Valuation for Impairment of Assets: A Complete Guide under Ind-AS 36

The valuation of assets and liabilities of a company are important to give a true picture of its financial standing and performance.  Further, uniform standards in the valuation of assets and liabilities facilitate comparison between peers in the same industry. However, when it comes to the valuation of the asset, we might not realise that the asset is actually worth lower than its current valuation. There might be different reasons for the same and therefore, to identify such instances and derive true valuation in such cases, companies follow Ind-AS 36 Impairment of Assets.

Ind-AS 36 is the Indian Accounting Standard governing impairment testing of assets, and it is in line with IAS 36 (IFRS) which governs the impairment of assets. In the United States, impairment is governed by Accounting Standards Codification 360 (ASC-360). Let’s discover what is impairment of assets under Ind-AS 36 and what are the provisions governing the same.

What is impairment of asset?

Impairment of assets happens when the asset’s actual value is lower than its value presented in the balance sheet. This can create significant valuation concerns relating to an entity’s actual net worth if not addressed. Under Ind-AS 36, impairment of assets is identified when the recoverable amount falls below the carrying amount.

Impairment takes place when the sum of the future estimated cash flows from the asset is lower than the asset’s book value. As a result, the asset needs to be revalued to bring it to its actual value in the books of accounts. This process is commonly referred to as impairment testing under Ind-AS 36.

Who can do impairment testing?

Impairment testing for valuation is mandatory as per Ind-AS 36 impairment requirements. In India, impairment testing should be done by an independent valuer i.e., a registered valuer. They shall ensure compliance with the requirements of the Indian Accounting Standards and shall adhere to the standards of objectivity and independence while performing asset impairment valuation under Ind-AS 36.

What is cash generating unit [CGU]?

Cash Generating Unit (CGU) is a unique concept relating to the impairment of assets. As per Ind-AS 36, a cash generating unit is the smallest identifiable group of assets that can generate cash inflows that are largely independent of the cash inflows from other assets or group of assets.

Impairment testing of CGUs under Ind-AS 36 becomes critical when individual asset-level cash flows cannot be identified separately.

Important concepts relating to impairment

Following are some of the important concepts relating to the impairment of assets under Ind-AS 36 and IAS 36 (IFRS):

• Fair Value: Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between the market participants at the measurement date.
• Value in Use: It is the present value of the future cash flows expected to be derived from the asset or cash-generating unit.
• Recoverable Amount: Recoverable amount of an asset or CGU is the higher of fair value less the cost of disposal or the value in use of the asset, as prescribed under Ind-AS 36 impairment of assets.
• Carrying Amount: Carrying amount is the current value of the asset as recorded in the books of accounts before impairment testing under Ind-AS 36.

Which assets are covered under impairment?

It is important to note that Ind-AS 36 impairment of assets applies to all assets, except the following:

• Inventories (Covered by Ind-AS 2)
• Contract assets and assets that arise from costs to fulfil or obtain a contract (Ind AS 115)
• Deferred Tax Asset (Ind AS 12)
• Assets that arise from employee benefits (Ind AS 19)
• Biological assets that are measured at fair value less cost to sell (Ind AS 41)
• Deferred acquisition costs and intangible assets arising from the insurance contracts (Ind AS 104)
• Non-current assets (or disposal groups) that are classified as held for sale (Ind AS 105)
• Financial Assets (Ind AS 109)

Thus, impairment testing under Ind-AS 36 is applicable to investments in

• Subsidiaries (Ind AS 110)
• Associates (Ind AS 28)
• Joint Ventures (Ind AS 111)

Timing for impairment testing?

Impairment testing helps determine whether an asset or CGU indicates its actual value and whether it is impaired or not. However, it is important to determine when an entity should test for impairment. As per Ind-AS 36 impairment testing guidelines, an entity should test for impairment when there is an indication of impairment of an asset or CGU. However, annual impairment testing under Ind-AS 36 is mandatory for the following assets:

• Intangible assets having an indefinite useful life
• An intangible asset that is not yet available to use
• Goodwill acquired through the business combination

Indicators of impairment of assets

Thus, whenever an asset’s actual value gets lower than its current recorded value, impairment becomes important. Ind-AS 36 prescribes a certain set of indicators, both external and internal, to identify impairment of assets under Ind-AS 36. The following are the indicators of impairment of assets:

1. External indicators of impairment

• The carrying amount of an entity’s net assets is lower than its market capitalisation indicating possible impairment under Ind-AS 36.
• A change in the interest rate or market rate of return on investment indicates impairment.
• Significant adverse change in the market, technology legal or economic environment in which the entity operates.
• The market value of the asset declined significantly more than the expected value as a result of normal use or the passage of time.

2. Internal indicators of impairment

• Evidence is available suggesting physical damage or obsolescence of the asset.
• Evidence indicates that the economic performance of the asset is declining or is worse than expected triggering impairment testing under Ind-AS 36.
• Significant change having an adverse effect on the entity relating to the manner or extent in which the asset is used or expected to be used in the future.

3. Other indicators of impairment

Valuation of investments are important for depicting the true financial standing of an entity. In the case of investments in subsidiary, associate or jointly controlled entities, the investor recognises the dividend from the investment and evidence is available that:

• The carrying amount of the investments in the separate financial statements exceeds the carrying amount in the consolidated financial statements (CFS) of the investee’s net assets, including the associated goodwill or
• The dividend exceeds the total comprehensive income of the subsidiary, associate or jointly controlled entity in the period the dividend is declared.

It should be remembered that the above list is not exhaustive.

How to calculate impairment loss?

For determining the impairment loss for valuation, an entity should follow the below steps as required under Ind-AS 36 impairment of assets:

1. Determine the carrying amount of the asset.
2. Measure the recoverable amount of the asset. As stated earlier, the recoverable amount of the asset or CGU is the higher of fair value less cost of disposal or the value in use.
3. If the carrying amount of the asset is more than the recoverable amount, then the difference should be treated as an impairment loss.

Thus, the formula for impairment loss under Ind-AS 36 is as follows:

Carrying amount > Recoverable Amount = Impairment Loss

The impairment loss so calculated should be adjusted in the following order in accordance with Ind-AS 36:

• Firstly, it shall be used to reduce the carrying amount of goodwill allocated to that particular cash-generating unit
• Then, it should be adjusted against other assets of the unit on a pro-rata basis of the carrying amount of each asset.

Practical example on impairment for valuation

4 companies i.e., A Ltd., B Ltd., C Ltd. and D Ltd. each have their own CGUs. Considering the implications of Ind-AS 36, they decided to carry out impairment testing.  They determined the carrying amount, value in use and fair value less cost of disposal for their respective CGUs. Applying Ind-AS 36, following is how impairment loss should be determined for valuation purposes:

Reversal of impairment loss

At the end of each reporting period, the entity shall assess whether there is any indication that the impairment loss recognised previously has reduced or no longer exists as per Ind-AS 36 reversal provisions. If the answer is affirmative, then the entity shall reassess the recoverable value of the asset and the impairment loss should be reversed. Reversal of impairment loss indicates an increase in the service potential of the CGU or asset.

The amount of impairment loss, to the extent reduced, should be reversed except for the amount adjusted against goodwill. However, impairment loss relating to goodwill under Ind-AS 36 cannot be reversed, even if the recoverable amount increases subsequently.

Conclusion

Impairment of assets is important to depict the true value of an organisation’s net worth. Ind-AS 36 impairment of assets provides a structured framework for asset impairment valuation and testing. Further, it helps organisations make informed decisions relating to their assets and CGUs at large. Getting the assets valued periodically and testing the indicators of impairment under Ind-AS 36 not only ensure statutory compliance but also helps organisations stay updated with their financial standing and health.

For any queries or assistance relating to the valuation and impairment of assets, reach out to N Pahilwani & Associates.