Impairment of Intangible Assets
Intangible assets with indefinite useful life (including goodwill) are tested for impairment at least annually and others are tested when there are indications of impairment such as legal restrictions, business restructuring, development of new technology, economic changes, etc.
Under US GAAP, impairment test for intangible assets with finite useful life is the same as that for a tangible fixed asset, i.e. it involves the following steps:
- comparing the carrying value with the sum of undiscounted cash flows and
- where the carrying value exceeds the sum of undiscounted cash flows, recognizing any excess of carrying value over the fair value of the asset as the impairment loss.
Under IFRS, comparison is made between the carrying amount of the asset and the higher of fair value (less cost to sell) and value in use and any excess is recognized as impairment.
The impairment test for intangible assets with indefinite useful life is a little different because the sum of their undiscounted cash flows is theoretically infinite. They are reviewed for impairment at least annually by comparing their carrying value with their fair value and recognizing any impairment loss equal to the amount by which carrying value exceeds fair value.
Impairment test for goodwill is more complex. The goodwill is first allocated to different units of the business and each unit is tested for impairment individually and the whole impairment loss is then aggregated.
Selai Telecom is a mobile telecom operator that purchased a 4G license for $200 million in 20Y4 which is valid for a 10-year period for a small annual fee. Then it expected that the license will generate revenues of $50 million per year for the next 8 years. However, after the first year of operations, the market reception of the new technology proved not to be that encouraging, and the company was forced to revise its estimate of annual cash flows down to $30 million per annum. Further, due to rapid advancement in the technology standards, it now expects the existing technology to be replaced by new technology in 5 years thereby eliminating any economic benefits from the 4G license accruing after 5 years.
The decline in market performance and the technological advancement are an indication of impairment necessitating an impairment review.
During the first year, the license amortization expense would be $25 million ($200 million divided by 8). The license’s carrying value at the end of first year works out to $175 million. The sum of undiscounted cash flows which the license will bring in future is $150 million ($30 million multiplied by 5). Because the carrying value is higher than the sum of undiscounted cash flows, the license is impaired. The second step of the test requires the company to work out the license’s fair value. Since the license is not transferable, the fair value must be estimated based on the present value of future cash flows. If the appropriate discount rate is 10%, the fair value of the license works out to $113.72 million. The impairment loss in this case equals $61.28 million i.e. the amount by which the carrying value, which is $175 million, exceeds the fair value, i.e. $113.72 million.
The impairment loss would be recognized using the following journal entry:
|Impairment loss||$61.28 M|
|Accumulated impairment loss||$61.28 M|
Under IFRS, the impairment, if any, is worked out by directly comparing the carrying amount with the higher of the fair value less cost to sell (which is zero in this case) to the value in use (which is $113.72 million). There is no need to compare the sum of undiscounted cash flows to the carrying amount.