investment properties not carried at fair value are in the scope of IAS 36. If a
company has recorded oil and mineral exploration and evaluation assets and has
chosen to carry them at cost, then these assets are to be tested under IAS 36 for
impairment, once they have been assessed for impairment indicators in accordance
with IFRS 6 – Exploration for and Evaluation of Mineral Resources. [IFRS 6.2(b)].
Financial assets classified as subsidiaries as defined in IFRS 10 – Consolidated
Financial Statements, joint ventures as defined in IFRS 11 – Joint Arrangements –
and associates as defined in IAS 28 – Investments in Associates and Joint Ventures
– are within its scope. [IAS 36.4]. This will generally mean only those investments in
the separate financial statements of the parent. Interests in joint ventures and
associates included in the consolidated accounts by way of the equity method are
brought into scope by IAS 28. [IAS 28.42].
The standard applies to assets carried at revalued amounts, e.g. under IAS 16 (or rarely
IAS 38). [IAS 36.4].
A lessee shall apply IAS 36 to determine whether the right-of-use asset is impaired and
to account for any impairment loss identified. [IFRS 16.33].
2
WHEN AN IMPAIRMENT TEST IS REQUIRED
There is an important distinction in IAS 36 between assessing whether there are
indications of impairment and actually carrying out an impairment test. The standard
1432 Chapter 20
has two different general requirements governing when an impairment test should be
carried out:
• For goodwill and all intangible assets with an indefinite useful life the standard
requires an annual impairment test. The impairment test may be performed at any
time in the annual reporting period, but it must be performed at the same time
every year. Different intangible assets may be tested for impairment at different
times. [IAS 36.10].
In addition, the carrying amount of an intangible asset that has not yet been brought
into use must be tested at least annually. This, the standard argues, is because
intangible assets are intrinsically subject to greater uncertainty before they are
brought into use. [IAS 36.11].
• For all other classes of assets within the scope of IAS 36, the entity is required to
assess at each reporting date (year-end or any interim period end) whether there
are any indications of impairment. The impairment test itself only has to be carried
out if there are such indications. [IAS 36.8-9].
The particular requirements of IAS 36 concerning the impairment testing of goodwill
and of intangible assets with an indefinite life are discussed separately at 8 (goodwill)
and 10 (intangible assets with indefinite useful life) below, however the methodology
used is identical for all types of assets.
For all other assets, an impairment test, i.e. a formal estimate of the asset’s recoverable
amount as set out in the standard, must be performed if indications of impairment exist.
[IAS 36.9]. The only exception is where there was sufficient headroom in a previous
impairment calculation that would not have been eroded by subsequent events or the
asset or CGU is not sensitive to a particular indicator; the indicators and these
exceptions are discussed further in the following section. [IAS 36.15].
2.1 Indicators
of
impairment
Identifying indicators of impairment is a crucial stage in the impairment assessment
process. IAS 36 lists examples of indicators but stresses that they represent the
minimum indicators that should be considered by the entity and that the list is not
exhaustive. [IAS 36.12-13]. They are divided into external and internal indicators.
External sources of information:
(a) A decline in an asset’s value during the period that is significantly more than would
be expected from the passage of time or normal use.
(b) Significant adverse changes that have taken place during the period, or will take
place in the near future, in the technological, market, economic or legal environment
in which the entity operates or in the market to which an asset is dedicated.
(c) An increase in the period in market interest rates or other market rates of return on
investments if these increases are likely to affect the discount rate used in calculating
an asset’s value in use and decrease the asset’s recoverable amount materially.
(d) The carrying amount of the net assets of the entity exceeds its market
capitalisation.
Impairment of fixed assets and goodwill 1433
Internal sources of information:
(e) Evidence of obsolescence or physical damage of an asset.
(f) Significant changes in the extent to which, or manner in which, an asset is used or is
expected to be used, that have taken place in the period or soon thereafter and that
will have an adverse effect on it. These changes include the asset becoming idle, plans
to dispose of an asset sooner than expected, reassessing its useful life as finite rather
than indefinite or plans to restructure the operation to which the asset belongs.
(g) Internal reports that indicate that the economic performance of an asset is, or will
be, worse than expected. [IAS 36.12].
The standard amplifies and explains relevant evidence from internal reporting that
indicates that an asset may be impaired:
(a) cash flows for acquiring the asset, or subsequent cash needs for operating or
maintaining it, are significantly higher than originally budgeted;
(b) operating profit or loss or actual net cash flows are significantly worse than
those budgeted;
(c) a significant decline in budgeted net cash flows or operating profit, or a significant
increase in budgeted loss; or
(d) operating losses or net cash outflows for the asset, if current period amounts are
aggregated with budgeted amounts for the future. [IAS 36.14].
The presence of indicators of impairment will not necessarily mean that the entity has
to calculate the recoverable amount of the asset in accordance with IAS 36. A previous
calculation may have shown that an asset’s recoverable amount was significantly greater
than its carrying amount and it may be clear that subsequent events have been
insufficient to eliminate this headroom. Similarly, previous analysis may show that an
asset’s recoverable amount is not sensitive to one or more of these indicators. [IAS 36.15].
If there are indications that the asset is impaired, it may also be necessary to examine
the remaining useful life of the asset, its residual value and the depreciation method
used, as these may also need to be adjusted even if no impairment loss is recognised.
[IAS 36.17].
2.1.1 Market
capitalisation
If market capitalisation is lower than the carrying value of equity, this is a powerful
indicator of impairment as it suggests that the market considers that the business
value is less than the carrying value. However, the market may have taken account
of factors other than the return that the entity is generating on its assets. For
example, an individual entity may have a high level of debt that it is unable to service
fully. A market capitalisation below equity will n
ot necessarily be reflected in an
equivalent impairment loss. An entity’s response to this indicator depends very
much on facts and circumstances. Most entities cannot avoid examining their CGUs
in these circumstances unless there was sufficient headroom in a previous
impairment calculation that would not have been eroded by subsequent events or
none of the assets or CGUs is sensitive to market capitalisation as an indicator. If a
formal impairment review is required when the market capitalisation is below
equity, great care must be taken to ensure that the discount rate used to calculate
1434 Chapter 20
VIU is consistent with current market assessments. IAS 36 does not require a formal
reconciliation between market capitalisation of the entity, FVLCD and VIU.
However, entities need to be able to understand the reason for the shortfall and
consider whether they have made sufficient disclosures describing those factors that
could result in an impairment in the next periods. [IAS 36.134(f)].
2.1.2 (Future)
performance
Another significant element is an explicit reference in (b), (c) and (d) above to internal
evidence that future performance will be worse than expected. Thus IAS 36 requires an
impairment review to be undertaken if performance is or will be significantly below that
previously budgeted. In particular, there may be indicators of impairment even if the
asset is profitable in the current period if budgeted results for the future indicate that
there will be losses or net cash outflows when these are aggregated with the current
period results.
2.1.3
Individual assets or part of CGU?
Some of the indicators are aimed at individual fixed assets rather than the CGU of which
they are a part, for example a decline in the value of an asset or evidence that it is
obsolete or damaged. Such indicators may also imply that a wider review of the business
or CGU is required. However, this is not always the case. For example, if there is a slump
in property prices and the market value of the entity’s new head office falls below its
carrying value this would constitute an indicator of impairment and trigger a review. At
the level of the individual asset, as FVLCD is below carrying amount, this might indicate
that a write-down is necessary. However, the building’s recoverable amount may have
to be considered in the context of a CGU of which it is a part. This is an example of a
situation where it may not be necessary to re-estimate an asset’s recoverable amount
because it may be obvious that the CGU has suffered no impairment. In short, it may be
irrelevant to the recoverable amount of the CGU that it contains a head office whose
market value has fallen.
2.1.4 Interest
rates
Including interest rates as indicators of impairment could imply that assets are judged to
be impaired if they are no longer expected to earn a market rate of return, even though
they may generate the same cash flows as before. However, it may well be that an
upward movement in general interest rates will not give rise to a write-down in assets
because they may not affect the rate of return expected from the asset or CGU itself.
The standard indicates that this may be an example where the asset’s recoverable
amount is not sensitive to a particular indicator.
The discount rate used in a VIU calculation should be based on the rate specific for
the asset. An entity is not required to make a formal estimate of an asset’s
recoverable amount if the discount rate used in calculating the asset’s VIU is unlikely
to be affected by the increase in market rates. For example the recoverable amount
for an asset that has a long remaining useful life may not be materially affected by
increases in short-term rates. Further an entity is not required to make a formal
estimate of an asset’s recoverable amount if previous sensitivity analyses of the
recoverable amount showed that it is unlikely that there will be a material decrease
Impairment of fixed assets and goodwill 1435
in the recoverable amount because future cash flows are also likely to increase to
compensate for the increase in market rates. Consequently, the potential decrease
in the recoverable amount may simply be unlikely to result in a material impairment
loss. [IAS 36.16].
Events in the financial crisis of 2008/2009 demonstrated that this may also be true
for a decline in market interest rates. A substantial decline in short-term market
interest rates did not lead to an equivalent decline in the (long term) market rates
specific to assets.
3
DIVIDING THE ENTITY INTO CASH-GENERATING UNITS
(CGUS)
If an impairment assessment is required, one of the first tasks will be to identify the
individual assets affected and if those assets do not have individually identifiable and
independent cash inflows, to divide the entity into CGUs. The group of assets that is
considered together should be as small as is reasonably practicable, i.e. the entity should
be divided into as many CGUs as possible and an entity must identify the lowest
aggregation of assets that generate largely independent cash inflows. [IAS 36.6, 68].
It must be stressed that CGUs are identified from cash inflows, not from net cash flows or
indeed from any basis on which costs might be allocated (this is discussed further below).
The existence of a degree of flexibility over what constitutes a CGU is obvious. Indeed,
the standard acknowledges that the identification of CGUs involves judgement.
[IAS 36.68]. The key guidance offered by the standard is that CGU selection will be
influenced by ‘how management monitors the entity’s operations (such as by product
lines, businesses, individual locations, districts or regional areas) or how management
makes decisions about continuing or disposing of the entity’s assets and operations’.
[IAS 36.69]. While monitoring by management may help identify CGUs, it does not
override the requirement that the identification of CGUs is based on the lowest level at
which largely independent cash inflows can be identified.
Example 20.1: Identification of cash-generating units and largely independent
cash inflows
An entity obtains a contract to deliver mail to all users within a country, for a price that depends solely on the
weight of the item, regardless of the distance between sender and recipient. It makes a significant loss in
deliveries to outlying regions. Because of the entity’s contractual service obligations, the CGU is the whole
region covered by its mail services.
The division should not go beyond the level at which each income stream is capable of
being separately monitored. For example, it may be difficult to identify a level below an
individual factory as a CGU but of course an individual factory may or may not be a CGU.
An entity may be able to identify independent cash inflows for individual factories or
other assets or groups of assets such as offices, retail outlets or assets that directly
generate revenue such as those held for rental or hire.
Intangible assets such as brands, customer relationships and trademarks used by an
entity for its own activities are unlikely to generate largely ind
ependent cash inflows
and will therefore be tested together with other assets at a CGU level. This is also the
1436 Chapter 20
case with intangible assets with indefinite useful lives and those that have not yet been
brought into use, even though the carrying amount must be tested at least annually for
impairment (see 2 above and 3.1 below).
It is likely that many right-of use assets recorded under IFRS 16 will be assessed for
impairment on a CGU level rather than on individual asset level (see 13.1 below). While
there might be instances where leased assets generate largely independent cash inflows,
many leased assets will be used by an entity as an input in its main operating activities
whether these are service providing or production of goods related.
Focusing on cash inflows avoids a common misconception in identifying CGUs.
Management may argue that the costs for each of their retail outlets are not largely
independent because of purchasing synergies and therefore these outlets cannot be
separate CGUs. In fact, this will not be the deciding feature. IAS 36 explicitly refers to
the allocation of cash outflows that are necessarily incurred to generate the cash inflows.
If they are not directly attributed, cash outflows can be ‘allocated on a reasonable and
consistent basis’. [IAS 36.39(b)]. Goodwill and corporate assets may also have to be
allocated to CGUs as described in 8.1 and 4.2 below.
Management may consider that the primary way in which they monitor their business
is for the entity as a whole or on a regional or segmental basis, which could also result
in CGUs being set at too high a level. It is undoubtedly true, in one sense, that
management monitors the business as a whole but in most cases they also monitor at a
lower level that can be identified from the lowest level of independent cash inflows. For
example, while management of a chain of cinemas will make decisions that affect all the
cinemas such as the selection of films and catering arrangements, it will also monitor
individual cinemas. Management of a chain of branded restaurants will monitor both
the brand and the individual restaurants. In both cases, management may also monitor
at an intermediate level, e.g. a level based on regions. In most cases, each restaurant or
cinema will be a CGU, as illustrated in Example 20.2 Example B below, because each
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