IMPAIRMENT OF ASSETS - NUST · 2016-05-10 · Chapter 20: Page 1 CHAPTER 20 IMPAIRMENT of ASSETS . 1. BACKGROUND . The objective of IAS 36 is to prescribe the procedures that an entity

Chapter 20: Page 1

CHAPTER 20

IMPAIRMENT of ASSETS

1. BACKGROUND The objective of IAS 36 is to prescribe the procedures that an entity applies to ensure that its assets are not carried at amounts in excess of their recoverable amount and when an entity may reverse an impairment loss. The standard is effectively a formal procedure for ensuring that assets have not suffered a ‘permanent diminution in value’ which was a provision in former accounting standards dealing with fixed assets. The standard focuses on property plant and equipment and intangible assets including goodwill. Other assets such as inventories are not covered by this standard as detailed in the scope section below. One of the problems associated with the impairment process is the ability of an entity to recognise an impairment loss against their profits in one accounting period, but then in certain circumstances, to be able to reverse that loss and credit their income statement in a later period. This opens the door to the possibility of profit smoothing and is an issue that auditors have to guard against. Many organisations have suffered material impairment losses, a good recent example being the Panasonic Corporation whose impairment loss and related expenses turned their operating profit into a pre-tax loss. The company has reported disappointing results for the 6 months to 30 September 2012 when their pre-tax loss totalled 278.7 billion yen. This was due mainly to business restructuring expenses of 355.5 billion yen, including impairment losses of goodwill and intangible assets in the solar, consumer-use lithium-ion batteries and mobile phone businesses. 2. SCOPE The following assets, amongst others, are scoped out of IAS 36: • Inventories, • Assets arising from construction contracts, • Deferred tax assets, • Assets arising from employee benefits, • Financial assets within the scope of IAS 39, • Investment property that is measured at fair value, and • Non-current assets (or disposal groups) classified as held for sale.

A Student’s Guide to International Financial Reporting

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3. INTERPRETING THE DEFINITIONS OF KEY TERMS An impairment loss is the amount by which the carrying amount of an asset or Cash Generating Unit (CGU) is reduced to its recoverable amount. Carrying amount is the amount at which an asset or CGU is recognised in the balance sheet after deducting any accumulated depreciation (amortisation) and accumulated impairment losses thereon. Recoverable amount is the higher of an asset’s or CGU’s fair value less costs to sell and its value in use. Although recoverable amount is defined as the higher of an asset’s or CGU’s fair value less costs to sell and its value in use, it is not always necessary to determine both. Examples of such situations include: • where either the fair value less costs to sell or the value in use are determined to be greater than

the asset’s carrying amount, the asset is not impaired and it is not necessary to determine the other amount,

• where there is no reason to believe the asset’s value in use materially exceeds its fair value less costs to sell, the asset’s recoverable amount is its fair value less costs to sell, and

• where it is not possible to determine fair value less costs to sell, the recoverable amount of the asset may be taken to be its value in use.

Value in use is the present value of the future cash flows expected to be derived from an asset. The following steps are necessary to estimate the value in use of an asset: (a) estimate the future cash inflows and outflows to be derived from continuing use of the asset

and from its ultimate disposal, and (b) apply the appropriate discount rate to those future cash flows. When calculating value in use, the basis for estimates of future cash flows is as follows: • projections shall be based on reasonable and supportable assumptions that represent

managements’ best estimate of the range of economic conditions that will exist over the remaining useful life of the asset. (Greater weight shall be given to external evidence.)

• short-term (5 years or less) cash flow projections shall be based on the most recently approved budgets or forecasts, and

• long-term (in excess of 5 years hence) cash flow projections shall be based on an extrapolation from the short-term projections using a justifiable growth rate (stable or declining growth rates are usually appropriate).

The composition of estimates of future cash flows: Shall include: • projections of cash inflows from the continuing use of the asset (e.g. proceeds from the sale of

goods manufactured by an item of plant), • projections of cash outflows that are necessarily incurred to generate the cash inflows and are

directly attributable to, or can be allocated on a reasonable basis to the asset, (e.g. the costs of manufacturing the goods to be sold including input costs and costs like routine maintenance, replacements of components that constitute day to day servicing), and

• net cash flows on disposal of the asset at the end of its useful life (e.g. the expected net proceeds on disposal).

Chapter 20: Impairment of Assets

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Shall not include: • cash outflows required to settle obligations that have already been recognised as liabilities, • cash inflows or outflows from financing activities, • income tax receipts or payments, • improvements to the asset that would be capitalised to the carrying amount of the asset being

tested for impairment, and • outflows in respect of future restructuring activities to which the entity are not committed. The following elements shall be reflected in the calculation of an asset’s value in use: • an estimate of the future cash flows the entity expects to derive from the asset; • expectations about possible variations in the amount or timing of those future cash flows; • the time value of money1 (i.e. the current market risk-free rate); • the price of bearing the uncertainty inherent in the asset1; and • other factors, such as illiquidity, that market participants would reflect in pricing the future

cash flows the entity expects to derive from the asset. 1 Caution must be exercised not to double count these factors. Future foreign currency cash flows should be estimated in the foreign currency and discounted using a discount rate appropriate for that currency before being translated into the functional currency at the spot rate on the date the value in use calculation is performed. The discount rate (or rates) shall be a pre-tax market determined rate (or rates) that reflects current market assessments of the time value of money and the risks specific to the asset (i.e. the business’s capital structure shall have no impact on the discount rate used but the country, currency and price risk will). Fair value less costs to sell is the amount obtainable from the sale of an asset or CGU in an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal. The best evidence of an asset’s fair value less costs to sell is a price in a binding sale agreement in an arm’s length transaction, adjusted for incremental costs that are directly attributable to the disposal of the asset. If there is no binding sale agreement, but an asset is traded in an active market, the asset’s market price less costs of disposal would provide the best evidence of fair value less costs to sell. The market price is usually the current bid price or the price of the most recent transaction provided no significant changes between transaction date and estimation date has occurred. If there is no binding sale agreement or active market for an asset, fair value less costs to sell is determined based on the best information available to reflect the amount that an entity could obtain, at reporting date, from the disposal of the asset through an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal (for example, stamp duty and legal costs). The costs of disposal shall exclude: (a) costs that have already been recognised as liabilities, and (b) restructuring or reorganisation costs (for example, termination costs).


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Illustrative example 20.1: Calculation of recoverable amount Roach Limited has an item of plant which has undergone an impairment review at 31 December 20X1. At the review, the following estimates were produced: Fair value of plant: R1 400 000 Costs to sell 2% of selling price Revenue and associated costs per annum for remaining useful life: (assume all cashflows occur at the end of the year). Revenue Costs 20X2 R960,000 R240,000 20X3 R880,000 R220,000 20X4 R700,000 R290,000 The plant has an estimated residual value of R50 000. A discount rate of 10% is applicable to investments equivalent in risk to this plant. Required Calculate the recoverable amount as at 31 December 20X1 Solution Cashflows 20X2 20X3 20X4 Rand Rand Rand Revenue 960 000 880 000 700 000 Costs (240 000) (220 000) (290 000) Net Cash Inflow 720 000 660 000 410 000 Present Value Factor 0.90909 0.82645 0.75131 Present Value 654 545 545 457 308 037 Residual Value Present Value (end of 20X4: 50 000 x 0.75131) = 37 566 Value In Use = (654 545 + 545 457 + 308 037 + 37 566 = R1 545 605 Fair value less Cost to Sell = R1 400 000 – 2% = R1 372 000 Recoverable Amount (Greater of) = Value in use = R 1 545 605.


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4. IDENTIFYING A POTENTIALLY IMPAIRED ASSET An entity shall assess at each balance sheet date whether there is any indication that an asset may be impaired (i.e. an impairment review). If no indications of a potential impairment loss are present (from the impairment review), there is little risk that impairment has occurred and, consequently, there is no need to make a formal estimate of the recoverable amount. In other words only if the impairment review indicates that an impairment exists, does the entity perform an impairment test (i.e. estimate the recoverable amount of the asset and compare that value to the asset’s carrying amount). However, acquired goodwill, indefinite useful life intangible assets and intangible assets not yet available for use are tested for impairment annually. In identifying whether an asset may be impaired, an entity shall consider the following indications: 1) External sources of information including: • significant decline in asset’s market value; • significant adverse current or future changes in the technological, market, economic or legal

environment in which the entity operates, or the market to which an asset is dedicated (e.g. economic sanctions imposed on the country makes future export sales impossible);

• an increase in market interest rates or other market rates of return on investments which are likely to decrease materially the asset’s recoverable amount (as this would reduce the value of the discounted cash flows); and

• where the carrying amount of the entity’s net assets exceed the entity’s market capitalisation. 2) Internal sources of information including: • evidence of obsolescence or physical damage of asset (e.g. inspection reveals visually

apparent damage or reject level of machine is unusually high); • current or future adverse changes in the extent to which, or manner in which, an asset is used

or is expected to be used (e.g. a decision has been taken to restructure); and • internal reporting indicates that the economic performance of an asset is, or will be, worse

than expected. Indicators of worse than expected economic performance include: • acquisition costs or subsequent funding needs are significantly higher than originally

expected; • significantly worse actual net cash flows or operating profit or loss flowing from the asset

compared to budget; • a significant decline in budgeted net cash flow or operating profit or a significant increase in

loss flowing from the asset; or • the existence of operating losses or net cash outflows when current period figures are

aggregated with other past figures or budgeted figures. 5. RECOGNITION AND MEASUREMENT OF IMPAIRMENT LOSSES 5.1 Impairment losses If the recoverable amount of an asset (or cash generating unit) is less than its carrying amount, the difference is recognised as an impairment loss (expense) in profit or loss, except to the extent that the deficit is recognised directly in other comprehensive income because it constitutes the reversal of a prior period revaluation. If the impairment loss is greater than the carrying amount, a liability is recognised only if it is required by other IFRSs.


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After recognition of an impairment loss, the depreciation (amortisation) charge shall be adjusted in future periods to allocate the depreciable asset’s revised carrying amount, less its residual value (if any), on a systematic basis over its remaining useful life. 5.2 Reversals of impairment losses 5.2.1 Subsequent review of an impaired asset At each reporting date, an assessment is made to see whether there is any indication that an impairment loss recognised in previous years for an asset other than goodwill may no longer exist or may have decreased. If such an indication exists, then the recoverable amount of the asset is estimated. To identify this possibility, the entity shall consider: 1) External sources of information, including: • significant increase in the asset’s market value; • significant favourable current or future changes in the technological, market, economic or

legal environment in which the entity operates or for the market to which the asset is dedicated; and

• a decrease in market interest rates or other market rates of return on investments, which are likely to increase materially the asset’s recoverable amount.

2) Internal sources of information, including: • significant current or future favourable changes in the extent to which, or manner in which,

the asset is used or is expected to be used; and • internal reporting indicates that the economic performance of the asset is, or will be, better

than expected. 3) Assets for which the last estimate of recoverable amount was the asset’s value in use: • actual cash flows are materially more than those previously estimated, before any effect of

discounting. 5.2.2. Recognition of reversal The carrying amount of an asset for which an impairment loss has been previously recognised shall be increased to its recoverable amount if, and only if, there has been a change in the estimates used to determine the asset’s recoverable amount since the last impairment loss was recognised. This increase is recognised as income in the income statement. The increased carrying amount shall not exceed the carrying amount that would have been determined (net of amortisation or depreciation) had no impairment loss been recognised for the asset in prior years. As an exception to the above requirement, an impairment loss recognised for goodwill is not reversed. After the reversal of an impairment loss, the depreciation (amortisation) charge for an asset shall be adjusted in future periods to allocate the asset’s revised carrying amount, less its residual value (if any), on a systematic basis over its remaining useful life.


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Illustrative example 20.2: Individual asset carried at depreciated historic cost A pharmaceutical company’s competitor ‘invented’ a cheap cure for AIDS. This resulted in the company moth-balling its less effective AIDS treatment drug manufacturing plant on 31 December 20.8. Details of the moth-balled plant are as follows: R’000 • Original cost (1 January 20.6) 1 000 • Recoverable amount (31 December 20.8) zero • Depreciation is provided for on the straight-line basis over 10 years to nil residual value. In December 20.9, it became apparent that the competitor’s ‘miracle’ cure was a hoax. Fortunately, the company had not disposed of its moth-balled plant and plans to recommence production in the 20.10 financial year. Market demand for the company’s AIDS treatment drug is fully restored and the plant is once again expected to run profitably in the foreseeable future. Required: Prepare journal entries to record the write down to recoverable amount and subsequent write back. Solution: Calculation: Debit Credit R’000 R’000 31 December 20.8 Depreciation – plant R1 000 000/10 years 100 Accumulated depreciation & impairment - plant 100 Depreciation for the year Impairment of plant – expense (R1 000 000 cost – R300 000

accumulated depreciation) – R0 recoverable amount

700 Accumulated depreciation & impairment - plant 700

Impairment of plant 31 December 20.9 Accumulated depreciation & impairment - plant R700 000 above – R100 000

notional depreciation 600

Reversal of impairment - expense 600 Reversal of impairment

5.3 Impairment (and reversal of impairment) of revalued assets For a revalued item (e.g. intangible asset or property, plant and equipment carried under the revaluation model) an impairment loss shall be recognised as follows: • The impairment loss shall be recognised in profit or loss to the extent that it cannot be charged

directly against any related revaluation surplus in respect of that asset. • A reversal of an impairment loss shall be treated as a revaluation increase (recognised in other

comprehensive income and credited to revaluation surplus in equity). However, a revaluation increase shall be recognised in profit or loss to the extent that it reverses an impairment loss of the same asset that was previously recognised in profit or loss. In measuring the reversal of the prior period impairment that is recorded in profit or loss, an adjustment is made for that historic cost depreciation that would have taken place between the date of the impairment and the reversal thereof had the asset not been impaired. This means that if part of the impairment loss was previously charged to profit or loss then, if the impairment loss reverses, part of this reversal (after adjusting for the historic cost depreciation as outlined above) is recorded in profit or loss.


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Illustrative example 20.3: Individual asset carried at revalued amount Zuma Limited, a listed pharmaceutical manufacturer, acquired its Mirodene plant on 1 January 20.1 at a cost of R100 million. Mirodene is a drug used exclusively by AIDS patients to prolong and improve the quality of their remaining lives. Zuma Limited depreciates plant on the straight-line method to nil residual values, over 10 years. The South African Revenue Services allows wear and tear on the straight-line method, to nil residual values, over 5 years. On 1 January 20.3, Zuma Limited revalued its Mirodene plant up to a carrying amount of R200 million. On 30 December 20.4 Nkosazana Limited, a major competitor, made a public announcement to the effect that it had developed Silodene, a miracle cure for AIDS. This development caused Zuma Limited to drastically reduce production at the Mirodene plant and to reduce the carrying amount of the Mirodene plant to R10 million. Production at reduced levels continued throughout 20.5 and 20.6. On 2 January 20.7, the World Health Organisation banned the use of Silodene, as not only had it become apparent that Silodene did not cure AIDS, but that it also caused lung cancer. The market for Mirodene was immediately restored and Zuma Limited therefore revalued its Mirodene plant up to a carrying amount of R160 million. The Mirodene plant was disposed of for R100 million cash to a foreign investor on 3 January 20.9. At all times, management considered the useful life of the Mirodene plant to be 10 years from the date of acquisition.

The corporate normal tax rate was 40% throughout. Other than as can be ascertained from the information provided, there are no differences between taxable income and accounting profit. The company creates deferred taxation assets as it has convincing evidence that any such asset would be recovered. Zuma Limited releases the realised portion of the revaluation surplus reserve directly to retained earnings. Required: 1. Prepare the journal entries (including those in respect of deferred taxation and bank) ascertainable from the information provided from 1 January 20.1 to 31 December 20.9. The company operates a single plant account and uses the net replacement cost method (i.e. you are not required to differentiate between the gross carrying amount and accumulated depreciation and accumulated impairment). 2. Prepare extracts from the statement of financial position (including notes), statement of changes in equity (including notes), and statement of comprehensive income (including notes) for inclusion in the 20.4 and 20.7 annual financial statements. Comparative figures are not required.


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Solution: 1. Journals

Calculation: Debit Credit R’000 R’000 20.1 Plant Given 100 000 Bank 100 000 1 January 20.1: Acquisition of plant Depreciation – plant R100 000/10 years 10 000 Plant 10 000 31 December 20.1: Depreciation for the year Deferred taxation expense 40%[(R0 CA – R0 TB) – (R90 000 CA – R80 000 TB)] 4 000 Deferred taxation liability 4 000 31 December 20.1: Deferred taxation for the year 20.2 Depreciation – plant R100 000/10 years 10 000 Plant 10 000 31 December 20.2: Depreciation for the year Deferred taxation expense 40%[R90 000 CA – 80 000 TB) –

(R80 000 CA – R60 000 TB)] 4 000

Deferred taxation liability 4 000 31 December 20.2: Deferred taxation for the year 20.3 Plant R200 000 net replacement cost – R80 000 carrying

amount 120 000

Revaluation surplus reserve - OCI 60%(R120 000 revaluation) 72 000 Deferred taxation - liability 40%(R120 000 revaluation) 48 000 1 January 20.3: Revaluation

20.3 Depreciation R200 000/8 years 25 000 Plant 25 000 31 December 20.3: Depreciation Revaluation surplus reserve - OCI 60%(15 000 revaluation depreciation) or 9 000 Retained earnings R72 000/8 years 9 000 31 December 20.3: Release realised portion of RSR to RE Deferred taxation – liability 40%[(o/b: 200 000 CA – 60 000 TB) – (c/b: 175 000

CA – 40 000 TB)] 2 000

Deferred taxation - expense 2 000 31 December 20.3: Deferred tax for the year 20.4 Depreciation R200 000/8 years 25 000 Plant 25 000 31 December 20.4: Depreciation

Revaluation surplus reserve - OCI 60%(15 000 revaluation depreciation) 9 000 Retained earnings or R72 000/8 years 9 000 31 December 20.4: Release realised portion of RSR to RE


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Revaluation surplus reserve - OCI 60%(150 000 CA – 60 000 NHC) 54 000 Deferred taxation - liability 40%(150 000 CA – 60 000 NHC) 36 000 Impairment of plant – expense R60 000 NHC – R10 000 RA 50 000 Plant R150 000 CA – R10 000 recoverable amount 140 000 31 December 20.4: Impairment of plant

Deferred taxation – liability 40%[(o/b: 175 000 CA – 40 000 TB) – (c/b: 10 000 CA – 20 000 TB)] – R36 000 above

22 000 Deferred taxation - expense 22 000 31 December 20.4: Deferred taxation for the year 20.5 Depreciation R10 000/6 years 1 667 Plant 1667 31 December 20.5: Depreciation for the year

Deferred taxation – expense 40%[(o/b: 10 000 CA – 20 000 TB) – (c/b: 8 333 CA –0 TB)]

7 333 Deferred taxation – liability 7 333 31 December 20.5: Deferred tax for the year

20.6 Depreciation R10 000/6 years 1 667 Plant 1667 31 December 20.6: Depreciation for the year

Deferred taxation – liability 40%[(o/b: 8 333 CA –0 TB) – (c/b: 6 666 CA –0 TB)]

667 Deferred taxation – expense 667 31 December 20.6: Deferred tax for the year 20.7 Plant R160 000 new carrying amount – R6 666 old carrying

amount 153 333

Reversal of impairment - income R40 000 – R6 666 33 334 Revaluation surplus reserve - OCI 60%(R120 000 revaluation in excess of depreciated

historic cost) 72 000

Deferred taxation – liability 40%(R120 000) 48 000 1 January 20.7: Reversal of impairment and revaluation

Depreciation R160 000/4 years 40 000 Plant 40 000 31 December 20.7: Depreciation for the year

Revaluation surplus reserve - OCI 60%(30 000 revaluation depreciation) or 18 000 Retained earnings R72 000/4 years 18 000 31 December 20.7: Realised portion released to retained earnings

Deferred taxation – liability 40%[(o/b: 6 666 CA –0 TB) – (c/b: 120 000 CA –0 TB)] + R48 000 above

2 666 Deferred taxation – expense 2 666 31 December 20.7: Deferred taxation for the year 20.8 Depreciation R160 000/4 years 40 000 Plant 40 000 31 December 20.8: Depreciation for the year Revaluation surplus reserve - OCI 60%(30 000 revaluation depreciation) 18 000 Retained earnings or R72 000/4 years 18 000 31 December 20.8: Realised portion released to retained earnings


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Deferred taxation – liability 40%[(o/b: 120 000 CA –0 TB) – (c/b: 80 000 CA –0 TB)]

16 000 Deferred taxation – expense 16 000 31 December 20.8: Deferred taxation for the year 20.9 Bank Given 100 000 Plant R160 000 (from 20.7 revaluation) x 2/4 years

remaining 80 000

Profit on disposal of plant Balancing figure 20 000 3 January 20.9: Disposal of plant Deferred taxation – liability 40%[(o/b: 80 000 CA – 0 TB) –

(c/b: 0 CA – 0 TB)] 32 000

Deferred taxation – expense 32 000 31 December 20.9: Deferred taxation for the year Revaluation surplus reserve - OCI 60%(R80 000 CA – R20 000 DHC) 36 000 Retained earnings 36 000 31 December 20.9: Release remaining balance of RSR to RE

As alternatives to journals, workings can be produced in table or graph formats. Shown below is a table format. This is somewhat quicker and easier than journals and makes the task of subsequent disclosure relatively easy. WORKING Zuma Limited – Table R’000 R’000 R’000 R’000 R’000 Date Historical

Cost Carrying Amount

Tax Base

Def Tax (40%) *

Reval Reserve

1 Jan 20.1 100 000 100 000 100 000 Depreciation 20.1 (10 000) (10 000) (20 000) 31 Dec 20.1 90 000 90 000 80 000 4 000 Depreciation 20.2 (10 000) (10 000) (20 000) 31 Dec 20.2 80 000 80 000 60 000 8 000 1 Jan 20.3 Revaluation 120 000 72 000 Depreciation 20.3 (10 000) (25 000) (20 000) (9 000) 31 Dec 20.3 70 000 175 000 40 000 54 000 63 000 Depreciation 20.4 (10 000) (25 000) (20 000) (9 000) 31 Dec 20.4 Reversal of reval (90 000) (54 000) 31 Dec 20.4 Impairment (50 000) 31 Dec 20.4 60 000 10 000 20 000 (4 000) - Depreciation 20.5 (10 000) (1 667) (20 000) 31 Dec 20.5 50 000 8 333 - 3 333 - Depreciation 20.6 (10 000) (1 667) 31 Dec 20.6 40 000 6 666 - 2 666 - 2 Jan 20.7 Reversal of Impairment 33 334 40 000 2 Jan 20.7 Revaluation 120 000 72 000 Depreciation 20.7 (10 000) (40 000) (18 000) 31 Dec 20.7 30 000 120 000 - 48 000 54 000 Depreciation 20.8 (10 000) (40 000) (18 000) 31 Dec 20.8 20 000 80 000 - 32 000 36 000 3 Jan 20.9 Disposal (20 000) (80 000) (32 000) (36 000) -- -- -- -- -- * Carrying amount less tax base x 40%


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2. Disclosure ZUMA LIMITED PARTIAL STATEMENT OF FINANCIAL POSITION AT 31 DECEMBER 20.7 and 20.4

Note 20.7 Calculation: 20.4 Calculation:

R’000 R’000

ASSETS

Non-current assets

Property, plant and equipment 11 120 000 R160 000 x 3/4 years 10 000 Given @ 30 December 20.4

Deferred taxation 13 - 4 000 40%(10 000CA – 20 000TB)

EQUITY AND LIABILITIES

Issued share capital and reserves 12 ? ?

Deferred taxation 13 48 000 40%(120 000CA – 0TB) -

ZUMA LIMITED PARTIAL STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 31 DECEMBER 20.7 and 20.4 Note 20.7 Calculation: 20.4 Calculation:

R’000 R’000

Other comprehensive income: Reversal of revaluation - (54 000) 60%(R150 000CA –

R60 000DHC) Revaluation 120 000 (R160 000 –

R40 000DHC) -

Income tax on revaluation (48 000) -

? ?

ZUMA LIMITED PARTIAL STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 20.4

Calculation:

Revaluation surplus reserve

Retained earnings

TOTAL

R’000 Balance at 1 January 20.4 60%(R175 000CA – R70 000DHC) 63 000 ? ? Total comprehensive income for the year (54 000) ? ? Transfer upon realisation 60%(R15 000 revaluation

depreciation) (9 000) 9 000 -

Balance at 31 December 20.4 - ? ? ZUMA LIMITED PARTIAL STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 20.7 Calculation: Revaluation

surplus reserve

Retained earnings

TOTAL

R’000 Balance at 1 January 20.7 - ? ? Total comprehensive income for the year 72 000 - ? Transfer upon realisation 60%(R30 000 revaluation

depreciation (18 000) 18 000 -

Balance at 31 December 20.4 54 000 ? ?


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ZUMA LIMITED PARTIAL NOTES TO THE FINANCIAL STATEMENTS FOR THE YEAR ENDED 31 DECEMBER 20.7 and 20.4

Note 1: Accounting policies Property, plant and equipment Plant is revalued at three year intervals to its fair value in existing use at the beginning of the year. Revaluations are accounted for on the net replacement cost method.

The realised portion of the revaluation surplus reserve is released to retained earnings annually.

Plant is depreciated on the straight-line method to nil residual values over ten years from the date of acquisition. 20.7 20.4 Note 2: Profit from operations Calculation: R’000 R’000 Profit from operations is stated after: Depreciation - owned plant 40 000 25 000 (Reversal of impairment)/ impair-met of plant

20.7: R40 000DHC – R6 667CA 20.4: R60 000DHC – R10 000 recoverable amount

(33 333)

50 000

Note 3: Income taxation South African income tax 20.7: 40%[(6 666CA – 0 TB) –

(c/b: 120 000CA – 0 TB)] + R48 000 20.4: 40%[(175 000CA – 40 000 TB) –

(c/b: 10 000CA – 20 000TB)] – R36 000

• Deferred ( 2 666) (22 000)

Note 11. Property, plant and equipment

20.7 20.4

Calculation: Plant Plant Calculation:

R’000 R’000

Valuation 250 000 250 000 R100 000HC/R80 000DHC x R200 000CA

Accumulated depreciation and impairment (243 334) (75 000)

1 January 6 666 175 000

Revaluation R160 000 – R100 000 60 000 -

Reversal of prior period devaluation

R100 000 – R40 000DHC

60 000

-

Reversal of prior period impairment R40 000DHC – R6 666CA 33 334 - Depreciation R160 000/4 years ( 40 000) ( 25 000) R200 000/8 years x 1 year

Reversal of prior period revaluation - ( 90 000) R150 000CA – R60 000DHC

Impairment expensed - ( 50 000) R60 000DHC – R10 000RA

31 December 120 000 10 000

Comprised of:

Valuation 250 000 250 000

Accumulated depreciation and impairment (130 000) (240 000)

Carrying amount 120 000 10 000

Depreciated historic cost R100 000 x 3/10 years 30 000 10 000 *

* Depreciated historic cost can never be greater than the asset’s carrying amount at reporting date. 20.4: Impairment of plant A competitor began the commercial production of a product that greatly reduced the market for the company’s AIDS treatment product and consequently the company impaired its Mirodene plant to its recoverable amount. The recoverable amounts were determined in accordance with IAS 36, at the plant’s value in use, determined at a discount rate of x%. These assets had not previously been tested for impairment as the Mirodene market was lucrative and the probability of an AIDS curing drug was considered to be remote. Mirodene manufacturing is reported in the pharmaceutical segment.


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20.7: Reversal of impairment of plant The World Health Organisation banned a competitor’s incorrectly alleged AIDS curing drug during the year. This restored the viability of the company’s previously impaired Mirodene AIDS treatment and the commercial production of this product to a greatly improved market share. Plant carried at revalued amounts was revalued by independent valuers’ NAME. The effective date of the most recent valuation is 2 January 20.7. Note 12: Issued share capital and reserves

The purpose of the revaluation surplus reserve is to record the unrealised (net of deferred tax) portion of the increase resulting from the revaluation of plant. Note 13: Deferred taxation liability

20.7 20.4

Calculation: R’000 R’000 Calculation:

Balance at 31 December - plant 40%(120 000CA – 0TB)

48 000

( 4 000)

40%(10 000CA –

20 000CA)

6. DISCLOSURE 6.1 Impairment losses in aggregate For each class of assets that was impaired during the period disclose:

• the amount of the impairment losses recognised in profit or loss during the period; • the line item(s) in the statement of comprehensive income in which those impairment losses

are included; and • the amount of impairment losses recognised directly in other comprehensive income during

the period. For each class of assets for which an impairment loss was reversed during the period disclose:

• the amount of the reversals of impairment losses recognised in profit or loss during the period;

• the line item(s) of the statement of comprehensive income in which those reversals of impairment losses are included; and

• the amount of reversals of impairment losses recognised directly in other comprehensive income during the period.

These disclosure requirements may be satisfied by the reconciliation of the opening and closing carrying amounts required by other Standards. However, because of their size and nature this may require additional disclosures thereof in the notes to the statement of comprehensive income.

An entity that reports segment information shall disclose for each reportable segment (primary segments only) the amount of the impairment loss recognised or reversed during the period in profit or loss, and other comprehensive income during the period. 6.2 Individually material impairment In respect of each material impairment loss recognised or reversed during the period for an individual asset (including goodwill) or a CGU, disclose:

• the events or circumstances that lead to the recognition or reversal of the impairment loss; • the amount of impairment loss recognised or reversed; • for individual assets: (i) the nature of the asset, and (ii) the reportable segment (i.e. primary

segment) to which the asset belongs; • for a CGU: (i) a description of the CGU, (ii) the amount of the impairment loss recognised or

reversed by class of asset and by segment (i.e. primary segment), and (iii) if the aggregation of assets for identifying the CGU has changed since the previous estimate of the CGU’s


Chapter 20: Page 15

recoverable amount a description of the current and former way of aggregating assets and the reasons for changing the way the cash generating unit is identified;

• whether the recoverable amount of the asset (CGU) is its fair value less costs to sell or its value in use;

• where the recoverable amount is the fair value less costs to sell, the basis used to determine fair value less costs to sell (e.g. with reference to an active market); and

• where the recoverable amount is the value in use, the discount rates used in the current and previous estimate of value in use.

6.3 Individually immaterial impairments For impairment losses recognised or reversed during the period that did not qualify for separate disclosure, the entity shall disclose for the aggregate impairment losses and aggregate reversals of impairment losses:

• the main classes of assets affected; and • the main events or circumstances that led to the recognition or reversal of the impairment

losses.

7. INTANGIBLE ASSETS WITH INDEFINITE USEFUL LIVES OR NOT YET AVAILABLE FOR USE

The recoverable amount of an intangible asset with an indefinite useful life or an intangible asset that is not yet available for use (affected intangible assets) should be estimated annually irrespective of whether there is any indication of impairment in order to test the affected intangible assets for impairment. Annual impairment tests in respect of indefinite useful life intangible assets and intangible assets not yet ready for use may be conducted at any time during the year provided that they are conducted at the same time every year. Different intangible assets may be tested for impairment at different times. However, intangible assets that were initially recognized during the current annual period, must be tested for impairment before the end of the current annual period. (Goodwill acquired in a business combination must also be tested annually for impairment.) For the indefinite useful life intangible assets and the intangible assets not yet ready for use the most recent detailed calculation of such asset’s recoverable amount made in the preceding period may be used in the current period’s impairment test provided all of the following criteria are satisfied:

• the assets and liabilities of the CGU to which the affected intangible asset belongs have not changed significantly since the most recent recoverable amount calculation;

• in the most recent impairment test the recoverable amount exceeded the carrying amount by a substantial margin; and

• based on an analysis of events that have occurred and circumstances that have changed since the most recent recoverable amount calculation, the likelihood that a current recoverable amount determination would be less than the asset’s/CGU’s carrying amount is remote.

The effect of this is to make annual testing redundant.


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Illustrative example 20.4: Impairment review On 1 January 20.4, Retail Limited acquired the Petrol brand name at a cost of R200 million. The Petrol brand is now legally registered to Retail Limited and has been assessed by Retail Limited’s directors as having an indefinite useful life. Utilisation of the Petrol brand has resulted in Retail Limited being able to brand its merchandise and sell it at a 50% premium to its pre-branding selling price. In accordance with IAS 36 the Petrol brand was tested for impairment at 31 December 20.4 when its recoverable amount (i.e. value in use) was determined to be R300 million (i.e. R100 million in excess of its carrying amount).

During 20.5, the Petrol brand continued to perform beyond the directors’ expectations resulting in Retail Limited recording a record profit for the second year in succession. The directors have no reason to believe that this trend in future profitability will decline and are most pleased with the performance of the Petrol brand. Required: Discuss the measures that IAS 36 ‘requires’ Retail Limited to undertake during 20.5 in respect of the Petrol brand. Solution:

Impairment indicator review At 31 December 20.5 Retail Limited is required to carry out an impairment indicator review considering external and internal sources of information. If the impairment indicator review reveals that there are indications that the assets of Retail Limited may be impaired then an impairment test must be conducted (i.e. the recoverable amount of the assets must be determined). In the case of Retail Limited at 31 December 20.5 the impairment indicator review is unlikely to find indications of impairment given that the Petrol brand exceeded all performance expectations and that the company is recording record profits and is expected to continue to do so for the foreseeable future. Indefinite useful life intangible asset Irrespective of whether there is any indication of impairment, the recoverable amount of the Petrol brand (because it has an indefinite useful life) must be estimated at 31 December 20.5 However, because at 31 December 20.4 the recoverable amount of the Petrol brand was computed (in detail) to be R300 million, that value may be used in lieu of a detailed impairment test being conducted during 20.5 because all of the following criteria are satisfied:

• in the most recent impairment test the recoverable amount exceeded the carrying amount by a substantial margin (evidenced by the 31 December 20.4 impairment test that showed the recoverable amount exceeded the carrying amount by 50% of the carrying amount); and

• the likelihood that the current recoverable amount would be less than the affected asset’s carrying amount is remote (evidenced by the improved profitability of the company being attributed to the Petrol brand whose performance has exceeded the expectations of the directors and is expected to continue to do so for the foreseeable future).


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8. CASH-GENERATING UNITS (CGUs) 8.1 Introduction A CGU is defined as “the smallest identifiable group of assets that generates cash inflows that are largely independent of the cash inflows from other assets or groups of assets”. Impairment testing is preferably carried out at the level of each individual asset. However, this is not always possible because it is not always possible to determine cash inflows at this level. For example, it is not possible to determine the cash inflows for the individual assets of a mechanical production line made up of many different machines even where the fair value less costs to sell of some of the individual machines is known because the function of those machines is generic to a number of manufacturing processes. The value in use of the machines in a production line (the CGU) must therefore be determined as a whole. If the assets of a CGU (production line) are of a specialised nature (and they frequently are) then the fair value less costs to sell of the CGU will be indeterminable so its recoverable amount would be computed at its value in use. Some assets contribute to cash flows of more than one CGU (e.g. the head-office). Such assets, other than goodwill, are referred to as corporate assets (see 8.3 below). A CGU to which goodwill has been allocated shall be tested for impairment annually. For the purpose of impairment testing, goodwill shall be allocated at a level that:

• represents the lowest level within the entity at which the goodwill is monitored for internal management purposes; and

• shall not be larger than a segment.

8.2 CGUs without corporate assets and without goodwill The carrying amount of a CGU shall be determined on a basis consistent with the way the recoverable amount of the CGU is determined. To measure the impairment loss of a CGU to which no corporate assets and no goodwill have been allocated, the entity must, in addition to the points made in respect of individual assets:

(a) Identify the asset’s CGU - the carrying amount includes the carrying amount of only those assets that can be directly attributed, or allocated on a reasonable and consistent basis, to the asset’s CGU.

(b) Compute the carrying amount of the CGU - this is determined as the sum of the carrying amounts of that CGU’s assets after deducting the carrying amount of a liability if, and only if, the recoverable amount of the asset’s CGU cannot be determined without consideration of this liability (e.g. site restoration liability).

An impairment loss shall be recognised for a CGU if, and only if, its recoverable amount is less than the aggregate of the carrying amounts of all the items of that unit. If the recoverable amount of an asset cannot be determined individually, an impairment loss shall be recognised for that asset if, and only if, an impairment loss is recognised for the asset’s CGU. An asset within a CGU that the entity has made a decision to scrap (and its value in use can therefore be determined at its scrap value), shall be removed from the CGU. The recoverable amount of the asset to be scrapped can be determined without reference to the other assets of the CGU (scrap value = value in use = fair value less costs to sell).


Chapter 20: Page 18

For example: Three identical machines produce the same product. One machine becomes irreparably damaged, and a decision is therefore taken to scrap that machine. The scrapped machine is removed from the CGU and tested for impairment as an individual asset as its recoverable amount = its fair value less costs to sell = its value in use = expected net proceeds from scrapping. The remaining two machines and the other assets of the CGU are tested for impairment as a CGU. Illustrative example 20.5: Impairment testing One of the machines (Machine 5A) in a production line has suffered damage due to the negligence of its operator. Although the damaged machine is currently operating less than optimally, and its estimated remaining useful life has been revised downward from ten years to two years, the CGU’s value in use (taken as a whole) remains well in excess of its carrying amount. Required: Under each of the following circumstances briefly outline whether Machine 5A should be impaired:

• Scenario X: The directors intend keeping Machine 5A in existing use for the foreseeable future.

• Scenario Y: The directors have taken the decision to scrap Machine 5A and have ordered a replacement machine which is expected to arrive within two weeks.

Solution:

Scenario X: The Machine 5A cannot be tested for impairment on its own as its value in use is dependent upon the other machines in the CGU. As the value in use of the CGU exceeds its carrying amount the CGU is not impaired and consequently Machine 5A cannot be impaired.

Scenario Y: Because the decision has been taken to scrap Machine 5A immediately its recoverable amount approximates R0. The recoverable amount is Machine 5A’s value in use, which is R0 as it will generate no future cash flows. Machine 5A therefore is removed from the CGU and tested for impairment as an individual asset. Consequently, the entire remaining carrying amount of Machine 5A would be expensed. 8.2.1 Allocation of an impairment loss within a CGU The impairment loss in respect of the CGU is allocated against the assets of the CGU on a pro rata basis. However, in allocating the above impairment loss, the carrying amount shall not be reduced below the asset’s fair value less costs to sell, or, if there is no fair value less costs to sell for that asset, then not below zero. This may lead to a residue of the impairment loss. The residue of the impairment loss not allocated because of the above shall be allocated: (a) firstly, to assets whose fair value less costs to sell is less than their carrying amount, on a pro

rata basis based on their new carrying amount, and (b) secondly, to the other assets of the CGU on a pro rata basis based on the new carrying

amount of each asset in the unit to which the excess amount of impairment loss is allocated.


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Illustrative example 20.6: Allocation of impairment loss A CGU whose recoverable amount is R12 000 has the following assets: Carrying

amount Fair value less costs to

sell Rand Rand - Motor vehicle 4 000 4 000 - Plant 1 000 ? - Factory building 10 000 7 000 - Registered fixed period patent 5 000 ? 20 000

The resultant impairment of R8 000 (calculation: R20 000 carrying amount – R12 000 recoverable amount) shall be allocated to the individual assets of the entity as follows: Impair-

ment Carried forward

Calculation: Rand Rand First round of allocation: - Motor vehicle R4 000/R20 000 x R8 000 impairment: Limited to nil - 1 600 - Plant R1 000/R20 000 x R8 000 impairment 400 - - Factory building R10 000/R20 000 x R8 000 impairment Limited to R3 000 3 000 1 000 - Fixed period patent R5 000/R20 000 x R8 000 impairment 2 000 - 5 400 2 600 Second round of allocation: - Plant (R600 plant)/(R600 plant + R3 000 patent) x R2 600

impairment carried forward from first allocation 433 -

- Fixed period patent (R3 000 patent)/(R600 plant + R3 000 patent) x R2 600 impairment carried forward from first allocation

2 167 -

2 600 -

8.2.2 Reversals of impairments Reversals of impairments in respect of CGUs are allocated to the assets of a CGU (except goodwill) on a pro rata basis in proportion to the carrying amount of the individual assets of the CGU. An impairment of goodwill may not be reversed. The carrying amount of an asset shall not be increased above the lower of:

• its recoverable amount, and • the carrying amount that would have been determined had no impairment loss been

recognised for the asset in prior periods (i.e. depreciated historic cost). IFRIC 10 Interim financial reporting confirms that where an entity has recognised an impairment loss in a previous interim period in respect of goodwill, it may not reverse such a loss at reporting date even if conditions may have changed such that the impairment loss may have been reduced or avoided had the impairment assessment only been made at that date. (see section 9 of this chapter)


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Illustrative example 20.7: Reversal of impairment On 31 December 20.3, as a result of the South African Government imposing a ban on tobacco product advertisements in South Africa, Bustandboom Limited impaired its tobacco cash-generating unit down to its recoverable amount of R1 million. During 20.5, as a result of an aggressive advertising campaign in China, the profitability of Bustandboom Limited’s tobacco cash-generating unit was fully restored. On 31 December 20.5, the recoverable amount of the tobacco cash-generating unit was reliably determined at R5 million. Bustandboom Limited revalued all of its plant on 1 January 20.2. On 1 January 20.2, the tobacco cash-generating unit’s plant was revalued upward by R1 000 000. Revaluations are conducted every two years. The carrying amount of the tobacco cash-generating unit’s plant was not adjusted on 1 January 20.4 as the carrying amount before the valuation was not materially different to its fair value on that date. The plant and factory building are depreciated on the straight-line method to nil residual values. Goodwill is carried at cost and tested for impairment annually. The implied fair value of goodwill on 31 December 20.3 was R0.

Details of the assets of Bustandboom Limited’s tobacco cash-generating unit, all of which arose from the acquisition, on 1 January 20.1, of a competitor’s net assets, are as follows: Remaining

useful life

Cost

Fair value less costs to sell 1 January

20.1 1 January

20.1 31 December

20.3 31 December

20.5 Years Rand Rand Rand • Plant 10 2 000 000 100 000 2 000 000 • Building 10 2 000 000 300 000 1 000 000 • Goodwill Indefinite 571 429 ? ? 4 571 429

Required: Compute, in accordance with IFRS, for EACH of the assets of Bustandboom Limited’s tobacco cash-generating unit:

• The impairment expense charged against profit from operations for the year ended 31 December 20.3; and

• the carrying amount at 31 December 20.5.

Solution: 31 December 20.3: Impairment 1 Jan

20.1 31 Dec 20.1

Revaluation 1 Jan 20.2

30 Dec 20.3

Impairment/ devaluation

31 Dec 20.3

Rand Rand Rand Rand Rand Rand Rand

• Plant 2 000 000 1 800 000 1 000 0001 2 800 000 2 177 7772 (1 569 081) 5 608 6966

• Building 2 000 000 1 800 000 - 1 800 000 1 400 0003 (1 008 696) 6 391 3047

• Goodwill 571 429 571 4294 - 571 4294 571 4294 ( 571 429)5 -

4 149 206 (3 149 206) 1 000 000

Reversal of revaluation 777 7777 Impairment (2 371 429) Impairment expense – plant Calculation: R1 569 081 above – R777 777 reversal of

revaluation

791 304


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31 December 20.5: Carrying amount Plant: Depreciated revalued amount, Building: Depreciated historic cost, and Goodwill: original cost.

Carrying amount on 30 Dec 20.5

before reversal

Reversal of impairment/ devaluation

Carrying amount

after reversal

Calculation: Rand Rand Rand Rand

Plant R2,8 million above x 5/9 years 1 555 556 434 7838 1 120 773 1 555 556

Building R2 million x 5/10 years 1 000 000 279 5039 720 49710 1 000 000

Goodwill R571 429 571 429 - -

714 286 1 841 270 2 555 556 1 Given 2 R2 800 000 at 1 January 20.2 x 7/9 year 3 R2 000 000 x 7/10 years 4 R571 429 carried at cost subject to impairment tests. 5 R2 177 777/(R4 149 206 – R571 429 goodwill) x (R3 149 206 – R571 429 allocated to goodwill) 6 R1 400 000/(R4 149 206 – R571 429 goodwill) x (R3 149 206 – R571 429 allocated to goodwill) 7 R1 000 000 x 7/9 years 8 R608 696 x 5/7 years 9 R391 304 x 5/7 years 10 Note: To the extent that this increase is in excess of the asset’s depreciated historic cost is would be recorded directly in the

revaluation surplus (i.e. not in the determination of profit or loss for the period).

8.3 Corporate assets The key characteristics of corporate assets are:

• they do not generate cash inflows independently of other assets; and • their carrying amounts cannot be fully attributed to the CGU under review.

Assets that frequently exhibit these characteristics include head-office buildings, research centres and centralised data processing equipment. Where corporate assets can be allocated to particular CGUs on a reasonable and consistent basis, they are so allocated and therefore included as additional assets of the CGU when performing an impairment test on that CGU. Where corporate assets cannot be allocated to particular CGUs on a reasonable and consistent basis, then:

• firstly, test the CGUs for impairment without any allocation of the corporate assets, and • secondly, identify the smallest CGU to which the corporate asset (or portion thereof) can be

allocated (i.e. a grouping of smaller CGUs with the corporate asset) and perform an impairment test on that (bigger) CGU.

It may be necessary for this process to be undertaken at a number of levels until the business as a whole is treated as a single CGU.


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Illustrative example 20.8: Impairment with CGUs The reporting entity has three CGUs A, B & C and three corporate assets:

• the head-office building; • the centralised data-processor; and • a research centre.

The head-office building and centralised data processor support all three CGUs. The research centre services CGUs A and B only (i.e. no research is undertaken for CGU C). At 31 December 20.5 the following values were determined:

CGUs TOTAL A B C Rand Rand Rand Rand Carrying amount:

• without corporate assets 20 000 30 000 40 000 90 000 • head-office building 5 000 • data-processor 2 000 • research centre 1 000

Value in use 10 000 25 000 45 000 80 000 Consider the following scenarios:

• Scenario 1: The corporate assets can be allocated to the relevant CGUs. The appropriate method of allocation is in proportion to the carrying amounts of the CGUs’ total assets excluding the corporate assets to be allocated.

• Scenario 2: The corporate assets cannot be allocated to the relevant CGUs. Required: For each of the scenarios presented determine the amount of the impairment to be allocated to the reporting entity’s assets. Solution: The solution to scenario 1 will involve only one level of testing as all of the corporate assets can be allocated to the individual CGUs, as follows: Scenario 1: CGUs

A B C Calculation:

Rand Rand Rand

Carrying amount:

• without corporate assets

20 000 30 000 40 000

• head-office building 1 111 1 667 2 222 A: 22,222’%(W1) x R5 000 B: 33,333’%(W1) x R5 000 C: 44,444’%(W1) x R5 000

• data-processor 444 667 889 A: 22,222’%(W1) x R2 000 B: 33,333’%(W1) x R2 000 C: 44,444’%(W1) x R2 000

• research centre 400 600 - A: 40%(W1) x R1 000 B: 60%(W1) x R1 000

• total 21 955 32 934 43 111

Value in use (10 000) (25 000) (45 000)

Impairment 11 955 7 934 n/a CGU C is not impaired


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(W1) Proportion that the assets of the CGU bears to the total assets of all CGUs Where all CGUs are relevant (i.e. for head-office building and data processor):

CGUs

A B C Calculation:

Carrying amount R20 000 R30 000 R40 000

Total assets R90 000 R90 000 R90 000 R20 000 A + R30 000 B + R40 000 C

= 22,222’% 33,333’% 44,444’% (i.e. total = 100%)

Where only CGU A and CGU B are relevant (i.e. for research centre):

CGUs

A B Calculation:

Carrying amount R20 000 R30 000

Total assets R50 000 R50 000 R20 000 A + R30 000 B

= 40% 60% (i.e. total = 100%) Scenario 2: The solution to scenario 2 will involve three levels of testing, as follows:

• Level 1: test each individual CGU excluding all corporate assets for impairment; • Level 2: test the greater CGU (comprised of CGUs A and B and the research centre) for

impairment; and • Level 3: test the entire CGU (comprised of all of the CGUs and all of the corporate assets)

for impairment. Level 1: Without any corporate assets: CGUs

A B C Calculation:

Rand Rand Rand

Carrying amount before level 1 impairment 20 000 30 000 40 000 Given

Recoverable amount (i.e. value in use) (10 000) (25 000) (45 000)

Impairment 10 000 5 000 n/a CGU C is not impaired

Level 2: CGUs A & B with research centre:

Rand Calculation:

CGU A 10 000 R20 000 given – R10 000 impairment level 1

CGU B 25 000 R30 000 given – R5 000 impairment level 1

Research centre 1 000

Carrying amount before level 2 impairment 36 000

Recoverable amount (i.e. value in use) (35 000) R10 000 CGU A + R25 000 CGU B

Impairment 1 000

Level 3: CGUs A, B & C with all corporate assets:

Rand Calculation:

CGU A & B and research centre 35 000 R36 000 from level 2 – R1 000 level 2 impairment

CGU C 40 000 Given (or from level 1)

Head-office building 5 000

Data processor 2 000

Carrying amount before level 3 impairment 82 000

Recoverable amount (i.e. value in use) (80 000) R10 000 CGU A + R25 000 CGU B + R45 000 CGU C

Impairment 2 000


Chapter 20: Page 24

8.4 Goodwill 8.4.1 Allocating goodwill to CGUs Goodwill acquired in a business combination is allocated from the acquisition date on a reasonable and consistent basis to one or more CGUs. For the purpose of impairment testing, goodwill may be allocated to each of the acquirer’s CGUs, that are expected to benefit from the synergies of the combination, irrespective of whether other assets or liabilities of the acquiree are assigned to those units or groups of units. This means that goodwill on an acquisition may be allocated to an existing CGU of the acquirer (due to synergy benefits etc). Goodwill shall be allocated at a level that: • represents the lowest level within the entity at which the goodwill is monitored for internal

management purposes; and • shall not be larger than an operating segment as defined by paragraph 5 of IFRS 8 Operating

Segments before aggregation.

The smallest CGU to which goodwill can be allocated often comprises a number of smaller CGUs. If the initial allocation of goodwill cannot be completed by the end of the reporting period in which the acquisition took place, it shall be completed before the end of the first annual reporting period beginning after the acquisition date. Illustrative example 20.9: Allocation of goodwill On 1 January 20.5, goodwill of R1 000 000 arose when the reporting entity acquired 100% of Zed Limited’s issued share capital when Zed Limited had three CGUs whose fair values were:

Rand • Doubleyou – a plastic blow-moulding plant 3 000 000 • Ex – a plastic extrusion plant 2 000 000 • Why – a cardboard egg-box plant 5 000 000

Zed Limited reports egg-box manufacturing and plastics manufacturing as separate business segments in its financial statements but monitors the return on assets including goodwill separately for individual plastic blow-moulding and plastic extrusion plants. Goodwill is allocated to the CGUs in proportion to their fair values at the date of acquisition. Required: Determine the amount of goodwill to be allocated to each CGU. Solution: At 31 December 20.5 the following values were determined:

CGUs

Doubleyou Ex Why Calculation:

Rand Rand Rand

Carrying amount:

• without goodwill 3 000 000 2 000 000 5 000 000 Given

• goodwill 300 000 200 000 500 000 Doubleyou: 30% x R1 million

Ex: 20% x R1 000 Why: 50% x R1 million

• total 3 300 000 2 200 000 5 500 000


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8.4.2 Impairment testing of CGUs to which goodwill has been allocated A CGU to which goodwill has been allocated must be tested for impairment annually and whenever there is an indication that the CGU may be impaired. Thus, the recoverable amount of goodwill acquired in a business combination must be estimated every year even where the impairment indicator review finds no evidence of impairment. The estimation of the recoverable amount of the CGU to which goodwill has been allocated may be conducted at any time during the year (as opposed to at balance sheet date) provided that it is performed at the same time every year. Different CGUs may be tested for impairment at different times. However, if the impairment review conducted at reporting date indicates that goodwill that was tested for impairment earlier that year may be impaired, a further impairment test must then be conducted on that intangible asset at reporting date. In allocating an impairment loss to a separate CGU that contains goodwill, the impairment would first be allocated against goodwill until it is totally depleted in which case the balance would be allocated against the other assets of the cash generating unit in proportion to their carrying amounts. Illustrative example 20.10: Allocation of impairment to CGU’s including goodwill The preceding illustrative example refers. At 31 December 20.5, details of Zed Limited’s three cash-generating units were:

Recoverable amount

Carrying amount, including goodwill, to the group before allocating

impairment, if any Rand Rand

• Doubleyou – a plastic blow-moulding plant 2 600 000 2 800 000 • Ex – a plastic extrusion plant 1 800 000 1 750 000 • Why – a cardboard egg-box plant 4 000 000 4 700 000

Required: A. Determine, in accordance with IAS 36, the amount of the impairment to be allocated to each

cash-generating unit showing that allocated against goodwill separately from that allocated to the other assets of the cash-generating unit.

B. Show how your answer to A. would have differed had the reporting entity monitored the return on assets including goodwill for the plastics operations as a whole.


Chapter 20: Page 26

Solution: REQUIREMENT A:

At 31 December 20.5, the impairment would be computed and allocated as follows:

Cash-generating units


Rand Rand Rand

Carrying amount:

• without goodwill 2 500 000 1 550 000 4 200 000 Balancing figure

• goodwill 300 000 200 000 500 000 Preceding illustrative example

• total 2 800 000 1 750 000 4 700 000 Given

Recoverable amount (2 600 000) (1 800 000) (4 000 000)

Impairment 200 000 n/a 700 000

Allocated as follows:

• First goodwill 200 000 - 500 000 Limited to the greater of the impairment or goodwill

• Then other assets - - 200 000 Balancing figure

• Total impairment 200 000 - 700 000 Total impairment (above)

REQUIREMENT B:

At 31 December 20.5, the impairment of R850 000 would be computed and allocated R650 000 against goodwill and R200 000 against cash-generating unit Why’s assets. Compute as follows:

Step 1: Without goodwill for plastics division: Cash-generating units


Rand Rand Rand

Carrying amount:

• without goodwill 2 500 000 1 550 000 4 200 000 Requirement A

• goodwill - - 500 000 Preceding illustrative example

• total 2 500 000 1 550 000 4 700 000 Given

Recoverable amount (2 600 000) (1 800 000) (4 000 000) Requirement A

Impairment n/a n/a 700 000

Allocated as follows:

• First goodwill - - 500 000 Limited to the greater of the impairment or goodwill

• Then other assets - - 200 000 Balancing figure

• Total impairment - - 700 000 Total impairment (above)

Step 2: With goodwill for plastics division: Cash-generating units

Doubleyou Ex PLASTICS Calculation:

Rand Rand Rand

Carrying amount:

• without goodwill 2 500 000 1 550 000 4 050 000 Step 1

• goodwill 300 000 200 000 500 000 Preceding illustrative example

• total 4 550 000 Given

Recoverable amount (4 400 000) R2 600 000 Doubleyou + R1 800 000 Ex

Impairment of goodwill 150 000 First allocate against goodwill


Chapter 20: Page 27

8.4.3 Impairment of non-wholly owned CGUs For the purpose of impairment testing a non-wholly owned CGU with goodwill, the carrying amount of that unit is notionally adjusted before being compared with its recoverable amount. This is accomplished by grossing up the carrying amount of the goodwill allocated to the unit to include the goodwill attributable to the non-controlling interest. This notional adjustment to goodwill is obviously not required where the non-controlling interest is measured at fair value in terms of IFRS 3 – Business Combinations. This notionally adjusted carrying amount is then compared to the recoverable amount of the CGU to see whether the CGU is impaired. If it is, then the impairment loss is first allocated against the goodwill allocated to the unit. Illustrative example 20.11: Impairment of non-wholly owned CGUs P Limited acquires 90% of S Limited for R1 980 on 1 January 20.1. At that date, S Limited’s identifiable net assets have a fair value of R1 600 and S Limited has no contingent liabilities. P Limited uses straight-line depreciation over a 10-year life for S Limited’s identifiable assets and anticipates no residual value. Assume that at the end of 20.1, S Limited is a cash-generating unit and that the recoverable amount for S Limited, as a cash-generating unit, is R1 200.

Required: Determine, in accordance with IAS 36, the amount of the impairment to be allocated to goodwill and the amount of the impairment loss to be allocated to S Limited’s identifiable net assets at 31 December 20.1. Solution: End of 20.1 Calculation: Goodwill Identifiable

net assets Total

Rand Rand Rand Gross carrying amounts R1 980 paid - 90%

(R1 600); given

540

1 600

2 140 Accumulated depreciation R1 600/10 years - (160) (160) Carrying amounts 540 1 440 1 980 Notionally adjusted goodwill Goodwill attributable to P

Limited’s 90% interest is R540. Therefore goodwill notionally attributable to the 10% non-controlling interest in S Limited at 1.1.20.1 is R60 (R540 x 10/90)

60

-

60

Notionally adjusted carrying amounts

600

1 440

2 040

Recoverable amount Given 1 200 Impairment loss 840 Allocated as follows: • First goodwill 600 • Then other assets 240 • Total impairment 840

Note: The group will recognise only 90% of the goodwill impairment loss because goodwill is recognised only to the extent of P Limited’s 90% ownership interest. The remaining impairment loss of R240 is recognised by reducing the carrying amount of S Limited’s identifiable net assets.


Chapter 20: Page 28

9. IFRIC 10 – INTERIM FINANCIAL REPORTING AND IMPAIRMENT An entity is required to assess goodwill, investments in equity instruments and financial assets carried at cost for impairment at every reporting date. However, at subsequent reporting dates, conditions may have changed so that the impairment loss would have been reduced or avoided had the impairment assessment only been made at that date. An accounting issue which subsequently arose was whether an entity should reverse impairment losses recognised in a previous interim period in respect of goodwill or an investment in either an equity instrument and in financial assets carried at cost if a loss would not have been recognised, or a smaller loss would have been recognised, had an impairment assessment been made only at the subsequent reporting date. IFRIC 10 confirms that:

• An entity shall not reverse an impairment loss recognised in a previous interim period in respect of goodwill or an investment in either an equity instrument or a financial asset carried at cost.

• An entity shall not extend this consensus by analogy to other areas of potential conflict between IAS 34 Interim Financial Reporting and other standards.

10. DISCLOSURE The following disclosures shall be made for each cash-generating unit (group of units) for which the carrying amount of goodwill or intangible assets with indefinite useful lives allocated to that unit (group of units) is significant in comparison with the entity’s total amount of goodwill or intangible assets with indefinite useful lives:

• carrying amount of goodwill allocated to that unit (group of units). • the carrying amount of indefinite useful life intangible assets allocated to that unit (group of

units). • the basis on which the unit’s (group of units’) recoverable amount has been determined (fair

value less cost to sell or value in use).

If the unit’s (group of units’) recoverable amount has been based on value in use, disclose: • a description of each key assumption on which management has based its cash flow

projections for the period covered by the most recent budgets/forecasts, • a description of management’s approach to determining the value(s) assigned to each key

assumption, and whether these values are consistent with past experience and external sources of information, and, if not, how and why they differ from past experience or external sources of information,

• the period over which management has projected cash flows based on financial budgets/forecasts and, when a period of greater than five years is used for a unit (group of units), an explanation of why that longer period is justified,

• the growth rate used to extrapolate cash flow projections beyond the period covered by the most recent budgets/forecasts, and justification thereof,

• the discount rate applied to the cash flow projections.

If the unit’s (group of units’) recoverable amount is based on fair value less costs to sell, disclose: • the methodology used to determine the fair value less cost to sell.

Disclose the following information if fair value less cost to sell is not determined using an observable market price for the unit (group of units):

• a description of each key assumption on which management has based its determination of fair value less cost to sell,

• a description of management’s approach to determining the values assigned to each key assumption, and whether these values are consistent with past experience and external sources


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of information, and, if not, how and why they differ from past experience or external sources of information.

If a reasonably possible change in a key assumption on which management has based its determination of the unit’s (group of units’) recoverable amount would cause the unit’s (group of units’) carrying amount to exceed its recoverable amount, disclose:

• the amount by which the unit’s (group of units’) recoverable amount exceeds its carrying amount,

• the value assigned to the key assumption, and • the amount by which the value assigned to the key assumption must change in order for the

unit’s (group of units’) recoverable amount to be equal to its carrying amount. If some or all of the carrying amount of goodwill or intangible assets with indefinite useful lives is allocated across multiple cash-generating units, and the amount so allocated to each unit is not significant in comparison with the entity’s total carrying amount of goodwill or indefinite useful life intangible assets, that fact shall be disclosed, together with the aggregate carrying amount of goodwill or indefinite useful life intangible assets allocated to those units (group of units). In addition, if the recoverable amounts of any of those units (group of units) are based on the same key assumptions(s) and the aggregate carrying amount of goodwill or intangible assets with indefinite useful lives allocated to them is significant in comparison with the entity’s total carrying amount of goodwill or intangible assets with indefinite useful lives, disclose:

• the aggregate carrying amount of goodwill allocated to those units (group of units), • the aggregate carrying amount of intangible assets with indefinite useful lives allocated to

those units (groups of units), • a description of the key assumption(s), • a description of management’s approach to determining the value or values assigned to each

key assumption, and whether these values are consistent with past experience and external sources of information, and, if not, how and why they differ from past experience or external sources of information.

If fair value less costs to sell is determined using discounted cash flow projections, the following information is also disclosed:

• the period over which management has projected cash flows, • the growth rate used to extrapolate cash flow projections, • the discount rate(s) applied to the cash flow projections. • If a reasonable possible change in the key assumption(s) would cause the aggregate of the

units’ (group of units’) recoverable amounts to exceed the aggregate of their recoverable amounts:

(i) The amount by which the aggregate of the units’ (group of units’) recoverable amounts exceeds the aggregate of their carrying amounts.

(ii) The values assigned to the key assumption(s). (iii) The amount by which the value(s) assigned to the key assumptions(s) must change

after incorporating any other effects of changes in other variables used to measure recoverable amount, in order for the aggregate of the units’ (group of units’) recoverable amounts to be equal to the aggregate of their carrying amounts.

An illustration of these disclosures is found in Illustrative Example 9 of IAS 36. 11. SUMMARY This chapter has described and illustrated the accounting for impairments. It is important to remember that assets are not carried at amounts that are in excess of their recoverable amounts. In applying this principle, various procedures must be followed by entities to ensure that impairments are recognized when appropriate. The requirements for reversing impairments were also described and illustrated.

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IMPAIRMENT OF ASSETS - NUST · 2016-05-10 · Chapter 20: Page 1 CHAPTER 20 IMPAIRMENT of ASSETS . 1. BACKGROUND . The objective of IAS 36 is to prescribe the procedures that an entity