Running head: ACT 420: INTERMEDIATE ACCOUNTING 1

II

Course Project

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January 18, 2021

ACT 420: INTERMEDIATE ACCOUNTING 2

Course Project

1. IAS 36 “Impairment of Assets”

International Accounting Standards (IAS) are issued by the International Accounting

Standards Board (IASB) to bring international harmonization in the accounting policies.

Formerly, the IASB was known as International Accounting Standards Committee (IASC) and it

was established in the year 1973. The major purpose of issuing International Accounting

Standards is to ensure that the financial statements issued by businesses around the world follow

a pre-determined pattern and it becomes easier to compare these financial statements. This

uniformity of accounting practices enhances transparency and develops investor’s trust in

financial reports issued by businesses and ultimately promotes global trade and opens investment

opportunities.

Global application of accounting standards ensure that transparency is promoted, the

accountants are held accountable, and the markets are performing efficiently around the world.

Investors from any corner of the world where the IAS and IFRS are applicable are in the best

position to make informed decisions about where they are investing their money and consider the

associated risks thus improving their capital allocations [ CITATION Wil20 \l 1033 ]. Apart

from the investors, these universal accounting standards minimizes costs associated with

reporting and regulatory requirements especially for the businesses that are operating in multiple

regions.

Moving forward with the development and adoption of uniform high-quality universal

accounting standards IAS has been replaced by IFRS since 2001.

IAS 36 “Impairment of Assets” has been developed by the IASB to make sure for the

businesses that their assets are not stated on their financial statements at an amount that is greater

than their recoverable amount (i.e., the higher of fair value less costs of disposal and value in
ACT 420: INTERMEDIATE ACCOUNTING 3

use). Except for the goodwill and different intangible assets possessed by an entity that require

annual tests for impairment, the businesses are required to conduct impairment tests for their

assets when the circumstances provide an indication of impairment of the business’s assets.

Moreover, the impairment tests are also necessary to be conducted under the IAS 36 for a cash-

generating unit where the cash flows from a particular asset cannot be separated from those of

other assets.

Key definitions of the standard

IAS 36 “Impairment of Assets” provides the following key definitions:

1. Impairment loss: It is the amount when a loss is incurred and the carrying amount

of an asset or cash-generating units becomes greater than its recoverable amount,

2. Carrying amount: The amount at which an asset is stated at the statement of

financial position of the company after deducting any impairment losses and the

accumulated depreciation from the original cost of the asset,

3. Recoverable amount: It is the higher of the fair value of the asset less the costs that

would be incurred to dispose of it and its value in use (fair value less costs to sell),

4. Fair value: It represents the price that would be received in return for selling an

asset or paid to transfer a liability in an orderly transaction between market

participants at the measurement date.

5. Value in use: It represents the present value of the expected future cash flows that

are anticipated to be derived from the asset or the cash-generating unit.

Indications of Impairment

According to the requirements of the IAS36 Impairment of Assets, entities are required to

evaluate their assets at the end of each reporting period to check the possible impairments (i.e.,
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the recoverable amount of the asset may have become lower than its carrying amount). The

standard also provides a list of internal and external indicators of impairment and if any one of

the indications exists then the recoverable value of the asset must be recalculated to assess it for

possible impairment. Along with the tangible assets the intangible assets are also tested for

impairment, these intangible assets can be an intangible asset with an indefinite useful life, or an

intangible asset that is not available for use, or goodwill acquired as a result of a business

combination. Moreover, in other cases, the impairment calculations made in prior periods can

also be used to assess impairment losses in the current periods.

Assessment of impairment can be made through external and internal sources as well.

The external sources that can provide information about impairment can be that the market value

of an asset decline. Due to negative technological innovations related to the market, economy, or

law an asset’s value may be impaired. An increase in market interest rates is also an external

source of information that can seriously impair the financial assets of the company. Moreover,

the net assets of the company can be higher than the market capitalization because of the falling

share prices of the company because of market conditions. In addition to the external sources,

the internal sources of information should also be used to test the company’s assets for

impairment losses [ CITATION IAS21 \l 1033 ]. The first such internal information is

obsolescence or physical damage of an asset because of accident or theft. There can be an asset

that is not in use anymore or a part of it is held for disposal in the future. Moreover, some worse

economic performance of an asset than expected can also be a cause of its impairment loss. In

case, a company is having investments in other companies and the carrying amount of the

investment is higher than the carrying amount of the investee’s assets or the dividend payments

exceed the total comprehensive income of the investee.

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These lists provided by the IAS36 Impairment of Assets are not intended to be

comprehensive, rather, there can be such an event that not included in that list and because of

the occurrence of such event, the depreciation method and residual value of the asset need to be

reviewed and readjusted. The standard also lays out the procedure to determine the recoverable

amount of assets, for example, if the fair value less disposal costs or the value in use of the asset

is more than its carrying amount then the asset is not impaired. Moreover, if a company cannot

calculate an asset’s fair value less costs of disposal then the recoverable amount would be

understood to be the value in use. Moreover, for held for sale assets the recoverable amount is

the fair value less the costs that would be incurred to dispose of the asset. The standard also

requires the determination of fair values in accordance with the IFRS13 “Fair Value

Measurement.”

Apart from the above, the calculations for value in use should consider the estimated

future cash flows of the asset, the time value of money factor, and the uncertainties that are

inherent in the asset’s other factors. For calculating the time value of money, the discount rate to

be used should be the pre-tax rate that should reflect the present market assessment of inherent

risks and the time value of money in response to those risks. The standard provides that an

impairment loss should be recognized whenever an asset’s recoverable amount falls below its

carrying value, and the impairment loss would be recognized as an expense (except in the case of

a previous revaluation surplus), and ultimately the future depreciation expense of the asset would

be adjusted based on its remaining useful life. Finally, if an individual asset cannot be separated

from a group of assets then the recoverable amount of the whole Cash Generating Unit (CGU)

has to be determined, and according to the provisions of the standard, a CGU is the smallest
ACT 420: INTERMEDIATE ACCOUNTING 6

group of assets that generates cash inflows to the entity that are independent of cash flows from

other assets of the company.

Impairment of Goodwill

Goodwill appears on a company’s balance sheet and it represents the value a company

has gained as a result of the acquisition of another business and that gain cannot be assigned to

any other particular asset of the acquiree [ CITATION Cam21 \l 1033 ]. Net income is not

affected by goodwill in any manner, but in case there is an impairment to the goodwill the

impact on net income can be substantial. Businesses should test goodwill for possible

impairment on annual basis and if there is an impairment loss identified then that loss should be

allocated to the cash-generating units or a group of cash-generating units of the acquiree

company despite other assets and liabilities being assigned to those cash-generating units.

Moreover, each of the cash- generating units to which goodwill is allocated should be

representative of the lowest level within the entity at which the company monitors the goodwill

for internal management. The

cash-generating unit should not be larger than an operating segment as stipulated by the IFRS 8

“Operating Segments.”

Advantages and disadvantages for this standard to investors.

As far as the advantages and disadvantages of IAS “Impairment of Assets” are

concerned, this standard proves to be advantageous and disadvantageous in numerous ways.

Firstly, if a company’s track record of recognizing and recording impairment losses is

remarkable the investors and analysts will have a number of ways to assess the managements’

decision-making criteria. Investors will be vigilant of investing in a particular company if the

management has been writing off assets because of impairment losses and this will also depict

their investment choices. Moreover, business failures are signaled by an impairment loss to a

particular asset and

ACT 420: INTERMEDIATE ACCOUNTING 7

such losses prove to be warnings for current and potential investors and creditors of the

company.

Analyzing the disadvantages of IAS36, it can be said that there is no tangible way to

measure the value that should be used to assess the impairment. The current market value,

replacement cost, net realizable value, and the present value of future cash for the cash-

generating units. These indicators may not be a true representative of the value of the businesses

and the impairment losses may be incorrectly charged. There is no detailed guidance provided to

management as to when to assess impairment losses, what measures should be taken to measure

impairment, and how to provide disclosures in this regard. These problems will portray a false

picture of management actions on investors and the company can face difficulties meeting its

capital needs.

2. Report clarifying and analyzing the behavior of the Kuwaiti companies

regarding the application of the IFRS.

The behavior of the Kuwaiti companies regarding the application of IFRS has been

analyzed by examining the most recent annual reports of the major listed companies in Kuwait

and the relevant available research material. The companies selected for analyzing their

application of the IFRS are Agility Public Warehousing Company, Zain, Boubyan Petrochemical

Company, and National Bank of Kuwait. These companies are among the top ten listed

companies operating in Kuwait and they are following the IFRS in preparation and presentation

of their financial statements. International Financial Reporting Standards undoubtedly have a

huge impact on the quality of financial data presented by these companies as the IFRS found the

basis by setting the determinants such as limiting the practices that lead to profit management,

enhancing the liquidity of the market, and bringing a reduction in the transaction costs for the
ACT 420: INTERMEDIATE ACCOUNTING 8

investors. The IFRS has limited the profit management practices by decreasing the scope of

selection of alternatives, and resultantly companies do not have many options in selecting

accounting treatments [ CITATION AlK18 \l 1033 ]. So, the management of the companies is

limited in their choices to follow the requirements and policies set by the IFRS. The most

important characteristic of IFRS is that investors from all over the world gain confidence in

companies operating in Kuwait and foreign investment and trade are enhanced. Moreover, the

transparency in accounting procedures has improved the accountability of the management and

as a result, these companies have better access to capital and better liquidity by attracting

investors.

With the operations of a large number of private organizations in the country, the

financial reporting framework has been affected directly. The legal system of the country has

been influenced as the Government of Kuwait had to enact and enforce new rules and

regulations to improve investor protection mechanism, improving the disclosure quality of the

financial statements, and finally, Kuwait adopted the accounting practices (i.e., International

Financial Reporting Standards) that are commonly used in most of the countries of the world

[ CITATION Alm17 \l 1033 ]. Apart from the regulatory disclosure requirements, the companies

operating in Kuwait are also providing voluntary disclosures such as the corporate environment,

current financial performance, and future prospects, information about corporate governance,

and information about corporate social and environmental information [ CITATION Alf17 \l

1033 ].

The most important concept that has led to the development of Kuwaiti Companies in

Financial Reporting is the international harmonization of the accounting data and promoting the

economic growth of the country. Providing uniform, comparable, and reliable financial

information to the decision-makers is the goal of harmonization all over the world [ CITATION
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Sye \l 1033 ]. The Governments and regulators in the countries in which (including Kuwait) are

of the view that IFRS developed by the IASB provides an effective way of harmonization of

accounting standards and the financial statements. Keeping in view the interests of the

shareholders and the investor's companies should disclose the involvement of risk in their assets

and it has been observed over the years that the companies that are audited by local auditors who

have international affiliations provided more disclosure in their annual reports than the

companies that were audited by local auditing companies. This finding of auditor’s impact is in

line with the agency and signaling theories as getting the financial statements audited by the

choice of a Big Four auditing company indicates that the financial statements are audited with

high quality [ CITATION ALS14 \l 1033 ]. In addition to these, the management of a company

may be disclosing information related to risks to seek authenticity in the international markets,

and the auditing firms are also getting benefits of such disclosures as a way of signaling their

performance.

From the review of annual reports of the companies selected for this project, it has been

observed that the companies are applying the concepts of International Financial Reporting

Standards in the preparation and presentation of their financial statements. First of all, from the

annual report of Agility Public Warehousing Company, it can be observed that the fixed assets

of the company are carried at their cost less accumulated depreciation. Another important impact

on the carrying value of the assets of the company is the gain or loss from exchange rate

fluctuations and that is considered by the company to reach the ending carrying value of its fixed

assets. The international presence of the company in different countries is the major reason to

account for the exchange differences and as its assets are also scattered in different countries so,

there is no alternative to consider the exchange differences. As far as the application of the
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concept of fair market value is concerned, the company’s investments in associates and joint

ventures are calculated and disclosed using the fair market value principles [ CITATION Agi19 \

l 1033 ]. Moreover, the company performs impairment tests for goodwill and other non-financial

assets and a loss is recognized if the recoverable amount of the asset is less than its carrying

value.0

Secondly, the annual report of Zain Group is analyzed to check the application of IFRS

by the company, and the financial statements and the related disclosures are in accordance with

the requirements of the International Financial Reporting Standards. As far as the application of

the cost concept is concerned, the company expenses out the costs incurred in making

acquisitions. The other assets of the company are also recorded at their costs less accumulated

depreciation or any impairment loss or it can be said that the company reviews its assets for

impairment periodically and these assets are stated at their fair market values. Moreover, the

company possesses inventories are it is the IFRS requirement that the inventories should be

recorded at the lower of their cost or their Net Realizable Value and the company is also

following the same principle [ CITATION Zai19 \l 1033 ]. Impairment is an integral part of a

business and an asset’s value may fall at any time due to an impairment loss and Zain Group

tests its non-financial assets as well as Goodwill and intangible assets for impairment at least

once a year. Following the IFRS principles, the value of goodwill is first decreased if there is an

indication that the recoverable amount of a cash-generating unit is less than its carrying value.

The annual reports of the next two companies are also analyzed and it has been found that

the requirements of International Financial Reporting Standards are being followed by the

companies as evident from their annual reports and the financial statements. Boubyan’s annual

report provides that the financial statements of the company are prepared based on historical
ACT 420: INTERMEDIATE ACCOUNTING 1

costs except for the fixed assets and the financial assets that are measured at their fair values

through profit and loss, and the National Bank of Kuwait is also following the same approach as

directed by International Financial Reporting Standards to value and report its assets. As far as

inventories are concerned, both the companies state their inventories at the lower of cost or the

net realizable value. Whereas, the net realizable value of inventory is the estimated selling price

in the normal course of business less the expected costs that are to be incurred to complete the

inventory or to complete the sale.

These companies check their assets at the end of the fiscal year for indications of

impairment and if any indication of impairment of an asset is found the recoverable amount of

the asset is estimated. The asset’s recoverable amount would the higher of its fair value less

selling costs and its value in use. Whenever an asset’s carrying value would be higher than its

recoverable value the asset will be written down to its recoverable amount. From the most recent

annual report and the financial statements of Boubyan Petrochemical Company, there have been

four types of impairments that have been charged to the Consolidated Statement of Income of

the company. The financial assets available for sale, investments in associates, intangible assets,

and even the property, plant, and equipment of the company have impaired continuously for the

last two years. While in the case of the National Bank of Kuwait there is not impairment

identified in the most recent annual report but if there had been any impairment that would have

been charged to the income statement similarly.

Conclusion

From the research and the different annual reports along with the financial statements of

the companies, it has been analyzed that the IFRS has provided detailed guidance that businesses

can use to make their financial statements reliable and universally acceptable. The application of
ACT 420: INTERMEDIATE ACCOUNTING 1

IFRS in Kuwait has aligned all the businesses to follow universal standards and to make the

country a better investment destination for investors from all over the world.

References

Agility. (2019). Annual Report 2019. Kuwait.

Alfraih, M. M., & Almutawa, A. M. (2017). Voluntary disclosure and corporate governance:

empirical evidence from Kuwait. International Journal of Law and Management, 59(2).

Al-Khafaji, B. K. (2018). Effects of Application of IFRS on the Quality of Financial Statements

in SMEs. Al-Qadisiyah Journal for Administrative and Economic Sciences, 20(2), 1-12.

Almujamed, H., Tahat, Y., Omran, M., & Dunne, T. (2017). Development of Accounting

Regulations and Practices in Kuwait: An Analytical Review. The Journal of Corporate

Accounting & Finance, 28(6), 14-28.

AL-SHAMMARI, B. (2014). KUWAIT CORPORATE CHARACTERISTICS AND LEVEL

OF RISK DISCLOSURE: A CONTENT ANALYSIS APPROACH. Journal of

Contemporary Issues in Business Research, 3(3), 128-153.

IASB. (2021, January 18). IAS 36 — Impairment of Assets. Retrieved from Deloitte:

https://www.iasplus.com/en/standards/ias/ias36

Kenton, W. (2020, July 12). International Accounting Standards (IAS). Retrieved from

Investopedia: https://www.investopedia.com/terms/i/ias.asp#:~:text=Globally

%20comparable%20accounting%20standards%20promote,risks%20and%20improves

%20capital%20allocation.

Merritt, C. (2021, January 18). What Is Goodwill and How Does It Affect Net Income? Retrieved

from Chron: https://smallbusiness.chron.com/goodwill-affect-net-income-55342.html

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Zaidi, S., & Paz, V. (n.d.). THE IMPACT OF IFRS ADOPTION: A LITERATURE REVIEW.

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Zain. (2019). ANNUAL REPORT 2019. Kuwait.