R. Anand

R. Anand on the implementation of the accounting standard on impairment

WHEN balance-sheets as on March 31, 2005, get prepared, the first test of impairment of assets would come into operation. AS-28, the new accounting standard dealing with impairment of assets, is not only one of the lengthiest but also the first that seeks to allay the feelings expressed in various quarters that India Inc.'s balance-sheet is historical and does not reflect proper values of assets. There are no two opinions that fixed assets have to stand the test of impairment.

In the 1970s and 1980s, various companies resorted to revaluing their fixed assets, thereby enhancing the size of balance-sheets at a time when size was certainly not as important as it is today. There are enough guidelines and rules to deal with reserves arising on account of revaluation and also the method to be adopted to charge depreciation in the accounts in the event of revaluation. The process of revaluation has stabilised with no major controversies associated with it. Impairment, however, is a new concept that is yet to find its feet. In simple terms, it can be explained as the reverse of revaluation. Historical costs are irrelevant today and fixed assets need to be reflected at realistic values. This is the crux of impairment.

Applicability

AS-28 applies for accounting periods commencing on or after April 1, 2004, and is mandatory. It applies to enterprises whose equity/debt is listed or is to be listed in a recognised stock exchange. It also applies to all other commercial enterprises whose turnover exceeds Rs 50 crore. In respect of other enterprises, the Standard comes into effect from the accounting period commencing on or after April 1, 2005. The scope of the Standard does not extend to a) inventories; b) assets arising out of construction contracts; c) financial assets, including investments that are included in the scope of AS-13 (Accounting for Investments); and d) deferred tax assets.

Basically, the Standard has a pronounced application for fixed assets.

The basis

In accordance with AS-28, an enterprise should assess at each balance-sheet date whether there is any indication that an asset may be impaired based on internal or external factors. If such an indication exists, the enterprise is not mandated to recognise impairment loss and provide for the same in the profit and loss (P&L) account. This provision or charge is not via depreciation but as a separate entry in the P&L account.

The exercise of impairment is to be carried out on an annual basis and assets which have been subject to impairment should be assessed subsequently, that is, whether recognition of impairment done earlier should continue or not. The Standard also requires reversal of impairment loss wherever applicable.

In a nutshell, impairment loss reflects the amount by which the carrying amount of asset exceeds the recoverable amount. For this purpose, recoverable amount is the higher of asset's net selling price and its value in use. To facilitate this exercise, the value at which assets have been disposed post-balance-sheet date is a useful indicator to decide the recoverable amount and the consequent impairment loss emerging thereon.

The effect

Fixed assets constitute a major element in the overall balance-sheets. Some of these assets do suffer impairment losses mainly on account of advancement in technology. Provision for impairment of loss is, therefore, a necessity in today's context to reflect assets at current prices. After all, the strength of the balance-sheet is the basis on which external agencies communicate and deal with enterprises. It will be interesting to see how companies depict impairment losses and what will be the quantum of such losses debited to the P&L account.

The first year is always a learning curve as was the case in segment accounting and other accounting standards which were released in 2001. But as time passes, corporates will get used to the idea about the need for impairment losses and redefine bottomlines considering the yearly effect of impairment losses. After all, when toplines are growing, bottomlines have to be arrived at taking into account all possible losses before profits are appropriated.

(The author is a Chennai-based chartered accountant.)

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