Property, Plant and Equipment (4): Impairment

PPE’s next subsequent treatment!!!!!!!

Impairment!!!

This one’s a Valuation thing :-)

With Depreciation, the point wasn’t to value the asset — it was to spread the cost out so it matched up against the expenses it was generating.

Impairment is different. Here the whole goal is to say “hey, the value actually dropped,” and push that onto the B/S.

So whether you’re running the cost model or the revaluation model for PPE — doesn’t matter —

if the PPE on your books has gone bad, you have to recognize an Impairment Loss.

(So: Depreciation, every single period. Impairment, not every period — only when there’s a real gap between book value and what the asset is actually worth now. In practice, apparently, people do this maybe once every 2–3 years.)

And the order goes like this: under the cost model, you run depreciation first → then, if there are impairment indicators, you do the impairment. Under the revaluation model (IFRS): run depreciation → revalue to FV using the revaluation model → then if impairment applies, do that too.

Wait.

What do I even mean by “gone bad”?

I mean the value of the thing as an asset has fundamentally collapsed. That’s “gone bad.”

(Not “the market price dropped a lot.” That’s not what “gone bad” means. Different thing.)

Example. Say I own a Sonata right now and I’m pulling 500 a month doing delivery.

If the Sonata’s resale price suddenly tanks to 1,000,000 won — that’s not impairment. I can still drive it around and pull my 500 a month. Economically, nothing changed for me.

But what if the government drops a “Sonata Prohibition Act” on us tomorrow?

Now this Sonata has no expected future economic benefit at all…..?

That’s gone bad.

OK. Impairment also splits depending on why you’re holding the PPE:

1. Held for Use — US-GAAP and IFRS handle it differently.
2. Held for Sale (asset held for sale) — the two are basically the same.

1. Held for Use — US-GAAP

Two steps here.

Step 1. Recovery Test

You compare the BV of the PPE against the total future cash flow you expect to squeeze out of it. (That comparison is the “Recovery Test.”)

(Heads up though — when you tally up that total future cash flow, you do not discount it back to present value. The idea is probably “don’t let people massage the discount rate to get whatever answer they want.”)

If BV comes out bigger than that cash flow, the asset is considered “gone bad,” and you move on to step 2.

Step 2 is figuring out how big the loss is.

Step 2.

LOSS = PPE BV − PPE FV

That runs through Non-Operating Income on the I/S.

Once you’ve booked the impairment?

No recovery allowed. Done.

And depreciation just keeps chugging along, from that new lower price.

OK but how do you even measure total future cash flow?

Honestly — the accountants handle that, you don’t really need to know….

Apparently they use historical data based on cash-generating units or something.

Like — imagine I’m running a cram school. Trying to pin down the future cash flow of a single chalkboard or a specific desk? Awkward, right?

But you can estimate future CF for the whole operation, using stuff like the class schedule and student enrollment,

and then you spread that CF across the desks and chalkboards and chairs and… somehow they sort it out, heh.

That’s it for US-GAAP.

2. Held for Use — IFRS

IFRS: just one step.

LOSS = PPE BV − Recovery Amount

Recovery Amount = Max(Net Selling Price, Value in Use)

Net Selling Price = Selling Price − Selling Cost

(What’s the difference between Net Selling Price and Fair Value…? Here it’s not just fair value — it’s net fair value, the price you’d actually get in a normal market transaction..!)

Value in Use = Present Value of Future Cash Flow

Differences from US-GAAP: one, IFRS does discount to PV when rolling up future CF.

Two, Recovery is allowed. And (under the cost model) you can recover up to the amount you previously impaired.

(Technically this is called reversal of impairment loss, and the ceiling is “what the book value would’ve been if you’d just been running normal depreciation and never impaired at all.”

Simpler way to say it: the ceiling is ’the book value in the alternate universe where impairment never happened and depreciation kept ticking down normally.'

…OK I didn’t really want to get into this because it gets confusing, but — this is about impairment under the cost model.

Under IFRS you can also recognize impairment while using the revaluation model, right?

And the standard does not actually clearly specify the recovery ceiling when you’ve impaired something that’s on the revaluation model. lol lol lol lol lol

Ugh so confusing lol lol ugh seriously….. lol this is stuff you 100% do not need for CFA lol lol lol lol

But aren’t you kinda curious???? Eh whatever, I don’t care.

Because it’s not clearly specified, different textbooks do it different ways. Some recover up to Fair Value, some recover up to the Recovery Amount I defined above. lol lol lol

And then — if this showed up on an exam other than CFA, like CPA??? Apparently whenever it’s come up, they write the question so the answer works out the same no matter which method you use. lol

Speaking of impairment under the revaluation model — if you’ve been using the revaluation model, you might have Revaluation Surplus piled up, right? If so, the impairment loss eats the Revaluation Surplus first, and whatever’s left over runs through current period P/L and dings Net Income.

And when you reverse it: if there was a past hit that ran through P/L as a loss, you recover that first, and anything beyond that goes back into Revaluation Surplus…..

But wait. The revaluation model marks PPE at Fair Value,

and Impairment uses Net Fair Value… so can impairment even happen under the revaluation model, really?

If you caught that — you’re a genius!!!! Go get your CPA right now. lol lol lol lol

Apparently — when you’re on the revaluation model, if the Selling Cost (disposal incidentals) is negligible, the chance that the revalued amount has somehow been impaired is pretty slim.

Ehhh just don’t bother knowing this lol lol lol lol lol)

(I rendered all that in tiny white text. I figured it’s better if you can’t see it lol lol

You’re gonna click-drag to read it anyway, aren’t you???? Then brace yourself lol lol — extremely hazardous to your mental health lol lol)

OK OK OK OK OK

All that blabbering above — in one single picture! heh heh heh heh

And here’s how the financial statements actually move when you book this impairment loss:

1. PPE goes down → Earnings go down.
2. Zero impact on Cash Flow though.
3. From next year on, Depreciation charges are smaller, which can actually boost reported profits — boom.

So apparently there are two ways to read this:

1. “Hmm, weren’t you guys a little aggressive back when you set that Useful Life and Salvage Value…?”
2. “Did management just… change, by any chance?” (As in — write down the old stuff in one big hit so the smaller-depreciation profit bump next year looks like the new team’s achievement.)

→ …I’ve attached the financial statements of Pos-X that pulled exactly this kind of big bath…..

If you can read those statements and see right through it — you are !!!

Go invest in stocks! Right now! I’ll hand you my money too, please manage it with yours ^^

OK let’s see where we’ve gotten to heh heh heh heh

We made it to Impairment.

And Impairment depends on why you’re holding the PPE —

tangible assets you’re actively using and plan to keep using,

vs.

3. Held for Sale — (US-GAAP, IFRS)

Once it’s fully decided the asset is getting disposed of, from that point on it gets reclassified as a ‘Held for Sale’ asset.

(And the moment it’s classified as Held for Sale, depreciation fully stops.)

Impairment for this kind of asset is a little different from the Held for Use case like I mentioned,

and here, US-GAAP and IFRS treat it pretty much the same heh.

Quick touch and move on:

OK — Impairment, done.

Let me also knock out Derecognition real quick while we’re here, and wrap this thing up!

There are all kinds of scenarios where an asset just vanishes off the B/S.

Disposition / Casualty / Condemnation / Abandonment / Exchange, etc…

But in every single one, the treatment is the same:

Book Value goes out, and the difference between that and whatever new consideration comes in (at Fair Value) gets booked as a Gain or Loss.

Apparently this isn’t a huge deal for CFA purposes….

But if they wanted to crank the difficulty up to max, apparently it’d look something like this.

Yeah…. I’m just gonna get this one wrong……………

Originally written in Korean on my Naver blog (2021-05). Translated to English for gdpark.blog.