ACCOUNTING STANDARD 2 8 - IMPAIRMENT OF ASSETS

1. ACCOUNTING STANDARD 28 - IMPAIRMENT OF ASSETS

2. AS 28 – IMPAIRMENT OF ASSETSObjective “ To prescribe the procedures that an enterprise applies to ensure that its assets are carried at no more than their recoverable amount”

3. AS 28 – IMPAIRMENT OF ASSETSOverview • Scope and Definitions • Accounting for Impairment • Indicators • Recognition & Measurement • Goodwill & Corporate assets • Treatment of Impairment Loss • Reversal • Disclosures • High Level Comparison with IAS & US GAAP • Matters for Discussion – Practical Challenges

4. AS 28 – IMPAIRMENT OF ASSETSScope • Applies to all assets other than: • Inventories ( AS-2) • Assets arising from construction contracts (AS-7) • Financial Assets including Investments(AS-13) • Deferred tax assets (AS-22) • Asset i.e. Individual asset or Cash Generating Unit (CGU) • May be carried at cost / revalued amount

5. AS 28 – IMPAIRMENT OF ASSETSScope – Changes when AS-30 becomes Mandatory • Applies to all assets other than: • Inventories ( AS-2) • Assets arising from construction contracts (AS-7) • Financial Assets within the scope of AS-30 • Deferred tax assets (AS-22) • Accounting Standard will cover: • Investment in Subsidiaries (AS-21), Associates (AS-23) and Joint Ventures (AS-27)

6. AS 28 – IMPAIRMENT OF ASSETSDefinitions • Carrying Amount (CA) • Recoverable Amount (RA) • Cash Generating Units (CGU) • Impairment loss

7. AS 28 – IMPAIRMENT OF ASSETSRecoverable Amount (RA) • Is the higher of an asset’s : • Net Selling Price (NSP) OR • Value in use.

8. AS 28 – IMPAIRMENT OF ASSETSRecoverable Amount (RA) • Net Selling Price (NSP) • amount obtainable in arm’s length transaction less costs of disposal; • asset is traded in an active market then the market price; or • the current bid price less costs of disposal • Value in use. • present value of estimated future cash flows from continuing use and ultimate disposal

9. AS 28 – IMPAIRMENT OF ASSETSValue in Use – Cash Flow Considerations • Pre-tax market discount rate • Short-term projections - maximum 5 years • based on financial budgets approved by management • Estimation for the asset in its current condition (restructuring & capital expenditure on the assets ignored) • Long term projections • based on short term projections • steady or declining growth • growth rates exceeding long term average rates of the product, industry or economy discouraged

10. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU) • Estimate recoverable amount for • the individual asset or, if not possible, • the asset’s cash generating unit • Apply cash generating unit concept when the asset does not generate cash flows which are independent from other assets • The smallest identifiable group of assets that generates cash flows from continuing use that are largely independent from other assets or groups of assets

11. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • Assets may be bought/sold individually but they are often used in groups • Revenue and cash arise from use of various assets and cannot be attributed to the individual assets • Factors to consider: • How management monitors the enterprise’s operations • How management makes decisions about continuing or disposing of the enterprise's assets and operations • Segment Reporting

12. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) Example : 1 A mining enterprise owns a private railway to support its mining activities. The private railway could be sold only for scrap value and the private railway does not generate cash inflows from continuing use that are largely independent of the cash inflows from the other assets of the mine Q: What is the cash-generating unit? A: The cash-generating unit is mine as a whole.

13. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) Example : 2 A machine has suffered physical damage but is still working, although not as well as it used to. The net selling price of the machine is less than its carrying amount. The machine does not generate independent cash inflows from continuing use. The smallest identifiable group of assets that includes the machine and generates cash inflows from continuing use that are largely independent of the cash inflows from other assets is the production line to which the machine belongs. The recoverable amount of the production line shows that the production line taken as a whole is not impaired.

14. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) Example : Case 1 (Assumption): Budgets/forecasts approved by management reflect no commitment of management to replace the machine. Case 2 (Assumption): Budgets/forecasts approved by management reflect a commitment of management to replace the machine and sell it in the near future. Cash flows from continuing use of the machine until its disposal are estimated to be negligible.

15. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • Retail Store Chain • Store X belongs to a retail store chain M. Purchasing, pricing, marketing, advertising and human resource policies (except for hiring X’s cashiers & salesman) are decided by M. M also owns 5 other stores in same city as X (although in different neighbourhoods) and 20 other stores in other cities. All stores are managed in same way as X. • What is CGU ?

16. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • Plant for Intermediate Step in a Production Process • A significant raw material used for plant Y’s final production is an intermediate product bought from plant X of the same enterprise. X’s products are sold to Y at a transfer price that passes all margins to X. 80% of Y’s final production is sold to customers outside of the RE. 60% of X’s final production is sold to Y and the remaining 40% is sold to customers outside of the RE.

17. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • What is the CGU: • Case 1: X could sell the products it sells to Y in an active market. Internal transfer prices are higher than market prices. • Case 2: There is no active market for the products X sells to Y.

18. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • Magazine Titles • A publisher owns 150 magazine titles (70 purchased and 80 self created). Cash inflows from direct sales and advertising are identifiable for each magazine title. Titles are managed by customer segments and level of advertising income for a magazine title depends on range of title in the customer segment to which it belongs. Management has a policy to abandon old titles before the end of their economic lives and replace them immediately with new titles for same customer segment. • What is the CGU?

19. AS 28 – IMPAIRMENT OF ASSETSCash Generating Units (CGU)(Contd.) • Building - Rented & Own Use • A manufacturing company uses half of its headquarter building and rents out the other half to third parties on a 5 year lease. • What is the CGU?

20. Can Asset be assessed individually ? Identify CGU NO YES Indication of Impairment ? YES Estimate Recoverable Amount Recoverable Amount < Carrying Amount? NO NO YES Calculate, Account & Disclose Impairment Loss No Impairment AS 28 – IMPAIRMENT OF ASSETSAccounting for Impairment A

21. Estimate Recoverable Amount of CGU Identified CGU Recoverable Amount < Carrying Amount? NO YES Allocate Impairment Loss to Goodwill & Assets in CGU No Impairment Account & Disclose Impairment Loss AS 28 – IMPAIRMENT OF ASSETSAccounting for Impairment (Contd.) A

22. AS 28 – IMPAIRMENT OF ASSETSFrequency and Application of Impairment • Frequency of Impairment Testing: at each balance sheet date • When an indicator is triggered • Impairment to apply to individual assets as well as a Cash Generating Unit (CGU) • Specific rules for corporate assets and goodwill.

23. AS 28 – IMPAIRMENT OF ASSETSIndicators of Impairment • External sources • significant decline in market value • technological, market, economic, legal environment • changes in interest rates or rates of return • net assets > market capitalisation • Internal sources • evidence of obsolescence or of physical damage • discontinuance, disposal, restructuring plans • asset performance declining or expected to decline

24. AS 28 – IMPAIRMENT OF ASSETSIndicators of Impairment - Example Entity S is the biggest local supermarket chain in a developing country. Recently, the global chain M, has decided to set up operations in the country. Entity M is well known world-wide, intends to establish its shops close to entity S’s and to offer entity S’s customers a wider range of products and international brands. Management of entity S expects to retain most of its customer base. In this example, entity M’s market entry is an impairment indicator. Management should perform impairment tests, estimating the recoverable of its assets, based on the best available information

25. AS 28 – IMPAIRMENT OF ASSETSIndicators of Impairment - Example Entity Q produces mousetraps and has for some time been the market leader. Its chief competitor, entity R, has recently developed a new product that is widely acknowledged as being superior to that of entity Q. Entity Q’s management has not performed an impairment review on its plant on the grounds that annual production and sales are ahead of budget Entity Q should review its plant and equipment for impairment. The change in the market for its product can have a significant impact on the equipment’s value based on the economic benefit to be obtained from its continued use. The existence of a conflicting indicator (sales ahead of budget) is not sufficient to negate the need for an impairment review.

26. AS 28 – IMPAIRMENT OF ASSETSIndicators of Impairment - Example An entity is in the business of manufacturing cassette tape players. Industry forecasts indicated a decrease in demand for the entity’s product over the next five years due to growth in demand for competing products such as MP3 players. Management should consider this trend in assessing impairment. External trends as well as discrete events may indicate that an asset is impaired. Trends such as overcapacity in a particular industry, or a change in the demand for a product due to technological, market or other conditions, should be considered in assessing impairment. Management’s ability and plans to reverse negative trends should be considered in assessing impairment.

27. AS 28 – IMPAIRMENT OF ASSETSRecognition & Measurement of Loss • Asset to be reduced to recoverable amount only if : • RA < CA • The reduction is an impairment loss = CA - RA • Impairment loss to be recognised: • As an expense in the P&L Account, immediately, otherwise • As a revaluation decrease (if carried at revalued amount)

28. AS 28 – IMPAIRMENT OF ASSETSExample 1

29. AS 28 – IMPAIRMENT OF ASSETSRecognition & Measurement of Loss (Contd.) • After the recognition of an impairment loss: • adjust depreciation (amortization) charge for the asset in future periods • allocate the asset's revised carrying amount, less its residual value (if any), on a systematic basis over its remaining useful life.

30. AS 28 – IMPAIRMENT OF ASSETS‘Bottom-Up’ Test – Goodwill and Corporate Assets • Perform following steps for a ‘bottom-up’ test: • Identify if goodwill or corporate asset can be allocated on a reasonable & consistent basis to the CGU under review • Compare RA of cash generating unit (CGU) to its CA(including goodwill or corporate asset) and recognise impairment loss.

31. AS 28 – IMPAIRMENT OF ASSETSExample • An enterprise called ER is a wholly owned subsidiary and has 3 divisions (CGU) A, B and C. There are indications that B is impaired and ER has estimated its recoverable amount to be Rs. 230cr. The value of ER has been estimated, by the ultimate holding company, to be Rs. 1,380cr. The goodwill held in the group accounts in respect of ER can be allocated on a reasonable and consistent basis. • Cash generating unit A B C Total • Rs. cr.Rs. cr.Rs. cr.Rs. cr. • Net assets directly involved in the • activities in the unit 350 150 250 750 • Goodwill 210 90150450 • 5602404001,200 • The goodwill has been apportioned in the ratio that the directly attributed assets bear to each other. The carrying value that would be compared to the recoverable amount is Rs. 240cr. Application of the “bottom-up” test • Rs. cr. • Carrying amount 240 • Recoverable amount (230) • Impairment loss 10

32. AS 28 – IMPAIRMENT OF ASSETS‘Top-Down’ Test – Goodwill and Corporate Assets • If goodwill cannot be allocated on a reasonable basis then perform ‘top down’ test by applying following steps: • Identify smallest CGU that includes the CGU under review and to which goodwill or corporate asset can be allocated on a reasonable basis • Then compare RA of the above CGU to its CA (including goodwill or corporate asset) and recognise impairment loss.

33. AS 28 – IMPAIRMENT OF ASSETS‘Top-Down’ Test – Example • Cash generating unit A B C Total • Rs. cr.Rs. cr.Rs. cr.Rs. cr. • Net assets directly involved in the activities 350 150 250 750 • of the unit • Goodwill 450 • 1,200 • Step 1 • Application of the “bottom-up” test B • Rs. cr. • Carrying amount 150 • Recoverable amount (230) • Impairment loss - • Step 2 • Application of the “top-down” test ER (the next smallest CGU) • Rs. cr. • Carrying amount 1,200 • Recoverable amount (1,380) • Impairment loss -

34. AS 28 – IMPAIRMENT OF ASSETSImpairment Loss for a Cash Generating Unit • Order of the allocation : • Goodwill ( if any ) • Other assets on a pro-rata basis based on the carrying amount

35. AS 28 – IMPAIRMENT OF ASSETSTreatment of Impairment Loss for a CGU • The carrying amount of an asset (which is part of CGU) should not be reduced below the highest of: (a) its net selling price (if determinable); (b) its value in use (if determinable); and (c) zero Unabsorbed impairment loss allocated to other assets in CGU.

36. AS 28 – IMPAIRMENT OF ASSETSReversal of Impairment of Loss • Assess each year whether accumulated impairment loss may no longer exist or may have decreased • Reverse if there has been a change in estimates (not simply because of increase in PV of cash flows I.e with passage of time) • Increased amount not to exceed the carrying amount that would otherwise exist if no impairment loss had been recognised

37. AS 28 – IMPAIRMENT OF ASSETSReversal of Impairment of Loss • Allocate reversal for CGU’s to: • First, pro rata to assets other than goodwill • Second, to goodwill allocated to the CGU • i.e., reverse order to allocation of the loss • But, impairment losses for goodwill should not be reversed unless: • Loss was caused by a specific non recurring external event, and • Subsequent external events have occurred that reverse the effect of that event

38. AS 28 – IMPAIRMENT OF ASSETSDisclosure • For each class of assets, the financial statements should disclose: (a) amount of impairment losses (b) line item(s) of the income statement in which those impairment losses are included (c) amount of reversals of impairment losses (d) line item(s) of the income statement in which those impairment losses are reversed (e) amount of impairment losses recognized directly against revaluation surplus (f) amount of reversals of impairment losses recognized directly against revaluation surplus

39. AS 28 – IMPAIRMENT OF ASSETSDisclosure –Material Loss or Reversal • Enterprise should disclose: • Events and circumstances • Amount of loss or reversal recognised • Nature of asset/CGU • Reported segment of asset/CGU • CGU – if grouping has changed, describe current and former grouping and reasons for the change in grouping • Recoverable amount – net selling price or value in use. Describe basis etc • Main classes of assets affected by impairment losses or reversals • Main events and circumstances that led to loss/reversal

40. AS 28 – IMPAIRMENT OF ASSETSComparison between Indian v/s IAS v/s US GAAP

41. AS 28 – IMPAIRMENT OF ASSETSMatters for Discussion – Practical Challenges • Impairment Indicators • Identification of CGU’s • Cash Flow Estimation and review • In present condition of the assets • CGU will have assets with different useful lives • Determining Net Selling Price • Discount Rate

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