Tuesday, December 10, 2019

Impairment of Assets Longreach Limited

Question: Discuss about the Impairment of Assets for Longreach Limited. Answer: Impairment of assets is discussed in AASB 136. It states about a condition when an assets value diminishes to an extent that it is lesser than its carrying value. The standard details about the accounting entries when impairment of an asset takes place along with the conditions for impairment to happen. The Australian Accounting Standard on impairment is similar to the International Accounting Standard 36. The economic financial crisis of 2008 has made this standard important in the eyes of all the investors and the shareholders. Therefore Longreach Limited should also ensure to check its assets for impairment and if so do the necessary accounting entries. Indications of impairment is the first thing to check before impairment of an asset is done. But it is very crucial to understand that all the items present in the asset side of the balance sheet does not get impaired. Current assets like inventories, contracts for construction of an asset, deferred tax assets, employee retirement benefits, investments in properties held for sale, agricultural assets disclosed at fair value, contracts for insurance and the other non-current assets held for sale are not subject to impairment as they are dealt in other accounting standards (aasb.gov.au., (2007). The reasons for impairment can be internal as well as external. Assets may become out dated due to technological changes or there may be certain assets which have recently become saleable in nature are internal factors whereas factors such as political and economic instability, increase in the market rate of interest wherein it has a negative implication on the asset or such cash generating unit are considered to be factors external to the company. Once an asset passes the test for impairment then the amount that can be realised and the amount at which the asset is presently being carried is compared and if the recoverable amount is less than the carrying amount then the difference of the two is marked as impairment loss and accounted for in the income statement as an impairment loss in the expense side. The said amount is further deducted from the assets present carrying amount (Dagwell et.al.2012). However it is not necessary that once an asset impaired cannot be reversed. There may be indications wherein the carrying amount of the asset is less than its actual recoverable amount. In such a case, the impairment amount should be reversed. But there is a capping to the reversal. It can be reversed to the extent the carrying amount of the asset would have been had such an impairment not happened. Thus some of the major terms that Longreach Limited should know are as under: Recoverable amount: The fair value less cost of selling of the asset or the value-in-use whichever is greater is termed as the recoverable amount of the asset. Carrying Amount: The amount recorded in the balance sheet before impairment is said to be carrying amount. Cash Generating Unit: A group of assets which have the capacity of generating income for the company independently is construed as a cash generating unit. Value-in-use: The NPV of the cash flows that an asset can produce in future is known as the value-in-use (Albrecht et.al. 2011). But it is very important for the Longreach Limited to understand that impairment of goodwill is not same. Impairment of goodwill happens fully specially when an impairment of a CGU happens then the goodwill is impaired first and then the rest of the assets are impaired proportionately. But once a goodwill has been impaired then it cannot be reversed. Resaon behind the same is that AASB 138 does not realise the goodwill that is generated internal to the organization and hence not accounted for (Bond et.al. 2016). Thus if there is an increase in the goodwill after impairment it is said that the internally generated goodwill has increased hence not is not recorded. AASB 136 states that on impairment of an asset certain disclosures are required. They are as under: For each class of asset impaired, the amount of impairment loss recorded in the profit and loss accounted as well as in the line items of the comprehensive income. The amount of impairment loss reversed if any accounted for in the income statement as well as the line items of the comprehensive income. In case of segmental reporting, the impairment loss that is recorded in the income statement and in the equity. Any reversal of the said impairment accounted in the income statement and the equity. In case impairment of goodwill or a material CGU which has goodwill also impaired then the reason behind such an impairment, amount of impairment , if any reversal has happened then the amount of such reversal and in case the impairment or reversal of a CGU has happened then the amount of the same and how it has been allocate amongst the various assets which are a part of the CGU (Hamilton et.al. 2011). Therefore my recommendation to Longreach Limited would be to immediately apply the said standard in the preparation of the financials so that the balance sheet is not overstated or understated. The Company should ensure to value its goodwill carefully and also to check for the indications of impairment so that the true value of the assets are revealed to the investors of the Company. Disclosure requirements should be adhered to so that it is easy for the investors to interpret the various causes of impairment and the calculations thereof. Thus on a concluding note it is understood that impairment reveals the true realisable value of an asset in case of liquidation and also helps to determine whether all the liabilities can be met with the help of the existing assets successfully and sufficiently. As per AASB 136 on impairment of assets, inventory is not subject to impairment as the same is dealt with in AASB 102. The other assets such as goodwill, land and building, factory and plant and machinery will be impaired. Further the brand Crossbow will not be impaired as the companys brand value has not diminished thus it does not show any indication of impairment of the same. Land will be impaired separately as its realisable value is known separately and the balance amount, the goodwill will be impaired first to its full value and th balance after that will be allocated to the rest assets proportionately. Since the value of land is known separately therefore the same is to be impaired first. The impairment loss for land is $200000- $ 171000= $29000. The journal entry is as under: Profit and Loss Account (loss on impairment) Dr...............$29000 To accumulated impairment loss (Land)...............................................$29000 The total impairment is $1680000- $1420000 = $260000. Out of the same the impairment of land will be deducted i.e. $260000-$29000 =$231000. From the same goodwill will be impaired in totality and the balance of $231000-$40000= $191000 will be allocated to factory and machinery to in the proportion of 7:4. Therefore the impairment allocated to factory will be 7/11*191000= $121545 and that to machinery will be 4/11*191000 =$69455 The journal entry will be as under: Profit and Loss Account (loss on impairment) Dr.................$231000 To goodwill A/c.....................................................................................$40000 To accumulated impairment loss (Shoe Factory)A/c...........................$121545 To accumulated impairment loss (machinery) A/c................................$69455 References: aasb.gov.au., (2007), AASB 136- Impairment of Assets, Available at https://www.aasb.gov.au/admin/file/content105/c9/AASB136_07-04_COMPapr07_07-07.pdf (Accessed 19th January 2017) Albrecht, S., Stice, E., Stice, J., Swain, M. (2011).Accounting: Concepts and applications(11th ed.). Mason: South-Western Bond, D., Govendir, B., Wells, P., (2016), An evaluation of asset impairment by Australian Firms and whether they were impacted by AASB 136, Available at https://onlinelibrary.wiley.com/doi/10.1111/acfi.12194/full (Accessed 19th January 2017) Dagwell, R., Wines, G., Lambert, C., (2012), Corporate Accounting in Australia, Pearson: Australia Hamilton, K., Hyland, B., Dodd, J.L., (2011), Impairment : IASB-FASB Comparison, Drake Management Review, vol.1, no. 1, pp. 55-67