You’ll recall that right of use assets recognized under leasing arrangements are subject to the impairment requirements of IAS 36, and tested for impairment when indicators exist…
If such indicators exist, an entity determines whether the ROU asset can be tested on a stand-alone basis or whether it should be tested as part of a cash generating unit. The assessment depends, as for other assets, on whether the ROU asset generates cash inflows that are largely independent of those from other assets or groups, subject to a couple of exceptions.
Against that backdrop, here’s another issue recently discussed by CPA Canada’s IFRS Discussion Group:
- Entity X recognizes an ROU asset for a building that it currently occupies as office space. The entity has occupied the building for seven years and has three years remaining on its original 10-year lease.
- Historically, this ROU asset has been tested for impairment as part of CGU 1 within Entity X since it was used by CGU 1 and did not generate largely independent cash inflows.
- During the COVID-19 pandemic, the office space is largely vacant as many employees are working from home. As a result, immediately prior to Entity X’s year end of December 31, 2020, the entity’s board, in conjunction with its management, made a final decision to permanently cease using this office space and has informed the affected staff. Entity X does not expect to be able to sublease the space given the location, relatively short remaining lease term and market conditions for office space.
- To facilitate the transition to other existing office spaces, Entity X will vacate the property two months after the final decision date…Entity X reconsiders the ROU asset’s useful life and residual value and changes its deprecation period prospectively to depreciate the remaining ROU asset’s carrying value to nil over the remaining two-month period for which the space will continue to be used by CGU 1.
- Entity X considers its decision to cease use is an impairment indicator for the ROU asset on December 31, 2020…
- Assume that the recoverable amount of CGU 1 significantly exceeds its carrying amount and as such, no impairment is identified at the level of CGU 1.
The group discussed whether the ROU asset, despite continuing to be used by CGU 1 for a two-month period before being vacated, should be tested for impairment individually rather than as part of CGU 1. You might think that’s the case because in this fact pattern, the ROU asset has become largely independent from the cash inflows generated by the other assets making up CGU 1, and it would be inappropriate to shelter the impairment that exists in the that asset with reference to those other ongoing assets. Or you might come to that conclusion by different means, citing an exception in the standard that applies when an asset’s fair value less costs of disposal can be measured, and its value in use can be estimated to be close to that amount – in this fact pattern, given the two-month remaining period, both numbers would likely be measurable (and probably negligible), allowing separate impairment testing. Alternatively, you might think the asset should continue to be tested for impairment only as part of CGU 1, taking into account past practice, and that the property is still being used within that CGU for the two-month period.
Most group members thought the asset should indeed be tested separately, for either of the reasons noted above – members that put particular weight on the short duration of the remaining period of use reasonably noted that the longer the period such an ROU asset will be in use, the more judgment will be needed to assess whether it should be tested as part of, or separately from, CGU 1. A few members did think though it might be hard to rule out the other approach “given the judgment involved in the assessment.” But to me that would be an example of falling into the trap I’ve written about before, of becoming swept up in the technicalities of IAS 36 and forgetting the underlying purpose of the exercise.
The group then considered whether the conclusion would change, if the entity had the ability and expectation to be able to sublease the ROU asset for the remainder of the lease, after vacating the property. On the one hand, this might support the contention that the ROU asset can indeed generate cash inflows that are largely independent of CGU 1. But it might just make the whole thing more complex: “For example, since Entity X can sublease the ROU asset, an assessment may be required to determine if the change in use would result in classifying the asset as an investment property under IAS 40…or whether it is a finance sublease. Furthermore, if a pending finance sublease would lead to a derecognition of the ROU asset, the entity should consider whether the asset meets the criteria to be classified as held for sale under IFRS 5…”
More on all this in the future…
The opinions expressed are solely those of the author