This article discusses the testing of long-lived assets for impairment under ASC 360-10.  It should be noted that there are significant differences between the tests required for indefinite lived assets under ASC 350-30, long-lived assets under ASC 360-10, and goodwill under ASC 350-20.  Performing these tests in the proper order is critical to concluding the correct amounts of impairment (if any).  The order for impairment testing is as follows:

  1. Indefinite lived assets
  2. The long-lived assets
  3. Goodwill

 

Asset Group Determination

The first step in performing a long-lived asset impairment test is to determine the proper asset or asset grouping to test.  This is a subjective decision that has led to differences in practice.  The standards explains it as follows:

For purposes of recognition and measurement of an impairment loss, a long-lived asset or assets shall be grouped with other assets and liabilities at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities[1]

In limited circumstances, a long-lived assets (for example, a corporate headquarter facility) may not have identifiable cash flows that are largely independent of the cash flows of other assets and liabilities and of other asset groups. In these circumstances, the asset group for that long-lived asset shall include all assets and liabilities of the entity.[2]

Without going into too much detail, we have seen companies test long-lived assets under the assumption that each asset is an asset group.  This is similar to a business combination valuation (purchase price allocation) under ASC 805.  We have also seen companies test entire reporting units (or the entire company as a whole) as an asset group.  Both of these positions appear to be supported by language within the standard and we have seen little push back from auditors for either approach.  If the facts and circumstances can support the position that the entire reporting unit is an asset group we would suggest this position be adopted.  Using only one asset group typically results in a lower probability of impairment and requires less work.

 

Triggering Event

Before any sort of valuation or financial forecasts are created a company should determine whether events or changes in circumstances indicate that the asset group’s carrying amount may not be recoverable.  Some factors to consider when making this determination are listed in ASC 360-10-35-21.  Many of these factors suggest that a significant negative event have occurred.  The reason significant is used in many of these factors is that the term ‘recoverable’ is significantly different from the concept of fair value.

Recoverable, in the context of ASC 360, means that the expected cash flows of the asset group will be less than the carrying value of the asset group.  When looking at the expected cash flows it is typical to ignore taxes and interest.  In addition, the cash flows are to be aggregated on an undiscounted basis.  This usually results in the asset group’s recoverable value being much greater than its fair value.   If after considering the factors listed in ASC 360-10-35-21 it is determined that the asset group’s carrying value may not be recoverable then a recoverability test must be performed.

 

Recoverability Test

The recoverability test is performed by forecasting the expected cash flows to be derived from the asset group for the remaining useful life of the asset group’s primary asset (primary asset is defined below).   Unlike the cash flows forecasted in a ‘fair value’ test, the recoverability test relies upon the cash flows to be derived from the company’s specific use of those assets and does not consider how a market participant would those assets.

As was mentioned previously, the forecasted cash flows in this test should not include interest expense or taxes.  The cash flows should also be based upon the existing service potential of the current assets.  This means that improvements which would materially enhance any of the assets in the group should not be assumed.  For example, it would be proper to assume that the roof on a manufacturing facility will be repaired or replaced for typical maintenance purposes. However, it would be improper to assume that the manufacturing facility will be expanded to allow for additional production lines.

If there are assets in the group that have remaining useful lives greater than the primary asset’s, it would be appropriate to assume the group is sold at end of primary asset’s remaining useful life.[3]   We find that most audit firms will allow a one-time cash flow in the final period equal to the estimated fair value of the working capital and fixed assets at that time.  Disagreement typically occurs around the issue of intangible value, or enterprise going concern value (goodwill), and whether that would exist in the final period.

 

Primary Asset

When an asset group is determined to be the level at which impairment testing should be performed, a primary asset must be determined.  The primary asset should be the “principal long-lived tangible asset being depreciated or intangible asset being amortized that is the most significant component asset from which the asset group derives its cash-flow-generating capacity. . .”[4]   Factors to consider when determining the primary asset include, the level of investment required to replace the asset, the remaining useful life of the asset relative to the other assets in the group, and the asset most desired by a buyer.

Selecting the primary asset is another subjective determination required under ASC 360.  It is typically in a company’s best interest to choose an asset which has the longest remaining useful life, as this results in more cash flows to be recovered.  In our experience the most commonly chosen primary assets are the customer relationships or the technology.

 

Fair Market Value Test

If the recoverability test is failed a second test is required to calculate the amount of the impairment (if any).  This second test calculates the fair value of the asset or asset group, with the impairment being the amount by which the carrying value exceeds the asset or asset group’s fair value.  Under this test, the financial projections have be recreated using market participant assumptions and fair value concepts.  If this test is required it may be beneficial to bring in a valuation expert, as this test is usually performed in tandem with the goodwill impairment test.


[1] ASC 360-10-35-23.

[2] ASC 360-10-35-24.

[3] ASC 360-10-35-32(c).

[4] ASC 360-10-35-31.