Thursday, October 29, 2020

Should an asset that is accounted for using the revaluation model be impaired?

All the New Year holidays I was gnawed at the thought that I owed something to someone. But what exactly and to whom - I could not remember. Stupid feeling, to be honest.

So I would have been lost in conjectures if it were not for a salutary question from a student of the DipIFR distance course: how, if the price falls, to devalue an asset that is already accounted for at a revalued value? We simulate such a situation in a couple of training tasks, and it often introduces the listeners into a state of deep thoughtfulness about why they even went to DipIFR .

Then everything fell into place: I really promised both the listeners and the readers of this site to tell in detail about the situation when the depreciation is superimposed on the revaluation , and how to deal with such a gift of fate accp careers.

Therefore, I will pretend that very little time has passed between the promise and its fulfillment, and I will invite you to walk together the untouched paths of DipIFR. There were no problems with such traps on the exam at the time of this writing, so I came up with an example myself. All facts are fictitious and coincidences are accidental.

So, we are the happy owners of a large office building that we rent out. Since this activity is the main one for our company, we (financiers) classified this object as a fixed asset , choosing a revaluation model for it . More precisely, it was not we who insisted on revaluation, but the investors. And they, in order to deprive the company's management of hope for a quiet life, demanded a reassessment annually. That we fixed in our accounting policy, in secret thanks to the gods of IFRS for the fact that we have only one property.

So we lived for many years in a row, already accustomed to pay appraisers' bills on New Year's Eve without clutching our hearts. Until this year. Because this year, the revaluation initially did not bode well: a couple of months before the reporting date, the office real estate market collapsed. The reasons for the collapse, according to analysts (those who always know how to explain what happened, but, alas, have not yet learned to predict it), were two.

Firstly, the general situation in the economy is such that there is no particular demand for large office buildings, because buyers and tenants already listed in the Red Book are looking for premises that are smaller and cheaper. Secondly, the long-term trend that has begun to reduce the cost of foreign exchange has led to an increase in the supply of real estate on the market. Why? Because the owners of offices began to sell them here - even at reduced prices - in order to acquire objects and businesses abroad that have fallen in price due to the fall in foreign exchange.

In general, prices could not withstand such a double blow from both the demand and the supply side, and collapsed. Therefore, when the appraisers presented their opinion to us, we were already prepared for the worst. However, we, ready, had yet to understand the real meaning of the word “collapse”: the appraisers proposed to reduce the current book value of the building from 4 billion rubles. to a fair value of 3 billion rubles.

The pragmatic CEO did not give us a long time to indulge in sorrowful reflections. He returned everyone to reality with the question: “Well, what are we going to do, gentlemen financiers? How would it be in your language - negative revaluation or depreciation ? Or does it matter? "

Revaluation, impairment ... Is there a difference in this case?

Of course, no matter - we think indifferently - you will have to shoot yourself in any case. Billion in expense ! Once .. Though I must pay tribute to our CEO: financial interest in the kitchen he is clearly genuine. It is immediately clear that his bonus is tied to financial performance. No, really, is it overvaluation or impairment ?

If we remember that the revaluation and impairment of a revalued asset are equally included in other comprehensive income (more on this here ), then the question is "what's the difference?" not very amateurish.

However, we finance professionals know that there is still a difference - in the amount. If this is a revaluation , we will have to use the fair value (those same 3 billion rubles). And in the course of an impairment test, we will need to look for recoverable amount . Remember what it is?

The recoverable amount is the estimated amount that an asset will be able to reimburse us if it “deteriorates” and cannot bring us the benefits for which it was once acquired. The impaired asset - it is just that, the carrying value of which is higher than the recoverable. I assume that you are recalling that the recoverable amount is the higher of two possible benefits from the use of an asset:

benefits from continuing use - the discounted cash flows from a fixed asset over its remaining life, so-called value in use , and

benefits from disposal (sale) of an asset - the fair value of the asset less costs of disposal.

It turns out that the recoverable amount is still a box of secrets; without counting both values, you will not know what the impairment will be , if any. Just a fair value of 3 billion rubles received from appraisers is not enough.

In general, in theory, there is still a difference between negative overestimation and impairment . But what are we dealing with now in practice : overvaluation or impairment ? Or do we artificially drive ourselves into the framework of the “either - or” question?

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