Revaluations and Impairment Testing of Non-Current Assets
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This document discusses the adoption of fair market value concept for fixed assets, benefits of fair market valuation, differences between US GAAP and IFRS, disclosures related to fair value measurement, and assessment of impairment test. It also provides insights into Medibank's goodwill allocation and cash generating units.
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Running Head: REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS REVALUATIONS AND IMPAIRMENT OF NON – CURRENT ASSETS Name of the Student: Name of the University: Author’s note:
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1REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS Table of contents In response to Question 1...........................................................................................................2 In response to Question 2...........................................................................................................2 In response to Question 3...........................................................................................................3 Reference list..............................................................................................................................9
2REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS In response to Question 1 Simba Ltd has come up with the adoption of revaluation model for the fixed assets but the model has some limitations like the fair value of certain items cannot be determined. In order to deal with this problem the director of Simba Ltd has put forward the proposal of adopting the fair value concept as this tends to improve the scenario of the company’s financial position and can eliminate the need of depreciation. The board should adopt the proposal of the director because the fair market value concept is based on the current information derived from the market (Goncharov, Riedl & Sellhorn 2014). The fair market value concept is considered as a modern concept of valuing the assets which does not follow the historical cost concepts wherein the companies measured the values of the assets based on the nominal cost (Müller, Riedl & Sellhorn 2015). Simba Ltd can avail several benefits by adopting this proposal which is discussed in the following sections: Improvement in the financial statements:In fair market valuation the assets are valued at current market price which can increase the valuation of the assets recorded in the balance sheet. This appreciation of assets enhances the company’s economic condition which indicates that the company has maintained a good wealth management (Yamamoto, 2014). The financial ratios are also enhanced due to the appreciation and hence ensures a better financial report which reveals the true and fair information to the stakeholder’s of the company (Barker, & Schulte 2017). Elimination of need of depreciation:In a situation where the fair market value has fallen below the book value the assets become the impaired assets and their accounts are written down and hence the amount of depreciation is adjusted based on the carrying cost of the impaired assets (Bepari, Rahman & Mollik 2014). In response to Question 2 According to US GAAP, Impairment is considered as an accounting concept that describes the reduction of company’s listed assets especially the fixed assets. While testing the impairment the calculation of total profit, cash flows and other items are expected to estimated using the book value method that is cost model or in other id words it can be said the book value minus accumulated depreciation and impaired loss identified in the pat years (Hamberg & Beisland 2014). As per IFRS the revaluation model is considered as an accounting principle wherein the fixed assets that are recorded in the balance sheet at cost are carrying over the fair market value based on the current market activities and it can increase
3REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS and decrease the value of the assets (Bepari & Mollik 2015). The fair value of assets dictate whether the carrying costs are adjusted up or down. For an instance depreciation of an impaired capital assets based on carrying costs is dictated by the fair value because the amount of the depreciation is adjusted and are carried forward in order to re estimate the total amount based on the carrying cost of the impaired assets. In such a situation the test for impairments is not necessary (Baboukardos & Rimmel 2014). Under the cost model it is a compulsion to carry out the test or impaired assets in order to understand the significant changes in the market price of the assets. According to US GAAP a business does not require to impair its assets if the fair market value decreases but on the other hand as per IFRS after the revaluation of book value of the fixed assets they can be adjusted to the market value periodically by using both the models (Glau, Landsman & Wyrwa 2015. In response to Question 3 (a). The fair value as per AASB 13 is a market based estimation and is not an entity based measurement (Johansson, Hjelström & Hellman2016). There are some assets and liabilities for which the market information are available and some assets and liabilities for which the information are not available the objective of fair market value in both the cases will be same that is estimating the price in order to sell out the assets or transferring the liabilities. The assets and liabilities that are estimated under fair market value are standalone assets or liabilities or group of cash generating assets or liabilities (Griffin, 2014). The assets of Medibank health insurance are investments that are listed and unlisted securities that aims at supporting the insurance liabilities and are valued at fair market value (Palea, 2014). The investment in the listed and unlisted securities are designated as the assets for trading and are used for short term selling and these assets are also valued in fair market value(Sun,2016).The fairmarketvalue estimationof Medibankis subjectiveinnature andareclassified intoahierarchy basedonthe subjectivity.Level1 disclose thequoted 30thJune 2018 in $m Level 1Level 2Level 3Total Australian equities -144-144 International equities -170-170 Property2156-158 Infrastructure-50-50 Fixed income861700-1786 Total balance as on 30thJune 2018 882220-2308
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4REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS prices for the identical assets and liabilities in the active market. Level 2 determines the inputs other than the quoted prices directly or indirectly (Badia, et al. 2017). Level 3 discloses the inputs for the assets or liabilities that are not related with the observable market information. Table 1: Medibank’s financial assets valued at fair value Source: Created by learner (b).The disclosures are made regarding the fair value measurement of the assets in the financial reports (Caruso, Ferrari & Pisano 2016). The disclosures related to the fair value of assets and information related to each group of assets are discussed below: Basis for the calculation of the carrying amount. The rates applied to the depreciation. The methods that are used while depreciating the assets. The calculation of gross carrying amount and the accumulated depreciation along with the loss of impairment. The restoration of the carrying amount at starting and ending period reveals : 1.Disposals 2.Additions 3.Business combinations acquisitions
5REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS 4.Increase or decrease in revaluation 5.Depreciation 6.Impairment losses 7.The net amount of difference between foreign exchange rates 8.Others Some additional disclosures are made regarding property, plant and equipment that are required (as per IAS 16.77): The effective date on which the revaluation made Involvement of independent valuer The class of properties that are applied for revaluation the carrying cost associated with that would have been carried out following the cost model The surplus arising from revaluation including the changes related to that period and distribution of balance to the shareholders with some restrictions. Additional disclosures as per IAS 16.74 are discussed below: oThe restrictions on the items and titles guaranteed as security for liability. oExpenditures related to the construction of property, plant and other assets. oAcquisition of property , plant and equipment as per the contractual commitment oCompensation received from other parties related to the items of plant, equipment and property that were subjected to impairment profit and loss. Disclosures made by Medibank regarding the revaluation of assets in fair value are related to net investment income (Paugam & Ramond 2015). Profits or losses that are arising from the changes in the fair value of the “financial assets at fair value through profit and loss” group are reflected in the statement of income within the net income from investment in the time span in which they arise. Trust distribution income that is derived at fair value from the financial assets are recognised in the consolidate income statement through profit and loss and is considered as a part of investment income when there will be establishment made by the group to receive the payments. The income that is generated from the interest of financial assets are outstanding using the considered method of calculation including in the investment. (c).According to AASB 136 an asset is subjected for impairment when the carrying value of the same exceeds the recoverable amount and as a result of that the impairment loss
6REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS occurs. An organization at the end of the reporting period should check whether there is any indication related to the impairment of the asset. The entity should take into consideration these few points related to the impairment of assets: The test for impairment of asset has been made compulsory using the indefinite useful life and by comparing the carrying amount of the assets with the recoverable amount. The condition for performing this impairment test is it should be performed at same time every year. There are several intangible assets in a business depending on the types and if any intangible asset is recognized during the current period it is subjected to the test at ends of the current period. According to the paragraphs 80 – 99 of AASB 136 the goodwill is subjected to the impairment test even though they are acquired at the time of business combination. While assessing the assets for impairment test the entity should consider some sources of information like: The fluctuations in the market rates or rate of return on investments and their impact on the discount rates that are used in estimating the value of the asset and recoverable amount. Checking the market capitalisation rate whether it is more than the carrying amount of the assets. The obsolescence or physical damage of the assets are supported by the evidence. The economic performance of the asset is evidenced by internal reporting which reveals how the assets performed in the financial year. The significant changes in the assets in future that can impact its valuation is also considered as a major issue because this can lead to restructuring of the operation and reassessment of useful like of assets. Impairment testing refers to the identification of the recoverable amount having higher fair value. There are some assets for which the fair value is observed from market information and for some the valuation model is used for the determination of the fair value method.Thetestforimpairmentinvolvescomparingthecarryingamountwiththe recoverable amount and hence this test ensures that the recoverable amount is exceeded by the carrying value. According to AASB 136 the test of impairment is applied to the group of assets which are considered as cash generating units compared to other assets in the balance sheet. The goodwill is a cash generating unit and is impaired first along with a condition that
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7REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS other cash generating units will be impaired following the pro rata basis (AASB 136, para 104). This condition sometimes creates trouble for the organization if there are numerous cash generating assets. The accounts receivable and long term assets are also impaired and the test of impairment to these assets are applied due to the longer span of time in carrying value. Medibank’s impairment test for goodwill states that goodwill and other intangible assets are subjected to amortisation and impairment test. The impairment loss is identified by Medibank when the carrying value exceeds the recoverable amount. (d). Assessment of impairment test requires the lowest levels assets are grouped and the cash flows from those assets are determined because the assets are cash generating assets and are termed as cash generating units (CGU). Medibanks’s goodwill is allocated as a CGU and someassumptionsare maderegarding the allocationof recoverableamountwhich is elaborated in the following section: 20182017 ParticularsGoodwill allocatio n in $m Growth rate Discount rate Goodwill allocation in $m Growth rate Discount rate Health insurance 9631496313 Medibank’s health telehealth 1131711315 Table 1: Medibank’s goodwill allocation Source: Created by learner HealthinsuranceCGU:Therecoverableamountisidentifiedbyusingthevaluein calculation. The calculations are used to determine the cash flows established from the corporate plan made by the board of Medibank. The cash flows are extrapolated by growth rates along with terminal values that goes beyond the corporate plans. Medibank health telehealth CGU: The recoverable amount in this case is also determined on the same basis as applied by the health insurance CGU but along with cash flow projection of one year. The cash flows are extrapolated based on the period that are decided by the management using the growth rates. In this case no terminal values are assumes for estimating the cash flows.
8REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS Some disclosures made by Medibank regarding the impairment tests are as follows: The growth rates used by the organization are the weighted average growth rate that are used for the purpose of extrapolation. The growth rates used does not exceeds the average long term growth rates and for this the CGU of the organization operated according to the forecasts made. For the purpose of estimating the recoverable amount the organization has applied the discount rates after taxation which again discount the cash flows for next period. The discount rates used reflects the associated risks related to the CGU because of the usage of pre-tax discount rates.
9REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS Reference list Baboukardos, D., & Rimmel, G. (2014, March). Goodwill under IFRS: Relevance and disclosures in an unfavorable environment. InAccounting Forum(Vol. 38, No. 1, pp. 1-17). Elsevier. Badia, M., Duro, M., Penalva, F., & Ryan, S. (2017). Conditionally conservative fair value measurements.Journal of Accounting and Economics,63(1), 75-98. Barker,R.,&Schulte,S.(2017).Representingthemarketperspective:Fairvalue measurement for non-financial assets.Accounting, Organizations and Society,56, 55- 67. Bepari, M. K., & Mollik, A. T. (2015). Effect of audit quality and accounting and finance backgrounds of audit committee members on firms’ compliance with IFRS for goodwill impairment testing.Journal of Applied Accounting Research,16(2), 196- 220. Bepari, M. K., Rahman, S. F., & Mollik, A. T. (2014). Firms' compliance with the disclosure requirements of IFRS for goodwill impairment testing: Effect of the global financial crisisandotherfirmcharacteristics.JournalofAccountingandOrganizational Change,10(1), 116-149. Caruso, G. D., Ferrari, E. R., & Pisano, V. (2016). Earnings management and goodwill impairment:AnempiricalanalysisintheItalianM&Acontext.Journalof Intellectual Capital,17(1), 120-147. Glaum, M., Landsman, W. R., & Wyrwa, S. (2015).Determinants of goodwill impairment under IFRS: international evidence. Working paper, WHU–Otto Beisheim School of Management, University of North Carolina, and Justus-Liebig-University Giessen. Goncharov, I., Riedl, E. J., & Sellhorn, T. (2014). Fair value and audit fees.Review of Accounting Studies,19(1), 210-241. Griffin, J. B. (2014). The effects of uncertainty and disclosure on auditors' fair value materiality decisions.Journal of Accounting Research,52(5), 1165-1193.
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10REVALUATIONS AND IMPAIRMENT TESTING OF NON-CURRENT ASSETS Hamberg, M., & Beisland, L. A. (2014). Changes in the value relevance of goodwill accounting following the adoption of IFRS 3.Journal of International Accounting, Auditing and Taxation,23(2), 59-73. Johansson, S. E., Hjelström, T., & Hellman, N. (2016). Accounting for goodwill under IFRS: A critical analysis.Journal of International Accounting, Auditing and Taxation,27, 13-25. Müller, M. A., Riedl, E. J., & Sellhorn, T. (2015). Recognition versus disclosure of fair values.The Accounting Review,90(6), 2411-2447. Palea,V.(2014).Fairvalueaccountinganditsusefulnesstofinancialstatement users.Journal of Financial Reporting and Accounting,12(2), 102-116. Paugam, L., & Ramond, O. (2015). Effect of impairment‐testing disclosures on the cost of equity capital.Journal of Business Finance & Accounting,42(5-6), 583-618. Sun, L. (2016). Managerial ability and goodwill impairment.Advances in accounting,32, 42- 51. Yamamoto, T. (2014). Fair Value of Investment Property and independent Appraisers: The Experience in the UK and Japan.Appraisal Journal,82(2).