iMPAIRMENT AND PROJECT APPRAISAL IN A NUTSHELL

 

Hello everyone!!

 

Today, we are going to understand about impairment review and learn how to finally calculate the loss arising from it. This approach is applicable to both IFRS & IndAS standards.

“The carrying amount of the assets or CGU’s must be lower than their recoverable amounts. A recoverable amount is the amount which is higher of VIU and FVLCD”

 

Step 1:

Identification of corporate assets in a CGU: Those can be buildings, equipment used in administration, transport vehicles etc. and other assets that don’t directly contribute in generating independent cash flows. First, we have to assess the CGU’s NBV and their relevant weights, then calculate new carrying amount based on the weights. For this purpose I have attached a spread sheet and screenshots.

 

To continue, once we get the carrying amount based on their weightage, we have to allocate corporate assets carrying value to existing CGU’s on a pro-rata basis and re-calculate their new carrying amount.

 

Step 2:

We have to calculate the recoverable amounts and I have calculated VIU based on the free cash flows method (Income generated + Tax savings - Operating costs). Others can use firm valuation methods to derive forecasted free cash flow. Once you do that, discount them with the Pre-tax WACC like in the spreadsheet and sum them up. This sum is the recoverable amount VIU.

Note: I have also added a simple investment appraisal model which gives NPV of CGU’s. Over this, another advice is, people can also opt to use probabilistic cash flows or conditional cash flows method to arrive at sales figures. All the best on that! Finally, I haven’t researched much on FVLCD, but I prefer to follow this approach: market value of an asset i.e., if NBV = 100CU and Market value = 200CU, I will use 200CU less brokerage fee 10CU less other transaction costs like bank and stamp charges 10CU. So, 200-10-10 = 180CU is the FVLCD value (recoverable amount). This is because IFRS principles does not prescribe guidelines on how to choose pre-tax WACC based VIU & FVLCD measurements. This also implies to not to use disposal of non current assets standard's measurement concept 'lower of carrying amount or FVLCD'.

 

Step 3:

This is the pivotal step in calculating impairment.

Carrying amount after allocation of building, motor cars and equipment

-           (-)Recoverable amount

= Any negative balance is impairment loss and vice-versa, positive balance indicates no impairment.

 

Step 4:

Once we’ve found out the impairment loss, allocate them to the corporate assets and CGU’s assets. Please remember that all impairment losses must be first subtracted from existing goodwill and then allocate the remaining balance to other assets in a CGU and corporate assets. If the impairment loss is non-allocable i.e. loss is more than what a CGU can allocate within its own assets (Usually impairment loss </= carrying amount), then like I’ve done, allocate to entity M’s assets if there is a hope that can be revived. When CA=Impairment, it indicates bankruptcy.

 

Step 5:

Calculate impairment loss for the whole entity and total impairment loss will be the same as in step 3

 

Conclusion: This model’s principles work pretty much the same for any type of impairment loss i.e. how it is allocated and reported in the final reports. There are numerous principles that I know of which is difficult to publish here as the above is sufficient for basic understanding of the standard. If you need anything specific, please leave a comment and I will get back to you with further clarifications.

Note: I have attached a FAT book which will aid in calculating cost of capital of debt and equity at par, discount and premium. Click here to here

Just for laughs: If you guys are nerds and collectors of FAT books, I have my FAT book here

 

Bye