IAS 38 Intangible Assets

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1 21/12/2010, Tuesday From To Details Faculty 2:15 PM 5:30 PM IAS 38 : Intangible Assets IAS 40 : Investment Property IFRS 5 : Non Current Assets Held for Sale and Discontinued Operations CA. Chintan Patel, Ahmedabad cnpatel@gmail.com IAS 36 : Impairment of Assets IAS 38 Intangible Assets (A) Objective The objective of this Standard is to prescribe the accounting treatment for intangible assets that are not dealt with specifically in another Standard. This Standard requires an entity to recognise an intangible asset if, and only if, specified criteria are met. The Standard also specifies how to measure the carrying amount of intangible assets and requires specified disclosures about intangible assets. (B) Scope IAS 38 applies to all intangible assets other than: [IAS ] Financial assets Exploration and evaluation assets (extractive industries) Expenditure on the development and extraction of minerals, oil, natural gas, and similar resources Intangible assets arising from insurance contracts issued by insurance companies Intangible assets covered by another IFRS, such as intangibles held for sale, deferred tax assets, lease assets, assets arising from employee benefits, and goodwill. Goodwill is covered by IFRS 3. (C) Definition An intangible asset is an identifiable non-monetary asset without physical substance. Identifiability: an intangible asset is identifiable when it: [IAS 38.12] is separable (capable of being separated and sold, transferred, licensed, rented, or exchanged, either individually or together with a related contract) or CA Chintan Patel Pg. No. 1 of 23

2 arises from contractual or other legal rights, regardless of whether those rights are transferable or separable from the entity or from other rights and obligations. (D) Recognition The recognition of an item as an intangible asset requires an entity to demonstrate that the item meets: the definition of an intangible asset; and the recognition criteria. This requirement applies to costs incurred initially to acquire or internally generate an intangible asset and those incurred subsequently to add to, replace part of, or service it. An intangible asset shall be recognised if, and only if: it is probable that the expected future economic benefits that are attributable to the asset will flow to the entity; and the cost of the asset can be measured reliably. The probability recognition criterion is always considered to be satisfied for intangible assets that are acquired separately or in a business combination. (E) Measurement Initial Measurement- An intangible asset shall be measured initially at cost. The cost of a separately acquired intangible asset comprises: o its purchase price, including import duties and non-refundable purchase taxes, after deducting trade discounts and rebates; and o any directly attributable cost of preparing the asset for its intended use. In accordance with IFRS 3 Business Combinations, if an intangible asset is acquired in a business combination, the cost of that intangible asset is its fair value at the acquisition date. If an asset acquired in a business combination is separable or arises from contractual or other legal rights, sufficient information exists to measure reliably the fair value of the asset. In accordance with this Standard and IFRS 3 (as revised in 2008), an acquirer recognises at the acquisition date, separately from goodwill, an intangible asset of the acquiree, irrespective of whether the asset had been recognised by the acquiree before the business combination. This means that the acquirer recognises as an asset separately from goodwill an in-process research and development project of the acquiree if the project meets the definition of an intangible asset. Internally generated intangible assets CA Chintan Patel Pg. No. 2 of 23

3 * Internally generated goodwill shall not be recognised as an asset. * No intangible asset arising from research (or from the research phase of an internal project) shall be recognised. Expenditure on research (or on the research phase of an internal project) shall be recognised as an expense when it is incurred. * An intangible asset arising from development (or from the development phase of an internal project) shall be recognised if, and only if, an entity can demonstrate all of the following: (a) the technical feasibility of completing the intangible asset so that it will be available for use or sale. (b) its intention to complete the intangible asset and use or sell it. (c) its ability to use or sell the intangible asset. (d) how the intangible asset will generate probable future economic benefits. Among other things, the entity can demonstrate the existence of a market for the output of the intangible asset or the intangible asset itself or, if it is to be used internally, the usefulness of the intangible asset. (e) the availability of adequate technical, financial and other resources to complete the development and to use or sell the intangible asset. (f) its ability to measure reliably the expenditure attributable to the intangible asset during its development. * Internally generated brands, mastheads, publishing titles, customer lists and items similar in substance shall not be recognised as intangible assets. * The cost of an internally generated intangible asset for the purpose of paragraph 24 is the sum of expenditure incurred from the date when the intangible asset first meets the recognition criteria in paragraphs 21, 22 and 57. Paragraph 71 prohibits reinstatement of expenditure previously recognised as an expense. * Expenditure on an intangible item shall be recognised as an expense when it is incurred unless: o it forms part of the cost of an intangible asset that meets the recognition criteria; or o the item is acquired in a business combination and cannot be recognised as an intangible asset. If this is the case, it forms part of the amount recognised as goodwill at the acquisition date. Measurement after recognition An entity shall choose either the cost model or the revaluation model as its accounting policy. If an intangible asset is accounted for using the revaluation model, all the other assets in its class shall also be accounted for using the same model, unless there is no active market for those assets. (A) Cost model: CA Chintan Patel Pg. No. 3 of 23

4 After initial recognition, an intangible asset shall be carried at its cost less any accumulated amortisation and any accumulated impairment losses. (B) Revaluation model: After initial recognition, an intangible asset shall be carried at a revalued amount, being its fair value at the date of the revaluation less any subsequent accumulated amortisation and any subsequent accumulated impairment losses. For the purpose of revaluations under this Standard, fair value shall be determined by reference to an active market. Revaluations shall be made with such regularity that at the end of the reporting period the carrying amount of the asset does not differ materially from its fair value. An active market is a market in which all the following conditions exist: (a) the items traded in the market are homogeneous; (b) willing buyers and sellers can normally be found at any time; and (c) prices are available to the public. If an intangible asset s carrying amount is increased as a result of a revaluation, the increase shall be recognised in other comprehensive income and accumulated in equity under the heading of revaluation surplus. However, the increase shall be recognised in profit or loss to the extent that it reverses a revaluation decrease of the same asset previously recognised in profit or loss. If an intangible asset s carrying amount is decreased as a result of a revaluation, the decrease shall be recognised in profit or loss. However, the decrease shall be recognised in other comprehensive income to the extent of any credit balance in the revaluation surplus in respect of that asset. (F) Useful life of Intangible Assets Useful life is: (a) the period over which an asset is expected to be available for use by an entity; or (b) the number of production or similar units expected to be obtained from the asset by an entity. An entity shall assess whether the useful life of an intangible asset is finite or indefinite and, if finite, the length of, or number of production or similar units constituting, that useful life. An intangible asset shall be regarded by the entity as having an indefinite useful life when, based on an analysis of all of the relevant factors, there is no foreseeable limit to the period over which the asset is expected to generate net cash inflows for the entity. The useful life of an intangible asset that arises from contractual or other legal rights shall not exceed the period of the contractual or other legal rights, but may be shorter depending on the period over which the entity expects to use the asset. If the contractual or other legal rights are conveyed for a limited term that can be renewed, the useful life of the intangible asset shall include the renewal period(s) only if there is evidence to support renewal by the entity without significant cost. CA Chintan Patel Pg. No. 4 of 23

5 To determine whether an intangible asset is impaired, an entity applies IAS 36 Impairment of Assets. Intangible assets with finite useful lives The depreciable amount of an intangible asset with a finite useful life shall be allocated on a systematic basis over its useful life. Depreciable amount is the cost of an asset, or other amount substituted for cost, less its residual value. Amortisation shall begin when the asset is available for use, ie when it is in the location and condition necessary for it to be capable of operating in the manner intended by management. Amortisation shall cease at the earlier of the date that the asset is classified as held for sale (or included in a disposal group that is classified as held for sale) in accordance with IFRS 5 Non-current Assets Held for Sale and Discontinued Operations and the date that the asset is derecognised. The amortisation method used shall reflect the pattern in which the asset's future economic benefits are expected to be consumed by the entity. If that pattern cannot be determined reliably, the straight-line method shall be used. The amortisation charge for each period shall be recognised in profit or loss unless this or another Standard permits or requires it to be included in the carrying amount of another asset. The residual value of an intangible asset is the estimated amount that an entity would currently obtain from disposal of the asset, after deducting the estimated costs of disposal, if the asset were already of the age and in the condition expected at the end of its useful life. The residual value of an intangible asset with a finite useful life shall be assumed to be zero unless: (a) there is a commitment by a third party to purchase the asset at the end of its useful life; or (b) there is an active market for the asset and: (i) residual value can be determined by reference to that market; and (ii) it is probable that such a market will exist at the end of the asset s useful life. The amortisation period and the amortisation method for an intangible asset with a finite useful life shall be reviewed at least at each financial year-end. If the expected useful life of the asset is different from previous estimates, the amortisation period shall be changed accordingly. If there has been a change in the expected pattern of consumption of the future economic benefits embodied in the asset, the amortisation method shall be changed to reflect the changed pattern. Such changes shall be accounted for as changes in accounting estimates in accordance with IAS 8. Intangible assets with indefinite useful lives An intangible asset with an indefinite useful life shall not be amortised. In accordance with IAS 36 Impairment of Assets, an entity is required to test an intangible asset with an indefinite useful life for impairment by comparing its recoverable amount with its carrying amount (a) annually, and (b) whenever there is an indication that the intangible asset may be impaired. CA Chintan Patel Pg. No. 5 of 23

6 The useful life of an intangible asset that is not being amortised shall be reviewed each period to determine whether events and circumstances continue to support an indefinite useful life assessment for that asset. If they do not, the change in the useful life assessment from indefinite to finite shall be accounted for as a change in an accounting estimate in accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. (G) Disclosure For each class of intangible asset, disclose: [IAS and ] useful life or amortisation rate amortisation method gross carrying amount accumulated amortisation and impairment losses line items in the income statement in which amortisation is included reconciliation of the carrying amount at the beginning and the end of the period showing: o additions (business combinations separately) o assets held for sale o retirements and other disposals o revaluations o impairments o reversals of impairments o amortisation o foreign exchange differences o other changes basis for determining that an intangible has an indefinite life description and carrying amount of individually material intangible assets certain special disclosures about intangible assets acquired by way of government grants information about intangible assets whose title is restricted contractual commitments to acquire intangible assets Additional disclosures are required about: intangible assets carried at revalued amounts [IAS ] the amount of research and development expenditure recognised as an expense in the current period [IAS ] IAS 38 Disclosures : Extract from Published Accounts (1) Name of Company:- Flughafen Zürich AG (December 2009) CA Chintan Patel Pg. No. 6 of 23

7 Intangible assets and goodwill Intangible assets are stated at cost less accumulated amortisation and accumulated impairment losses. The intangible assets are amortised using the straight-line method. With the award of the operating licence, Flughafen Zürich AG was also granted a right of formal expropriation of property owners exposed to aircraft noise. This right of formal expropriation was granted on condition that the airport operator bears the costs associated with compensation payments. This right is capitalised as an intangible asset. Capitalisation takes place at the time at which the probable total costs can be estimated based on final-instance court rulings, so that the cost can be reliably estimated in accordance with IAS The timing of capitalisation may vary from region to region around the airport. At the same time as an intangible asset is recognised at the present value of the expected future payments, an equal amount is recognised as a provision. Any future re-estimates of the probable total costs will adjust both the intangible asset and the related provision. The intangible asset is amortised using the straight-line method over the remaining duration of the operating licence (i.e. until May 2051). Goodwill arising from acquisitions is not amortised but is tested for impairment annually. Costs directly associated with the development of computer software are capitalised, provided it is probable that the software will be successfully completed and is expected to result in future economic benefits. The useful life of software is three to five years. Flughafen Zürich AG does not have any intangible assets with an indefinite useful life. (2) Name of Company:- Infosys ( ) 1.10 Intangible assets Intangible assets are stated at cost less accumulated amortization and impairments. Intangible assets are amortized over their respective individual estimated useful lives on a straight-line basis, from the date that they are available for use. The estimated useful life of an identifiable intangible asset is based on a number of factors including the effects of obsolescence, demand, competition, and other economic factors (such as the stability of the industry, and known technological advances), and the level of maintenance expenditures required to obtain the expected future cash flows from the asset. Research costs are expensed as incurred. Software product development costs are expensed as incurred unless technical and commercial feasibility of the project is demonstrated, future economic benefits are probable, the company has an intention and ability to complete and use or sell the software and the costs can be measured reliably. Research and development costs and software development costs incurred under contractual arrangements with customers are accounted as cost of sales. (3) Name of Company:- Dr. Reddy (2009) e. Intangible assets Goodwill (negative goodwill) arises upon the acquisition of subsidiaries, associates and joint ventures. Acquisitions prior to April 1, 2007 CA Chintan Patel Pg. No. 7 of 23

8 As part of its transition to IFRS, the Company elected to restate only those business combinations that occurred on or after April 1, In respect of acquisitions prior to April 1, 2007, goodwill represents the amount recognized under Previous GAAP. Acquisitions on or after April 1, 2007 For acquisitions on or after April 1, 2007, goodwill represents the excess of the cost of the acquisition over the Company s interest in the net fair value of the identifiable assets, liabilities and contingent liabilities of the acquiree. When the excess is negative ( negative goodwill ), it is recognized immediately in profit or loss. Acquisitions of minority interests Goodwill arising upon the acquisition of a minority interest in a subsidiary represents the excess of the cost of the additional investment over the carrying amount of the net assets acquired at the date of exchange. Subsequent measurement Goodwill is measured at cost less accumulated impairment losses. In respect of equity accounted investees, the carrying amount of goodwill is included in the carrying amount of the investment. Research and development Expenditures on research activities undertaken with the prospect of gaining new scientific or technical knowledge and understanding are recognized in profit or loss when incurred. Development activities involve a plan or design for the production of new or substantially improved products and processes. Development expenditures are capitalized only if development costs can be measured reliably, the product or process is technically and commercially feasible, future economic benefits are probable, and the Company intends to and has sufficient resources to complete development and to use or sell the asset. The expenditures capitalized include the cost of materials and other costs directly attributable to preparing the asset for its intended use. Other development expenditures are recognized in profit or loss as incurred. The Company s internal drug development expenditures are capitalized only if they meet the recognition criteria as mentioned above. Where regulatory and other uncertainties are such that the criteria are not met, the expenditures are recognized in profit or loss as incurred. This is almost invariably the case prior to approval of the drug by the relevant regulatory authority. Where, however, the recognition criteria are met, intangible assets are capitalized and amortized on a straight-line basis over their useful economic lives from product launch. As of March 31, 2009, no internal drug development expenditure amounts have met the recognition criteria. Payments to in-license products and compounds from third parties generally taking the form of up-front payments and milestones are capitalized and amortized, generally on a straight-line basis, over their useful economic lives from product launch. Intangible assets relating to products in development, other intangible assets not available for use and intangible assets having indefinite useful life are subject to impairment testing at each balance sheet date. All other intangible assets are tested for impairment when there are indications that the carrying value may not be recoverable. Any impairment losses are recognized immediately in the income statement. 10. Other intangible assets The following is a summary of changes in carrying value of other intangible assets: CA Chintan Patel Pg. No. 8 of 23

9 [Continued from above table, first column(s) repeated] CA Chintan Patel Pg. No. 9 of 23

10 Impairment losses recorded during the year ended March 31, 2009 During the year ended March 31, 2009, there were significant changes in the generics market related to the Company s German subsidiary, betapharm. These changes included a decrease in the reference prices of its products, increased quantity of discount contracts being negotiated with State Healthcare Insurance Funds ( SHIs ), and announcement of a large sale tender from AOK (the largest German SHI). Due to such adverse market developments, as at March 31, 2009, the Company tested the carrying value of its product related intangibles, being the smallest identifiable group of assets that generate cash inflows that are largely independent of the cash inflows from other assets or group of assets. The recoverable value of the above product-related intangibles was determined as the higher of its value in use and its fair value less costs to sell. This resulted in the fair value less costs to sell being the recoverable value of such intangibles. The impairment testing indicated that the carrying values of certain product-related intangibles were higher than their recoverable value, resulting in the Company recording an impairment loss on certain product related intangibles amounting to Rs.3,167 during the year ended March 31, As at March 31, 2009, the Company also performed its annual impairment analysis related to the betapharm cash-generating unit, comprised of the above product related intangibles, the indefinite life trademark/brand - beta and acquired goodwill. The recoverable value of the betapharm cash-generating unit was based on its fair value less costs to sell, which was higher than its value in use. The impairment testing indicated that CA Chintan Patel Pg. No. 10 of 23

11 the carrying value of the betapharm cash-generating unit was higher than its recoverable value, resulting in the Company recording an impairment loss of goodwill amounting to Rs.10,856 during the year ended March 31, The above impairment losses relate to the Company s Global Generics segment. The Company used the discounted cash flow approach to calculate the fair value less costs to sell for both the product-related intangible assets and the betapharm cashgenerating unit, with the assistance of independent valuers. The key assumptions considered in the fair value less costs to sell calculation are as follows: Revenue projections are based on the approved budgets for the fiscal year ending March 31, 2010, and take into account the expected longterm growth rate in the German generics industry. Accordingly, based on industry reports and other information, the Company has considered a constant 1% decline in revenue on a year-on-year basis for existing products and 3% growth for launch of new products. The net cash flows have been discounted based on a post-tax discounting tax rate ranging from 7.28% to 9.18%. Change in estimated useful life of indefinite life trademark/brand - beta Due to the above adverse market developments and consequential impairment losses recorded by the Company in its betapharm cashgenerating unit, the Company has reviewed the useful life of its indefinite life intangible asset trademark/brand - beta. The carrying amount of this intangible was Rs.6,926 as at March 31, The Company believes that, as a result of the above referenced significant decline in reference prices, increase in discount contracts with SHIs and announcement of a large sale tender from AOK, the German market is moving towards non-branded price competition, and therefore diminishing the importance of the Company s trademark/ brand beta. Accordingly, as at March 31, 2009, the Company has re-assessed its trademark/brand beta to be a finite life intangible asset, and has determined its useful life to be 12 years. This change will consequently increase the future amortization expense of the Company by approximately Rs.577 (Euro 9 ) for the next 12 years. As at March 31, 2009, the carrying amount of the betapharm cash-generating unit consisted of goodwill and intangibles amounting to Rs.5,094 and Rs.13,235, respectively. Impairment losses recorded during the year ended March 31, 2008 Impairment losses recorded during the year ended March 31, 2008 also primarily related to betapharm s product related intangibles amounting to Rs.3,011. This impairment resulted from adverse market developments such as decreases in market prices and an increasing trend in certain new type of rebates being negotiated with SHIs, and further affected by supply constraints. The recoverable amount was determined under the fair value less cost to sell approach using the discounted cash flows methodology. CA Chintan Patel Pg. No. 11 of 23

12 IAS 40 Investment Property The objective of this Standard is to prescribe the accounting treatment for investment property and related disclosure requirements. (A) Definition Investment property is property (land or a building or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather than for: (a) use in the production or supply of goods or services or for administrative purposes; or (b) sale in the ordinary course of business. A property interest that is held by a lessee under an operating lease may be classified and accounted for as investment property provided that: (a) the rest of the definition of investment property is met; (b) the operating lease is accounted for as if it were a finance lease in accordance with IAS 17 Leases; and (c) the lessee uses the fair value model set out in this Standard for the asset recognised. (B) Examples of investment property: [IAS 40.8] land held for long-term capital appreciation land held for undetermined future use building leased out under an operating lease vacant building held to be leased out under an operating lease property that is being constructed or developed for future use as investment property (C) Recognition Investment property shall be recognised as an asset when, and only when: (a) it is probable that the future economic benefits that are associated with the investment property will flow to the entity; and (b) the cost of the investment property can be measured reliably. (D) Measurement Initial Measurement - An investment property shall be measured initially at its cost. Transaction costs shall be included in the initial measurement. The initial cost of a property interest held under a lease and classified as an investment property shall be as prescribed for a finance lease by paragraph 20 of IAS 17, ie the asset shall be recognised at the lower of the fair value of the property and the present value of the minimum lease payments. An equivalent amount shall be recognised as a liability in accordance with that same paragraph. Measurement subsequent to initial recognition CA Chintan Patel Pg. No. 12 of 23

13 IAS 40 permits entities to choose between: [IAS 40.30] (a) a fair value model, under which an investment property is measured, after initial measurement, at fair value with changes in fair value recognised in profit or loss; or (b) a cost model. The cost model is specified in IAS 16 and requires an investment property to be measured after initial measurement at depreciated cost (less any accumulated impairment losses). An entity that chooses the cost model discloses the fair value of its investment property. The fair value of investment property is the price at which the property could be exchanged between knowledgeable, willing parties in an arm s length transaction. (E) Disposal An investment property shall be derecognised (eliminated from the statement of financial position) on disposal or when the investment property is permanently withdrawn from use and no future economic benefits are expected from its disposal. Gains or losses arising from the retirement or disposal of investment property shall be determined as the difference between the net disposal proceeds and the carrying amount of the asset and shall be recognised in profit or loss (unless IAS 17 requires otherwise on a sale and leaseback) in the period of the retirement or disposal. (F) Disclosure Both Fair Value Model and Cost Model [IAS 40.75] whether the fair value or the cost model is used if the fair value model is used, whether property interests held under operating leases are classified and accounted for as investment property if classification is difficult, the criteria to distinguish investment property from owner-occupied property and from property held for sale the methods and significant assumptions applied in determining the fair value of investment property the extent to which the fair value of investment property is based on a valuation by a qualified independent valuer; if there has been no such valuation, that fact must be disclosed the amounts recognised in profit or loss for: o rental income from investment property o direct operating expenses (including repairs and maintenance) arising from investment property that generated rental income during the period o direct operating expenses (including repairs and maintenance) arising from investment property that did not generate rental income during the period o the cumulative change in fair value recognised in profit or loss on a sale from a pool of assets in which the cost model is used into a pool in which the fair value model is used CA Chintan Patel Pg. No. 13 of 23

14 restrictions on the realisability of investment property or the remittance of income and proceeds of disposal contractual obligations to purchase, construct, or develop investment property or for repairs, maintenance or enhancements Additional Disclosures for the Fair Value Model [IAS 40.76] a reconciliation between the carrying amounts of investment property at the beginning and end of the period, showing additions, disposals, fair value adjustments, net foreign exchange differences, transfers to and from inventories and owner-occupied property, and other changes [IAS 40.76] significant adjustments to an outside valuation (if any) [IAS 40.77] if an entity that otherwise uses the fair value model measures an item of investment property using the cost model, certain additional disclosures are required [IAS 40.78] Additional Disclosures for the Cost Model [IAS 40.79] the depreciation methods used the useful lives or the depreciation rates used the gross carrying amount and the accumulated depreciation (aggregated with accumulated impairment losses) at the beginning and end of the period a reconciliation of the carrying amount of investment property at the beginning and end of the period, showing additions, disposals, depreciation, impairment recognised or reversed, foreign exchange differences, transfers to and from inventories and owner-occupied property, and other changes the fair value of investment property. If the fair value of an item of investment property cannot be measured reliably, additional disclosures are required, including, if possible, the range of estimates within which fair value is highly likely to lie. CA Chintan Patel Pg. No. 14 of 23

15 IFRS 5 Non-Current Assets Held for Sale (A) Objective: The objective of this IFRS is to specify the accounting for assets held for sale, and the presentation and disclosure of discontinued operations. (B) Summary: (a) assets that meet the criteria to be classified as held for sale to be measured at the lower of carrying amount and fair value less costs to sell, and depreciation on such assets to cease; (b) an asset classified as held for sale and the assets and liabilities included within a disposal group classified as held for sale to be presented separately in the statement of financial position; and (c) the results of discontinued operations to be presented separately in the statement of comprehensive income. (C) Classification as Non-Current Assets Held for Sale An entity shall classify a non-current asset (or disposal group) as held for sale if its carrying amount will be recovered principally through a sale transaction rather than through continuing use. For this to be the case, the asset (or disposal group) must be available for immediate sale in its present condition subject only to terms that are usual and customary for sales of such assets (or disposal groups) and its sale must be highly probable. For the sale to be highly probable, the appropriate level of management must be committed to a plan to sell the asset (or disposal group), and an active programme to locate a buyer and complete the plan must have been initiated. Further, the asset (or disposal group) must be actively marketed for sale at a price that is reasonable in relation to its current fair value. In addition, the sale should be expected to qualify for recognition as a completed sale within one year from the date of classification, except as permitted by paragraph 9 of IFRS 5, and actions required to complete the plan should indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn. (D) Discontinued Operations A discontinued operation is a component of an entity that either has been disposed of, or is classified as held for sale, and (a) represents a separate major line of business or geographical area of operations, (b) is part of a single co-ordinated plan to dispose of a separate major line of business or geographical area of operations or (c) is a subsidiary acquired exclusively with a view to resale. CA Chintan Patel Pg. No. 15 of 23

16 IAS 36 Impairment of Assets The standard sets out the procedure that entities must apply to ensure that their assets are carried at no more than the amount expected to be recovered through use or sale of the assets. The application of IAS 36 is proving to be challenging, due in particular to the judgements and estimates that have to be made in assessing whether there are indications of impairment, in identifying cash generating units and determining the recoverable amount of assets. (A) Scope IAS 36 specifically scopes out the impairment of certain assets for which guidance is given in other standards. It does not apply to: inventories (IAS 2) assets arising from construction contracts (IAS 11) deferred tax assets (IAS 12) assets arising from employee benefits (IAS 19) financial assets that are within the scope of IAS 39 investment property that is measured at fair value (IAS 40) certain biological assets (IAS 41) certain insurance contract assets (IFRS 4) non-current assets (or disposal groups) classified as held for sale in accordance with IFRS 5 IAS 36 does apply to (among other assets): land buildings machinery and equipment intangible assets including goodwill investment property carried at cost investments in subsidiaries, associates, and joint ventures (B) Definitions Paragraph 6 provides definitions for the following key terms (among others): * Carrying amount is the amount at which an asset is recognized after deducting any accumulated depreciation (amortization) and accumulated impairment losses thereon. * A cash-generating unit is the smallest identifiable group of assets that generates cash inflows that are largely independent of the cash inflows from other assets or groups of assets. * Fair value less costs to sell is the amount obtainable from the sale of an asset or cash-generating unit in an arm s length transaction between knowledgeable, willing parties, less the costs of disposal. CA Chintan Patel Pg. No. 16 of 23

17 * An impairment loss is the amount by which the carrying amount of an asset or a cash-generating unit exceeds its recoverable amount. * The recoverable amount of an asset or a cash-generating unit is the higher of its fair value less costs to sell and its value in use. * Value in use is the present value of the future cash flows expected to be derived from an asset or cash-generating unit. (C) Identifying an asset that may be impaired According to IAS 36, an asset is impaired if its carrying amount is greater than its recoverable amount. IAS 36 requires that, at each balance-sheet date, an organization must assess whether there are any indications that assets may be impaired. If an indication of impairment exists, the organization is required to estimate the recoverable amount of the asset. Note that with respect to requirements for measuring recoverable amounts, and the general requirements for reversing an impairment loss, the standard uses the term assets ; notwithstanding, the requirements apply both to individual assets and to cash-generating units. (D) Annual testing requirements In addition to testing when there are indications of possible impairment, the following intangible assets must be tested for impairment (by comparing carrying amounts and recoverable amounts) on an annual basis, regardless of whether or not there is any indication of impairment: Intangible assets with indefinite useful lives Intangible assets not yet available for use Goodwill acquired in a business combination (E) Measuring recoverable amount IAS 36 defines an asset s recoverable amount as the higher of its fair value less costs to sell and its value in use. Accordingly, it is not always necessary to determine both the fair value less costs to sell and its value in use, because if either of these amounts exceeds the asset s carrying amount, the asset is not impaired. (F) Reversing an impairment loss Reversal of an impairment loss for goodwill is prohibited. The logic behind this relates to the fact that if goodwill has previously been impaired and then is regenerated, it is essentially new goodwill. This would be considered an internally generated intangible which cannot be recognized as per IAS 38. For assets or cash-generating units other than goodwill, the requirements for reversing a previously recognized impairment loss follow the same approach as for the identification of impairments. If a potential reversal in impairment is indicated, the recoverable amount of the asset or unit is estimated. If there has been a change in the estimates used to determine the asset s recoverable amount since the last impairment loss was recognized, the carrying amount of the asset is increased to its recoverable amount. However, the increased carrying amount of an individual asset due to CA Chintan Patel Pg. No. 17 of 23

18 reversal should not be more than the carrying amount that would have been determined (net of amortization) if no impairment loss had been recognized for the asset in prior years. Paragraph 119 requires that the reversal of an impairment loss be recognized immediately as income in the income statement unless the asset is carried at a revalued amount in accordance with another standard (consistent with the treatment of impairment losses, the reversal of such a loss is treated as a revaluation increase in accordance with that other standard). After a reversal of an impairment loss is recognized, amortization is adjusted for future periods. (G) Presentation and disclosure As with most other standards, IAS 36 provides a long list of disclosure requirements. To begin, for each class of assets, the financial statements must disclose the amount of impairment losses and reversals recognized in profit or loss during the period and the line item(s) of the statement of comprehensive income in which those impairment losses and reversals are included; and the amount of impairment losses and reversals on revalued assets recognized in other comprehensive income during the period. An entity that reports segment information in accordance with IFRS 8 is required to disclose, for each reportable segment, the amount of impairment losses and reversals recognized in profit or loss and in other comprehensive income during the period. Infosys ( ) (Relevant extract from annual report) 1.12 Impairment a. Financial assets The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or a group of financial assets is impaired. A financial asset is considered impaired if objective evidence indicates that one or more events have had a negative effect on the estimated future cash flows of that asset. Individually significant financial assets are tested for impairment on an individual basis. The remaining financial assets are assessed collectively in groups that share similar credit risk characteristics. (i) Loans and receivables Impairment loss in respect of loans and receivables measured at amortized cost are calculated as the difference between their carrying amount, and the present value of the estimated future cash flows discounted at the original effective interest rate. Such impairment loss is recognized in the income statement. (ii) Available-for-sale financial assets Significant or prolonged decline in the fair value of the security below its cost and the disappearance of an active trading market for the security are objective evidence that the security is impaired. An impairment loss in respect of an available-for-sale financial asset CA Chintan Patel Pg. No. 18 of 23

19 is calculated by reference to its fair value. The cumulative loss that was recognized in the equity is transferred to the income statement upon impairment. b. Non-financial assets (i) Goodwill Goodwill is tested for impairment on an annual basis and whenever there is an indication that goodwill may be impaired, relying on a number of factors including operating results, business plans and future cash flows. For the purpose of impairment testing, goodwill acquired in a business combination is allocated to the Group's cash generating units (CGU) expected to benefit from the synergies arising from the business combination. A CGU is the smallest identifiable group of assets that generates cash inflows that are largely independent of the cash inflows from other assets or group of assets. Impairment occurs when the carrying amount of a CGU including the goodwill, exceeds the estimated recoverable amount of the CGU. The recoverable amount of a CGU is the higher of its fair value less cost to sell and its valuein- use. Value-in-use is the present value of future cash flows expected to be derived from the CGU. Total impairment loss of a CGU is allocated first to reduce the carrying amount of goodwill allocated to the CGU and then to the other assets of the CGU pro-rata on the basis of the carrying amount of each asset in the CGU. An impairment loss on goodwill is recognized in income statement and is not reversed in the subsequent period. (ii) Intangible assets and property, plant and equipment Intangible assets and property, plant and equipment are evaluated for recoverability whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable. For the purpose of impairment testing, the recoverable amount (i.e. the higher of the fair value less cost to sell and the value-in-use) is determined on an individual asset basis unless the asset does not generate cash flows that are largely independent of those from other assets. In such cases, the recoverable amount is determined for the CGU to which the asset belongs. If such assets are considered to be impaired, the impairment to be recognized in the income statement is measured by the amount by which the carrying value of the assets exceeds the estimated recoverable amount of the asset. c. Reversal of impairment loss An impairment loss for an asset other than goodwill is reversed if, and only if, the reversal can be related objectively to an event occurring after the impairment loss was recognized. The carrying amount of an asset other than goodwill is increased to its revised recoverable amount, provided that this amount does not exceed the carrying amount that would have been determined (net of any accumulated amortization or depreciation) had no impairment loss been recognized for the asset in prior years. A reversal of impairment loss for an asset other than goodwill and available- for-sale financial assets that are equity securities is recognized in the income statement. For available-for-sale financial assets that are equity securities, the reversal is recognized directly in equity. 2.9 Goodwill and intangible assets CA Chintan Patel Pg. No. 19 of 23

20 Following is a summary of changes in the carrying amount of goodwill : Goodwill has been allocated to the cash generating units (CGU), identified to be the operating segments as follows : For the purpose of impairment testing, goodwill acquired in a business combination is allocated to the CGU which are operating segments regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated to the segment and to assess its performance. The recoverable amount of a CGU is the higher of its fair value less cost to sell and its value-in-use. The fair value of a CGU is determined based on the market capitalization. The value-in-use is determined based on specific calculations. These calculations use pretax cash flow projections based on financial budgets approved by management and average of the range of each assumption mentioned below. As at the date of transition to IFRS, there was no impairment of goodwill. Further, as at March 31, 2009, the estimated recoverable amount of the CGU exceeded its carrying amount. The recoverable amount was computed based on the fair value being higher than value-in-use and the carrying amount of the CGU was computed by allocating the net assets to operating segments for the purpose of impairment testing. The key assumptions used for the calculations are as follows : * Long term growth rate 8% - 10% * Operating margins 17% - 20% * Discount rate 13.3% The above discount rate is based on the Weighted Average Cost of Capital (WACC) of the company. These estimates are likely to differ from future actual results of operations and cash flows. CA Chintan Patel Pg. No. 20 of 23

21 Following is a summary of changes in the carrying amount of acquired intangible assets : The identified intangible customer contracts recognized consequent to the Philips acquisition are being amortized over a period of seven years, being management's estimate of the useful life of the respective assets, based on the life over which economic benefits are expected to be gained. As of March 31, 2009, the customer contracts have a remaining amortization period of six years. The aggregate amortization expense included in cost of sales, for the year ended March 31, 2009 was $4 million. For the year ended March 31, 2008, the aggregate amortization expense was less than $1 million. Research and development expenses recognized in the income statement were $51 million and $50 million for the year ended March 31, 2009 and 2008, respectively. CA Chintan Patel Pg. No. 21 of 23

22 Case Study : IAS 36 Impairment Testing At the end of 2000, White Ltd has acquired Pink Ltd. for CU 10,000. Pink Ltd. has manufacturing plants in three countries. Schedule 1 : Data at the end of year 2000 Allocation of Purchase Price CU Fair Value of identifiable assets CU Goodwill CU (a) Activities in Country A 3,000 2,000 1,000 Activities in Country B 2,000 1, Activities in Country C 5,000 3,500 1,500 Total 10,000 7,000 3,000 (a) Activities in each country represent, the lowest level at which the goodwill is monitored for internal management purpose (determined as the difference between the purchase price of the activities in each country, as specified in the purchase agreement and the fair value of the identifiable assets). The recoverable amounts (i.e. higher of value in use and fair value less cost to sell) of the CGU are determined on the basis of value in use calculations. At the end of year 2000 and 2001, the value in use of each country and the goodwill allocated to those activities are regarded as not impaired. At the beginning of 2002, a new government is elected in country A. it passes legislation significantly restricting exports of White Ltd. s main product. As a result and for the foreseeable future, White Ltd. production in Country A will be cut by 40%. The significant export restriction and the resulting production decrease require White Ltd. also to estimate the recoverable amount of the country A operations at the beginning of White Ltd. uses straight line depreciation over 12 year life for the country A identifiable assets and anticipates no residual value. To determine the value in use for the country A cash generating unit (see Schedule 2) White Ltd: (a) prepares cash flow forecasts derived from the most recent financial budget/forecasts for the next five years (years ) approved by management (b) estimates subsequent cash flows (years ) based on declining growth rates. The growth rates for 2007 is estimated to be 3%. This rate is lower than the average long term growth rate for the market in Country A. CA Chintan Patel Pg. No. 22 of 23

23 (c) selects a 15% discount rate, which represents a pre-tax rate that reflects current market assessments of the time value of money and the risks specific to the Country A cash generating unit. Schedule 2 Year Long term growth rates Future Cash Flows % 2008 (2)% 2009 (6)% 2010 (15)% 2011 (25)% 2012 (67)% Note: Future Cash Flows based on management s estimate of net cash flows projections (after 40% cut). (A) Determine Recognition and Measurement of impairment loss for the country A cash generating unit at the beginning of year At the beginning of 2002, the tax base of the identifiable assets of the Country A cash generating unit is CU 900. Impairment losses are not deductible for tax purposes. The tax rate is 40%. (B) Determine impact of recognition of an impairment loss on deferred tax liability. In 2003, the government is still in office in Country A, but the business situation is improving. The effects of the export laws on White Ltd. s production are proving to be less drastic than initially expected by management. As a result, management estimates that production will increase by 30%. This favourable change requires White Ltd. to reestimate the recoverable amount of the net assets of the country A operations. The cash generating unit for the net assets of the country A operations is still the Country A operations. The recoverable amount of the Country A cash generating unit is at the end of year 2003 is CU (C) Determine Reversal of Impairment Loss (Source: Illustrative Examples as published by IASC Foundation). CA Chintan Patel Pg. No. 23 of 23