Impairment test according to IFRS IAS 36 and German-GAAP: Basics and pitfalls

Find out how an impairment test is carried out, what the IFRS requirements are and which errors can be avoided.

Definition of impairment test

The impairment test is an important accounting instrument used to determine the actual value of assets. It is subject to the regulations of the IFRS (International Financial Reporting Standards) or the German-GAAP (German Commercial Code) and plays a central role in determining whether an asset is impaired and requires impairment. According to IFRS IAS 36, an impairment exists if the carrying amount of an asset exceeds the recoverable amount. In the German-GAAP, the impairment of assets is regulated in Section 253 German-GAAP.

Application of the impairment test in accordance with IFRS

IFRS prescribes an annual impairment test for goodwill and certain intangible assets; the date can be freely chosen for the first test, but thereafter it must always be carried out on this date. Other assets are subject to the impairment test if there are indications of impairment and thus amortization.

The impairment test in accordance with IFRS involves estimating the recoverable amount of an asset, which is determined on the basis of fair value less costs to sell or value in use. Performing the test requires the use of sound assumptions, such as future cash flows, discount rates and growth rates. It is important to perform sensitivity analyses to assess the impact of changes in assumptions.

Differences in the impairment test according to German-GAAP

The German-GAAP impairment test differs from the IFRS impairment test in a number of ways. Under the German-GAAP, the regulations on the impairment of assets are set out in Section 253 German-GAAP. A special feature of the German-GAAP is that an impairment loss is only recognized if there is a permanent loss in value. In contrast to IFRS, German-GAAP does not require companies to carry out an impairment test if there are no indications of possible impairment. However, companies are required to carry out regular impairment tests on their assets and take into account any indications of impairment.

Valuation methods and assets

Various valuation methods are used to carry out the impairment test. These include, for example, the value in use method, the comparative method or the present value method. Each method has its advantages and disadvantages as well as its specific area of application. The selection of the appropriate method should be based on a well-founded analysis and consideration in order to achieve meaningful results and meet the requirements of the accounting standards.

Assets that may be subject to an impairment test:

1. Property, plant and equipment: This includes real estate, buildings, machinery, vehicles and other tangible assets that the company owns and uses to generate income.
2. Financial assets: These include investments in other companies, securities such as shares and bonds and other financial instruments held for the purpose of generating income.
3. Intangible assets: These include patents, licenses, trademark rights, customer relationships and other non-physical assets that represent an economic benefit to the company.
4. Goodwill: Goodwill arises when a company acquires goodwill that exceeds the carrying amount of the identifiable assets and liabilities. Goodwill is regularly tested for signs of possible impairment.

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The impairment test is not mandatory for all assets. Its application depends on the specific accounting standards and company guidelines. Companies must carry out a careful assessment to determine which assets are subject to possible impairment and are therefore subject to the impairment test so that an impairment loss can be recognized.

Valuation principles

A detailed analysis of the key valuation principles is of great importance. This includes the selection and justification of assumptions, discount rates, cash flow forecasts and other factors that must be taken into account when valuing assets. The valuation principles should be based on current information and enable a realistic assessment of future developments. The transparency and comprehensibility of the underlying assumptions is of great importance to ensure the robustness of the impairment test.

Valuation of goodwill

An important area of application of the impairment test is the valuation of goodwill. Goodwill arises when a company acquires goodwill that exceeds the carrying amount of the identifiable assets and liabilities. Under both IFRS and German-GAAP, companies must regularly allocate goodwill to recoverable (substantive) assets, known as cash-generating units (CGUs), and carry out an impairment test. The valuation of goodwill requires the application of suitable valuation methods such as a comparison with fair value or the value in use method.

Pitfalls and common sources of error

When performing an impairment test, various errors can occur that may be objected to by auditors or regulators. Here are some common errors:

• Insufficient or inaccurate assumptions: The impairment test requires the use of assumptions for future cash flows, discount rates and other factors. Errors can occur if these assumptions are insufficiently substantiated, inaccurate or insufficiently documented. It is important to use realistic and well-founded assumptions and to     document the underlying information appropriately.
• Missing or incorrect sensitivity analyses: The impairment test often requires sensitivity analyses to be carried out in order to assess the effects of changes in the assumptions used. A common mistake is not to perform these analyses or to document them inadequately.
• Failure to recognize indications of impairment: Companies must regularly review indications of impairment and assess them appropriately. Failure to recognize or respond appropriately to potential indicators of impairment is a mistake.
• Lack of documentation: Insufficient documentation of the impairment test can also be a reason for complaint. The steps performed, the assumptions used, the results and the underlying information should be clearly and precisely documented. A lack of documentation makes it more difficult to review and understand the test.
• Non-compliance with the relevant accounting standards: A common mistake is not correctly applying the specific requirements of the applicable accounting standards (such as IAS 36 or German-GAAP). This can lead to incorrect valuations or inaccurate results.

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Best practices for carrying out impairment tests

• Regular review: Impairment tests should be carried out regularly to ensure that assets are valued correctly. Ideally, this should be done at fixed points in time or whenever there are indications of possible impairment.
• Careful data analysis: A thorough analysis of financial data, cash flow forecasts and other relevant information is essential. The use of up-to-date and reliable data and the involvement of internal and external experts can improve the accuracy of the valuation.
• Conservative assumptions: It is advisable to use conservative assumptions when performing the impairment test. This can provide an appropriate hedge against possible risks and ensure that potential impairments are recognized in good time.
• Transparent documentation: The documentation of all steps and assumptions when carrying out the impairment test is of great importance. This ensures traceability and facilitates subsequent audits and reviews.
• Sensitivity analyses and scenario evaluation: Conducting sensitivity analyses and evaluating various scenarios can improve the robustness of the results. This highlights the potential impact of changes in assumptions or external factors.

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Current developments, changes to guidelines or case law on impairment tests

Financial experts should continuously inform themselves about current developments, changes in guidelines and case law and adapt their practices accordingly in order to meet the requirements of the impairment test.

The IDW RS HFA 40 published by the Institute of Public Auditors in Germany (IDW) in June 2015 entitled "Individual questions on impairment of assets in accordance with IAS 36" is also helpful. It addresses frequently occurring uncertainties in relation to specific application issues of IAS 36. By providing precise guidelines and explanations, it is intended to support financial experts in achieving greater clarity and accuracy in the application of IAS 36.

Conclusion

The impairment test in accordance with IAS 36 (IFRS) and the German-GAAP is an important part of accounting and helps companies to identify impaired assets. Careful execution of the test, taking into account the relevant regulations, valuation methods and pitfalls, is crucial to achieving accurate and meaningful results. Companies should ensure that they have high quality data, make sound assumptions and document the test appropriately to meet the requirements of accounting standards. SmartZebra supports you with the latest market data relevant for impairment tests.

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