Question

Question 5 [15 marks]

Impairment of assets

Gadgets Ltd has a division that represents a separate cash generating unit. At 30 June 2016, the carrying amounts of the assets of the division, valued pursuant to the cost model, are as follows:

Assets:	$
Cash	242,000
Plant and equipment	600,000
Less: accumulated depreciation	(200,000)
Land	800,000
Inventory	190,000
Accounts receivable	67,000
Patent	200,000
Goodwill	10,000
Carrying amount of cash generating unit	1,909,000

The receivables were regarded as collectable, and the inventory’s fair value less costs to sell was equal to its carrying amount. The patent has a fair value less costs to sell of $180,000, and the land has a fair value less costs to sell of $780,000.

The directors of Gadgets estimate that, at 30 June 2016, the fair value less costs to sell of the division amounts to $1,750,000, while the value in use of the division is $1,840,000.

As a result, management increased the depreciation of the plant and equipment from $40,000 p.a. to $45,000 for the year ended 30 June 2017.

By 30 June 2017, the recoverable amount of the cash generating unit was calculated to be $20,000 greater than the carrying amount of the assets of the unit.

Required:

Determine how Gadgets Ltd should account for the results of the impairment test at 30 June 2016 and 30 June 2017, and prepare any necessary journal entries. Show all workings and provide references to the relevant accounting standard to support your answer.

Marking Guide - Question 5	Max. marks awarded
Journal entries, calculations and workings for 2016	7.5
Journal entries, calculations and workings for 2017	7.5

Answer 1

The decrease in market value of the asset lesser than its book value causes the impairment. Assets impacted would be goodwill, long term assets, accounts receivable etc.

The impairment loss would be debited to the income statement.

Impairment may cause due to any of the following reasons:

1. Projected cash flows are less than the carrying value of the concerned asset.

2. Materially adverse changes that have changed the asset's value - legally, technologically, due to physical condition of the aset or any other reason

3. 50% or more changes of asset likely to be disposed off before the original estimated disposal date  

As per IAS 36, all the assets need to be tested for impairment and company needs to ensure that the costs are not less the recoverable cost of the asset i.e., fair market value less costs to sell the asset.

In the above illustration, the impact of the impairment of the generating unit was impacted through change in depreciation.

Accumulated depreciation till 30th June 2016 = $200,000

Existing annual depreciation = $40,000

Number of years depreciation being impacted = $200,000/ $40,000 = 5 years

Therefore depreciation to be impacted @45000 per year = $45000 * 5 = $225,000

Therefore additional entry for impairment loss of depreciation = $25,000

Loss attributable to Land is $ 20,000 and loss attributable to Patent is $20,000

Therfore total impairment identified in individual assets = $25,000 + $20,000 + $20,000 = $65,000

Total loss attributable to CGU = $1,909,000 - $1,750,000 = $159,000

Impairment identifiable in individual assets = $65000

Goodwill that can be written off = $10,000

Therefore, balance amount to be attributed proportionately to assets of CGU = $159,000 - $65,000 - $10,000 = $84000

Below is the amount attributable to individual assets and the journal entry there on: