Impairment Losses in Canadian Accounting: Recognition and Measurement

13.5 Impairment Losses

Impairment losses are a critical aspect of financial reporting in Canadian accounting, reflecting the decline in the recoverable amount of an asset below its carrying amount. Recognizing and measuring impairment losses is essential for providing a true and fair view of an entity’s financial position. This section delves into the principles, standards, and methodologies associated with impairment losses, focusing on the application of International Financial Reporting Standards (IFRS) and Canadian Accounting Standards for Private Enterprises (ASPE).

Understanding Impairment Losses

Impairment occurs when the carrying amount of an asset exceeds its recoverable amount. This can happen due to various factors, such as changes in market conditions, technological obsolescence, or legal restrictions. The impairment loss is the amount by which the carrying amount exceeds the recoverable amount.

Key Concepts

• Carrying Amount: The amount at which an asset is recognized in the balance sheet after deducting accumulated depreciation and accumulated impairment losses.
• Recoverable Amount: The higher of an asset’s fair value less costs of disposal and its value in use.
• Fair Value Less Costs of Disposal: The price that would be received to sell an asset in an orderly transaction between market participants at the measurement date, minus the costs of disposal.
• Value in Use: The present value of the future cash flows expected to be derived from an asset or cash-generating unit (CGU).

Impairment Testing under IFRS

Under IFRS, impairment testing is governed by IAS 36 “Impairment of Assets.” The standard requires entities to assess at each reporting date whether there is any indication that an asset may be impaired. If such an indication exists, the entity must estimate the recoverable amount of the asset.

Indicators of Impairment

IAS 36 outlines several external and internal indicators of impairment, including:

• External Indicators:

  • Significant decline in market value.
  • Adverse changes in the technological, market, economic, or legal environment.
  • Increase in market interest rates affecting the discount rate used in calculating value in use.

• Internal Indicators:

  • Evidence of obsolescence or physical damage.
  • Significant changes in the manner or extent of use of the asset.
  • Evidence from internal reporting indicating economic performance of an asset is worse than expected.

Impairment Testing Process

1. Identify the Asset or CGU: Determine whether the impairment test should be conducted at the individual asset level or for a group of assets forming a CGU.
2. Estimate the Recoverable Amount: Calculate the recoverable amount as the higher of fair value less costs of disposal and value in use.
3. Compare Carrying Amount with Recoverable Amount: If the carrying amount exceeds the recoverable amount, recognize an impairment loss.
4. Recognize and Measure the Loss: Impairment losses are recognized in profit or loss unless the asset is carried at revalued amount under another IFRS standard.

Example of Impairment Testing

Consider a manufacturing company that owns machinery with a carrying amount of $500,000. Due to technological advancements, the market value of similar machinery has declined significantly. The company estimates the fair value less costs of disposal to be $350,000 and the value in use to be $400,000. The recoverable amount is $400,000, which is the higher of the two. Since the carrying amount exceeds the recoverable amount, an impairment loss of $100,000 ($500,000 - $400,000) is recognized.

Impairment Losses under ASPE

For private enterprises in Canada, ASPE Section 3063 “Impairment of Long-lived Assets” provides the framework for impairment testing. The approach under ASPE is similar to IFRS but with some differences in application and disclosure requirements.

Recognition and Measurement

Under ASPE, an impairment loss is recognized when the carrying amount of a long-lived asset is not recoverable and exceeds its fair value. The recoverability test involves comparing the carrying amount with the undiscounted future cash flows expected from the asset’s use and eventual disposal.

Example of ASPE Impairment

A small business owns a piece of equipment with a carrying amount of $150,000. Due to a decline in demand, the expected undiscounted future cash flows are $120,000. Since the carrying amount exceeds the undiscounted cash flows, the asset is considered impaired. The fair value of the equipment is determined to be $100,000, resulting in an impairment loss of $50,000 ($150,000 - $100,000).

Differences between IFRS and ASPE

While both IFRS and ASPE aim to ensure that assets are not carried at amounts exceeding their recoverable amounts, there are notable differences:

• Recoverability Test: IFRS requires a comparison of carrying amount with recoverable amount, while ASPE uses undiscounted cash flows for the recoverability test.
• Reversal of Impairment Losses: Under IFRS, impairment losses can be reversed if there is an indication that the impairment loss may no longer exist. ASPE does not allow reversal of impairment losses.
• Disclosure Requirements: IFRS generally requires more extensive disclosures compared to ASPE.

Practical Considerations and Challenges

• Estimating Future Cash Flows: The accuracy of impairment testing heavily relies on the estimation of future cash flows, which can be subjective and influenced by management’s assumptions.
• Determining Discount Rates: Selecting an appropriate discount rate is crucial for calculating value in use, as it affects the present value of future cash flows.
• Market Volatility: Changes in market conditions can lead to frequent impairment testing and adjustments, impacting financial statements.

Best Practices for Impairment Testing

• Regular Monitoring: Continuously monitor internal and external factors that could indicate impairment.
• Robust Documentation: Maintain detailed documentation of assumptions, calculations, and judgments made during impairment testing.
• Independent Review: Consider involving independent experts or auditors to review impairment calculations and assumptions.

Regulatory and Compliance Considerations

• CPA Canada Guidelines: Ensure compliance with CPA Canada guidelines and standards related to impairment testing and financial reporting.
• Audit and Assurance: Be prepared for audit scrutiny by maintaining transparent and well-documented impairment testing processes.

Conclusion

Understanding and applying the principles of impairment losses is essential for accurate financial reporting and compliance with Canadian accounting standards. By recognizing and measuring impairment losses effectively, entities can ensure that their financial statements reflect a true and fair view of their financial position.

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