Contemporary Issues in Accounting - Assignment Example

CONTEMPORARY ISSUES IN ACCOUNTING [Enter the date of submission] prepared by [Enter your name] Executive Summary Impairment testing is to be conducted annually with between the periods testing if there occurs an event which may lower the fair value of an asset below its carrying amount. There has been amendments done to the process of impairment testing but it does not change how impairment loss is arrived at. There are relevant events and circumstances which guide an organization to perform between annual impairment tests and there should be a more likely than not determination with a likelihood of 50% that these events and circumstances will lead to the fair value of an asset to be less than the carrying amount. If a reporting unit has a zero carrying amount, relevant events and circumstances should be used to consider if the second step of impairment testing is necessary and in such cases of zero or negative carrying amounts, an entity doesn’t perform the first step of determining if the fair value is less than the carrying amount but still goes ahead to determine if there is a likelihood for an impairment. Contents Introduction An impaired asset is one which shows impairment evidence due to events which occurred after the initial recognition of the asset and the event of the loss event has an effects on the estimated future cash flows of that asset that can be estimated reliably (AASB 136, 2007). The carrying amounts of an organization’s assets apart from inventories are normally reviewed at each reporting date so as to determine if any impairment has occurred. If any such indication is arrived at, then the asset’s recoverable amount is estimated (AASB 136, 2007). For intangible assets which have indefinite lives or that are not yet available for use, their recoverable amount is estimated at each reporting date. Question 1a (max 400 words) a. Determine how do the three companies account for any impairment of the assets and justify your decision should there be some different treatments (15 marks).  Billabong International Limited: For the impairment of assets in the company, the values for cash generating units is written down to their recoverable amounts if their fair value is less than the cost to sell. However, when the Group’s share of losses in an associate is equal to or exceeds its interest in the associate, the Group does not recognize further losses (Billabong international, 2013) Diabetes Australia Limited: This Company assesses impairment at each reporting date by reviewing the carrying amounts of the reporting units. According to the group, an asset is impaired if there is objective evidence of impairment due to occurrences of events since the initial recognition of the asset and the loss event is expected to have an effect to future cash flows (Diabetes Australia, 2013). An impairment provision is recognized when there is evidence that the entity will not be able to collect the receivable. Intangible assets with finite lives are amortized over their useful life and tested for impairment whenever there is an indication that the intangible asset may be impaired. Receivables which are past due are assessed for impairment by determining solvency of the debtors and they are provided for where there are specific circumstances indicating that the debt may not be fully repaid to the Group (Diabetes Australia, 2013). Tennis Australia Limited: The Company determines an impairment loss in respect of an asset by amortization of cost and is calculated as the difference between its carrying amount, and the present value of the estimated future cash flows discounted at the original effective interest rate. Individual assets are tested for impairment individually (Tennis Australia Limited, 2013). The income statement is used to recognize all impairment losses. Impairment losses recognized are allocated first to reduce the carrying amount of any goodwill allocated to the units and then to reduce the carrying amount of the other assets in the unit on a pro rata basis. Any prior period Impairment losses are assessed at each reporting date for any indications for any decreases or non existence. The company reverses an impairment loss to the extent that the asset’s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation (Tennis Australia Limited, 2013). The three companies have followed the provided standards and in my opinion they have not deviated from the requirements of accounting for impaired assets as the three recognize any impaired losses to the income statement. Question 1b (max 400 words) b. In setting up its system to apply AASB 136 – Impairment of assets, management of an Australian Manufacturing Company wants to know how often does the company need to apply an impairment test on its assets, and what information it needs to generate to determine whether a test is needed or not? (10 marks)?  The objective of AASB is to ensure that assets are carried with their recoverable mount. An asset is carried more than its recoverable amount when is carrying amount exceeds the fair value of it. Hence fewer proceeds would be recovered if the asset is sold. In such a scenario, the asset is termed as impaired and an impaired loss should be recognized in the entity’s books of accounts as an impaired loss (AASB 136, 2007). A carrying amount is the amount arrived at after deducting the accumulated depreciation of an asset as well as the accumulated impaired loss thereon. In determining if an asset is impaired, an entity should consider any external information such as declining of the market value of an asset as a result as time passage or the usage of the asset. Also, if there are significant changes which may have occurred within the accounting period or changes expected to occur in the near future. Such anticipated changes may arise from technological, legal, market or economical environment in which the asset is operating in (Feldman, 2004). Another external aspect that should be used an indication that an asset may be impaired is the interest rates in the market or market rates for return on investments which may have increased and are likely to affect the discount rates used in calculating the assets value (AASB 136, 2007) . There are also internal sources which may give an indication of asset impairment. This includes an evidence of physical damage to the asset or any indication of assets obsolescence. Also, there may be indication of an asset being idle or any plans to restructure the operations or discontinue the use of the asset (AASB 136, 2007). There may also be plans to dispose the asset earlier than the expected time as well as reassessment of the useful life of an asset as finite rather than indefinite. Finally if there are projections tha the economic performance of the asset will deteriorate than the expectations, then this asset may be impaired. Internal evidence which may indicate if an asset is impaired is if the cash needs of the asset or the cash flows for acquiring the asset have become higher than the original budget. Also if the budgeted net cash flow or the operating profit are less than the actual amounts and also if the there are operating losses if the current periods are compared to the budgeted amounts for the future (AASB 136, 2007). Question 1c (max 400 words) c. You are asked to prepare a report outlining and explaining the following:  - the purpose of impairment test (5 marks);  Impairment testing is a requirement of the accounting framework and Standards. The International Accounting Standards Board guides on how to conduct an impairment test. The objective of impairment testing is to bring the carrying value of a business in line with its recoverable value. The recoverable amount is the higher of the fair value less cost to sell and the book value. Significant judgment is required while conducting impairment testing (AASB 136, 2007). In conformance with the professional standards set by the International Federation of Accountants, teams conducting impairment testing are advised to involve accredited Valuation specialist upon need for performing impairment tests in line with the requirements of IAS 36. According to IFRS, impairment testing is required on every reporting date if an indication for impairment exists. Also, it is required for intangible assets with an indefinite useful life and intangible assets not yet available for use as well as to assets where goodwill acquired in a business combination has been allocated (AASB 136, 2007). - how the existence of goodwill will affect the impairment test (5 marks)?  Goodwill is grouped together with other assets for impairment testing. However, the grouping of assets may in return affect the impairment analysis. Goodwill is included in the cash generating units which are the lowest level of assets in an organization. Goodwill is not supposed to be more than the operating segment (AASB 136, 2007). It is a requirement that impairment testing for goodwill be conducted between annual tests if there is an event which would reduce the fair value below the carrying amount. Therefore, in practice, there exists no difference in impairment testing for other assets grouped as cash generating units and goodwill impairment testing. Goodwill impairment loss is achieved if the carrying amount exceeds the fair value. The implied fair value of goodwill is arrived at while assigning fair value of the reporting unit for its assets and liabilities including unrecognized intangible assets (AASB 136, 2007) - the basic steps to be followed in applying the impairment test (5 marks)?  In impairment testing, an entity should identify the reporting unit. A reporting unit is a segment of the business that is autonomous enough to provide useful financial information. Also, the entity should estimate the fair market value of the reporting unit (AASB 136, 2007). This estimate may be prepared using historical data and recent comparable transactions in the market. Further, a comparison of the market value and the carrying amount of the unit should be identified. The carrying value of the unit in this case is its purchase price. If the market value is higher than the carrying value, then a conclusion can be made as to no need for impairment is necessary. However, if the market value is lower than the carrying value, then the next step of the impairment test is determining the cause of this difference and finally recording a journal entry to recognize the impairment loss identified (AASB 136, 2007). Question 2 (max 400 words) The route authority of an airline industry might be renewed every five years and the acquiring entity intends to comply with the applicable rules and regulations surrounding the renewal of the route. Route authority renewals are routinely granted at minimal costs and historically have been granted when the airline companies have complied with the applicable rules and regulations. Due to the fact that acquiring entity's ability to continue providing air service indefinitely between the two cities, the intangible assets related to the route authority is treated as having an indefinite useful life and is subject to impairment test. Please indicate whether the statement is correct or incorrect, and justify your answer (20 marks)? The assets which are indefinitely lived are the non monetary assets and they are not amortized as they have no limit to the future cash flows. Examples of indefinitely lived intangible assets include; goodwill, licenses, trademarks as well as rights. There are revised standards on how indefinitely lived intangible assets should be tested for impairment. Therefore the amendment allows organizations to skip the qualitative impairment test performance on other intangible assets apart from goodwill. In the old testing requirements, it was a requirement that an intangible asset would be tested for impairment annually (AASB 136, 2007). This involved the comparison of the asset’s carrying amount and its fair value. If the carrying amount exceeded the fair value, then an impairment loss would be recognized and the asset would be adjusted to the new carrying amount. Under the new testing requirements, an organization has been allowed to do a qualitative evaluation to find out if it will need to do the annual quantitative test for impairment (AASB 136, 2007). However, if an organization opts for the new option, it needs to assess if the relevant “events and circumstances” have an effect on the inputs used to determine the fair value of an asset an if the intangible asset is more likely to be impaired. The relevant events and circumstances include: Firstly, macroeconomic conditions like foreign exchange fluctuations as well as lack of access to capital. Secondly, market and industrial considerations like increased competition, market changes for organization’s products or any political or regulatory changes (AASB 136, 2007). Thirdly, costly factors such as rise in labor cost or any items which affect the cash flow of an organization. Finally, there is the decline of a company’s financial performance and it is significant if the decline is more than the actual and projected earnings as compared to previous periods (AASB 136, 2007). The change of a company’s management, key employees, customers or even the strategy may affect the value of an intangible asset (AASB 136, 2007). Therefore if an organization makes a conclusion that the asset may likely be impaired, it therefore performs a quantitative test to calculate the fair value to compare it with the carrying amount to determine the impaired loss. But if the company concludes that the reverse is true, that the fair value is less than the carrying amount no further action is needed but the company as to disclose the events and circumstances which may have led to that conclusion (AASB 136, 2007). Therefore, for the route authority, the company will use the new amendment to perform an impairment test after assessing the significant events and circumstances which may allow the organization to skip the qualitative assessment if the assets are anticipate to have been impaired Conclusion The introduction of the revised standards for impairment testing is for the purposes of simplifying and easing costs. It should be noted that the amendment does not change how impairment losses should be measured but instead excuse other entities from performing the traditional two steps impairment testing. It is worth noting that the previous guide on impairment testing allowed for a company to carry forward the fair value calculation to the following year if certain criteria was met but with the new amendment that no longer exists but instead a company is given the option of conducting qualitative evaluation for assessing if it would be necessary to calculate a unit’s fair value. Reference List Australian Accounting Standards Board, AASB 136 (2007), Impairment of Assets; Compiled Accounting Standard; Commonwealth of Australia, Melbourne, Retrieved From: http://www.aasb.gov.au/admin/file/content105/c9/AASB136_07-04_COMPapr07_07-07.pdf Billabong international (2013) Retrieved From: http://www.billabonginternationallimited.com.au/Documents/Downloads/20131107%20FINAL%20BB_Full-Financial-Report-30-June-2013-EMAIL.pdf Diabete Austarlia (2013) Retrieved From: http://www.diabetesaustralia.com.au/Documents/DA/Financial%20Statements%20Consolidated%2012-13%20FINAL.pdf Tennis Australia Limited (2013) Retrieved From: https://secure.ausport.gov.au/__data/assets/pdf_file/0004/553234/Tennis-Australia-2012-2013.pdf Read More