International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards
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In any event, deficits below market capitalisation may affect goodwill so the impairment
charge cannot be reversed.
The internal indicator omitted from the list of ‘reverse indicators’ is that evidence of
obsolescence or physical deterioration has been reversed. Once again no reason is
given. It may be that the standard-setters have assumed that no such reversal could take
place without the entity incurring costs to improve or enhance the performance of the
asset or the CGU so that this is, in effect, covered by indicator (d) above.
The standard also reminds preparers that a reversal, like an impairment, is evidence that
the depreciation method or residual value of the asset should be reviewed and may need
to be adjusted, whether or not the impairment loss is reversed. [IAS 36.113].
A further restriction is that impairment losses should be reversed only if there has been
a change in the estimates used to determine the impairment loss, e.g. a change in cash
flows or discount rate (for VIU) or a change in FVLCD. The ‘unwinding’ of the discount
will increase the present value of future cash flows as they become closer but IAS 36
does not allow the mere passage of time to trigger the reversal of an impairment. In
other words the ‘service potential’ of the asset must genuinely improve if a reversal is to
be recognised. [IAS 36.114-116]. However, this inability to recognise the rise in value can
give rise to what is in effect a double recognition of losses, which may seem illogical, as
demonstrated by the following example:
Impairment of fixed assets and goodwill 1523
Example 20.35: Double counted losses
At the end of 20X0, an entity with a single CGU is carrying out an impairment review. The discounted forecast
cash flows for years 20X2 and onwards would be just enough to support the carrying value of the entity’s
assets. However, 20X1 is forecasted to produce a loss and net cash outflow. The discounted value of this
amount is accordingly written off the carrying value of the fixed assets in 20X0 as an impairment loss. It is
then suffered again in 20X1 (at a slightly higher amount being now undiscounted) as the actual loss. Once
that loss is past, the future cash flows are sufficient to support the original unimpaired value of the fixed
assets. Nevertheless, the assets cannot be written back up through profit or loss to counter the double counting
effect as the increase in value does not derive from a change in economic conditions or in the expected use
of an asset.
In this type of scenario, which is common in practice, the entity will only ‘benefit’ as the
assets are depreciated or amortised at a lower amount.
If, on the other hand, the revival in cash flows is the result of expenditure by the entity
to improve or enhance the performance of the asset or the CGU or on a restructuring
of the CGU, there may be an obvious improvement in the service potential and the
entity may be able to reverse some or all of the impairment write down.
In the event of an individual asset’s impairment being reversed, the reversal may not
raise the carrying value above the figure it would have stood at taking into account
depreciation, if no impairment had originally been recognised. [IAS 36.117]. Any increase
above this figure would really be a revaluation, which would have to be accounted for
in accordance with the standard relevant to the asset concerned. [IAS 36.118].
Example 20.36: Reversal of impairment losses
At the beginning of year 1 an entity acquires an asset with a useful life of 10 years for $1,000. The asset
generates net cash inflows that are largely independent of the cash inflows of other assets or groups of assets.
At the end of year 3, when the carrying amount after depreciation is $700, the entity recognises that there has
been an impairment loss of $210. The entity writes the asset down to $490. As the useful life is not affected,
the entity commences amortisation at $70 per annum which, if applied in each of the years 4-10, would
amortise the carrying value over the remaining useful life, as follows:
Table 1
Year
1 2 3 4 5 6 7 8 9 10
$ $ $ $ $ $ $ $ $ $
NBV – beginning of the year
1,000
900
800
490
420
350
280
210
140
70
Depreciation
100
100
100 70 70 70 70 70 70 70
Impairment
210
NBV – end of the year
900
800
490
420
350
280
210
140
70
–
NBV
without
impairment
900 800 700 600 500 400 300 200 100
–
At the beginning of year 5, before depreciation for the year, the asset’s carrying value is $420. Thanks to
improvements in technology, the entity is able to increase the asset’s VIU to $550 by spending $120 on parts
that improve and enhance its performance.
At the end of year 5, the asset can therefore be written up to the lower of:
• $600, which is the net book value of the asset after the additional expenditure, assuming that there had
never been any impairment. This is the balance brought forward at the beginning of year 5 of $600 (Table
1 bottom row) plus expenditure of $120 less depreciation for the year of (720/6) = $120; and
• $550, which is the VIU at the end of year 5.
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Therefore it can write the asset’s net book value back up to $550. The entity can reverse $100 of the
impairment write down and amortise the remaining net book value of the asset of $550 to zero over the
remaining five years, year 6 to year 10, at $110 per annum (see table 2 below).
Table 2
Year
5 6 7 8 9
10
$ $ $ $ $ $
Cost
1,000 1,120 1,120 1,120 1,120 1,120
Expenditure
in
the
year
120
Cost
carried
forward
1,120 1,120 1,120 1,120 1,120 1,120
Accumulated depreciation brought forward
580 570 680 790 900
1,010
Charge for the year (70 plus 20 (120/6))
90
110
110
110
110
110
Reversal
of
impairment
(100)
Accumulated depreciation carried forward
570
680
790
900
1,010
1,120
NBV
550 440 330 220 110
–
The standard includes an illustration of the reversal of an impairment loss in Example 4
of the standard’s accompanying section of illustrative examples.
All reversals are to be recognised in the income statement immediately, except for
revalued assets which are dealt with at 11.4.2 below. [IAS 36.119].
If an impairment loss is reversed against an asset, its depreciation or amortisation is
adjusted to allocate its revised carrying amount less residual v
alue over its remaining
useful life. [IAS 36.121].
11.4.1
Reversals of impairments – cash-generating units
Where an entity recognises a reversal of an impairment loss on a CGU, the increase in the
carrying amount of the assets of the unit should be allocated by increasing the carrying
amount of the assets, other than goodwill, in the unit on a pro-rata basis. However, the
carrying amount of an individual asset should not be increased above the lower of its
recoverable amount (if determinable) and the carrying amount that would have resulted
had no impairment loss been recognised in prior years. Any ‘surplus’ reversal is to be
allocated to the remaining assets pro-rata, always remembering that goodwill, if allocated
to an individual CGU, may not be increased under any circumstances. [IAS 36.122, 123].
11.4.2
Reversals of impairments – revalued assets
If an asset is recognised at a revalued amount under another standard any reversal of an
impairment loss should be treated as a revaluation increase under that other standard.
Thus a reversal of an impairment loss on a revalued asset is credited to other
comprehensive income. However, to the extent that an impairment loss on the same
revalued asset was previously recognised as an expense in the income statement, a
reversal of that impairment loss is recognised as income in the income statement.
[IAS 36.119, 120].
As with assets carried at cost, after a reversal of an impairment loss is recognised on a
revalued asset, the depreciation charge should be adjusted in future periods to allocate
the asset’s revised carrying amount, less any residual value, on a systematic basis over
its remaining useful life. [IAS 36.121].
Impairment of fixed assets and goodwill 1525
12
GROUP AND SEPARATE FINANCIAL STATEMENT ISSUES
The application of IAS 36 in group situations is not always straight forward and can give
rise to a number of challenging questions. We explore some of these questions in the
following sections, including:
• how to identify CGUs and relevant cash flows in the financial statements of an
individual entity within a group, the consolidated financial statements of a subgroup,
or when impairment testing equity accounted investments or those carried at cost; and
• whether the cash flows mentioned above need to be on an arm’s length basis, i.e.
at fair value, and the extent the restrictions imposed by IAS 36 need to be applied.
Note that we have used the term ‘individual financial statements’ for any stand-alone
financial statements that apply IFRS, prepared by any entity within a group, whether or
not those financial statements are within scope of IAS 27 – Separate Financial Statements.
The term ‘individual financial statements’ includes separate financial statements,
individual financial statements for subsidiary companies with no investments and, where
the context requires, consolidated financial statements for a subgroup or, for a subgroup
that does not have any subsidiaries, unconsolidated financial statements whose associates
and joint ventures are accounted for using the equity method.
The distinction between individual financial statements and ‘separate financial
statements’, a term that applies only to financial statements prepared in accordance with
the provisions of IAS 27, is explained in Chapter 8 at 1.
12.1 VIU: relevant cash flows and non-arm’s length prices (transfer
pricing)
When it comes to impairment testing of:
• equity accounted investments;
• investments in subsidiaries, associates or joint ventures carried at cost in the
separate financial statements of the parent; or
• assets/CGUs in individual group companies or subgroups financial statements,
the key questions are how to determine the cash flows for intra-group transactions and
whether those cash flows need to be on an arm’s length basis.
Many individual group companies or subgroups do not have truly independent cash
flows because of the way in which groups allocate activities between group entities.
Transactions between a parent entity and its subsidiaries, between subsidiaries within a
group or between subsidiaries/parents and investments in associates and joint ventures
may not be carried out on an arm’s length basis. Entities may benefit from transactions
entered into by others that are not reflected in their financial statements, e.g.
management and other facilities provided by another group company, or may incur
those expenses on their behalf without recharge.
In the context of impairment testing, this means that an entity needs to consider whether
the relevant cash flows should be those actually generated by the asset (investment in
subsidiary, joint venture, associate or individual asset or CGU) or those that it could
generate on an arm’s length basis. IAS 36 gives no clear answer to this question. There are
1526 Chapter 20
two broad approaches, and preference for one from the other will often depend on local
jurisdictions. Either:
• the VIU must be based on the cash flows directly generated under current
arrangements, e.g. those received and receivable; or
• the cash flows must take into consideration the manner in which the group has
organised its activities and make notional adjustments to reflect arm’s length amounts.
Those arguing that notional adjustments are required, refer to the IAS 36 requirement
to replace transfer prices with arm’s length prices for CGUs within the some reporting
entity/group once a CGU has been identified (see 7.1.6 above). [IAS 36.70]. The argument
is that the same principle should apply in intra-group arrangements and therefore the
internal transfer prices of the group entities in question should be substituted with arm’s
length prices. This may not be straightforward in practice, as it can be difficult to allocate
arm’s length prices in intra-group arrangements where there is often a ‘bundle’ of goods
and services and where transactions may not have commercial equivalents.
A method that may work in practice, (and that should give broadly the same answer) as
it reflects the arm’s length prices of inputs and outputs, and therefore the substitution of
transfer prices, is to start from the VIU of the CGU in the consolidated financial
statements of which the subsidiary being tested for impairment is a part. This VIU could
be apportioned between the various subsidiaries.
This approach rests, at least notionally, on the assumption that the group has allocated
its activities between its various subsidiaries for its own benefit. Group companies may
make transactions at off-market values at the request of the parent but at least in
principle there would be a basis for charging arm’s length prices.
It is necessary to avoid two potential pitfalls:
• taking account of a notional increase in income or VIU to one subsidiary but
neglecting to reflect the notional increase in costs or loss of VIU to another; and
• including benefits or costs that cannot be converted into cash flows to the entity. This
can be particularly problematic when testing goodwill, including the carrying value of
investments when the purchas
e price reflects goodwill on acquisition. Most would
consider this a constraint on the cash flows reflected in this impairment test. This may
be revealed if there is a major difference between the subsidiary-based and CGU-
based recoverable amount as there could be cash flows or synergies elsewhere in the
group that cannot be reasonably attributed to the subsidiary or subgroup in question.
Those arguing notional adjustments are not required refer to the lack of guidance in
IAS 36. The argument is that it is not clear that the same principle should apply,
particularly in circumstances when using the contractual agreed cash flows would lead
to an impairment which would be avoided by substitution of contractual agreed cash
flows with arm’s length prices.
12.2 Goodwill in individual (or subgroup) financial statements and
the interaction with the group financial statements
In many jurisdictions, subsidiary entities are not exempt from preparing financial
statements and these may be required to comply with IFRSs. These may be consolidated
Impairment of fixed assets and goodwill 1527
accounts for the subgroup that it heads. Such individual or subgroup financial statements
might include goodwill for which an annual impairment test is required. Along with the
question of whether intra-group cash flows need to be on an arm’s length basis for
impairment testing purposes, as discussed at 12.1 above, other principal questions are:
• how to treat synergies arising outside of the reporting entity/subgroup
(see 12.2.1 below);
• whether the guidance in IFRS 8 applies in determining the level at which goodwill
has to be tested for impairment in the consolidated financial statements of the
subgroup or in individual financial statements (see 12.2.2 below); and
• how to deal with goodwill, arising at a subgroup level, in the group financial
statements (see 12.2.3 below)?
12.2.1
Goodwill synergies arising outside of the reporting entity/subgroup
If goodwill is being tested in the consolidated subgroup or individual financial statements,