Issued in August 2001, Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 360, Property, Plant, and Equipment (“ASC 360”) addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of. Specifically, ASC 360 requires that a company recognize an impairment loss if, and only if, the carrying amount of a long-lived asset (asset group) is not recoverable from the sum of the undiscounted cash flows expected to result from the use and eventual disposal of the asset (the “Recoverable Amount”) and if the carrying amount exceeds the asset’s Fair Value. If it is determined that an asset is impaired, the amount of the impairment is equal to the difference between the carrying amount of the long-lived asset and the Fair Value of the asset.
ASC 360 provides general guidelines as to when an asset (asset group) should be tested for impairment. Specifically, ASC 360 indicates that impairment testing should be completed whenever events or changes in circumstances indicate the asset’s carrying value may not be recoverable. Examples of such circumstances include a significant decrease in the market price of a long-lived asset, a significant adverse change in the extent or manner in which a long-lived asset is being used or in its physical condition, or a significant adverse change in legal factors or in the business climate that could affect the value of a long-lived asset.
If there are indications that the asset’s carrying value may not be recoverable, there are two further steps involved in long-lived asset impairment testing. Step I of the impairment test, as per ASC 360, involves estimating the Recoverable Amount of the Asset Group and determining the potential for impairment. Step II of the impairment test, as per ASC 360, if necessary, involves quantifying the Fair Value of the Asset Group (i.e., financial assets, tangible assets, intangible assets, and liabilities, as applicable). These steps are discussed in detail in the latter part of this article.
Estimates of the future cash flows to be utilized in the impairment analysis include only the future cash flows that are expected to arise as a direct result of the long-lived asset (asset group) in question, whether through continuing use or through disposal. These estimates should incorporate management’s assumptions in regard to the future use of the asset and should be reasonable in relation to the assumptions used in developing other internal prospective financial information, such as budgets and projections. These estimates should cover the remaining useful life of the long-lived asset (asset group). However, if alternative courses of action to recover the carrying amount of a long-lived asset (asset group) are under consideration or if a range is estimated for the amount of possible future cash flows associated with the likely course of action, the likelihood of those possible outcomes should be considered. A probability-weighted approach may be useful in considering the likelihood of those possible outcomes.
Grouping Long-Lived Assets Classified as Held and Used
In order to perform a long-lived asset impairment analysis, the asset group needs to be determined. As defined in ASC 360-10-35-23, an asset group is the grouping of assets and liabilities at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. In certain situations, a long-lived asset, such as a corporate headquarters, may not have identifiable cash flows that are independent of the cash flows of other assets and liabilities. When this is the case, the asset group for that particular long-lived asset is the entity itself.
Most long-lived assets do not generate cash flows independent of all other assets and liabilities of the entity. They are usually dependent on other complementary assets to generate cash flows and, because the unit of accounting for the impairment testing of long-lived assets is based on identifiable cash flows generated, the long-lived asset cannot be tested on its own. Instead the long-lived asset and the complementary assets are grouped together for impairment testing purposes.
As per ASC 360, for the long-lived asset impairment testing, goodwill should be included in an asset group to be tested for impairment only if the asset group is or includes a reporting unit. Goodwill should not be included in a lower-level asset group that includes only part of a reporting unit. Estimates of future cash flows used to test that lower-level asset group for recoverability should not be adjusted for the effect of excluding goodwill from the group. The term reporting unit is defined in ASC 350 as the same level as or one level below an operating segment. ASC 350 requires that goodwill be tested for impairment at the reporting unit level. Further, other than goodwill, the carrying amounts of any assets (such as accounts receivable and inventory) and liabilities (such as accounts payable, long-term debt, and asset retirement obligations) not covered by ASC 360 that are included in an asset group should be adjusted in accordance with other applicable generally accepted accounting principles (GAAP) before testing the asset group for recoverability. ASC 350-20-35-31 requires that goodwill be tested for impairment only after the carrying amounts of the other assets of the reporting unit, including the long-lived assets covered by ASC 360-10-35-27, have been tested for impairment under other applicable accounting guidance.
Indicators of Impairment
As per ASC 360-10-35-21: a long-lived asset (asset group) should be tested for recoverability whenever events or changes in circumstances indicate that its carrying amount may not be recoverable. Data and analysis pertaining to the entity’s operations are the primary sources for determining if an indicator of impairment is present. An indicator of impairment can be defined as anything, such as a new event or circumstance, which could potentially result in the carrying value of the long-lived asset (asset group) not being fully recoverable. Examples of indicators of impairment, as discussed in ASC 360-10-35-21, include but are not limited to:
Impairment analysis is only required (i.e., test the asset group for recoverability and impairment loss) when an indicator of impairment is present. If no indicator is present, the entity is not required to perform any further steps in the impairment testing process. It is the responsibility of the entity to regularly assess whether there are indicators of impairment present for an asset group.
Step I – Test for Recoverability
If indicators of impairment are present, the entity must then determine whether the carrying amount of the long-lived asset (asset group) is recoverable. This is done by comparing the total undiscounted future cash flows of the long-lived asset (asset group) to its carrying amount. If the total undiscounted future cash flows exceed the carrying amount of the asset (asset group), the carrying amount is deemed recoverable. If the opposite is true, and the carrying amount is not recoverable, an impairment loss for the long-lived asset can be recognized. The carrying amount of an asset group is the aggregate of the carrying amounts of the individual assets included in the asset group. Goodwill is only included in the asset group if the group is or includes the reporting unit with goodwill.
The total undiscounted cash flows, as defined in paragraphs 29 and 30 of ASC 360-10-35, include only the future cash flows that are directly associated with and that are expected to arise as a direct result of the use and eventual disposal of the asset (asset group). These estimated future cash flows for a long-lived asset (asset group) should be made for the remaining useful life of the primary asset of the group. The estimates should incorporate the entity’s internal assumptions about how they intend to use the asset (asset group) in the future. These assumptions should be within reason in relation to assumptions used in the past. However, if alternative methods of recovering the carrying amount of the long-lived asset (asset group) are being considered or if a range is estimated for the amount of possible future cash flows associated with the likely course of action, the likelihood of those possible outcomes should be considered. A probability-weighted approach should be considered when estimating the likelihood of those possible outcomes.
Step II – Measurement of an Impairment Loss
If the carrying amount of a long-lived asset (asset group) is deemed to be unrecoverable, an impairment loss needs to be estimated. In order to calculate the impairment loss, the Fair Value of the asset group must be determined. Fair Value referenced here is determined using the guidance in FASB ASC Topic 820, Fair Value Measurement (“ASC 820”). Fair Value, as defined in ASC 820, is 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. For long-lived assets (asset groups) that have uncertainties both in timing and amount, an expected present value technique will often be the appropriate technique with which to estimate Fair Value. ASC 820 prescribes that the measurement of the Fair Value of an asset or liability should be based on assumptions that market participants would use when pricing the asset or liability. The long-lived asset impairment testing process relies upon a number of 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, which form the foundation of 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 in order to derive an impairment loss. The excess of the carrying amount of the long-lived asset (asset group) over its Fair Value should be recognized as the impairment loss. Once the impairment loss is recognized, the adjusted carrying value becomes the long-lived asset’s new cost basis and should be depreciated over its remaining useful life.
Primary Asset for the Asset Group
The primary asset is the principal long-lived tangible asset being depreciated or intangible asset being amortized that is the most significant component asset from which
the asset group derives its cash flow-generating capacity. The primary asset of an asset group therefore cannot be land or an intangible asset not being amortized. Factors that an entity generally should consider in determining whether a long-lived asset is the primary asset of an asset group include the following:
i. Whether other assets of the group would have been acquired by the entity without the asset
ii. The level of investment that would be required to replace the asset
iii. The remaining useful life of the asset relative to other assets of the group (if the primary asset is not the asset of the group with the longest remaining useful life, estimates of future cash flows for the group shall assume the sale of the group at the end of the remaining useful life of the primary asset)
Allocating Impairment Losses to an Asset Group
As stated in ASC 360-10-35-28, in a scenario where an impairment loss is calculated, only the carrying amounts of a long-lived asset or assets of the group are decreased by that impairment loss. The loss should be allocated to the long-lived assets of the group on a pro-rata basis using the relative carrying amounts of those assets, except that the loss allocated to an individual long-lived asset of the group should not reduce the carrying amount of that asset below its Fair Value whenever that Fair Value is determinable without undue cost and effort.
Adjusted Carrying Amount Becomes New Cost Basis
As stated in ASC 360-10-35-20, if an impairment loss is recognized, the adjusted carrying amount of a long-lived asset should become its new cost basis. Further, if the long-lived asset is depreciable, the new cost basis should be depreciated/amortized over the remaining useful life of that asset. Restoration of a previously recognized impairment loss is not allowed.