As noted above:
- Recoverable amount is the higher of fair value less costs of disposal and value in use, and
- An impairment loss is recognised if carrying amount exceeds recoverable amount.
The requirements for measuring recoverable amount in IAS 36 refer to ‘an asset’; however, they apply equally to an individual asset or a cash-generating unit (CGU). If an individual asset does not generate cash flows that are largely independent from other assets or groups of assets, the entity must determine recoverable amount for the CGU to which it belongs.
A cash-generating unit is the smallest identifiable group of assets that generates cash inflows that are largely independent of the cash inflows from other assets or groups of assets.
Definition of ‘cash-generating unit’ in IAS 36
CGUs should not be too large
In practice, care is required to ensure that an entity’s CGUs are not too large (i.e., that they are appropriately disaggregated, and are not larger than the operating segments identified for the purposes of internal reporting). If CGUs are too large, favourable performance of one part of the business may inappropriately mask poor performance of another, resulting is an overstatement of net assets, and an understatement of impairment losses.
Determining carrying amount of a CGU
Determining the carrying amount for an individual asset is usually quite straightforward but is more complicated for a CGU, which includes a variety of individual assets (including goodwill). The carrying amount of a CGU is calculated as follows
It is important to remember that corporate assets also contribute to cash flows generated by a CGU and are therefore included as part of the carrying amount of a CGU if their carrying amount can be allocated to the CGU on a reasonable and consistent basis. If not, a complicated process applies (as outlined in paragraph 102(b)).
Liabilities are only deducted from the carrying amount of a CGU, for example, when a potential buyer of the CGU would be required to assume the liability, such as for leases or restoration obligations.
Significant deferred tax liabilities recognised as part of a business combination increases the amount of goodwill recognised which may mathematically result in an immediate impairment of goodwill. In practice, these deferred tax liabilities are often included in the carrying amount of the related CGU, meaning that there is no immediate impairment loss.
Entities have a choice whether to include or exclude working capital balances from the carrying amounts of a CGU, so long as there is a consistent application to the inclusion or exclusion of cash flows from working capital items in determining the CGU’s recoverable amount.