land is known separately i.e. $171000 therefore the impairment loss for land will be $200000 - $171000 = $29000.
However we donot know the recoverable amount of the rest of the assets therefore as per the rule, goodwill should be impaired at first. Thereafter the rst of the assets will be impaired proportionately. The amount of impairment left after reducing the impairment for land is $260000 - $29000 = $231000. From this amount the entire goodwill of $40000 is impaired and then the remaining amount of $231000-$40000= $191000 is divided amongst the remaining assets i.e. factory and the machinery in the ratio of 7:4. Therefore the impairment loss for factory will be 7/11*191000= $121545 and that of machinery will be 4/11*191000 = $69455.
The respective journal entries will be as under:
Impairment of land
Profit and Loss Account (loss on impairment) Dr...............$29000
To accumulated impairment loss (Land)...........................................$29000
Impairment of remaining assets
Profit and Loss Account (loss on impairment) Dr.................$231000
To goodwill A/c.....................................................................................$40000
To accumulated impairment loss (Shoe Factory)A/c...........................$121545
To accumulated impairment loss (machinery) A/c................................$69455
Australian Accounting Standards Board, (2009), Impairment of Assets- AASB 136, Available at https://www.aasb.gov.au/admin/file/content105/c9/AASB136_07-04_COMPjun09_01-10.pdf (Accessed 16th January 2017)
Bond, D., Govendir, B., & Wells, P., (2013), An evaluation of asset impairment decisions by Australian Firms and whether this was impacted by AASB 136, Available at https://www.uts.edu.au/sites/default/files/ACCDG_Aut15Sem_D.Bond_.pdf (Accessed 16th January 2017)
Dagwell, R., Wines, G., & Lambert, C., (2012), Corporate Accounting in Australia, Pearson: Australia
Kpmg.com, (2010), Impairment Testing, Available at https://www.kpmg.com/AL/en/IssuesAndInsights/ArticlesPublications/Factsheet/Advisory/Documents/Impairment%20testing.pdf (Accessed 16th January 2017)
Ramanna, K. & Watts, R. (2012), Evidence on the use of unverifiable estimates in required goodwill impairment, Review of Accounting Studies, vol. 17, no. 4, pp. 749-80.