The evaluation of freelance practices, such as medical practices, architecture firms or law firms, remains insufficiently defined in current standards such as IDW S1 or IFRS. However, the Federal Court of Justice has developed clear guidelines for evaluating goodwill in such freelance practices.
Definition impairment test
The impairment test, or in German impairment test, is an important instrument in accounting that is used to determine the actual value of assets. It is subject to the rules of IFRS (International Financial Reporting Standards) or the German Commercial Code (HGB) and plays a central role in determining whether an asset is impaired and unscheduled depreciation is required. In accordance with IFRS IAS 36 There is an impairment if the carrying amount of an asset exceeds the recoverable amount. In the HGB, the impairment of assets is reduced in SECTION 253 OF THE GERMAN COMMERCIAL CODE regulated.
Application of the impairment test in accordance with IFRS
IFRS requires an annual impairment test for goodwill and certain intangible assets; the date can be freely chosen for the first text, but then it should always be set at this point in time. Other assets are subject to the impairment test if there are signs of an unplanned impairment and thus depreciation.
The impairment test in accordance with IFRS comprises the estimation of the recoverable amount of an asset, which is determined on the basis of fair value minus sales costs or the value of use. Performing the test requires the use of well-founded 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 HGB
The impairment test according to HGB has some differences from the IFRS impairment test. According to HGB, the provisions for the impairment of assets are set out in Section 253 of the German Commercial Code (HGB). A special feature of the HGB is that an unscheduled depreciation is only carried out if there is a permanent loss of value. Unlike under IFRS, companies do not have to carry out an impairment test under the German Commercial Code if there is no evidence of a possible impairment. However, companies are required to regularly carry out an impairment assessment of their assets and to take into account signs of impairment.
Valuation methods and assets
Various assessment methods are used to carry out the impairment test. These include, for example, the usage value method, the comparative method or the present value method. Each method has its advantages and disadvantages as well as its specific scope of application. The selection of the appropriate method should be based on sound analysis and consideration in order to achieve meaningful results and meet the requirements of accounting standards. The impairment test covers a wide range of assets for which there may be signs of a possible impairment, such as intangible assets, fixed assets and long-term financial investments:
1. Tangible assets: This includes real estate, buildings, machinery, vehicles and other tangible assets that the company owns and uses to generate income.
2. Financial investments: This includes investments in other companies, securities such as stocks and bonds, and other financial instruments that are 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 economic benefits for the company.
4th goodwill: Goodwill occurs when a company acquires goodwill that exceeds the carrying amount of identifiable assets and liabilities. Goodwill is regularly checked for signs of potential impairment.
The impairment test is not mandatory for all assets. Application depends on specific accounting standards and company policies. Companies must carry out a careful assessment to determine which assets are subject to potential impairment and are therefore subject to the impairment test so that an unscheduled depreciation can take place.
Assessment bases
A detailed analysis of the main valuation principles is of great importance. This includes the selection and justification of assumptions, >> Discount interest rates, >> Cash flow forecasts and other factors that must be considered when valuing assets. The assessment basis should be based on current information and enable a realistic assessment of future developments. The transparency and traceability 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 evaluation of goodwill. Goodwill occurs when a company acquires goodwill that exceeds the carrying amount of identifiable assets and liabilities. According to both IFRS and HGB, companies must regularly distribute goodwill to valuable (substantive) assets, the so-called cash-generating units (CGUs), and carry out an impairment test. The valuation of goodwill requires the use of appropriate valuation methods, such as the comparison with fair value or the utility value method.
Pitfalls and common sources of error
When carrying out an impairment test, various errors can occur, which can be complained about by auditors or supervisory authorities. Here are a few common mistakes:
— Inadequate 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 justified, inaccurate, or insufficiently documented. It is important to use realistic and well-founded assumptions and to adequately document the underlying information.
— Missing or incorrect sensitivity analyses: The impairment test often requires sensitivity analyses to assess the effects of changes in the assumptions used. A common mistake is not carrying out these analyses or not documenting them adequately.
— Failure to identify signs of impairment: Companies must regularly review signs of impairment and assess them appropriately. One mistake is not to recognize potential signs of impairment or not to respond adequately to them.
— Lack of documentation: Inadequate documentation of the impairment test may also be a reason for complaint. The steps taken, the assumptions used, the results and the underlying information should be documented clearly and precisely. A lack of documentation makes it difficult to verify and understand the test.
— Failure to comply with relevant accounting standards: A common mistake is not correctly applying the specific requirements of applicable accounting standards (such as IAS 36 or HGB). This may result in erroneous reviews or inaccurate results.
These practices, on the other hand, have proven effective when carrying out impairment tests:
— Periodic review: Impairment tests should be carried out regularly to ensure that assets are correctly valued. Ideally, this should be done at fixed points in time or whenever there are signs of a possible impairment.
— Careful data analysis: A thorough analysis of financial data, cash flow forecasts, and other relevant information is essential. Using up-to-date and reliable data and involving internal and external experts can improve the accuracy of the assessment.
— Conservative assumptions: It is advisable to use conservative assumptions when performing the impairment test. This can provide appropriate protection against potential risks and ensure that potential impairment losses are identified in good time.
— Transparent documentation: Documenting all steps and assumptions when carrying out the impairment test is of great importance. This ensures traceability and makes subsequent checks and checks easier.
— Sensitivity analyses and scenario assessment: Carrying out sensitivity analyses and evaluating various scenarios can improve the robustness of the results. This shows the potential effects of changes in assumptions or external factors.
Current developments, policy changes or case law on impairment tests
Financial experts should keep abreast of current developments, >>Policy changes and jurisprudence (>>Here you can access the website of the Federal Fiscal Court) and adapt their practices accordingly to meet the requirements of the impairment test.
The one published by the Institute of Auditors (IDW) in June 2015 is also helpful >> IDW RS HFA 40 Statement entitled “Individual questions on asset impairment under IAS 36.” It addresses common uncertainties relating to specific application issues of IAS 36. By providing precise guidance and explanations, it is intended to help financial professionals achieve greater clarity and accuracy in applying IAS 36.
Conclusion:
The impairment test in accordance with IAS 36 (IFRS) and HGB is an important part of accounting and helps companies to identify impaired assets. Careful execution of the test, taking into account the relevant regulations, assessment methods and pitfalls, is crucial to obtain correct and meaningful results. Organizations should ensure that they have high-quality data, make well-founded assumptions, and document the test appropriately to meet accounting standards requirements. >> SmartZebra supports you with the latest market data relevant to impairment testing.