Impairment Testing

Impairment Testing

By Admin March 6, 2017

What Do Business Leaders Need to Know About Impairment Testing?

What Is Impairment Testing?

Under US GAAP, code ASC 350 states that cash-generating reporting units that have indefinite-lived intangibles such as goodwill should be evaluated to determine whether the unit’s carrying amount exceeds its recoverable amount. Hereby, carrying amount refers to the balance sheet value of the unit after accumulated depreciation and impairment losses; the unit’s recoverable amount refers to the greater value of (a) the sum of the asset’s future cash flows or (b) the asset’s fair value less the assumed costs to sell the asset. Fair value is the price at which a buyer would be willing to purchase the asset. Impairment testing determines whether impairment to an asset has occurred and how this will affect the company’s financials.

Why Do I Need to Test for Impairment?

Impairment testing is required by the Generally Accepted Accounting Principles (GAAP). The purpose of impairment testing is to represent the value of an asset on a company’s financial statements fairly. Without impairment testing, the value of a company’s assets may be a misrepresentation of their fair value. Impairment testing is generally performed after a triggering event. Further, impairment testing is required annually for (1) intangible assets with an indefinite useful life, (2) intangible assets that are not yet in use, and (3) assets which have been allocated goodwill due to a previous acquisition. The ASC 350 requires that all assets are assessed at the end of a reporting period to determine whether possible impairment has occurred.

How do I know if impairment has occurred to my assets?

If an asset is performing worse than expected, impairment is possible. Other indicators of impairment include damage to assets, a decline in market value, or the inactive use of an asset. Another simple indicator of impairment may be a soft check of the asset to determine if its future cash flows measure up to its current book value. If the cash flows are less, impairment testing is recommended. In addition, indefinite lived intangibles must be tested for impairment annually.

What Are the Steps to an Impairment Test?

Impairment testing can be summarized in two steps: Step 1 and Step 2. Both steps should be performed by a third party, qualified appraiser. The purpose of Step 1 is to identify potential impairment by determining whether the unit’s fair value is less than its carrying amount. The result of Step 1 determines whether or not Step 2 is also required. If the fair value is less than the carrying value, step 2 must be performed–otherwise, step 2 is unnecessary and impairment is not present. In step 2, the value of the reporting unit is allocated to all measurable tangible and intangible assets, similar to the way a purchase price allocation is performed under ASC 805. This is a fairly complex process following specific standards of best practice for measurement of each intangible assets. After the identifiable intangible assets are valued, any remaining value is used as the measure of goodwill going forward, with the decline in goodwill being expensed as goodwill impairment.

Can Impairment Be Reversed in the Future?

For certain assets, if a mistake has been made with past impairment testing or a more current impairment test implies that a previous impairment loss should be reversed, the reversal will generally show up on the income statement. However, impairment under ASC 350 for indefinite lived intangibles such as goodwill are not reversed.

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