ACC204 Corporate Accounting and Reporting

Standard expected by Burger Queen management can mean that the franchise to a particular location can be taken away from the franchisee. Burger Queen management is responsible for the television advertising across the country as well as the marketing program, including the special deals that may be available at any particular time.Each restaurant is responsible for its own sales, cooking of food, training of staff, and general matters such as cleanliness of the store. However, all material used in the making of the burgers and other items sold are provided at a given cost from the central management, which can thereby control the quality and the price.

Required
Identify the CGU(s) in this scenario. Give reasons for your conclusions.

Rose Tyler is in the business of making rubber tubing that comes in all sorts of sizes and shapes. Rose has established three factories in the north, south and east parts of the city. Each factory has a large machine that can be adjusted to produce all the varieties of tubing that Rose sells. Each machine is capable of producing around 100 000 metres of tubing a week, depending on diameter and shape. Rose’s current sales amount to about 250 000 metres a week. Each factory is never worked to full capacity. However, sales are sufficiently high that Rose cannot afford to shut one of the factories.

In order to satisfy customer demand as quickly as possible, all orders are directed to Rose, who allocates the jobs to the various factories depending on the current workload of each factory. This also ensures that efficient runs of particular types of tubing can be done at the same time. Each factory is managed individually in terms of maintenance of the machines, the hiring of labour and the packaging and delivery of the finished product.

Required
Identify the CGU(s) in this scenario. Give reasons for your conclusions.

Earth Enterprises Ltd acquired a building in which to conduct its operations at a cost of $10 million.The building generates no cash flows on its own and is considered a part of the CGU, which is the firm as a whole. Since the building was acquired, the value of inner­city properties has declined owing to an overabundance of office space and the downturn in the economy. The company would receive only $8 million dollars if it decided to sell the building now. However, the company believes the building is serving its purpose and the profits are high, so there is no current intention of selling the building.

Required
Discuss whether the building should be written down to $8 million. Provide any journal entries necessary.

As per IAS 36 and AS 28, impairment of the assets is described as write down in the value of the assets of an entity based on the regular assessments. It should not be carried in the books at more than the recoverable value, i.e., higher of the fair value of the asset less cost of disposal  and value in use. The difference between net carrying value in the books and the recoverable value is called the impairment loss. The company needs to check on the impairment of the assets if the relevant conditions exist and thereby make necessary adjustments in the value of the asset in the financials.Goodwill and other intangible assets are being reviewed annually and separately for impairment through an impairment test as per the standard. In case the single asset is identifiable and is independent of other units in terms of generating the revenue for the company, it should be assessed individually for impairment else the smallest possible group or class of assets which is capable of generating the revenue independently known as the cash generating unit needs to be assessed for impairment.

It is not necessary the asset once impaired will be as it is and can never be appreciated based on the relevant factors but there can be the reversal of impairment loss recorded earlier based on the improved and positive business conditions and other factors. Therefore, it can also be reversed based on the existence of the relevant indicators. IAS 36 applies to land, building, plant and machinery, intangible assets, goodwill, investments in subsidiaries or other companies as well. However, it does not applies to inventories, deferred tax assets, financial assets, assets from construction contracts and assets which arise out of employee benefits, agricultural assets and non current assets held for sale purposes. (Buchanan, et al., 2017). 

Concepts on Impairment of CGU and its reversal

A company needs to do the periodic evalauation of the assets whether the same can be impaired given the circumstances of the case of else if it can be reversed if the impairment loss on a particular asset has already been recognised. In case the indicators for impairment do exist, the same needs to be identified and also the recoverable value of the assets. Indicators can be of two types: internal and external indicators. Internal indiactors includes specifically the factosr inside the company and on which the company exercises the control like physical damange to the asset or its obsolescence, or asset is kept idle and held for sale, or the esset is expected to give worst economic performance or the investment in subsidiary or the joint ventures is more than the investee’s actual assets. (Das, 2017) .

There can also be external factors or indicators which are not inside the control of the company but affects every company or industry as a whole like the value of the assets lying in the books is higher than  the market capitalization, or the market value has declined considerably, or there is a negative change in the taste, preferences or technology in the market or the market interest rates have increased. The list is just a few examples of the factors and not the exhaustive one. Together with the impairment assessment the company also needs to check on the depreciation method, the estimated useful life or even the residual value of the asset at the end of certain period.

The question now is how to reverse the impairment value of the asset? It is to be done in the same way as the impairment is done such that the above mentioned factors are on the positive side. Post that the recoverable value needs to be ascertained. In case the fair value less cost of disposal as well as the value in use is more than the carrying value the question of impairment subsumes as it iis  not required in this case. However, in case the opposite happens, the recoverable value has to be determined and carrying value needs to be written off or charged to profit and loss account for the differential amount. In case the fair value is not determinable, the value in use becomes the recoverable value and in case of the disposable assets, the recoverable value is the fair value less the cost of disposal. The determination of fair value has to be done in accordance with the IFRS 13 which is on Fair value measurement. The cost of disposal includes only the direct costs related to it.

The other factor being value in use is detrmined through a number of variables like the time value of money, the expected future cash flow generation ability of the asset, the time lag in between the receipt of the amount from the use of the asset, and many more including accounting for uncertainity, if any. (Fay & Negangard, 2017) Assets cash flow generation projections should always be made on the most recent or current data and not of the past years and in case the time period is more than 5 years, extrapolation can be used as per the IAS. The projection should be exclusive of any future expenditure which is expected to be incurred on the asset. The interest rate to be used in the calculation of the value in use should be pre tax rate such that it includes the effect of time value of money and the market conditions. It should be the rate which the investors would have asked for in return on investing in the company or any specific asset. Further, the discount rate used should be the one which would have borrowed from the market in order to buy a particular asset.

From all the above inputs, impairment loss to be reversed can be calculated and then credited to the profit and loss account of the entity. It would generally be done in case the recoverable value is more than the carrying value of the asset and we can utilise the asset and derive the future economic benefit from the asset which was already impaired earlier (Meroño-Cerdán, et al., 2017) Based on all this, the future depreciation amount also needs to be adjusted on the prospective basis.

When we talk about CGU or a cash generating unit, it is not the single asset but the smallest possible group of assets or a class of asset from which revenue for the business can be generated and which has an identity which is independent of the other group or class of assets. The calculation for impairment of goodwill is completely different as the goodwill of the entity is generally allocated to all the CGUs proporatioately and then each CGU is assessed separately for impairment. The amount is first decreaed to the extent of the goodwill and then the amount is decreased form the other assets. The carrying amount of the assets should be be reduced below zero. The amount of goodwill once impaired cannot be reversed in any circumstance whatsoever.

While reversal of impairement loss, which again needs to be done on periodical basis whenever the positive internal or external factors are available, is to be seen alongwith the impairment. (Mahapatra, et al., 2017) However, there are a few exceptions to be followed while accounting for reversal of impairment loss like goodwill impairment non reversal, the amount of reversal should not exceed the amount of impairment in any case, reversal of the the impairment loss is to be recognised in the profit and loss account unless it relates to the revalued asset, the amount of depreciation also needs to be adjusted for the future periods, etc.

In the books of Gali limited ended on 30^th June, 2015, the impairment assessment nees to be doen and it has identified the fine china division as one of it CGU. (Goldmann, 2016) The carrying amount is as follows:

 The value in use is calculated to be 248000 and fair value less cost of disposal of land is found to be 178735.

• In the given case since the total fair value of the asset less cost of disposal is not given, we will assume value in use ie., 248000 to be the recoverable value.
• Therefore, amount of impairment comes to (278000-248000) = 30000.
• Now this 30000 needs to be first allocated to goodwill which will be written down fully to 0, therefore remaining impairment loss to be apportioned is 30000-10000 = 20000.
• Inventory being a current asset does not qualifies for impairment under IAS 36.
• The other workings of apportionment is below:

 Since the fair value less cost of disposal is already given for land, the maximum amount which can be apportioned to land is 7265 and the remaining 72666 needs to be allocated across other assets of the CGU. (Boccia & Leonardi, 2016) 

• Therefore the final apportionment of the impairment loss comes out to be Goodwill: 10000, Land, 7265, Equipment 7823 and Building 4912.
• The journal entries for the above adjustments are mentioned below:

Impairment loss Dr 30000

Goodwill  Cr 10000

Accumulated depreciation and

impairment losses –Land  Cr  7265

Accumulated amortisation and

impairment losses –Equipment Cr  7823

Accumulated amortisation and

impairment losses –Building   Cr  4912

(Allocation of impairment loss) 

Conclusion 

Impairment is a very broad and judgementall topic which depends on the management estrimate and judgements and how the situation is perceived given the cicrcumstances. (kabir, et al., 2017) The valuation of the asset can vary from one value to another based on the assumptions being considered. It has been a matter of discussion to provide the supporting facts and figures on the impairment assessment and to disclose the transparency in the calculation. Also, how the selection of cash generating unit is being done is based on an assumption and needs to be justified and therefore the following disclosure become necessary in the financial statements:

1. The basis of impairment, the loss recognised and reversed in P&L account
2. Impairment loss being recognised or reversed on the revalued assets in OCI.
3. The amount of reversal
4. The internal and external factors leading to it
5. The cash gereating unit and the classes of asset in it.
6. Other critical circumstances and events. 

References

Boccia, F. & Leonardi, R., 2016. The Challenge of the Digital Economy. Markets, Taxation and Appropriate Economic Models, pp. 1-16.

Buchanan, B., Cao, C., Liljeblom, E. & Weihrich, S., 2017. Taxation and Dividend Policy: The Muting Effect of Agency Issues and Shareholder Conflicts. Journal of Corporate Finance, Volume 42, pp. 179-197.

Das, P., 2017. Financing Pattern and Utilization of Fixed Assets - A Study. Asian Journal of Social Science Studies, 2(2), pp. 10-17.

Fay, R. & Negangard, E., 2017. Manual journal entry testing : Data analytics and the risk of fraud. Journal of Accounting Education, Volume 38, pp. 37-49.

Goldmann, K., 2016. Financial Liquidity and Profitability Management in Practice of Polish Business. Financial Environment and Business Development, Volume 4, pp. 103-112.

kabir, H., Rahman, A. & Su, L., 2017. The Association between Goodwill Impairment Loss and Goodwill Impairment Test-Related Disclosures in Australia. 8th Conference on Financial Markets and Corporate Governance (FMCG) 2017, pp. 1-32.

Mahapatra, S., Levental, S. & Narasimhan, R., 2017. Market price uncertainty, risk aversion and procurement: Combining contracts and open market sourcing alternatives. International Journal of Production Economics, pp. 34-51.

Meroño-Cerdán, A., Lopez-Nicolas, C. & Molina-Castillo, F., 2017. Risk aversion, innovation and performance in family firms. Economics of Innovation and new technology, pp. 1-15.