Accounting estimates

Impairment testing and asset
values

Recoverability of the carrying amounts of assets such as goodwill, other intangibles, and property, plant and equipment continues to be an important area of focus.

Recommend directors to apply the guidance in ASIC Information Sheet 203 when reviewing management’s impairment models to ensure:

1. Cash flows and assumptions are reasonable compared to historical cash flows, economic and market conditions, and funding costs. Where prior period cash flow projections have not been met, need to consider whether current assumptions are reasonable and supportable
2. Discounted cash flows are only used to determine fair value less costs of disposal (FVLCD) where forecasts and assumptions are reliable. FVLCD is not a means to use unreliable estimates that could not be used under a value in use (VIU) model
3. VIU calculations must:
   • Use cash flow estimates that are sufficiently reliable
   • Not use increasing cash flows after five years that exceed long term average growth rates, and
   • Not include cash flows from restructurings and improving or enhancing asset performance
4. Cash flows used are matched to carrying values of all assets that generate those cash flows, including inventories, receivables and tax balances
5. Different discount rates are used for cash generating units (CGUs) where the risks are different (e.g. located in different countries)
6. CGUs are not identified at too high a level, including where cash inflows for individual assets are not largely independent. CGUs must not be at a higher level than the operating segments or at a level higher than that at which goodwill is monitored for internal management purposes
7. The impairment test in AASB 136 Impairment of Assets is used for exploration and evaluation assets after technical feasibility and commercial viability have been demonstrated.

Extractive industries and support services

Given current economic conditions and commodity prices, directors need to pay attention to asset values in the extractive industries and those providing support services to extractive industries.

Inventories

Directors also need to pay attention to the pricing, valuation and accounting for inventories. This includes focusing on the net realisable value of inventories which may be affected by possible technical or commercial obsolescence as well as understanding the substance of pricing and rebate arrangements.

Financial instruments

Directors should pay attention to values of financial instruments, particularly where they are not based on quoted prices or observable market data. This includes the valuation of financial instruments by financial institutions.

Accounting policy choices

Off-balance sheet arrangements

Directors should review the treatment of off-balance sheet arrangements, the accounting for joint arrangements and disclosures relating to structured entities (AASB 10 Consolidated Financial Statements).

Revenue recognition

Directors should review revenue recognition policies to ensure that revenue is recognised in accordance with the substance of the underlying transactions. Revenue should only be recognised when:

• Services to which the revenue relates have been performed
• Control of relevant goods has passed to the buyer
• It has been appropriately allocated to appropriate components (e.g. sale of goods and provision of services)
• Assets are correctly classified as financial or non-financial assets, and
• Financial instruments should be appropriately classified and revenue recognised according to the appropriate class.

Some industries with complex sale and licensing arrangements and ongoing obligations (e.g. software providers) require careful consideration to ensure revenue is being recognised appropriately.

Expense deferral

Ensure that expenses are only deferred where the item meets the definition of an asset under Accounting Standards, it is probable that future economic benefits will arise, and the requirements of AASB 138 Intangible Assets have meet met, i.e.:

• Start-up costs, training, relocation and research costs have been expensed, and
• The six strict tests for deferral in paragraph 57 have been met.

Items of income and expense should only be recognised in other comprehensive income (rather than profit or loss) when specifically permitted by accounting standards.

Tax accounting

Ensure a proper understanding of both the tax and accounting treatments, and how differences between the two affect tax assets, liabilities and expenses.

Consider changes to tax legislation if relevant.

Review the recoverability of deferred tax assets at each reporting date.

Key disclosures

Estimates and accounting policy judgements

Ensure disclosures are made for all key areas of uncertainty and judgment.

Disclosures should be specific to the assets, liabilities, income and expenses of the entity.

Disclosure of key assumptions and a sensitivity analysis are important. These enable users of the financial report to make their own assessments about the carrying values of the entity’s assets and risk of impairment given the estimation uncertainty associated with many asset valuations.

At 30 June 2016, preparers of listed entity financial reports should be particularly mindful to make these disclosures which may be revealed under the key audit matter disclosures in the new enhanced audit reports for listed entities for 31 December 2016 year ends,

Impact of new accounting standards

Ensure that the impact of the new revenue standard, AASB 15 Revenue from Contracts with Customers, the new financial instrument standard, AASB 9 Financial Instruments and the new leases standard AASB 16 Leases on the future financial position and results are disclosed.

Example of impacts: How and when revenue can be recognised, new hedge accounting requirements and loan provisioning requirements, and lease assets and liabilities that may need to be recognised.