Impairment of PPE

Impairment of long-term assets

The impairment evaluation for a held-for-use tangible asset is a two step process:

1. Compare the carrying value (CV) of the asset to undiscounted future cash flows expected from the use and disposal of the asset
2. If applicable, write-down the asset to its fair value.

The process above to determine impairment for held-for-use tangible assets is the same as the process of impairment of finite life intangibles in the next section on intangible assets.

Step 1: Compare carrying value (CV) to undiscounted cash flows

Compare the carrying value (CV) of the asset to undiscounted future cash flows expected from the use and disposal of the asset.

If $\text{CV}>\text{Undiscounted future cash flows}$, this means that the asset is impaired because the carrying value is currently overstated. Proceed to Step 2.

If $\text{CV}<\text{Undiscounted future cash flows}$ this means that the asset is not impaired because the future benefits are still estimated to be higher than the carrying amount in the books. In this case, there is nothing to do and the process ends here.

Step 2: If applicable, write-down the asset to its fair value

If the carrying value of the asset is higher than the undiscounted cash flows from the asset, we need to write down the asset to its fair value. Computation of the fair value will not be tested on the CMA exam but it will be provided so you can determine the impairment loss.

Common pitfall: step 1 uses undiscounted cash flows only to test whether the asset is impaired; step 2 measures the loss using fair value, not undiscounted cash flows. This is a U.S. GAAP model - IFRS uses one step, comparing carrying value to recoverable amount.

Definitions

Fair value

This is defined as 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 (an exit price).

The difference between the carrying amount and the fair value is booked as an impairment loss.

Account	Debit	Credit	Financial statement element
Impairment loss - PPE	XXX		Loss
Accumulated impairment - PPE		XXX	Contra-asset
To record impairment of PPE

The journal entry typically is credited to the contra-asset account because we need to track the cost of the asset.

After impairment, the new carrying amount becomes the asset’s cost basis and is depreciated over its remaining useful life - see the next chapter, Depreciation of PPE. Under U.S. GAAP this loss is never reversed even if fair value recovers, unlike IFRS, which permits reversal.

Example: impairment test

A machine has CV $\$500,000$, undiscounted future cash flows of $\$420,000$, and fair value $\$380,000$.

Step 1: $\$500,000>\$420,000$ → impaired.

Step 2: Loss $=\$500,000-\$380,000=\$120,000$; debit impairment loss - PPE, credit accumulated impairment - PPE.

Answer: Impairment loss $=\$120,000$