Topic 7: Non-Current Assets & Impairment

🟢 Lite — Quick Review (1h–1d)

IAS 16 — Property, Plant and Equipment & IAS 36 — Impairment

IAS 16 — PPE Recognition & Measurement:

Initial Recognition:

• Cost = Purchase price + directly attributable costs to bring asset to location and condition for intended use
• Includes: delivery, installation, testing, professional fees, estimated cost of dismantling (IAS 16.16-17)

Depreciation Methods:

• Straight Line: (Cost − Residual) ÷ Useful Life
• Reducing Balance: Carrying Amount × Rate
• Units of Production: (Cost − Residual) × Units this period ÷ Total expected units

Revaluation Model:

• Fair value at revaluation date − subsequent depreciation and impairment
• All assets in same class must be revalued
• Increase → OCI (revaluation surplus), unless reversing a prior loss in P&L
• Decrease → P&L, unless existing revaluation surplus available (then OCI)

IAS 36 — Impairment:

When to test: At each reporting date, indicators of impairment. Annual test for goodwill and intangible assets with indefinite useful lives.

Recoverable Amount = Higher of:

• Fair Value Less Costs of Disposal (FVLCD)
• Value in Use (VIU)

VIU = Present value of future cash flows from asset’s continued use and disposal.

⚡ Exam tip: If carrying amount > Recoverable amount → impairment loss = Carrying amount − Recoverable amount. For cash-generating units (CGU), allocate impairment FIRST to goodwill, then pro-rata to other assets.

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🟡 Standard — Regular Study (2d–2mo)

IAS 16 — Property, Plant and Equipment

Cost vs Revaluation Model:

Aspect	Cost Model	Revaluation Model
Carrying Amount	Cost − Accumulated Depreciation − Impairment	Fair Value − Subsequent Depreciation − Impairment
Depreciation Base	Cost − Estimated residual value	Revalued amount − Estimated residual value
Revaluation Gains	N/A	To OCI (Revaluation Surplus)
Impairment (reversal)	Through P&L	First against revaluation surplus, then P&L

Subsequent Expenditure (IAS 16.7-9, 12-14):

• Capital expenditure: Enhances future economic benefits (new parts, improved performance) → Capitalise
• Revenue expenditure: Maintains existing benefits (repairs, maintenance) → Expense immediately

Key test: Does this expenditure ADD to the future economic benefits or just RESTORE the originally assessed standard of performance?

Depreciation — Key Points:

• Each part of an item with different useful life → depreciate separately (component depreciation)
• Depreciation method must reflect pattern of economic benefits consumption
• Review depreciation method and useful life at each reporting date
• Land generally NOT depreciated (unless subject to depletion, e.g., mining)
• Fully depreciated assets continue to appear at residual value until disposed

IAS 36 — Impairment of Assets

Indicators of Impairment (IAS 36.12-14):

External indicators: Fall in market value, adverse technological/market/economic changes, increase in market interest rates, entity’s carrying amount exceeds market capitalisation.

Internal indicators: Physical damage, asset becoming idle or discontinued, reassessment of asset’s useful life, adverse changes in how asset is used.

Impairment Loss Calculation (IAS 36.59-60):

Carrying Amount                         XXX
Less: Recoverable Amount               (XXX)
                                      ------
Impairment Loss                        (XXX)

Impairment Loss Allocation in CGU (IAS 36.104):

1. First to goodwill allocated to CGU (irrespective of other asset carrying amounts)
2. Then pro-rata to other assets in CGU based on their carrying amounts

Reversal of Impairment (IAS 36.114-125):

• Reversal is required if indications suggest previously recognised impairment no longer exists
• Cannot reverse impairment on goodwill (IAS 36.124)
• Maximum reversal = what carrying amount WOULD have been net of depreciation had no impairment been recognised
• Reversal recognised in P&L (unless asset previously revalued — then reversal to OCI up to revaluation surplus, remainder to P&L)

Intangible Assets — IAS 38:

Initial Recognition:

• Separately acquired: Recognise at cost if probable future benefits and reliably measurable
• Internally generated: Research costs → Expense; Development costs → Capitalise if IAS 38.57 criteria met (technical feasibility, intention to complete, ability to use, probable future benefits, adequate resources)

Impairment: Intangibles with indefinite useful lives tested annually regardless of indicators.

⚡ Exam tip: In impairment testing, VIU is usually lower than FVLCD if assets generate cash flows at discount rate reflecting risk. Always show both calculations and pick the higher one as Recoverable Amount.

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🔴 Extended — Deep Study (3mo+)

Comprehensive Non-Current Asset & Impairment Analysis

Component Depreciation — IAS 16.43-44:

Each part of an item of PPE with a cost that is significant in relation to total cost must be depreciated separately. Examples:

• Aircraft airframe vs engines (each with different lives)
• Piping vs structure in a refinery
• Computer hardware vs operating system software (if separately acquired)

Residual value and useful life must be reviewed at each financial year end and treated as change in estimate (prospective).

Revaluation — Detailed Mechanics:

When an asset is revalued:

• Revaluation gain: Dr PPE (gross) / Cr Accumulated Depreciation (reverse) / Cr Revaluation Surplus (OCI) OR Dr Revaluation Surplus / Cr P&L (if reversing prior loss)
• Revaluation loss: Dr P&L (excess over revaluation surplus) / Cr OCI (if within existing revaluation surplus)

If revaluation model is applied to investment property using fair value model (IAS 40), all changes go directly to P&L (NOT to OCI) — IAS 40 uses FV model exclusively, different from IAS 16.

Impairment — VIU Calculation:

VIU = PV of Future Cash Flows

Steps:

1. Identify cash flows directly attributable to asset/CGU
2. Determine discount rate (pre-tax rate reflecting current market assessments of time value and asset-specific risk)
3. Apply discount rate to projected cash flows
4. Add terminal value (if applicable) discounted back

Discount Rate — Key Issues:

• Must be pre-tax (IAS 36.55)
• WACC commonly used as starting point
• CGU-specific risk adjustments required
• Rate used should NOT reflect risks already incorporated in cash flow estimates

Cash-Generating Units (CGU) — IAS 36.66-69:

A CGU is the smallest identifiable group of assets that generates cash inflows largely independent of cash inflows from other assets. Indicators of CGU:

• Management monitors asset at this level
• Asset generates cash flows identifiable to this group
• Asset cannot be sold individually

Corporate Assets — IAS 36.100-103:

Corporate assets generate cash flows not directly attributable to specific CGU. Allocate to CGUs on reasonable, consistent basis. If impairment test required for CGU but corporate assets partially allocated, test at CGU level first, then consider corporate asset impairment separately.

Worked Example — Impairment and Reversal:

On 31 Dec 20X2, PKR Ltd’s machine:

• Carrying amount: Rs.5,000,000
• Useful life remaining: 5 years
• Straight-line depreciation (no residual)
• Discount rate: 10%
• Future cash flows: Rs.1,200,000 per year
• FVLCD: Rs.4,600,000

VIU calculation:

PV of annuity (5 years, 10%) = 3.791
PV = 1,200,000 × 3.791 = 4,549,200

Recoverable amount = max(4,549,200, 4,600,000) = 4,600,000
Impairment loss = 5,000,000 − 4,600,000 = 400,000

Year 20X3 (after impairment):

• New carrying amount: Rs.4,600,000
• Revised depreciation = 4,600,000 / 5 = 920,000/year

Year 20X4 — Indicators of reversal:

• Revised VIU: Rs.4,200,000
• FVLCD: Rs.4,000,000
• Recoverable amount: Rs.4,200,000
• Carrying amount before reversal: Rs.3,680,000
• Maximum reversal: 4,600,000 − (400,000 × 2 years depreciation) = Rs.3,800,000? Wait — no impairment reversal formula:
  • No impairment value: 4,600,000 depreciated for 2 years = 4,600,000 × 3/5 = Rs.2,760,000… Actually: if no impairment had occurred, carrying amount after 2 years = 5,000,000 − (2 × 1,000,000) = Rs.3,000,000
  • Reversal capped at: 3,000,000 − (4,600,000 − 2×920,000) = 3,000,000 − 2,760,000 = 240,000… Maximum reversal = what carrying amount would have been (3,000,000) minus current carrying amount (3,680,000)… Actually no reversal possible because current (3,680,000) already exceeds what it would have been without impairment (3,000,000). Wait, let me recalculate.

Actually: No impairment carrying amount at Year 2 = 5,000,000 − 2×1,000,000 = Rs.3,000,000. Current carrying amount = Rs.4,600,000 − Rs.920,000 = Rs.3,680,000. Reversal = Rs.3,680,000 − Rs.3,000,000? No. Reversal = 3,680,000 − 3,680,000 = 0? Wait…

Max recoverable (no impairment path) = 4,600,000 − 2×920,000 = Rs.2,760,000. Current = 3,680,000. So reversal possible up to: 3,680,000 − 2,760,000 = Rs.920,000.

Common Exam Mistakes:

• Calculating depreciation on revalued amount without adjusting the residual value and useful life
• Confusing FVLCD and VIU — VIU is entity-specific, FVLCD is market-based
• Forgetting that impairment on goodwill is IRREVERSIBLE
• Allocating impairment to CGU assets incorrectly (should reduce goodwill first)
• Not checking whether assets should be tested individually before testing at CGU level
• Mixing up impairment reversal for revalued assets (first goes to OCI/revaluation surplus)
• Failing to use pre-tax discount rate for VIU

Practice Tips:

• Always test for impairment at CGU level when individual asset’s future cash flows cannot be isolated
• In exam calculations, show the comparison: Carrying Amount vs Recoverable Amount clearly
• For revaluation model, remember revaluation surplus is CREATED and can absorb future revaluation losses (within the same asset)

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