Building a Global Valuation Expertise Session 1.3 Doug McPhee CA I CBV Partner & Global Head of Valuation Services Professional Board Member - IVSC
Impairment Testing Overview IAS 36 paragraph 18: Recoverable Amount ( RA ) is the higher of Fair Value Less Cost to Sell ( FVLCTS ) and Value in Use ( VIU ) of an asset or Cash Generating Unit ( CGU ) Estimate RA FVLCTS VIU IAS 36 paragraph 18: Recoverable Amount ( RA ) is the higher of Fair Value Less Cost to Sell ( FVLCTS ) and Value in Use ( VIU ) of an asset or Cash Generating Unit ( CGU ) IAS 36 paragraph 19: Not always necessary to determine both an asset s FVLCTS and its VIU; if either of these are greater than CA then the asset is not impaired IAS 36 paragraph 20: It may be possible to determine FVLCTS even if an asset is not traded in an active market. If no reliable estimate is obtainable the entity may use VIU as its RA expected to be derived from an asset or CGU IAS 36 paragraph 21: For assets held for disposal, an asset s VIU will not materially exceed its FVLCTS, as VIU will mainly consist of the net disposal proceeds 2
Impairment testing FVLCTS Key issue is whether the resulting FVLCTS is a reliable estimate of the amount at which the asset could be sold to a third party Multiples Approach Basis: - Comparable listed companies - Comparable recent transactions - Do buyer specific synergies increase fair value - Consider whether any control premium is appropriate DCF Approach Cost To Sell Can only be used if: - Is common valuation practice in the industry - Cash flows are only those that a market participant would take into account when assessing fair value (both in regards to type and amount of cash flow) - A market participant discount rate is applied IAS 36 paragraph 28 3
Impairment testing VIU Excludes future restructurings not yet committed to or enhancement of assets Best estimate of economic conditions that will exist over life of the asset... Estimating the future cash inflows and outflows to be derived from continuing use of the asset and from its ultimate disposal Justifiable long term growth Cash flows prefinancing and pretax Future cash flows for VIU Maximum period of 5 years, unless longer can be justified Greater weight given to external evidence Reasonable and supportable assumptions Most recent approved budgets/ forecasts 4
Impairment Testing Discount Rate... IAS 36 requires a pre-tax discount rate IAS 36 Requires VIU to be determined using pre-tax cash flows and a pre-tax discount rate In practice WACC is estimated on a post-tax basis, therefore it is more common to use post-tax cash flows and a post-tax discount rate In theory Solution Discounting post-tax cash flows at a post-tax rate and discounting pre-tax cash flows at a pre-tax discount rate should give the same result Starting point should be the value on the post-tax basis - the implied pre-tax discount rate is estimated by back-solving using pre-tax cash flows and the value implied by the post-tax VIU 5
Impairment Testing Example Indicators Significant decline in market value Technological, market, legal environment Market cap < Book values Increased interest rates External sources Change in use of asset Obsolescence or physical damage Planned disposal / restructuring Performance of assets declining Internal sources 6
Impairment Testing Other Considerations? How do the forecasts compare to those used in previous tests and at acquisitions? Do the overall cash flows and terminal growth assumptions make sense? How do actual results compare to budget?? How does the top-line growth compare to the relevant market growth Are there any unusual / unexpected fluctuations or adjustments in the cash flows? Has transfer pricing been appropriately dealt with? What is driving expected growth, and is this reasonable 7
Impairment Testing Market Issues 8