Depreciation &

Impairment under GAAP

and IFRS

William Davis

Nicole Lunt

Depreciation under GAAP

Current Authoritative Source? – Codification

topic 360-10-05 (Covers Depreciation &

Impairment).

Depreciation:

A Means of Cost Allocation

Depreciation under GAAP cont’d

Three Steps of the Depreciation Process:

Find depreciable base of the asset

Original Cost $XXXX

Less: Salvage Value XXXX

Depreciable Base $XXXX

Estimate asset’s useful life

Depreciation under GAAP cont’d

Choose a method of cost apportionment

that best matches revenue flow from the

asset

Activity (units of use or production)

Straight-line

Accelerated

- sum-of-the-years’-digits

- declining-balance (150% / 200%)

Depreciation under GAAP cont’d

Three Important Notes About Depreciation:

PP&E held for sale is not depreciated

PP&E is not written up by an enterprise to

reflect appraisal, market, or current values

which are above cost to the enterprise

Depreciation under GAAP cont’d

Estimates of useful life and residual value,

and the method of depreciation, are reviewed

only when events or changes indicate that the

current estimates or depreciation method no

longer are appropriate

Depreciation under IFRS

Current Authoritative Source – IAS 16

Same as GAAP except for two main

differences:

Depreciation under IFRS cont’d

Estimates of useful life and residual value,

and the method of depreciation, are reviewed

at least at each annual reporting date

For a company currently using GAAP a

change to IFRS could result in a greater

frequency of revisions in depreciation rates,

which in turn could mean less predictable

depreciation expense

Depreciation under IFRS cont’d

IFRS allows a company to choose between

two different models in order to value PP&E

after it has been recognized on the books:

Cost model – this model is like GAAP where

PP&E is carried at its cost less any

accumulated depreciation and any

accumulated impairment losses

Depreciation under IFRS cont’d

Revaluation model – this model allows a

company to revalue PP&E on its books to fair

value if fair value can be reliably measured

For a company currently using GAAP a change to

IFRS and the use of the revaluation model could

lead to a substantial increase in asset values on

the balance sheet as well as a corresponding

substantial increase in depreciation expense

Example

Facts: At the beginning of the year a company

has a building with a carrying value of

$100,000 and a remaining useful life of 10

years that was recently valued at $300,000

Under GAAP depreciation expense for the year

would be $10,000 (assuming straight-line)

Under IFRS depreciation expense for the year

could be either $30,000 or $10,000

Depreciation under IFRS cont’d

Three Important Notes About Depreciation:

If an item of PP&E is revalued, the entire

class of PP&E to which the asset belongs

has to be revalued

Examples of separate classes: land,

machinery, motor vehicles, office equipment

Items in a class of PP&E are revalued

simultaneously to avoid selective revaluation

of assets

Depreciation under IFRS cont’d

If an asset is revalued up, the increase is

credited directly to equity under the heading

of revaluation surplus

An increase is recognized in P&L to the extent

that it reverses a revaluation decrease of the

same asset previously recognized in P&L

When PP&E is revalued, any accumulated

depreciation can be treated in one of two

ways:

Example

Facts: A company using IFRS (revaluation

model) has a piece of equipment with a cost

of $10,000 and acc. depr. of $2,000. The

equipment is revalued to a FMV of $20,000

Balance Sheet Presentation:

Before After

Equipment $10,000 $25,000

Less: acc depr 2,000 5,000

Carrying value $8,000 $20,000

Impairment under GAAP

Current Authoritative Source – (SFAS No.

144supersedes SFAS No. 121)

For purpose of this discussion, impairment

does not include goodwill or intangible

assets that are not amortized, which are

covered in SFAS No. 142

Impairment under GAAP cont’d

Five central questions must be answered in

order to understand impairment under

GAAP:

Impairment under GAAP cont’d

What is impairment?

Impairment is the condition that exists when

the carrying amount of a long-lived asset

exceeds its fair value

When is an impairment loss recognized?

An impairment loss is recognized only if the

carrying amount of a long-lived asset is not

recoverable and exceeds its fair value

Impairment under GAAP cont’d

When is the carrying amount not

recoverable?

When the carrying amount exceeds the sum of

the undiscounted cash flows expected to

result from the use and eventual disposition of

the asset

Undiscounted cash flows = [ future cash

inflows (including sale of the asset) – future

cash outflows (including maintenance costs,

but not interest charges)]

Impairment under GAAP cont’d

How is an impairment loss measured?

An impairment loss is the amount by which the

carrying amount of a long-lived asset exceeds

its fair value

When is a long-lived asset tested for

recoverability?

Whenever events or changes in

circumstances indicate that its carrying

amount may not be recoverable

Impairment under GAAP cont’d

Important Note About Impairment:

Restoration of a previously impaired loss is

prohibited unless the long-lived asset is to

be disposed of by sale

Impairment under IFRS

Current Authoritative Source – IAS 36

Four central questions must be answered in

order to understand impairment under

IFRS:

Impairment under IFRS cont’d

What is impairment?

Impairment is the condition that exists when

the carrying amount of a long-lived asset

exceeds its recoverable amount

Recoverable amount of a long-lived asset is the

higher of its fair value and discounted cash

flows

Discounted cash flows are calculated the same

way as for GAAP except that a discount rate is

applied to the cash flows

Impairment under IFRS cont’d

When is an impairment loss recognized?

An impairment loss is recognized only if the

carrying amount of a long-lived asset is more

than its recoverable amount

How is an impairment loss measured?

An impairment loss is the amount by which the

carrying amount of a long-lived asset exceeds

its recoverable amount

Impairment under IFRS cont’d

When is a long-lived asset tested for

recoverability?

An entity must assess at the end of each

reporting period whether there is any

indication that a long-lived asset may be

impaired

For a company currently using GAAP a change to

IFRS could result in smaller, more frequent,

impairment charges

Impairment under IFRS cont’d

The one big difference between IFRS and

GAAP:

Impairments of long-lived assets that are not

being held for sale can be fully reversed !!!

For a company currently using GAAP a

change to IFRS could result in greater

fluctuations in net income and asset valuations

on the balance sheet

Example

Facts: A company owns a piece of machinery

that has a carrying value of $50,000 at year

end and recent developments in machine

technology have called into question the

recoverability of the machine’s carrying

amount.

Example cont’d

FMV = $42,000 / Discounted CF’s = $37,000

Undiscounted CF’s = $39,000 / Recoverable

Amount = $42,000

GAAP IFRS

CV $50,000 $50,000

- 42,000(FMV) - 42,000(R Amt)

Impairment $8,000 $8,000

Example cont’d

FMV = $36,000 / Discounted CF’s = $37,000

Undiscounted CF’s = $39,000 / Recoverable

Amount = $37,000

GAAP IFRS

CV $50,000 $50,000

- 36,000(FMV) - 37,000(R Amt)

Impairment $14,000 $13,000

Questions?