Accounting Standards Codification (ASC) 360-10, also known as the Financial Accounting Standards Board (FASB) Accounting Standards Codification Topic 360-10, provides guidance on impairment testing of long-lived assets. These assets, such as property, plant, and equipment, are critical components of a company’s financial health. Adhering to ASC 360-10 ensures that companies accurately assess and report any impairment of these assets. In this article, we present a comprehensive guide to help organizations understand and comply with ASC 360-10 requirements for impairment testing.
Indicators of Impairment
According to ASC 360-10, indicators of impairment should be evaluated to determine if a long-lived asset or asset group’s carrying amount may not be recoverable. These indicators can arise from various events or changes in circumstances. Examples of indicators include:
- A significant decrease in market price
- Adverse changes in usage or physical condition
- Adverse legal factors or business climate
- Excessive cost accumulation
- Current or projected operating/cash flow losses
- Expectation of early disposal
Impairment analysis is only required when an indicator is present, and entities are responsible for regularly assessing the presence of indicators.
Testing for Recoverability
When indicators of impairment are present, the next step is to assess the recoverability of the carrying amount of the long-lived asset or asset group. This involves comparing the total undiscounted future cash flows associated with the asset or asset group to its carrying amount. If the total undiscounted future cash flows are greater than the carrying amount, the asset or asset group is considered recoverable. However, if the carrying amount exceeds the total undiscounted future cash flows, an impairment loss can be recognized.
The carrying amount of an asset group is determined by aggregating the carrying amounts of individual assets within the group. Goodwill is included in the asset group only if the group is directly associated with the reporting unit containing goodwill.
The total undiscounted cash flows should include future cash flows directly related to the use and eventual disposal of the asset or asset group. These cash flow estimates should be made for the remaining useful life of the primary asset within the group. The estimates should align with the entity’s internal assumptions about how the asset or asset group will be utilized in the future. These assumptions should be reasonable and consistent with past practices.
In cases where alternative methods of recovering the carrying amount are being considered or a range of possible future cash flows is estimated based on likely courses of action, the likelihood of those outcomes should be taken into account. A probability-weighted approach can be used to assess the likelihood of different outcomes.
By conducting a thorough assessment of the recoverability of the carrying amount based on future cash flow estimates, entities can determine whether an impairment loss needs to be recognized for the long-lived asset or asset group.
Measuring Impairment Losses
If the carrying amount of a long-lived asset or asset group is determined to be unrecoverable, the next step is to estimate the impairment loss. This requires determining the fair value of the asset group, which is guided by the principles outlined in FASB ASC Topic 820, Fair Value Measurement (ASC 820).
Fair value, as defined in ASC 820, represents 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. When uncertainties exist in the timing and amount of cash flows for long-lived assets or asset groups, an expected present value technique is often used to estimate fair value.
ASC 820 requires that fair value measurement be based on assumptions that market participants would use when pricing the asset or liability. The impairment testing process for long-lived assets relies on key concepts referenced in ASC 820, including unit of account, exit price, valuation premise, highest and best use, principal market, market participant assumptions, and the fair value hierarchy. These concepts form the foundation for the fair value measurement approach.
Once the fair value of the asset group is determined, it is compared to the carrying amount of the asset group to calculate the impairment loss. The excess of the carrying amount over the fair value represents the impairment loss that needs to be recognized. After the impairment loss is recognized, the adjusted carrying value becomes the new cost basis of the long-lived asset or asset group and should be depreciated over its remaining useful life.
How to Allocate Impairment Losses to an Asset Group?
When an impairment loss is determined for a long-lived asset or asset group, the allocation of that loss is guided by ASC 360-10-35-28. In such cases, the impairment loss is allocated to the carrying amounts of the long-lived assets within the group. The allocation is done on a pro-rata basis, taking into account the relative carrying amounts of each asset.
However, the allocation of the impairment loss should not reduce the carrying amount of an individual long-lived asset below its Fair Value. This applies when the Fair Value of the asset can be determined without incurring undue cost and effort. In such instances, the impairment loss allocated to that specific asset should not bring its carrying amount below its Fair Value.
By adhering to these guidelines, organizations ensure that the impairment loss is appropriately distributed among the long-lived assets of the group while also considering the Fair Value of individual assets. This approach promotes accurate financial reporting and reflects a fair assessment of the impact of impairment on each asset within the group
Adjusted Carrying Amounts Becomes the New Cost Basis for Unrecoverable Assets
According to ASC 360-10-35-20, when an impairment loss is identified and recognized, the adjusted carrying amount of a long-lived asset undergoes a significant change. It becomes the new cost basis of the asset. This adjustment reflects the revised value of the asset based on the impairment loss.
In cases where the long-lived asset is depreciable or subject to amortization, the new cost basis resulting from the impairment loss is used as the basis for calculating future depreciation or amortization expenses. These expenses are allocated over the remaining useful life of the asset. By spreading the cost basis over its remaining useful life, the impact of the impairment loss is appropriately recognized over time.
It’s important to note that the recognition of an impairment loss is considered a permanent reduction in the value of the asset. Consequently, any restoration of a previously recognized impairment loss is strictly prohibited. This ensures consistency and transparency in financial reporting, as the impairment loss is not reversible or subject to future adjustments.
Where to start if you think ASC 360 Impairment Advisory can help
ASC 360-10 offers guidelines on how to address the accounting treatment for property, plant, and equipment. More specifically, this outlines impairment testing for long-lived assets.
If your organization is struggling to navigate the complexities of ASC 360-10, CPCON is the perfect partner. Our team of experts has extensive experience in asset impairment testing – tangible and intangible assets – and can guide you through the process to maximize value for your organization.
Contact us today to learn more.
Frequently asked questions (FAQs):
How are the total undiscounted future cash flows used in the recoverability test?
The total undiscounted future cash flows play a crucial role in the recoverability test of a long-lived asset or asset group. They are used to assess whether the carrying amount of the asset can be recovered through its future cash-generating ability.
In the recoverability test, the total undiscounted future cash flows are compared to the carrying amount of the asset or asset group. If the total undiscounted future cash flows are greater than the carrying amount, it indicates that the asset is expected to generate sufficient cash flows to recover its carrying value, and therefore, it is considered recoverable.
The total undiscounted future cash flows include all expected cash inflows directly associated with the use and eventual disposal of the asset or asset group. These cash flows should be estimated for the remaining useful life of the primary asset within the group. It is important to incorporate the entity’s internal assumptions regarding the future use of the asset and be reasonable in relation to past assumptions.
It’s worth noting that if alternative methods of recovering the carrying amount are being considered or if a range of possible future cash flows is estimated, the likelihood of those outcomes should be taken into account. A probability-weighted approach is often employed to estimate the likelihood of different cash flow scenarios.
What factors should be considered when estimating future cash flows?
When estimating future cash flows for impairment testing, it is important to consider several factors that contribute to making reliable projections. These factors play a crucial role in assessing the expected inflows and outflows associated with the long-lived asset or asset group. Here are some key factors that should be taken into consideration:
Market conditions: An assessment of current and anticipated future market conditions is necessary to gauge their impact on the asset’s cash flows. Factors such as industry trends, competition, market demand, and pricing dynamics should be carefully evaluated.
Economic factors: The overall economic environment, including elements like GDP growth, inflation rates, interest rates, and currency fluctuations, can significantly influence the future cash flows of the asset. It is important to consider these economic factors when estimating cash flow projections.
Technological advancements: Evaluating the potential impact of technological advancements and industry changes is crucial. This involves assessing the risk of obsolescence and the need for future upgrades or enhancements that may affect the asset’s cash flows.
Legal and regulatory factors: Changes in laws and regulations can have a substantial impact on the cash flows of an asset. Consideration should be given to new regulations, compliance requirements, or any potential legal disputes that could influence the asset’s value.
Internal factors: Internal factors specific to the organization, such as strategic plans, operational efficiencies, cost management initiatives, and changes in production or distribution methods, should be taken into account. These internal factors can have a direct impact on the asset’s cash flows.
Historical performance: Analyzing the historical performance of the asset is important. This includes examining past cash flows, revenue trends, and profitability. However, it is essential to exercise caution and avoid relying solely on historical data, as future circumstances may differ.
Market research and expert opinions: Seeking market research data, industry reports, and expert opinions can provide valuable insights into future market conditions, customer behavior, and emerging trends that may impact the asset’s cash flows. These sources can help in making more informed projections.
Sensitivity analysis: Performing sensitivity analysis allows for an understanding of the potential impact of varying assumptions and scenarios on future cash flows. This analysis helps assess the range of possible outcomes and their likelihood, providing a more comprehensive assessment of the asset’s cash flow projections.
Considering these factors and conducting a thorough analysis will contribute to more accurate estimates of future cash flows for impairment testing. It is essential to exercise professional judgment and utilize all available information to ensure reliable and objective projections.
How do I determine the fair value of an asset group?
Determining the fair value of an asset group requires a systematic approach that takes into account various valuation techniques and factors. The following steps are involved in determining the fair value of an asset group:
Identify the valuation approach: Select an appropriate valuation approach based on the characteristics of the asset group and the availability of relevant market data. Common approaches include the market approach, income approach, and cost approach.
Market approach: If market data is available, consider using the market approach. This approach involves comparing the asset group to similar assets that have recently been sold in the market. By relying on market transactions and pricing multiples, this approach helps estimate the fair value.
Income approach: The income approach estimates the fair value based on the present value of expected future cash flows generated by the asset group. This requires projecting future cash flows and applying a discount rate that accounts for the time value of money and risk factors. The discounted cash flow (DCF) analysis is commonly used under the income approach.
Cost approach: When market or income data is limited or not applicable, the cost approach can be used. This approach considers the replacement cost of the assets in the group, adjusted for depreciation and obsolescence.
Consider market participant assumptions: It is important to consider the assumptions that market participants would use when pricing the asset group. These assumptions may include market growth rates, discount rates, expected returns, and other factors relevant to the specific industry and market conditions.
Engage qualified professionals: In complex situations or when there is a lack of internal expertise, it may be beneficial to engage qualified valuation professionals who specialize in determining the fair value of assets and asset groups. Their expertise can provide an independent and objective assessment.
Document the valuation process: Maintain detailed documentation of the valuation process, including the methods, assumptions, data sources, and rationale used to determine the fair value. This documentation is crucial for audit and regulatory purposes.