The International Accounting Standards Board (IASB) agreed during its Jan. 25, 2018, meeting to consider modifying two requirements in International Accounting Standard (IAS) 36, Impairment of Assets, as part of a larger plan to revise the goodwill impairment test in International Financial Reporting Standards (IFRS).
The board agreed to float the idea of scrapping a requirement for businesses to use pre-tax inputs when calculating “value in use” of an asset, a key piece of determining whether an asset is impaired.
IASB Chairman Hans Hoogervorst described the move as a small but logical way to improve the complex impairment test. He said he asked the IASB’s research staff what a pre-tax discount rate means, “and the answer is, ‘Nobody knows.’” Most accountants start with pre-tax inputs and work their way back, Hoogervorst said.
“It’s reverse engineering... So I think it’s a fantastic example of fake accuracy,” Hoogervorst said. “If we can simplify this only a little bit, we should do so.”
The board also agreed to consider removing the restriction from IAS 36 that excludes cash flows related to uncommitted future restructurings and asset enhancements from the calculation of value-in-use.
IAS 36 requires that future cash flows should be estimated for an asset in its current condition when calculating value-in-use. For that reason, the standard says estimates of future cash flows “shall not include estimated future cash inflows or outflows that are expected to arise from a future restructuring to which an entity is not yet committed or from improving or enhancing the asset’s performance,” the IASB’s staff wrote in background materials.
IASB member Mary Tokar said she believed the current restriction against including future restructurings and asset enhancements in the measurement of value-in-use is “probably too rigid and mechanical” and agreed with a plan to ask for public comments about removing the restriction from IAS 36.
“The important point is what we should be trying to do is measure — whether the fair value or value in use — the asset in its current state, not a potential future item,” Tokar said. “Today’s rigid limit does two things: excludes the value of potential from measuring value in use, and I think, conceptually, that doesn’t make sense. It makes it worse by relying on an accounting threshold in the current standard. So that’s two strikes against it.”
IASB Vice Chair Sue Lloyd said the board should consider providing guidelines for acceptable methods of calculating an asset’s value-in-use to limit the likelihood that businesses will record values that are misleading to investors.
“It doesn’t necessarily mean you can pick up your budget, and that’s what you can put in your scenarios,” Lloyd said. “I think we need some parameters around the appropriateness of including a super-optimistic budget target that’s got huge risk of achievability, but management wants you to aim high.”
The discussion was part of the board’s effort to make the goodwill impairment test less expensive for companies to perform and have it provide more useful information to investors and analysts. The board also wants the impairment measured accurately and in a timely fashion. The IASB is still in the beginning stages of deciding what to do to improve the goodwill impairment test, and it has yet to vote on whether it plans to release a proposed improvement in an exposure draft or a discussion paper.
Goodwill is used to measure the premium above book value a buyer pays when buying another business. Essentially, goodwill classifies the overpayment as an intangible asset that measures the “future economic benefits” that will flow to a business, the IASB said.
Because goodwill can decline in value, companies must test its value periodically to see if they must report an impairment. Investors and analysts often view an impairment as a sign of that a company overpaid for an acquisition and that the acquired business is less likely to generate an adequate return for investors.
The impairment test guidelines are outlined in IAS 36, but the impairment test is often criticized as overly complex and dependent upon too many subjective assumptions. Investors also complain about a delay between when the goodwill declines in value and the impaired value’s appearance on the balance sheet.
The IASB agreed to examine accounting for goodwill impairment after conducting what the board calls a post-implementation review of IFRS 3, Business Combinations. During the review, many businesses said they were concerned about the costs and complexity of the value-in-use calculations that are part of the impairment test. One of the main concerns arose from the restriction that excludes from the calculation of value in use for the cash flows that would arise from future restructuring and from future performance enhancement, the IASB said.
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