For an entity that has goodwill and indefinite lived intangible assets, a mandatory impairment test must be performed on these assets annually. The impairment test can be performed at any time during the period, provided it is performed at the same time each year. Goodwill and indefinite lived intangible assets must also be tested for impairment when impairment indicators exist.
- Measuring the recoverable amount of an intangible asset with an indefinite life
AASB 136 requires an intangible asset with an indefinite useful life to be tested for impairment annually by comparing its carrying amount with its recoverable amount, irrespective of whether there is any indication that it may be impaired. However, the most recent detailed calculation of such an asset’s recoverable amount made in a preceding period may be used in the impairment test for that asset in the current period, provided all of the following criteria are met:
- If the intangible asset does not generate cash inflows from continuing use that are largely independent of those from other assets or groups of assets and is therefore tested for impairment as part of the cash-generating unit to which it belongs, the assets and liabilities making up that unit have not changed significantly since the most recent recoverable amount calculation;
- The most recent recoverable amount calculation resulted in an amount that exceeded the asset’s carrying amount by a substantial margin; and
- Based on an analysis of events that have occurred and circumstances that have changed since the most recent recoverable amount calculation, the likelihood that a current recoverable amount determination would be less than the asset’s carrying amount is remote.
The useful life could be classified either finite or indefinite. Where amortisation is charged on assets with finite lives, this expense is taken to the income statement and charged on a straight line basis. Intangible assets with indefinite lives are tested for impairment at least annually at the cash generating unit level. Useful lives are also examined on an annual basis and adjustments, where applicable, are made on a prospective basis.
- Allocating Goodwill to Cash-generating Units
For the purpose of impairment testing, goodwill is recognised only when it is acquired in a business combination. In accounting for a business combination, goodwill is calculated as a residual, involving calculation of variables including the consideration transferred and the net fair value of the identifiable assets and liabilities acquired. Also, goodwill is an accumulation of assets, and may arise from synergy between the assets in those combined business or from assets that do not qualify for recognition individually.
As noted earlier, goodwill has to be tested for impairment annually. If the initial allocation of goodwill acquired in a business combination cannot be completed before the end of the annual period is affected in a business, so that initial allocation should be completed before the end of the first annual period beginning after the acquisition date. Furthermore, if goodwill has been allocated to a cash-generating unit and the entity disposes of an operation within that unit, the goodwill associated with the operation disposed of should be included in the carrying amount of the operation when determining the gain or loss on disposal and measured on the basis of the relative values of the operation disposed of and the portion of the cash-generating unit retained, unless the entity can demonstrate that some other method better reflects the goodwill associated with the operation disposed of.
- Disclosure concerning impairment testing
Paragraph 133 of AASB 136 requires disclosures in relation to any goodwill that has not been allocated to a cash-generating unit at the end of the reporting period. In particular, an entity must disclose the amount of the unallocated goodwill and the reasons that amount has not been allocated to the cash-generating units in the entity. Because the calculation of recoverable amount requires assumptions and estimated relating to future cash flows, AASB136 requires disclosures relating to the calculation of recoverable amount. Paragraph 132 encourages, but does not require, disclosure of key assumptions used to determine the recoverable amount of assets or cash-generating units.
- Current accounting practice of CCA Ltd.
- Intangible assets and write-down
In a short term, intangible asset is defined that a non-physical asset having a useful life more than 1 year.
CCA annual report (2010, pp.43) represents that “Intangible assets, excluding software development assets, related within the business are not capitalized and costs are taken to the income statement when incurred. Gains or losses arising from derecognition of an intangible asset are measured as the difference between the net disposal proceeds and the carrying amount of the asset and are recognized.”
The estimated useful lives of existing finite lived intangible assets for the current and prior year are as follows –
Customer lists 5 years
Brand names 40 to 50 years
Software development assets 3 to 10 years
Goodwill is technically an intangible assets, it is usually listed as a separate item in a company’s balance sheet. Goodwill is the excess of the cost of an acquisition over the fair value of the net assets acquired. Goodwill is not amortised buy will be tested annually or more frequently if required, for any impairment in the carrying amount. Impairment is determined by assessing the recoverable amount of the cash generating unit to which the goodwill relates. Goodwill arising on the acquisition of subsidiaries is treated as an asset of the subsidiary. Goodwill is allocated to cash generating units for the purpose of impairment testing.
- Impairment tests for investment in IBAs and goodwill
CCA carried out impairment testing by comparing an asset’s recoverable amount to its carrying amount. The recoverable amount is defined as the greater of fair value less costs to sell, and value in use. Generally, CCA performs its impairment testing on a value in use basis. However, in addition to value in use, it assesses fair value less costs to sell to ensure that the higher value arising from either basis is in excess of the asset’s carrying amount and using a discounted value a discounted cash flow methodology covering a 15 year period with an appropriate residual value at the end of the period, for each CGU.
The intangible assets deemed to have indefinite lives is presented below –
Table 1 : illustrative total IBAs and intangible assets with indefinite lives of CCA Ltd 2009-10.
Source : Annual financial report of Coca Cola Amatil (CCA) Ltd
According to CCA Ltd annual report (2010, pp. 56), it describes each key assumption on which management has based its cash flow forecasts to undertake impairment testing of IBAs and goodwill – EBIT margins, volumes, pricing, capital expenditure, discount rate and growth rates : especially,
- Discount rates : used are the weighted average cost of capital (after tax) for the Group in each CGU, risk adjusted where applicable. The local currency discount rates used for Australia, New Zealand, Fiji, Indonesia and PNG based CUGs are 8.4, 8.3, 11.2, 12.2 and 11.6% (2009: 8.4, 8.4, 12.3, 13.0 and 11.6%) respectively
- Forecast growth rates : are used in the calculation of the residual value of each CGU. For the purpose of impairment testing, real annual growth rates of nil to 2.0% (2009: nil to 2.0%) have been used.
- Impairment tests for brand name with indefinite lives
Value in use for brand names is calculated using a “relief from royalty” discounted cash flow methodology covering a 10 year period with an appropriate residual value at the end of that period. The methodology utilizes notional after tax royalty cash flows longer than five years in order to minimize reliance on residual values and is based primarily on three year business plans prepared by management.
CCA Ltd annual report (2010, pp.56) represents that each key assumption on which management has based its cash flow forecasts to undertake impairment testing of brand names with indefinite lives – Sales, royalty rates, discount rates, and growth rate.
Table 2 : illustrative the intangible assets of CCA Ltd in 2009-10
- Potential gap
As can be seen the Table 2 in part 3.3 by CCA Ltd annual financial report, impairment amount of Brand name is amortised. However, the brand name resulted from the acquisition in current year and assessed to be indefinite. The factors considered in the assessment of the useful life of the brand name include analysis of market and product life cycles, brand extension opportunities and management’s long term strategic development. Overall, these factors provided evidence that the brand name is expected to generate long-term net cash inflows to the Group indefinitely and it should concern about impairment testing.
In accordance with table 1 a part of 3.2 in this report, CCA Ltd utilizes cash flow forecasts longer than five years in order to minimize reliance on residual values and is based primarily on business plans presented to and approved by the Board. So that, in comparison with 2009 and 2010 the residual values is minimized and the amount of total intangible assets highly measured.
The growth rate used to extrapolate cash flow projections beyond the period covered by the most recent budgets/forecasts, and justification of any growth rate that exceeds the relevant long-term average growth rate. Additional sensitivity disclosures are required for significant goodwill or indefinite-lived intangible asset balances if a reasonably possible change in a key assumption causes the carrying amount to exceed its recoverable amount. Pursuant to CCA Ltd report (2010), minimization of company’s value of asset could be affected on growth rate or discount rate. It is reason that asset value is cash-generated on the CCA report and the impairment testing of result might be difference in real measurement.
- Recommendation
In order to satisfy the potential ASIC reviewers, there are some recommendations for CCA Ltd, Initially, reduce the impairment cost (write-down) of the indefinite life intangible assets to less than one per cent. Also, company should comply with the disclosure requirements – common omissions include the discount rates applied; long-term growth rate assumptions in a discounted cash flow model for both value in se and fair value less cost to sell. Given the current volatile markets, management should pay extra attention to sensitivity analysis; this is an area that requires considerable thought. Moreover, watch out for illogical discount rates. Risk-free interest rates set by central banks are falling in many territories, but other factors affect discount rates in impairment calculations. These include corporate lending rates, cost of capital and risks associated with cash flows, which are all increasing in the current volatile environment and may well result in an increase in the discount rate.
Many companies use the capital asset pricing model to determine the discount rate. Many of the inputs into this model will have changed given current market conditions. For example, with many national base rates reduced, the risk-free rate of government bonds will have fallen in many territories. However, risk premiums have risen, which may more than offset this fall.
- Conclusion
Intangible assets, and in particular goodwill from business combinations, are an increasingly important element of published consolidated balance sheets. This report investigated the requirement according to the respective accounting standards related to indefinite life intangible assets (including goodwill) and the current accounting practice of CCA Ltd. It then took recommended actions could bridge the gaps between the CCA’s current practice and the accounting standards requirements and offers some recommendation to satisfy the potential ASIC reviewers. Under the CCA Ltd current accounting practice, brand names are recorded in intangible assets with finite useful lives and is amortised on a straight line basis. However, for respective accounting standards, brand names are an indefinite useful life in an intangible asset and should not be amortised.
- Reference list
ASIC, 2011, Attachment to 11-139MR: ASIC’S review of 21 December 2010 financial reports and focuses for 30 June 2011
Coca Cola Amatil, 2010, Annual report, Ernst&Young, Sydney
Evans, E, 2011, Intermediate financial accounting, 2011 edn, John Wiley & Sons Australia, Ltd, Queensland
PWC, 2010, Understanding the accunting for impairment of assets, PWC, viewed 1st of October, < http://www.pwc.com.au/assurance/ifrs/assets/back-to-basics/Back-to-Basics-Accounting-impairment-assets-Oct10.pdf>
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prosia7 (student)
