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How is the following statement is an indicator of impairment ? “the carrying amount of an entitys net assets is lower than the entitys number of shares in issue multiplied by its share price”
Net Assets = Assets – Liabilities = Equity
In other words, the carrying value of net assets equals to the book value of Equity section of SOFP. Now, the market value of an entity’s total shares must at least equal the book value of total equity balance in SOFP. Generally speaking, the market capitalisation (total issued shares*share price), usually exceeds the book value of equity (Net assets). However, there could be occasions where share price may fall (for eg due to disappointing performance), resulting in reduced market capitalisation.
If this reduction is so significant that the market value of shares falls below the book value of equity in SOFP, then it is an indication that the net assets are overstated. And by net assets we mean total assets are overstated, because liabilities usually remain same. Therefore, a reduction in market capitalisation is an indication of impairment.
Hope this helps.
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