Accounting Alert

This Accounting Alert is issued to provide an overview of Philippine Accounting Standards (PAS) 36, Impairment of Assets, to assist preparers of financial statements and those charged with the governance of reporting entities understand the requirements set out in PAS 36 and revisit some areas where confusion has been seen in practice.

Overview

The recoverable amount of an asset or a cash generating unit (CGU) is the higher of its fair value lest costs of disposal (FVLCOD) and its value in use (VIU). 

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date while costs of disposal are incremental costs directly attributable to the disposal of an asset or CGU, excluding finance costs and income tax expense. VIU is the present value of the future cash flows expected to be derived from an asset or CGU.

Fair value less costs of disposal

FVLCOD assumes the carrying amount will be recovered principally through a sale transaction, rather than through continuing use.

Fair Value

The FVLCOD component of recoverable amount applies whether or not management currently intends to sell the asset. PAS 36 previously included its own hierarchy of guidance to determine fair value, which was superseded in 2013 by the guidance in PFRS 13 ‘Fair Value Measurement’. PFRS 13 explains how to measure fair value by providing a clear definition and introducing a single set of requirements for almost all fair value measurements. It clarifies how to measure fair value when there is no active market or when an active market becomes less active. PFRS 13 applies to both financial and non-financial items but does not address or change the requirements on when fair value should be used.

Cost of disposal

Costs of disposal are incremental costs directly attributable to the disposal of an asset or CGU, excluding finance costs and income tax expense (and any other costs that have already been recognized as liabilities in the statement of financial position).  Potential examples of costs of disposal that should be deducted to derive the FVLCOD include:

• legal costs,
• stamp duty and similar transaction taxes,
• cost of removing the asset, and,
• direct incremental costs to bring an asset into condition for its sale. 

Value in use

VIU in effect assumes the asset will be recovered principally through its continuing use and ultimate disposal. VIU therefore differs from fair value because fair value reflects the assumptions market participants would use when pricing the asset.

Due to the ‘entity-specific’ nature of the VIU calculation, valuers almost always calculate it using the income approach.  However, for CGUs with few entity-specific cash flows, or which are operated in a manner consistent with the way in which a market participant would operate the CGU, a market approach may be appropriate.

See attached Accounting Alert for further details and illustrative examples.