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If you look at the answer to Dec 2012 P2 exam and refer to question 3(D), the 6 mark question, the examiner writes “. There is insufficient information to determine value in use and net selling price (fair value less selling costs); as such, depreciated replacement cost should be used as an approximation of the recoverable amount” Now, I think this examiner is being unreasonable here. How on earth was I supposed to know that?
I read two study texts (Emile Woolf and Kaplan) concerning this question regarding the chapter on IAS 36 and there is no indication in either of them that if recoverable amount is not available then we should use depreciated replacement cost and then find the impairment from here. So isn’t this being overly unfair? How can we know these tiny details, by practicing past exams of P2?
Also, please explain to me what significant role the library plays in this question? What’s the whole thing with the library?
Also, we are told in the question ” The change in use would have no effect on
the estimated life of the building.” and the Emile woolf text states that an internal indicator of impairment is “There is a reduction in the asset’s expected remaining useful life.” So here there was no reduction so my interpretation and answer to this question was that there was no impairment as the indicator to impairment isn’t satisfied, isn’t this correct? Would it receive any credit?The examiner argues that there is an impairment because “Impairment in this case is indicated because the purpose for which the building is used has changed significantly from a place for educating students to a library and this is not anticipated to change for the foreseeable future.” Again, I’m very skeptical about this because, again, I didn’t find this condition in any study text. No study text states that if the purpose of use is significantly changed then there is impairment. What kind of indicator is this and where is it coming from? At the most, the Emile woolf text explains that impairment can arise due to restructuring or discontinuation so could it be that there is an impairment based on the restructuring operation?
Also, this question contradicts itself by saying that there as no change in expected useful life so that people, like me, would interpret this as a non impairment indicator. What do you think? Is there really impairment due to the use of this phrase?
I don’t particularly understand the numbers also. Why is the replacement cost of the library depreciated for 6 years, even though, over the six year period (1.Dec.2006 – 30.Nov.2012) the library didn’t even exist and the so called “library” was a fully functional school all this period. All this is so elusive. Could you please also explain the numbers to me?
I’m working on this, I’ll get back to you. Please post again on this thread so I shall see that it’s still an outstanding question to be answered
Ok no problem. I will remind you in a couple of days if the thread is still outstanding?
Hey Mike did you finally get round sorting out this thread? Any progress?
No, I didn’t miss it – was thinking how to respond!
If you put “depreciated replacement cost” into a search engine, it comes up with a lot of references which themselves are lengthy pieces and the concept of depreciated replacement cost is lost within that length.
I did this research in order to be able to point you in the direction of a description / definition for you to read.
It would have been cruel of me to lead you to some of those articles so I’m now going to have to explain it in my own words!
Where it isn’t possible (when carrying out an impairment test exercise) to arrive at an amount for value in use and nor is net selling price an appropriate concept, but nevertheless less an impairment is necessary, then the best (only?) method of finding “recoverable amount” is by this idea of depreciated replacement cost
Now, is an impairment test appropriate? Yes! Because the school is undergoing a change of use – it WAS a school and IS GOING TO BE a library. Such a change of use is specified as an example of situations where impairment testing is appropriate.
But neither value in use nor net selling price is an applicable method to try to arrive at recoverable amount
So now we must ask “What would be the value of this building if we had acquired it 6 years ago as a LIBRARY”
“Replacement cost” is literally the cost of replacement
“Depreciated replacement cost” is the concept of replacement ON A LIKE FOR LIKE BASIS. We need to determine the value of the building were we to have to replace it with an equivalent 6 year old structure that had been built and used as a library from new
I think that answers all your various questions but, if I have missed any, post again
Ok?
I was totally lost in the explanation of yours that I reproduce below. Could you make this clearer please:
“So now we must ask “What would be the value of this building if we had acquired it 6 years ago as a LIBRARY”
“Replacement cost” is literally the cost of replacement
“Depreciated replacement cost” is the concept of replacement ON A LIKE FOR LIKE BASIS. We need to determine the value of the building were we to have to replace it with an equivalent 6 year old structure that had been built and used as a library from new”
Didn’t just get the idea and concept here.
Also could you explain to me this phrase from the examiner’s answer:
“. If any indication exists, the recoverable amount should be estimated taking
into account the concept of materiality in identifying whether the recoverable amount of an asset needs to be estimated. If no
indication of an impairment loss is present, IAS 36 does not require a formal estimate of the recoverable amount, with the
exception of intangible assets”What connection does materiality have with recoverable amount? I don’t get the point the examiner makes here.
Also, what’s the thing of intangible assets being “special” in the sense that even if no indication of impairment exists, their recoverable amounts must be determined. Which standard says this and why? What’s the rationale?
Thanks.
Ok, try this. If you had a 10 year old Golf car and your insurance says that you can acquire a replacement car (yours has just been written off in a sinkhole) are you going to be allowed to buy a brand new replacement Golf car or will the Insurance Company only pay the value of a 10 old Golf?
That’s the concept of replacing like for like
With reference to the quote from the examiner’s answer, there may be indications to suggest an impairment but if the amount of the potential impairment is relatively immaterial (when compared with the carrying value) what’s the economic sense in spending a lot of expensive time to evaluate an immaterial amount?
For your final point, check out the IAS on Intangible Assets!
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