IAS 36 Scope and Framework
IAS 36 applies to all assets except:
- Inventories (IAS 2)
- Deferred tax (IAS 12)
- Financial instruments (IFRS 9)
- Investment property measured at fair value (IAS 40)
The core principle: an asset is impaired if its carrying amount exceeds its recoverable amount (the higher of fair value less costs and value-in-use).
Impairment Indicators: When to Test
You must test for impairment if there are external or internal indicators that an asset may be impaired:
External Indicators
- Market value decline (technology obsolescence, real estate crash)
- Industry downturn (retail sector distress, commodity price collapse)
- Economic conditions (recession, interest rate spike)
- Regulatory changes (license revoked, pollution standards tighten)
Internal Indicators
- Asset no longer used as planned (discontinued product line)
- Actual performance < budget (sales 40% below plan)
- Asset damage or obsolescence
- Strategic decision to restructure or divest
Audit focus: Did management identify indicators during the year? Many companies miss them. Auditors will specifically look for external/internal events and challenge if impairment wasn't tested.
Cash-Generating Units: Identification & Allocation
A CGU is the smallest identifiable group of assets that generates independent cash flows.
Examples of CGU Identification
| Entity Type | CGU Definition | Why |
|---|---|---|
| Retail chain | Individual store or store cluster | Each store generates separate cash flows; can be tested/sold independently |
| Manufacturing (multi-product) | Production line or division | Each line has distinct cash flows and customer base |
| Software company | Each product (SaaS subscription, license) | Different revenue streams, customer bases, margins |
| Bank (multi-business) | Retail banking, investment banking, trading | Distinct cash flows and risk profiles |
Recoverable Amount: Fair Value vs Value-in-Use
1. Fair Value Less Costs of Disposal (FVLCD)
2. Value-in-Use (VIU)
Fair Value Measurement
FVLCD is what you'd get if you sold the asset today in an orderly transaction.
Valuation Approach: Three Methods
- Market approach: Use comparable assets' selling prices (rare for specialized assets)
- Cost approach: Replacement cost minus depreciation (often used for PP&E)
- Income approach: Present value of future cash flows (most common for CGU-level)
Value-in-Use: Discount Rate (WACC) & Cash Flows
VIU = PV of future cash flows the asset is expected to generate over its life.
Three Components
- Forecast period (normally up to 5 years): Detailed cash flow projections. IAS 36.33(b) limits projections to a maximum of five years unless a longer period can be justified.
- Terminal value: Perpetual cash flows beyond the forecast period. IAS 36.33(c) caps the growth rate at the long-term average for the products, industries or country concerned, unless a higher rate can be justified.
- Discount rate: A pre-tax rate reflecting current market assessments of the time value of money and the risks specific to the asset (IAS 36.55).
WACC Formula
WACC is the usual starting point, not the answer. It gives you a post-tax rate, which then has to be converted before it can be used under IAS 36.
Where:
- E/V = Proportion of equity in capital structure
- D/V = Proportion of debt in capital structure
- Cost of Equity = Risk-free rate + Beta x equity risk premium (CAPM)
- Cost of Debt = Interest rate on debt (adjusted for credit risk)
Worked example: deriving the post-tax WACC
Capital structure: 60% equity, 40% debt
Cost of equity: 10% (risk-free rate 3% + Beta 1.4 x 5% equity risk premium)
Cost of debt: 5%
Tax rate: 20%
WACC = (60% x 10%) + (40% x 5% x (1 - 20%))
= 6% + (2% x 0.8)
= 6% + 1.6% = 7.6% post-tax
7.6% is not the value in use discount rate. It is post-tax, and IAS 36.55 requires a pre-tax rate applied to pre-tax cash flows. Grossing up by dividing 7.6% by (1 - 20%) to get 9.5% is the shortcut everyone reaches for and it is wrong other than in narrow circumstances, because the tax shield does not run off in a straight line over the forecast. What works in practice is to run the model post-tax, take the resulting value in use, then solve for the single pre-tax rate that reproduces that same value using pre-tax cash flows. That solved rate is the one you disclose under IAS 36.134(d)(v).
Goodwill Impairment Testing
Goodwill must be tested annually (or whenever indicators arise). No exceptions.
Allocation Process
- Identify the CGU(s) that benefited from the goodwill acquisition
- Allocate goodwill to each CGU
- Test the CGU (including allocated goodwill) for impairment
- If CGU's recoverable amount < carrying amount, impair goodwill first
Worked Example: Goodwill Impairment
Scenario: Acquisition of Tech Startup
- Parent company acquired Tech Startup for £50m in 2023
- Fair value of net assets acquired: £35m
- Goodwill recognized: £15m
- Carrying amount (1 Dec 2025): £15m (no amortization under IFRS 3)
Impairment Test (31 Dec 2025): Revenue Down 30%
- Recoverable amount of CGU (Tech Startup): £35m (calculated via value-in-use)
- Carrying amount of CGU (net assets + goodwill): £40m (£25m assets + £15m goodwill)
- Impairment loss: £40m less £35m = £5m
- Goodwill impairment: £5m (all impairment allocated to goodwill first)
Journal Entry
Cr Goodwill £5,000,000
Goodwill reduced from £15m to £10m. Future periods: goodwill is retested; additional impairments likely if Tech Startup remains underperforming.
What a Post-Acquisition Write-Down Usually Looks Like
Goodwill impairments rarely arrive out of nowhere. The pattern is consistent enough to be worth setting out, using an illustrative acquisition rather than a named company.
A consumer group buys a brand portfolio at a price that assumes it can push organic growth well above category average. The goodwill is allocated to a CGU built around that portfolio. For two years the acquired brands trade roughly in line with plan, so the annual test passes comfortably on headroom. Then three things move at once:
- Organic growth undershoots the acquisition case, so the forecast cash flows come down
- Competitive intensity rises, which flattens the terminal growth assumption
- Rates move, so the discount rate goes up
None of those alone is usually enough. Together they compound, because the discount rate and the terminal growth rate both sit in the denominator of the perpetuity. A CGU carrying substantial headroom one year can be materially impaired the next without anything dramatic happening operationally, which is why IAS 36.134(f) requires sensitivity disclosure where a reasonably possible change would eliminate the headroom.
For impairments as actually reported, with figures agreed to the filings, see the Vodafone and Kraft Heinz cases in the CGU identification guide.
Audit Red Flags in IAS 36
Red Flag 1: No Impairment Test Despite Indicators
Finding: Company's revenue dropped 25%, but management didn't test goodwill for impairment.
Auditor action: Perform impairment test yourself; likely find significant impairment required.
Red Flag 2: Overstated Terminal Value Growth
Finding: VIU assumes 4% perpetual growth, but long-term GDP growth is 2% and the company faces headwinds.
Auditor action: Challenge the growth rate against the IAS 36.33(c) cap, which is the long-term average rate for the products, industries or country concerned. Note that the growth rate and the discount rate are independent inputs: reducing terminal growth does not change the discount rate, it reduces terminal value directly by widening the gap in the perpetuity denominator. In a model with an 11% rate, moving terminal growth from 4% to 2% cuts terminal value by roughly a quarter on its own.
Red Flag 3: Underestimated Discount Rate (WACC)
Finding: WACC is 5%, but company's debt is speculative-grade; cost of debt should be 8%+.
Auditor action: Recalculate WACC with risk-adjusted rates; typically increases the rate by 1 to 2 percentage points, reducing VIU significantly.
Red Flag 4: No Sensitivity Analysis
Finding: Impairment model shows no sensitivity to changes in key assumptions (WACC, growth rate).
Auditor action: Require sensitivity analysis; if impairment is near the threshold, small assumption changes flip the outcome.
IAS 36 vs ASC 350/360 (US GAAP)
Two standards do the work on the US side, and they are easy to confuse. Goodwill sits in ASC 350-20. Long-lived assets sit in ASC 360. They use different tests, and only one of them is a two-step test.
Goodwill (ASC 350-20). A single quantitative comparison: reporting unit fair value against carrying amount, impairing the excess, capped at the goodwill allocated to that unit. There is an optional qualitative screen first, often called Step 0, which lets you skip the quantitative test if it is more likely than not that fair value exceeds carrying amount. If you trained on the old model, note that ASU 2017-04 removed Step 2, the hypothetical purchase price allocation used to derive implied goodwill. It has applied to public business entities for fiscal years beginning after 15 December 2019, and to everyone else after 15 December 2022.
Long-lived assets (ASC 360). This one genuinely is two steps, and it is where the confusion comes from. Step 1 compares the carrying amount to undiscounted future cash flows. Only if that recoverability test fails do you move to Step 2 and measure the loss against fair value. IAS 36 has no undiscounted screen at any point.
They do not reach the same answer. IAS 36 uses recoverable amount, the higher of fair value less costs of disposal and value in use, and value in use runs on the entity's own projections. ASC 350 uses fair value alone. On the same facts a CGU can survive an IAS 36 test on the strength of internal forecasts and still fail an ASC 350 test on market fair value. The goodwill deep dive works exactly that case through with numbers.
Real-Life Case Study: Impairment After a Lost Contract
Scenario. A company's cash-generating unit (a factory) loses its largest customer, a clear impairment indicator. The CGU's carrying amount is £8m.
Test. Recoverable amount is the higher of fair value less costs of disposal (£5.5m, from a broker estimate) and value in use (£6.2m, from discounted cash flows). Recoverable amount = £6.2m, so an impairment loss of £1.8m is recognised, first against any goodwill, then pro-rata across the CGU's other assets.
Takeaway. You only need one of the two measures to exceed carrying amount to avoid impairment, so preparers often start with whichever is easier to support. Once impaired, non-goodwill assets can be reversed later if conditions improve, goodwill impairment never reverses.
Illustrative composite scenario for educational purposes. Figures are indicative and do not represent any specific company.
• IAS 36 CGU Identification: Allocation & Testing
• IAS 36 Value-in-Use: Calculating WACC, Terminal Value & Discount Rate
Frequently Asked Questions
What does IAS 36 actually require?
That no asset is carried at more than it is worth. Worth here means recoverable amount, the higher of fair value less costs of disposal and value in use. If the carrying amount is above that figure, the excess is written off. The test is done whenever there is an indicator of impairment, and annually regardless of indicators for goodwill, indefinite-life intangibles and intangibles not yet in use.
What is a cash-generating unit and why does it matter?
It is the smallest group of assets that generates cash inflows largely independent of other assets. It matters because most assets cannot be tested on their own; a single machine on a production line does not earn revenue by itself. The level at which the unit is drawn decides the answer, which is why auditors challenge it. Draw it too wide and a failing business hides inside a profitable one.
How is value in use calculated?
Discount the future cash flows the asset or unit will generate, in its current condition, at a pre-tax rate reflecting the risks specific to that asset. Two rules catch people out. The cash flows exclude future restructuring the entity is not yet committed to and exclude enhancements to performance, because you are valuing the asset you have and not the asset you plan to build. The rate is pre-tax, so a post-tax WACC has to be converted rather than used as it stands.
How is goodwill impairment tested?
Goodwill does not generate cash on its own, so it is allocated to the units expected to benefit from the acquisition and tested with them. The allocation cannot be wider than an operating segment. If the unit's recoverable amount falls short, goodwill absorbs the loss first and only the remainder is spread across the other assets, and no asset is written below its own fair value less costs of disposal.
Can an impairment be reversed?
For most assets yes, where the estimates used to measure recoverable amount have changed, capped at the carrying amount that would have existed had no impairment been recognised. For goodwill, never. A reversal of a goodwill impairment is prohibited outright, because what would be reversing is internally generated goodwill.
How does this differ from US GAAP?
The mechanics are genuinely different, not just the wording. ASC 360 tests long-lived assets in two steps, starting with undiscounted cash flows, so an asset can pass a US GAAP test and fail an IAS 36 test on the same facts. ASC 350 tests goodwill at the reporting unit level with a fair value comparison, and reversals are prohibited under both frameworks.
About the author
Usman Qureshi is a Chartered Certified Accountant (ACCA) working in audit and advisory. He writes the IFRS, FRS 102 and US GAAP guides published on this site. Membership is listed on the ACCA public register.