Asset Impairment Charges
Depreciation and amortization expense allocates an assets purchase price over its useful life. In essence, the expense is intended to reflect the declining value of the asset due to normal wear and tear.
However, sometimes the value of an asset can decline suddenly. Examples include a vehicle destroyed in an accident (a tangible asset) or losing a patent lawsuit (intangible asset). In such cases the asset is said to be impaired, and the accounting treatment depends on the type of asset and the accounting standards in use.
- Tangible Assets Held for Use U.S. standards require impairment when the undiscounted value of expected future cash flows is less than the carrying value of the asset. Once this is determined, the cash flows are discounted to arrive at the appropriate asset value and the impairment charge represents the difference between the revaluation and the carrying value. The impairment test should be performed whenever events suggest impairment is possible. International Accounting Standards are similar except with regard to the mechanics of revaluation.
- Goodwill and Other Intangible Assets with Indefinite Lives must be tested at least annually for impairment, and the charge reflects any difference between the carrying value and the fair or recoverable value.
- Amortizable Intangible Assets are treated similarly to tangible assets held for use.
- Tangible Assets Held for Sale are tested for impairment when the decision is made to sell the asset. The impairment charge is the difference between the fair value, less any selling costs, and the carrying value.
Once impaired, under U.S. standards the asset cannot be revalued upward even if the conditions of impairment are reversed (say, a court decision overturned on appeal.) Under IAS, upward revaluations are permitted, and in the case of previously impaired assets the reversal would increase profits in the period the reversal occurs.
For more information, see all articles on: Accounting, Financial Statement Analysis, Fundamental Analysis See also:
The Intelligent Investor: The Classic Text on Value Investing
Financial Statement Analysis: A Practitioner's Guide, 3rd Edition
Managing Investment Portfolios: A Dynamic Process (CFA Institute Investment Series)
