How Impairment Testing Works for Tangible and Intangible Assets

Impairment testing ensures that assets are not carried at amounts exceeding their recoverable economic value.

It protects the integrity of the balance sheet by forcing recognition of losses when future benefits decline due to operational, market, or strategic changes.

Impairment accounting relies on judgment, estimation, and disciplined process rather than mechanical recalculation.

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Impairment arises when carrying amounts exceed recoverable value.

An asset is impaired when its carrying amount is higher than the amount expected to be recovered through use or sale.

Recoverability reflects economic reality rather than historical cost or past performance.

Indicators such as declining demand, technological obsolescence, adverse regulatory changes, or physical damage often trigger impairment reviews.

Impairment testing therefore responds to changes in circumstances rather than routine accounting cycles.

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Tangible and intangible assets follow similar logic with different application.

Property, plant, and equipment are tested for impairment when indicators are present.

Finite-lived intangible assets follow the same trigger-based approach.

Indefinite-lived intangible assets and goodwill are tested at least annually, regardless of indicators.

The frequency and depth of testing depend on asset characteristics rather than management discretion.

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Recoverable amount reflects value in use and fair value less costs to sell.

Under IFRS, recoverable amount is defined as the higher of value in use and fair value less costs to sell.

Value in use represents the present value of expected future cash flows from continued use of the asset.

Fair value less costs to sell reflects exit pricing adjusted for disposal costs.

The higher of the two determines whether impairment exists and how large it is.

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Cash-generating units anchor impairment testing in operational reality.

When individual assets do not generate independent cash flows, testing is performed at the cash-generating unit level.

A CGU represents the smallest identifiable group of assets generating largely independent inflows.

Goodwill is allocated to CGUs expected to benefit from the related acquisition.

Defining CGUs requires alignment with how management monitors performance and allocates resources.

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Discounted cash flow models drive most impairment outcomes.

Value in use calculations rely on discounted cash flow projections.

Key assumptions include revenue growth, operating margins, capital expenditure, working capital, and terminal growth.

Discount rates reflect time value of money and asset-specific risk.

Small changes in assumptions can materially affect impairment conclusions, making transparency and consistency essential.

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Impairment losses affect profit immediately but not cash.

When impairment is recognized, the carrying amount of the asset is reduced and an expense is recorded.

This expense reduces operating profit or other income statement measures depending on presentation.

No cash outflow occurs at the time of impairment recognition.

The cash impact occurred earlier when the asset was acquired or constructed.

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Reversals are limited and asymmetrical.

Impairment losses for assets other than goodwill may be reversed when recoverable amounts increase.

Reversals are capped at the carrying amount that would have existed absent impairment.

Goodwill impairments are never reversed under either IFRS or US GAAP.

This asymmetry makes goodwill impairment particularly sensitive for market perception.

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Disclosure explains assumptions and uncertainty behind impairment testing.

Entities must disclose key assumptions used in impairment models.

Sensitivity analysis is required when reasonable changes in assumptions could trigger impairment.

Disclosures aim to make estimation uncertainty visible rather than eliminate it.

Opaque or boilerplate disclosures undermine the usefulness of impairment reporting.

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Illustrative impairment mechanics clarify financial statement impact.

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Impairment Testing Mechanics in Practice

Step	Action	Financial Statement Effect
Identify indicators	Assess internal and external signals	Trigger impairment review
Determine CGU	Define cash-generating unit	Scope of testing
Estimate recoverable amount	DCF or market-based valuation	Basis for comparison
Recognize impairment	Reduce carrying amount	Expense in profit or loss

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These steps emphasize process discipline rather than valuation sophistication alone.

Robust documentation supports audit review and governance oversight.

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Impairment testing links strategic outcomes to accounting consequences.

Impairment often reflects strategic missteps, market disruption, or over-optimistic investment assumptions.

It forces recognition of economic reality even when operational recovery is hoped for.

Well-executed impairment testing strengthens credibility by aligning reported asset values with future expectations.

Impairment accounting therefore acts as a corrective mechanism between strategy, performance, and financial reporting.

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