Accounting for asset impairment:

a test for IFRS compliance

across Europe
A research report by the Centre for Financial Analysis
and Reporting Research, Cass Business School
Hami Amiraslani, George E. Iatridis, Peter F. Pope

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ii Accounting for asset impairment: a test for IFRS compliance across Europe
Contents
Overview 02
About the authors 03
Executive summary 04
Introduction 08
Impairment reporting requirements under IFRS 12
Lessons from accounting research 18
Timeliness of impairments in Europe: The big picture 22
Survey of impairment disclosure practices and compliance 28
Toward improved impairment reporting in Europe 50
References 52
Appendix - Impairment disclosures: selected excerpts 56

Accounting for asset impairment: a test for IFRS compliance across Europe 1
 “While IFRS have brought
greater consistency in reporting,
Overview the burden of compliance is heavy”

Accounting for asset impairment: a test for IFRS compliance across These findings highlight a number of issues which companies may wish
Europe to consider in managing their reporting going forward. First, the use by
companies of boilerplate language to alleviate the burden of compliance
The introduction of International Financial Reporting Standards (IFRS)
is concerning. It suggests that the pressure on senior finance executives
across Europe in 2005 aimed to deliver considerable benefits to the
to support compliance with IFRS is not always prioritized as it should be.
entire business community. Improved cross-country comparability
While use of boilerplate language may be a means to fast track the
of financial information, lowered cost of capital and increased market
meeting of reporting requirements in the short-term, disclosures should
liquidity are just a few of the many benefits that proponents of IFRS
be reviewed regularly and on a timely basis. Failure to do so can expose
expected corporations to enjoy through increased uniformity in financial
companies to risk which can have implications on future reporting
reporting organized around the principles-based IFRS system.
periods and, in a worst case scenario, could impact company reputation
While IFRS have led to significantly greater consistency in accounting
if restatements are subsequently required.
recognition and measurement and far greater disclosure of information
in financial statements, the burden of compliance is heavy and the Second, the indication that countries with stronger institutional
significant effort required to meet disclosure requirements is seen infrastructures are associated with higher quality financial reporting has
by companies to be impacting upon reporting practices. implications for future investment decisions. Where more and better
financial information is available to the market, it follows that access
As part of our research agenda at the Centre for Financial Analysis
to capital may be improved and investment perceived to be lower risk
and Reporting Research, we undertook a study to investigate the
because investor uncertainty is mitigated.
degree of compliance with International Financial Reporting Standards
by analyzing recent impairment disclosures within a sample of listed Ultimately, IFRS appear to have had a significant and positive impact
companies across Europe during 2010-11. Our research also aimed on the financial reporting practices of many companies across
to shed light on the extent to which reductions in stock market values Europe. However, the paper that follows suggests that there is scope
of companies are mirrored in asset write-offs during the post-IFRS for further improvement in the application of IFRS requirements.
adoption period. It offers some insights into specific behaviors with respect to impairment
disclosures, which may be relevant to companies as they consider
The key findings of the research include:
how their own reporting practices compare and where they fit on the
 There is considerable variation across European countries in spectrum of compliance.
compliance with some impairment disclosure requirements,
We believe this paper contributes to the important ongoing discussion
suggesting uneven application of IFRS.
on the effectiveness of IFRS implementation and enforcement. It also
 Compliance with impairment disclosures requiring greater managerial provides useful insights for those with responsibility in the areas of
involvement in making discretionary reporting choices (high effort) financial reporting oversight and corporate governance.
is lower than compliance with low effort disclosure requirements,
revealing a tendency to use boilerplate language.
 High-quality impairment reporting is more likely to be found in
companies that operate in countries with a stronger regulatory and Hami Amiraslani George E. Iatridis Peter F. Pope
institutional infrastructure, for example the United Kingdom and Centre for Financial Analysis and Reporting Research (CeFARR)
Ireland. In contrast, impairment disclosures appear to be of lower Cass Business School, City University London
quality in countries where regulatory scrutiny is weaker.
 The timeliness of recognition of bad news in earnings appears to be
dependent on the quality of the institutional environment. Companies
operating in strong regulatory and enforcement settings appear to
recognize economic losses on a more timely basis than those based
in jurisdictions where enforcement is anticipated to be weaker.

2 Accounting for asset impairment: a test for IFRS compliance across Europe
About the authors
Hami Amiraslani is a Doctoral Researcher in Accounting at the Centre
for Financial Analysis and Reporting Research, Cass Business School,
City University London. He holds an MRes in Finance and Accounting from
Cass Business School and an MSc in International Accounting and Finance
from the London School of Economics and Political Science. His current
research interests are focused on corporate disclosures, the interplay
between institutional regimes and managers’ reporting incentives, and their
role in explaining the economic and accounting consequences of IFRS
implementation in Europe.

George E. Iatridis is Assistant Professor of Accounting and Finance at

the University of Thessaly, Greece and a Research Fellow at the Centre for
Financial Analysis and Reporting Research, Cass Business School, City
University London. He acts as Deputy Chairman of the Greek Auditing
Practices Board and has participated in the formulation of public sector
financial reporting regulation in Greece. He is Financial Accounting Subject
Editor of the International Review of Financial Analysis. He holds a PhD in
Accounting and Finance from the University of Manchester where he also
worked as lecturer in Accounting and Finance. He has published more
than thirty research papers in international journals and has undertaken
research collaborations with the University of Manchester and the Hong
Kong University of Science and Technology. His current research interests
emphasize accounting policy choices, managerial opportunism and IFRS
implementation.

Peter F. Pope is Professor of Accounting and Director of the Centre for

Financial Analysis and Reporting Research at Cass Business School,
City University London. Previously he has worked at Lancaster University
Management School and Strathclyde Business School in the UK and was
visiting professor at the Stern School of Business, New York University and
the University of California, Berkeley. He was the Scientific Coordinator of
the EU-funded INTACCT Research and Training Network investigating IFRS
implementation in Europe and has also recently been Head of the V-Lab
research programme at Old Mutual Asset Managers in London. He is the
Academic Coordinator of the Institute of Quantitative Investment Research
(UK) and a former member of the UK Accounting Standards Board Academic
Panel. He has researched and published extensively in leading journals in
the areas of capital markets and international equity valuation. His current
research interests are focused on IFRS implementation in Europe, global
equity market anomalies and fundamental valuation models, with particular
reference to the links between financial statement factors, risk and equity
returns. He is Joint-Editor of Journal of Business Finance and Accounting.

Accounting for asset impairment: a test for IFRS compliance across Europe 3
1. Executive summary
Has IFRS adoption led to economic benefits? How we have completed this research
Recent academic research shows that listed companies and investors Our empirical study is structured in two stages:
have both experienced benefits following the introduction and adoption
In the first stage, in light of the extent of judgment and discretion
of International Financial Reporting Standards. Examples of potential
offered to companies reporting under IFRS, we provide broad
available benefits include a lower cost of capital, increased investor
evidence on the timeliness of asset write-offs recognized in earnings
demand for securities and greater stock market liquidity.
benchmarked against a proxy for economic losses. In common with
However, academic studies also highlight the fact that actual IFRS much academic research, we assume that, in an efficient market,
reporting practices may not always be congruent with the requirements stock returns reflect the magnitude of economic losses suffered by
set out in the standards. When compliance with IFRS is weak, benefits a firm in an unbiased manner. We report evidence based on a large
are not expected to follow. Research findings suggest that compliance sample of 4,474 listed companies from the European Union, plus Norway
is likely to be related to the quality of a country’s enforcement and and Switzerland, on whether and how the timeliness of recognition
institutional regimes and to firm-specific factors that reflect on the of economic losses in the post-2005 period varies across countries
incentives and governance mechanisms supporting high-quality domiciled in different institutional environments in predictable ways.
financial reporting. We examine this issue in the context of impairment Our selection is based on a measure of impairment intensity, which we
reporting in Europe. define as the total non-current non-financial asset impairment charge as
a percentage of total assets at the beginning of the year. This approach
Objectives of this study
to identifying our sample ensures that the selected companies are those
An assessment of accounting practices for asset impairments is in which impairments are a relatively material disclosure item.
especially important in the context of financial reporting quality in that
To evaluate the impact of differences in institutions across European
it requires the exercise of considerable management judgment and
countries, we group countries into three clusters: cluster 1 includes
reporting discretion. The importance of this issue is heightened during
countries characterized as outsider economies (large and developed
periods of ongoing economic uncertainty as a result of the need for
stock markets, dispersed ownership structures, strong outside investor
companies to reflect the loss of economic value in a timely fashion
protection rules and strong legal enforcement); cluster 2 constitutes
through the mechanism of asset write-downs.
countries with insider economies (less-developed stock markets,
In this study, we investigate how well impairment reporting concentrated ownership structures and weak outside investor protection)
requirements under IFRS have been implemented in recent European and strong rule enforcement; and cluster 3 includes countries with insider
financial reporting practice. We identify the timeliness of impairment economies and weak rule enforcement.
losses for non-current non-financial assets in Europe and highlight
Next, we select a cross-sectional sample of 324 listed companies from
firm-specific and country-wide factors associated with the quality
the European Union, plus Norway and Switzerland, for which we examine
of impairment disclosures.
detailed impairment-related disclosures in 2010-11. Our selection is again
driven by the degree of impairment intensity. We focus on disclosures
relating to three classes of non-current non-financial assets: property, plant
and equipment (PP&E), intangible assets other than goodwill (hereafter
intangible assets) and goodwill. To examine reporting behavior and assess
compliance, we use a self-constructed compliance survey instrument
based on Ernst & Young illustrative checklists and define the disclosures
that we would expect to observe in companies taking asset write-downs.
Based on the data we collect from the survey, we develop compliance
indices scoring the actual level of disclosure in our sample firms.

4 Accounting for asset impairment: a test for IFRS compliance across Europe
We analyze the survey results for 11 specific disclosure areas and Highlights from the survey findings
highlight examples of differences in compliance attitudes across
Highlights from the survey evidence on disclosure practices are
countries and industries. Building on results from our survey, we
presented below. This includes an assessment of overall compliance
also assess whether impairment reporting practices are different
and reporting behavior in 11 selected disclosure areas.
between those disclosures that we predict will require uneven levels of
management effort to fulfil compliance. We further investigate variations Overall compliance
in compliance across the three European country-clusters because prior
 Compliance scores for the three asset classes vary considerably
research suggests that compliance will vary as a result of differences in
across country-clusters and also across industries.
enforcement mechanisms and preparers’ incentives.
 While overall disclosure quality is reasonably high at around 82%,
Timeliness of recognition of economic losses disclosures relating to intangible assets are of somewhat lower quality
 We rely on a perspective that suggests that conservatism in than found for PP&E and goodwill.
accounting recognition and remeasurement will lead to companies  Within the three asset classes, disclosure quality can vary significantly
recognizing bad news in earnings in a more timely fashion than good across industries.
news. This property of accounting is referred to as asymmetric Accounting policies and judgments
timeliness of earnings. If, however, the market is well informed, bad
news and good news will be equally reflected in a company’s stock  Although we find overall high levels of compliance in this area,
returns. Therefore, we benchmark recognized impairment losses for there is notable variation, with a majority of companies appearing to
non-current non-financial assets against the economic losses be box-ticking their way through the compliance process. A smaller
reflected in stock market values. We examine the extent to which number of companies provide disclosures on the nature of and
asymmetric timeliness in recognition of gains and losses varies reasoning underlying their policies and judgments.
across the three European country-clusters.  There is excessive use of boilerplate language, with compliance being
 Our empirical assessment of the timeliness of impairments during the satisfied through simple restatements of the wording contained in the
period following the introduction of IFRS in Europe (2006-11) confirms standards such as IAS 1 and IAS 36.
the asymmetric timeliness of accounting earnings. Estimation uncertainty
 We also find that asymmetric timeliness is lowest in cluster 3 countries,  While there is some variation across countries and industries, in each
where the effectiveness of rule enforcement regimes is predicted to of the three asset classes, most companies provide adequate
be relatively weaker compared with the other two country-clusters. disclosures on assumptions and factors influencing estimation
 Our results are consistent with enforcement differences across uncertainty together with descriptions of their nature.
countries leading to variations in the speed of recognition of economic
Changes to past assumptions
losses as well as differences in disclosure quality.
 Despite recent major fluctuations in economic conditions that are
expected to be relevant in the remeasurement of assets, we find
an absence of meaningful disclosures on revisions to past
impairment-related assumptions.

Accounting for asset impairment: a test for IFRS compliance across Europe 5
Sensitivity of carrying amounts to changes in methods, assumptions Allocation of impaired assets to segments
and estimates
 We find various cases of non-compliance in the allocation of impaired
 There is only limited evidence of disclosure in this area in relation to assets to segments.
PP&E and intangible assets.  An issue we identify in this area is the lack of sufficient disaggregation
 Goodwill-related disclosures are low in the cluster of countries where of assets at the segment level. In most cases, assets are not itemized
rule enforcement is predicted to be relatively weak. and are presented solely as aggregate total asset amounts.
 Since sensitivity disclosures are important in understanding the  Lack of clarity in identifying the allocation bases together with opacity
reliability of valuations, inadequacy of disclosures is likely to adversely as to the components of segments’ assets can potentially impair the
affect investors’ perceptions concerning the reliability of recognized relevance of disaggregated disclosures.
goodwill values and related impairment tests.
CGU description and allocation of goodwill to CGUs
Events and circumstances
 Cash generating unit (CGU) descriptions are, at best, modest,
 We find substantial variation in disclosures relating to events and with many companies failing to provide adequate information.
circumstances underlying impairment charges, both across countries  Disclosure of the allocation of goodwill to CGUs is somewhat better, but
and across asset classes. In many cases, disclosures are opaque there are still many cases where compliance is lower than desirable.
and preparers do not adequately explain the circumstances
 We find limited disclosures on judgments, estimates and justifications
underlying impairment charges.
underlying allocation decisions at the CGU level.
Basis for recoverable amount
Impairment by asset class, segment and CGU
 Value in use is the prevailing method for determining recoverable
 Disclosure at this level is generally low and for several countries
amount across all three asset classes.
there is an apparent lack of adequate compliance.
 For a considerable number of cases (36% in PP&E, 38% in intangible
 The low quality of segment disclosures appears to be driving
assets and 7% in goodwill), there is a lack of transparency in relation
the low-quality disclosures of CGU impairments by asset class
to the adopted bases for estimating recoverable amounts.
or segment.
 Despite the ongoing economic downturn, there is a lower-than-
 When considered in conjunction with findings on impairments by
expected range of disclosures on how market conditions may have
segments, the results highlight the potential shortcomings of
influenced factors important in estimating recoverable amounts,
disaggregated reporting in Europe. This may have implications for
where estimates of future cash flows are important.
compliance in other areas of financial disclosure.
Impairments as part of segment results
 Disclosure is generally very limited in this area.
 The absence of disclosure is partly explained by the presence of a
large number of single-segment companies that justify non-disclosure
by citing the aggregation criteria of IFRS 8.

6 Accounting for asset impairment: a test for IFRS compliance across Europe
Cash flow projections, growth and discount rates High-effort versus low-effort disclosures
 Disclosures on discount rates are found in a majority of companies.  To capture the influence of managerial discretion on disclosure
 Uncertainty surrounding future economic conditions appears to have behavior, we develop and rely on a novel approach to the analysis of
influenced companies’ ability in producing informative disclosures on accounting disclosures. We believe that the degree of discretion
forecasts of future cash flows and growth rates. These effects appear allowed and judgment needed to satisfy the set of disclosure
to be especially pronounced in countries where compliance is requirements we study varies. On this basis, we classify impairment
predicted to be relatively low (cluster 3 countries). disclosures according to whether they are “high-effort” or “low-effort”
disclosures. High-effort disclosures call for greater managerial
 Cash flow projections usually take the form of a single forecast period.
involvement and the use of discretionary reporting choices. Low-effort
In a minority of cases, a range of periods is adopted.
requirements are usually satisfied by using boilerplate language and
 Companies generally adopt a single growth rate that does not exceed exercising a minimum level of judgment.
long-term average growth rates.
 Our analysis confirms that disclosure compliance is generally lower
 A large proportion of companies refer to the Weighted Average Cost for high-effort impairment disclosures across all three asset classes.
of Capital (WACC) when explaining the basis for determining the
discount rate. However, the adoption of a single discount rate Conclusions
(e.g., a company-wide WACC) that is applied evenly across all CGUs  Overall, we find that financial reporting quality for impairments of
regardless of differences in their risk profiles may be questionable. non-current non-financial assets is not uniform across Europe in our
Effects of regulatory and institutional regimes sample. There appear to be differences in the speed of recognition
of economic losses through impairments across different country-
 Consistent with predictions that stronger regulatory and institutional clusters, even though companies are reporting under the same set
environments result in higher-quality financial reporting, we find that of financial reporting standards. Countries where enforcement is
compliance levels for impairment disclosures are, on average, greater predicted to be stronger are found to recognize losses in a more
in cluster 1 countries compared with the other two clusters. timely fashion. There are also significant variations in compliance
 We find no major difference in compliance levels for impairment with disclosure requirements relating to impairments of non-current
disclosures between countries in cluster 2 and cluster 3. non-financial assets. Our findings suggest that heterogeneity in
 These findings suggest that changing accounting standards alone country-level institutional features and firm-specific characteristics
may not be sufficient to ensure uniform financial reporting across have a role in explaining these differences.
Europe due to uneven enforcement.
Effects of firm-specific attributes
 We examine whether impairment disclosure quality is related to a
range of firm-specific factors.
 Our results suggest that disclosure quality is higher when companies
have Big 4 auditors; are in the oil and gas industry; are larger;
have higher leverage; and have higher goodwill impairment intensity.

Accounting for asset impairment: a test for IFRS compliance across Europe 7
2. Introduction
The mandatory adoption of International Financial Reporting Standards Research investigating the role of institutions challenges the notion that
by listed companies in the European Union (EU) has raised expectations IFRS will lead to even outcomes across different countries (e.g., Ball et al.,
in the minds of many that accounting practices will become increasingly 2003). Findings in this strand of the literature also suggest that institutional
homogeneous and comparable and that the quality of financial heterogeneities between settings in which IFRS are adopted can lead to
information will converge. Advocates argue that a single set of reporting variations in actual reporting practices. This view is corroborated by
standards ensures that similar transactions are treated in the same way in studies that show that the reasons explaining accounting differences
different countries, thereby facilitating cross-jurisdictional comparisons of during the pre-IFRS era have continued to prevail under IFRS (Nobes,
financial information and providing more opportunity for investment and 2006; Kvaal and Nobes, 2010, 2012).
diversification (Tweedie, 2001, 2006).
Equally important in evaluating IFRS reporting practices and outcomes
There is ample evidence that supports these assertions. For example, is the influence of firm-specific characteristics (e.g., size, leverage or
studies find that IFRS adoption leads to improvements in reporting profitability).2 Prior research shows that reporting diversity is related to
quality (Barth et al., 2008) and the provision of value-relevant information incentives associated with such characteristics (e.g., Street and Gray,
(Horton and Serafeim, 2010). There is also evidence that shows that IFRS 2002). Therefore, an assessment of disclosure practices and reporting
can reduce managers’ discretion and limit opportunities for earnings outcomes will need to account for variations in firm-level attributes as well.
management (Ewert and Wagenhofer, 2005).1 Findings in recent
Building on these views, we evaluate IFRS impairment reporting and
research indicate that IFRS adoption potentially reduces the cost of
its outcomes in Europe. Our study is motivated by the heightened
equity capital (Li, 2010) and increases institutional investment (Florou and
importance of impairments in light of recent turbulence in financial
Pope, 2012).
markets and the ongoing economic downturn resulting from the credit
An emerging trend in recent IFRS studies is that its outcomes crisis. Although economic instabilities are not, prima facie, an impairment
(e.g., changes in reporting quality) cannot be considered in isolation from indicator, the individual economic events that collectively led to, or
preparers’ incentives and institutional factors. According to this view, stemmed from, the crisis appear to have been relevant in triggering
reporting practices and outcomes are not solely driven by standards. impairment decisions by many European companies. As a recent report
There are country-level institutions that are as important as standards, by the European Securities and Markets Authority (ESMA) reveals,
if not more so. Examples include the nature of the legal system, type impairment testing and reporting remain to be of high importance
of financial system, prevalent ownership structures and the strength of because current economic circumstances generally mean that many IFRS
securities regulation and enforcement regimes. preparers will continue to face potentially impaired assets (ESMA, 2011).

1 Ewert and Wagenhofer (2005) highlight the importance of the International Accounting Standards Committee’s “improvements project” in 2003, which led to the removal of alternative methods from different standards

and how this may have reduced managers’ discretion and potentially limited their ability to manage earnings. We note, however, that subsequent evidence on change in earnings management following IFRS is
inconclusive. For example, while Barth et al. (2008) report on lower earnings management levels, Jeanjean and Stolowy (2008) and more recently, Capkun et al. (2012) find an increase in earnings management from the
pre-2005 to the post-2005 period within different classes of IFRS adopters.

2 Consistent with practice in academic papers, in this report we use the terms “company” and “firm” interchangeably to refer to the business entities producing financial statements in which we have an interest, i.e.,

European listed companies. Generally, no significance should be attached to the choice of one term in preference to another, although the shorter “firm” is more convenient for purposes of tabulating results. When we use
the term “entity,” it is in the context of use of this term by the IASB in its standards when referring to the reporting entity. At times, we also refer to professional accounting firms and audit firms.

8 Accounting for asset impairment: a test for IFRS compliance across Europe
At times of economic uncertainty and persistent slowdown in financial To assess the timeliness of impairments, we use two constructs.
markets and the real economy, it is likely that assets may generate lower First, we rely on the notion of asymmetric timeliness and adopt a
cash flows than previously expected. This could, in turn, increase the measure that is based on the explanatory power of a reverse regression
likelihood of booking impairment charges as carrying amounts may not model of earnings on stock returns. Next, we examine variations in the
be fully recoverable. As such, the crisis may have acted as the triggering speed of impairment recognition in earnings across European countries
event for impairment testing and the recognition of write-downs.This view with different institutional features. We capture such differences by
is supported by evidence on the number of entities that reassessed their adopting a classification that groups countries into three clusters:
impairment testing procedures, models and assumptions following the cluster 1 includes countries with outsider economies and strong
rise of financial instabilities in Europe and beyond (Ernst & Young, 2010). enforcement; cluster 2 constitutes countries with insider economies
and stronger enforcement; and cluster 3 includes countries with insider
Our study pursues two main objectives. Initially, we provide some
economies and weaker enforcement.
broad evidence on the incidence and timeliness of impairments for a
sample of 4,474 European companies during the post-IFRS adoption To evaluate IFRS disclosures, we conduct a survey of European
era (2006-11). Given the discretion that reporting standards offer in terms companies’ impairment reporting practices. Our emphasis is on
of managing the amount and timing of impairments, we believe that it is evaluating disclosures in eleven distinct areas and the degree of their
relevant to assess the speed at which economic losses are recognized congruence with the requirements of IFRS. To do so, we develop a
in accounting earnings. We also examine the role of country-level compliance survey instrument and rely on unweighted and partial indices
institutions in explaining differences in the timeliness of impairments to summarize our findings. We study differences in compliance across
across European countries. countries and industries and identify country- and firm-level forces that
explain observed disclosure attitudes. Evidence from our survey of
For a sample comprising 324 companies, we then assess the quality
reporting practices contributes to proposals for improved impairment
of impairment disclosures in 2010-11 for three classes of non-current
reporting in Europe.
non-financial assets: PP&E, intangible assets and goodwill. Our evaluation
is based on the extent to which impairment disclosures conform to the The results we find on the timeliness of impairments are highly consistent
requirements of IFRS. We examine those areas where compliance is with predictions of asymmetric timeliness. We also find evidence that
lacking or weak and seek to provide explanations for such observations. confirms our expectations on the role of institutional factors in shaping
Based on our findings on actual compliance, we establish a model the outcomes of financial reporting. The findings generally indicate
that includes country-level institutional factors as well as firm-specific that asymmetric timeliness is lowest in cluster 3 countries where the
attributes that could explain disclosure behavior. Finally, we analyze effectiveness of institutions and enforcement regimes is predicted to
reporting attitudes through the lens of a novel classification of accounting be relatively weaker compared with the other two country-clusters.
requirements. Our analysis rests on identifying two sets of reporting This is consistent with enforcement differences across countries leading
requirements: high-effort versus low-effort requirements. Our conjecture to variations in the speed of recognition of economic losses as well as
is that there are meaningful differences in disclosure quality between disparities in the level of disclosure quality.
these two sets of requirements.

Accounting for asset impairment: a test for IFRS compliance across Europe 9
Findings from our survey of impairment disclosures reveal variations The remainder of the study is organized as follows. In section 3, we
in overall compliance levels across European countries and different present an overview of impairment reporting requirements under IFRS.
industries for the three asset classes. Detailed examination of different Section 4 outlines the background literature motivating our study. This
disclosures indicates that a majority of companies appear to be section also defines our propositions with respect to the timeliness of
box-ticking their way through the compliance process. This observation impairment losses and the quality of impairment disclosures in Europe.
is more pronounced in those areas where compliance is satisfied In section 5, we present descriptive results for our main sample and
through the use of boilerplate language. some empirical findings from our study of the timeliness of impairment
losses. Section 6 highlights evidence from our survey of listed companies’
Consistent with our conjectures, we document that companies domiciled
compliance levels. We identify some of the more important factors
in stronger institutional settings exhibit higher reporting quality. More
shaping compliance and present our findings on differences in reporting
specifically, compliance is generally higher in cluster 1 countries
quality between high-effort and low-effort disclosures. In section 7,
compared with the other two country-clusters. No meaningful difference
we offer some broad recommendations for future improvements in
in compliance levels is found between companies classified in cluster
impairment reporting in Europe.
2 and cluster 3. This result is consistent with the important role that
complementary institutional forces play in ensuring the adequacy of
IFRS implementation.
Using an automatic econometric model selection algorithm, we identify
the determinants of compliance for our sample companies. The selected
significant variables include audit quality, type of industry, leverage,
intensity of goodwill impairments, firm size and being domiciled in a
cluster 1 country. The results highlight the influence of large audit firms
and strong institutions in encouraging IFRS compliance. They also reveal
the importance of firm-specific features in explaining how actual reporting
practices are shaped. Our examination of the impact of judgment and
effort on IFRS compliance also indicates that, in gauging overall
disclosure quality, low compliance with high-effort requirements are
generally masked by high compliance with low-effort disclosures across
the three asset classes.

10 Accounting for asset impairment: a test for IFRS compliance across Europe
Accounting for asset impairment: a test for IFRS compliance across Europe 11
3. Impairment reporting
requirements under IFRS
Objectives underlying impairment reporting Timing and indicators of impairment
An objective of impairment recognition is to improve the usefulness of According to IAS 36, an entity is required to assess, at least at each
financial statement information by reporting losses in a timely manner. reporting date, whether there is an indication that an asset may be
Information on asset impairments should be relevant in evaluating the impaired. If such indications are present, an impairment test should be
operating capacity and risks of a firm, and should assist investors in undertaken. Although observing an indicator does not by itself lead to
better approximating economic values of assets and in estimating the the recognition of a write-down, it is often considered as the trigger for
returns on their investments. conducting an impairment test.3
Under IFRS, the relevant requirements governing impairment reporting To establish guidelines on identifying triggering events, the standard
for non-current non-financial assets are set out mainly in IAS 36 requires consideration of both external sources of information (e.g.,
Impairment of Assets together with certain asset-specific disclosure unexpected decline in an asset’s market value, increases in interest
requirements in IAS 16 Property, Plant and Equipment, IAS 38 Intangible rates, or market capitalization being lower than the carrying amount of
Assets and IFRS 3 Business Combinations. In this section, we provide a net assets4) and internal sources of information (e.g., evidence on
brief overview of the impairment-related concepts and implementation physical damage or obsolescence, discontinued or restructured
issues for each of these standards. Subsequently, we build on this review operations, or a decline in economic performance) (IAS 36.12). If any
to develop our compliance survey instrument. such indication exists, the entity is required to estimate the recoverable
amount of the asset (IAS 36.9).
Asset impairments under IAS 36
For indefinite-life intangibles, intangibles not yet available for use and for
The objective of IAS 36 is to prescribe the procedures that an entity
goodwill acquired in a business combination, the standard requires that
applies to ensure that its assets are carried at no more than their
an impairment test is carried out annually irrespective of whether or not any
recoverable amount (IAS 36.1). Underlying the standard’s prescriptions is
indication of impairment exists (IAS 36.10).
a set of key definitions that include the following (IAS 36.6):
Recoverable amount: fair value less costs of disposal versus value
 Carrying amount: the amount at which an asset is recognized after
in use
deducting any accumulated depreciation (amortization) and
accumulated impairment losses thereon. Recoverable amount is the higher of: (i) an asset’s (or a CGU’s) fair
 Cash-generating unit (CGU): the smallest identifiable group of value less costs of disposal and its value in use (IAS 36.18). To measure
assets that generates cash inflows that are largely independent of the impairment, an asset’s (or a CGU’s) carrying amount is compared with
cash inflows from other assets or groups of assets. its recoverable amount. The impairment loss is the amount by which the
carrying amount of the asset (or CGU) exceeds its recoverable amount
 Costs of disposal: incremental costs directly attributable to the
(IAS 36.6, IAS 36.8). The process of measuring impairment is illustrated
disposal of an asset or CGU, excluding finance costs and income
in Figure 3.1.
tax expense.
 Impairment loss: the amount by which the carrying amount of an
asset or CGU exceeds its recoverable amount.
 Fair value: the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market
participants at the measurement date.
 Recoverable amount: the recoverable amount of an asset or a CGU
is the higher of its fair value less costs of disposal and its value in use.
 Value in use: the discounted present value of the future cash flows
expected to be derived from an asset or CGU.

3
From this perspective, impairments can be viewed as an example of how conditional, news-dependent conservatism manifests itself in accounting practice. This is in contrast with unconditional, news-independent
conservatism that is an inherent component of the financial reporting system.
4
Higher book-to-market (BTM) ratios may suggest that the capital market is accounting for losses through alternative sources of information that are yet to be captured through the financial reporting system. It is important
to note, however, that just as IFRS book values may not be comparable among different European countries due to differences in compliance, share prices may not be equally informative across European countries as a
result of diversity in the capital market infrastructure and the speed at which information is impounded in prices.

12 Accounting for asset impairment: a test for IFRS compliance across Europe
 Figure 3.1 - Impairment measurement under IAS 36

Carrying amount:
Depreciated historical cost
(or other allowed alternatives)

The value of an asset or a

cash-generating unit is the Fair value less costs of disposal
lower of:

Recoverbale amount, which is

the higher of:

Value in use

Recoverable amount is determined for individual assets. If, however, based on extrapolations using a steady or declining growth rate,
the asset does not independently generate cash inflows, recoverable unless an increasing rate can be justified. If a growth rate is assumed,
amount is determined for the cash-generating unit to which the asset it should not exceed the long-term average growth rate for the products,
belongs (IAS 36.22). The two elements in measuring recoverable industries, or country or countries in which the entity operates, unless a
amount are fair value less costs of disposal (FVLCD) and value in use higher rate can be justified (IAS 36.33).
(VIU). It may be possible to measure FVLCD, even if there is not a quoted
The next three elements relate to the discount rate that is applied to the
price in an active market for an identical asset (IAS 36.20). However,
expected future cash flows. These are the time value of money, the price
in the absence of a basis for making a reliable estimate of the price at
for bearing the asset’s inherent uncertainty and other factors that market
which an orderly transaction to sell the asset would take place between
participants reflect in pricing future cash flows.5 To measure the present
market participants, measuring FVLCD may not be possible. In this case,
value of projected cash flows, the focus is on capturing risks associated
the entity may use the asset’s VIU as its recoverable amount.
with the asset; the riskier the asset, the higher the discount rate and the
Five elements should be reflected in an asset’s VIU (IAS 36.30). The first lower the present value of future cash flows. The standard requires the
two elements relate to net cash flow projections and require estimation use of a pre-tax discount rate that reflects current market assessments
of the amount and timing of expected future cash flows and changes in of the time value of money as well as asset-specific risks (IAS 36.55).
those projections. Cash flow projections should be based on reasonable The selected discount rate should reflect investors’ required rate of return
assumptions that represent management’s best estimate of the range if they were to choose an investment that would generate similar cash
of economic conditions that will exist over the remaining useful life of the flows (IAS 36.56).
asset. These projections are usually produced on the basis of the most
recent budgets/forecasts approved by management. Projections beyond
the period covered by the most recent budgets/forecasts should be

5
Guidance in IAS 36 refers to two methods that are used in practice to determine the present value of projected cash flows: the traditional approach and the expected cash flow approach where, under the former, a single
set of estimated cash flows and a single discount rate are used, while under the latter approach, different probabilities are applied to an expected range of cash flow estimates (see: IAS 36.A4-A-14).

Accounting for asset impairment: a test for IFRS compliance across Europe 13
However, in practice, it may not be possible to identify an asset-specific The requirement to allocate goodwill stems from the fact that goodwill
discount rate. In these circumstances, when a market-based rate is not does not generate cash flows independently from other assets or groups
directly observable, surrogates can be used by taking into account: (a) of assets, and often contributes to the cash flows of multiple CGUs.
the entity’s WACC using the Capital Asset Pricing Model ; (b) the entity’s But goodwill sometimes cannot be allocated on a non-arbitrary basis
incremental borrowing rate; (c) other market borrowing rates; and (d) key to individual CGUs. In such cases, goodwill is tested for impairment at
risk factors such as country risk, currency risk, price risk and cash flow the lowest level within the entity at which it is monitored for internal
risk (IAS 36.57 and IAS 36.A16-A18). management purposes and which is not larger than an operating
segment defined under IFRS 8 Operating Segments before aggregation
Recognition and measurement of an impairment loss
(IAS 36.80-81).
When the carrying amount of an asset exceeds its recoverable amount,
A CGU to which goodwill has been allocated should be tested for
the excess is recognized as an impairment loss (IAS 36.59). When the
impairment on an annual basis, and whenever there is an indication that
carrying amount is measured on the basis of depreciated historical cost,
the unit may be impaired. Impairment is tested by comparing the carrying
the impairment loss is recognized as an expense immediately in profit or
amount of the CGU, including goodwill, with its recoverable amount. If the
loss. If, however, the asset is measured under an accepted alternative
carrying amount of the CGU exceeds its recoverable amount, the entity
basis (e.g., the revaluation model of IAS 16 or IAS 38), the impairment
should recognize the difference as an impairment loss (IAS 36.90).
loss is treated as a reduction in the asset’s revaluation surplus and
Although the standard indicates that the annual impairment test for
recognized in other comprehensive income (IAS 36.60-61). The asset’s
CGUs may be performed at any time during an annual period, to ensure
revised impairment-adjusted carrying amount will be the basis for future
consistency in entities’ inter-period reporting practices, the test is to be
periods’ depreciation (amortization).6
performed at the same time every year (IAS 36.96). Any impairment loss
Cash-generating units and goodwill impairment is allocated first, to reduce the carrying amount of goodwill allocated to
the CGU. If the carrying amount of goodwill allocated to the CGU is written
In cases when it is not possible to estimate the recoverable amount of
off as a result of the loss, any remaining impairment is then allocated to
an individual asset, recoverable amount will be determined for the CGU
the other assets of the CGU pro rata on the basis of their carrying amount
to which the asset belongs (IAS 36.66). Identifying an asset’s CGU can
(IAS 36.104). Figure 3.2 presents a summary overview of the impairment
require judgment by management. The principal characteristic of a CGU
determination process for both individual assets and cash-generating
is the ability of an asset (groups of assets) to independently generate
units based on IAS 36.
cash inflows. In establishing this, various factors are considered,
including how management monitors operations or how management Selected disclosure requirements
makes decisions about continuing or disposing of assets and operations
IAS 36 outlines required disclosures relating to impairment tests and
(IAS 36.69).
recognized losses. We focus on a number of disclosure items in our
An important aspect of identifying CGUs relates to goodwill accounting. compliance survey instrument. First, the standard requires the disclosure
Under IFRS 3 Business Combinations, goodwill arising from business of the amount of impairment losses recognized in profit or loss and in
combinations is subject to annual impairment tests in accordance with other comprehensive income during the period (IAS 36.126). To identify
IAS 36 (IFRS 3.B69d).7 For purposes of impairment testing, acquired how impairment losses relate to operating segments reported under IFRS
goodwill is, from the acquisition date, allocated to each of the acquirer’s 8, the standard also requires the provision, for each reportable segment,
CGUs (or groups of CGUs) that are expected to benefit from the of information on the amount of impairment losses recognized in profit or
acquisition, irrespective of whether other acquired assets or liabilities are loss and in other comprehensive income during the period (IAS 36.129).
assigned to those CGUs. IAS 36 then lists a package of disclosures that should be provided for
each material impairment loss recognized or reversed for an asset or a
CGU (IAS 36.130). These include:

6
IAS 36 outlines the accounting treatment for reversals of previously recognized impairments following favorable changes in estimates used to determine an asset’s recoverable amount (except for goodwill).
The scope of our survey of impairment reporting practices in Europe, however, does not encompass instances of reversals.
7
The issuance of IFRS 3 in 2004, which prohibits the pooling of interests method of accounting for business combinations and, at the same time, abolishes goodwill amortization, was the outcome of an IASB-FASB
joint project and is often viewed as being complemented by simultaneous revisions to IAS 36 that led to the introduction of annual impairment testing rules for goodwill arising from business combinations.

14 Accounting for asset impairment: a test for IFRS compliance across Europe
 The events that led to the recognition or reversal of the  If the CGU’s (group of CGUs’) recoverable amount is based on VIU:
impairment loss (i) a description of key assumptions relating to cash flow projections to
 The amount of the impairment loss recognized or reversed which recoverable amount is most sensitive, (ii) a description of
management’s approach to determining values assigned to each key
 For an individual asset: (i) the nature of the asset and (ii) the
assumption, (iii) the projection period for future cash flows and reasons
reportable segment to which the asset belongs
for why a period greater than five years may have been used, (iv) the
 For a cash-generating unit: (i) a description of the CGU, (ii) the amount growth rate used to extrapolate cash flow projections beyond the
of impairment loss recognized or reversed by class of assets and by period covered by the most recent budgets or forecasts, and the
reportable segment, and (iii) if the aggregation of assets for identifying justification for using a rate that exceeds the long-term average growth
the CGU has changed, a description of the current and former way of rate and (v) the discount rate(s) applied
aggregation and the reasons for the change
 If the CGU’s (group of CGUs’) recoverable amount is based on
 Whether the recoverable amount of the asset or CGU is its FVLCD or FVLCD, the methodology used to determine FVLCD; if FVLCD is not
its VIU determined using an observable quoted market price, the entity must
 If recoverable amount is FVLCD, the basis used for its determination disclose: (i) a description of each key assumption used in determining
 If recoverable amount is VIU, the discount rate(s) used in the current FVLCD to which recoverable amount is most sensitive, (ii) a
and previous estimates (if any) description of management’s approach to determining the values
assigned to each key assumption; if FVLCD is determined using
It is possible that the initial allocation of acquired goodwill may not be discounted cash flow projections, the entity must disclose: (iii) the
complete by the end of the reporting period in which the business period over which management has projected cash flows, (iv) the
combination took place. In such situations, the entity must complete growth rate used to extrapolate cash flow projections and (v) the
the initial allocation before the end of the first post-acquisition reporting discount rate(s) applied to the cash flow projections
period (IAS 36.84). For CGU disclosure purposes, if, at the end of a
 If a reasonably possible change in a key assumption would cause
reporting period, any portion of goodwill is not allocated to a CGU
a CGU’s (group of CGUs’) carrying amount to exceed recoverable
(group of CGUs), the amount of, and reasons for, unallocated goodwill
amount: (i) the amount by which the CGU’s (group of CGUs’)
should be disclosed (IAS 36.133).
recoverable amount exceeds its carrying amount, (ii) the value
Further asset- and CGU-related impairment disclosures are outlined in IAS assigned to the assumption and (iii) the amount by which the value
36. For instance, entities are encouraged to disclose assumptions used assigned to the assumption must change for the CGU’s (group of
to determine the recoverable amount during the period (IAS 36.132). CGUs’) recoverable amount to be equal to its carrying amount
More importantly, when the carrying amount of goodwill or intangible
If, on the other hand, some or all of the carrying amount of goodwill or
assets with indefinite useful lives allocated to a CGU (group of CGUs)
indefinite-life intangible assets is allocated across multiple CGUs (groups
is significant, IAS 36 requires the provision of information on estimates
of CGUs) and the amount so allocated is not significant, this should also
used in determining the recoverable amount (IAS 36.134), including the
be disclosed. In addition, if the recoverable amounts of any of those
following:
CGUs (groups of CGUs) are based on the same key assumption(s) and
 The carrying amount of goodwill allocated to the CGU (group of the aggregate carrying amount of goodwill or indefinite-life intangible
CGUs) assets allocated to them is significant in comparison with the entity’s total
 The carrying amount of intangible assets with indefinite useful lives carrying amount of goodwill or intangible assets with indefinite useful
allocated to the CGU (group of CGUs) lives, that fact should be disclosed together with the following information
 The basis for the CGU’s (group of CGUs’) recoverable amount (IAS 36.135):
(i.e., VIU or FVLCD)

Accounting for asset impairment: a test for IFRS compliance across Europe 15
 The aggregate carrying amount of goodwill allocated to those CGUs  If a reasonably possible change in the key assumptions would cause
(groups of CGUs) the aggregate of the CGUs’ (groups of CGUs’) carrying amounts to
 The aggregate carrying amount of intangible assets with indefinite exceed the aggregate of their recoverable amounts: (i) the amount by
useful lives allocated to those CGUs (groups of CGUs) which the aggregate of the CGUs’ (groups of CGUs’) recoverable
amounts exceeds the aggregate of their carrying amounts, (ii) the
 A description of the key assumptions
values assigned to the key assumptions, (iii) the amount by which the
 A description of management’s approach to determining the values values assigned to the key assumptions must change for the
assigned to the key assumptions aggregate of the CGUs’ (groups of CGUs’) recoverable amounts to be
equal to the aggregate of their carrying amounts

Figure 3.2 - Overview of impairment recognition under IAS 36

Goodwill or No
af\]Õfal]%da^]
intangible?

No Yes
No

Irrespective of
indicators, allocate Reduce
Identify CGU goodwill to CGU or CA>RA for
Any RA can be Reduce CA other
to which groups of CGUs CGU or
Start indications of estimated of goodwill assets pro End
asset and allocate group of
impairment? individually? rata based
Yes No belongs af\]Õfal]%da^] CGUs? Yes
on their CA
intangibles to
CGUs
Yes

Determine RA CA>RA? Reduce CA to RA

Yes

Key No
RA: Recoverable amount
CA: Carrying amount
CGU: Cash-generating unit

Source: Ernst & Young (2011)

16 Accounting for asset impairment: a test for IFRS compliance across Europe
Asset-specific impairment disclosure requirements  A reconciliation of the carrying amount at the beginning and end of
the period, which should show: (i) additions, indicating separately
PP&E
those from internal development, those acquired separately and those
IAS 16 delineates certain impairment-related disclosures for PP&E. acquired through business combinations, (ii) assets classified as held
Among the required disclosures are the following (IAS 16.73): for sale or included in a disposal group classified as held for sale,
(iii) impairment losses recognized in profit or loss during the period in
 The measurement bases used for determining the gross
accordance with IAS 36 (if any), (iv) impairment losses reversed in
carrying amount
profit or loss during the period in accordance with IAS 36 (if any),
 The depreciation methods used (vi) any amortization recognized during the period and (vii) other
 The useful lives or the depreciation rates used changes in the carrying amount during the period
 The gross carrying amount and the accumulated depreciation Goodwill
(aggregated with accumulated impairment losses) at the beginning
and end of the period IFRS 3 requires the disclosure of a reconciliation of the carrying
amount of goodwill at the beginning and end of the reporting period
 A reconciliation of the carrying amount at the beginning and end
(IFRS 3.B67d). This reconciliation should show separately the gross
of the period showing: (i) additions, (ii) assets classified as held for
amount and accumulated impairment loss at the beginning of the
sale or included in a disposal group, (iii) acquisitions through business
reporting period together with any additional goodwill recognized during
combinations, (iv) increases or decreases resulting from revaluations
the reporting period. Goodwill that is included in a disposal group should
and from impairment losses recognized or reversed in other
be classified as held for sale in accordance with IFRS 5 Non-current
comprehensive income in accordance with IAS 36, (v) impairment
Assets Held for Sale and Discontinued Operations, provided that, on
losses recognized in profit or loss in accordance with IAS 36,
acquisition, it meets the relevant criteria. Impairment losses recognized
(vi) impairment losses reversed in profit or loss in accordance with
during the reporting period in accordance with IAS 36, together with
IAS 36, (vii) depreciation, (viii) the net exchange differences arising
information about the recoverable amount and impairment of goodwill,
on the translation of the financial statements from the functional
any other changes in the carrying amount during the reporting period as
currency into a different presentation currency and (ix) other changes.
well as the gross amount and accumulated impairment losses at the end
Intangible assets of the reporting period, should also be disclosed.
IAS 38 defines the recognition and measurement requirements of both Summary
finite-life and indefinite-life intangibles. The standard also outlines the
When the valuation of assets requires managerial judgment and
disclosures that an entity should provide for each class of intangible
assumptions, there is a risk that recognized balance sheet amounts
assets. Included in these disclosures are (IAS 38.118):
will be viewed as unreliable. To control this risk, IFRS require periodic
 The gross carrying amount and any accumulated amortization at the remeasurement of asset values and the recognition of impairment
beginning and at the end of the period charges when economic values have fallen below recognized value.
 The line item(s) of the statement of comprehensive income in which IFRS also require or encourage extensive disclosures concerning not
any amortization of intangible assets is included only impairment charges and their allocation within the business, but also
a broad range of disclosures relating to the judgments and assumptions
underlying accounting valuations. These disclosures are potentially
critical for investors interested in assessing the reliability of key balance
sheet numbers.8

8
The Appendix presents selected excerpts from the annual reports of three European listed companies and their impairment-related disclosures for PP&E, intangible assets (other than goodwill) and goodwill.

Accounting for asset impairment: a test for IFRS compliance across Europe 17
4. Lessons from
accounting research
Standards versus institutions: how are reporting practices and Building on these findings, more recent studies document that the
outcomes shaped? benefits of IFRS adoption are realized mainly in countries with effective
institutions. For example, Hail et al. (2010) and Schleicher et al. (2010)
Academic research has identified two factors that will determine
report that countries with strong equity-outsider dominant financial
whether benefits will follow IFRS adoption. On the one hand, compared
systems and those with strong credit-insider dominant financial systems
to domestic accounting standards in many countries, IFRS comprise
have different reporting regimes and respond differently to IFRS
more soundly based recognition and measurement rules, and generally
adoption. Li (2010) finds that IFRS adoption effects on the cost of equity
require greater transparency in financial reporting. Thus, IFRS offer
depend on the strength of enforcement. The findings of Garcia Osma
the prospect of more relevant information being communicated to
and Pope (2011) reveal that the first-time implementation of IFRS is not
investors. On the other hand, research now recognizes that the de facto
even around the world. They report that IFRS earnings quality is higher in
quality of financial reporting depends not only on standards but also on
countries with stronger investor protection rules and stricter enforcement
the incentives for companies to rigorously apply those standards, and
mechanisms. Evidence in Brown et al. (2012) also suggests that
for auditors and national enforcement bodies to enforce them. Reporting
IFRS-based analysts’ forecasts are more accurate and less dispersed
incentives have been found to be associated with a range of legal and
only when enforcement is more developed. Florou and Pope (2012)
economic institutional features, including the type of legal origin (code
find that the effects of IFRS on changes in institutional ownership apply
law versus common law), the strength of judicial efficiency and investor
only to those countries with strict enforcement, low corruption and low
protection rules, corporate ownership structures (concentrated versus
earnings management. Isidro and Raonic (2012) add to these findings by
dispersed), the nature of the financial system (bank-based versus
showing that improved reporting quality following IFRS is observed only
market-based) and the quality of securities regulation.
in countries with sophisticated capital markets and strong institutions.9
There is growing evidence that indicates that favorable financial
Emphasising the role of institutions, Leuz et al. (2003), Leuz (2010) and
reporting outcomes are generally present in those jurisdictions where
Wysocki (2011) point out that there are interdependencies between
national institutions provide incentives for transparency. For example,
elements that constitute an institutional setting; there are “institutional
Leuz et al. (2003) and Burgstahler et al. (2006) show that the litigation and
bundles” that are likely to be observed together. One way of grouping
enforcement mechanisms of common law countries contribute to higher
countries according to institutional type is provided by Leuz (2010),
earnings quality. Relevant to our study on impairment reporting, Bushman
who identifies three country-clusters based on the nature of securities
and Piotroski (2006) report that high-quality judicial systems induce the
regulation, investor protection rules, legal enforcement, disclosure
timely reporting of bad news and that strong enforcement slows the
and transparency of reporting practices. In analyzing the timeliness of
recognition of good news. Similarly, Hung (2000) provides evidence on
impairments and European companies’ impairment disclosure practices,
how investor protection rules increase the value relevance of earnings.
we follow Leuz’s classification by identifying European countries in three
The findings of Fan and Wong (2002) also indicate that ownership
clusters: (i) outsider economies with strong outsider protection and
structures are a key determinant of overall financial reporting quality.
enforcement (cluster 1), (ii) insider economies with strong enforcement
(cluster 2) and (iii) insider economies with weak enforcement (cluster 3).10
To the extent that the institutional context matters for the quality of IFRS
implementation, including the timeliness of recognition of losses and the
quality of mandated disclosures surrounding impairments, we would
expect differences to be observed across the three country-clusters.

9
An implicit assumption in most, if not all, studies so far on the outcomes of IFRS is that preparers’ level of actual compliance is even across all reporting jurisdictions.
10
Given the role of institutional factors in shaping reporting quality, Leuz (2010) documents that disclosure quality is greater and earnings are generally more informative in cluster 1 relative to cluster 2, and in cluster 2
relative to cluster 3.

18 Accounting for asset impairment: a test for IFRS compliance across Europe
Timeliness of impairments Impairments of non-current assets are undoubtedly a challenging aspect
of financial reporting and a source of potential loss of representational
Timeliness, as one measure of financial reporting quality, is relevant to the
faithfulness. Impairment accounting requires assessments of future cash
issue of impairment reporting. According to the IASB, timeliness means
flows deriving from an asset and, as a result, judgments and estimates are
having information available to decision-makers in time to be capable of
of central importance. As Nobes (2011) notes, identifying the indicators
influencing their decisions (Framework QC.29). Therefore, in the context
that would lead to the recognition of impairments is essentially a matter of
of IFRS impairments for non-current non-financial assets, timeliness
judgment. We cannot rule out the possibility that the degree of prudence
relates to the speed with which changes in the economic values of assets
exercised in judgments and estimates varies across companies and
are recognized and any impairment losses are reflected in earnings.
jurisdictions; for instance, due to historical tendencies toward more
Published research to date on impairments is generally limited to conservative or liberal accounting practices. Hence, there is potential for
studies based on US data addressing managers’ reporting incentives cross-country differences in the timing and amounts of impairment losses
and reporting outcomes. Riedl (2004), for example, reports that SFAS recognized under IAS 36.11
121 leads to higher associations between long-lived asset write-offs
We investigate the timeliness of bad news recognition and impairments in
and “big bath” reporting behavior. In this context, big bath reporting
the post-2005 era using a test of the asymmetric timeliness of earnings
more likely reflects on managers’ opportunistic behavior as opposed
(Basu, 1997; Pope and Walker, 1999; Ball et al., 2000; Raonic et al., 2004).
to the provision of private information about underlying performance.
This regression-based test estimates the extent to which economic gains
Beatty and Weber (2006) arrive at similar conclusions and find that
and losses, measured based on positive and negative stock returns
both contracting and market incentives shape companies’ impairment
respectively, are reflected in accounting earnings.12 It captures the relative
accounting choices. They show that equity market concerns affect
speeds of recognition of good news and bad news in earnings and in
companies’ preferences for above-the-line versus below-the-line
earnings components. Our emphasis is on examining differences in the
accounting treatments, and that incentives related to debt contracting,
speed of recognition of bad news across the three clusters of European
management bonuses, executive turnover and exchange delisting affect
countries based on the strength of their underlying institutions discussed
firm’s decisions to manage the timing of impairment recognition.
earlier. We predict that companies in countries with stronger institutions
In a study of the outcomes of SFAS 142 impairments for goodwill and will recognize bad news and impairments in a more-timely manner.
other intangible assets, Chen et al. (2008) use a returns-based model
and find that, although the standard improves the timeliness of
impairments, earnings still lag stock market returns in reflecting the
effects of impairments. Bens et al. (2011) examine the information content
of SFAS 142 goodwill impairments. They compare actual write-offs and
expected (model) write-offs and find a significant negative market
reaction to the unexpected component of reported impairments.
Lee (2011), on the other hand, reports on the favorable effects of SFAS
142 on the ability of goodwill to predict future cash flows. Contrary to
earlier findings, Lee’s study shows that the US standard does not lead
to opportunistic abuse of reporting discretion and that it improves the
representational faithfulness of goodwill numbers.

11
Giner and Rees (2001) provide a comparison of differences in conservative measurements under domestic financial reporting standards in selected European countries during the pre-IFRS era.
12
An assumption of this test is that in a well-functioning, efficient market, stock returns capture all public information about a firm’s asset values in an unbiased way.

Accounting for asset impairment: a test for IFRS compliance across Europe 19
Compliance with IFRS reporting requirements The role of judgment and managerial effort
Accounting compliance research evaluates and seeks to explain Proponents of IFRS contend that the IASB has taken steps to reduce
differences between actual financial reporting practices and financial the range of acceptable accounting treatments and to establish rules
reporting regulation. Perceived differences in compliance incentives that better reflect economic position and financial performance.
underpin concerns that the mandated adoption of IFRS may not result in Limiting accounting alternatives can increase reporting quality by
harmonized accounting practices (Holthausen, 2009; Pope and McLeay, eliminating opportunities to manage earnings and balance sheet
2011). Researchers have also predicted that IFRS reporting outcomes amounts. As Ewert and Wagenhofer (2005) and Barth et al. (2008)
will be uneven because compliance incentives vary across companies, show, tightening accounting standards can result in earnings numbers
and especially across reporting jurisdictions. that better reflect a firm’s underlying economics. This, in turn, leads to
information that can be more relevant to investors in decision-making.
Cross-country differences in compliance are likely to result from
differences in the institutional context of financial reporting. Nobes A counter argument, however, suggests that for many countries,
(2006) investigates the persistence of accounting differences across introduction of IFRS has involved a shift from a rules-based system to a
EU countries and argues that the motives explaining reporting variations principles-based system requiring frequent judgment and use of private
prior to mandated IFRS adoption are still present and effective in the information on the part of management (Jeanjean and Stolowy, 2008).
IFRS era and are a potential impediment to comparability.13 Evidence Critics argue that the need to apply judgment and discretion presents
in Kvaal and Nobes (2010) supports this view and shows that reporting managers with opportunities to pursue ulterior reporting motives by
practices vary across countries claiming to have adopted IFRS. Cascino managing earnings (and other accounting amounts) in ways that reduce
and Gassen (2011) arrive at similar conclusions. They find that there are their information value to investors. Van Tendeloo and Vanstraelen (2005)
differences in IFRS compliance, with companies exhibiting behavior that report evidence consistent with this prediction. They find that voluntary
is consistent with their pre-IFRS national practices. IFRS adopters in Germany have higher levels of earnings management
than companies reporting under German accounting standards.
We examine non-current non-financial asset impairment disclosures by
European companies. Building on the Leuz (2010) global classification
of institutional clusters, we predict that companies in stronger institutional
settings are likely to manifest higher levels of disclosure compliance with
IFRS impairment reporting requirements.

13
Nobes (2006) discusses the opportunities for the emergence of differences under IFRS and concludes that incentives for exploiting such opportunities, combined with political pressure from lobbyists on regulators to
affect the interpretations of IFRS, can have serious implications for the comparability of financial statements.

20 Accounting for asset impairment: a test for IFRS compliance across Europe
There is little doubt that the adequate implementation of IAS 36 can be One hitherto neglected aspect of compliance research relates to how
a step toward reflecting the economic value of a firm’s assets. But the difficult or costly it is for companies to apply certain requirements in
standard has been criticized for being rooted in somewhat impractical a reporting standard. We predict that compliance is likely to be lower
requirements that call for subjective judgments and estimates that are as application costs increase. We also conjecture that costs increase
unlikely to be verifiable. According to Watts (2003) and Ramanna and when companies are required to exercise discretion and to then make
Watts (2012), unverifiable estimates can lead to inflated net assets, disclosures in support of their discretionary decisions. For example, if a
aggressively managed earnings and impairment decisions that essentially standard were to specify a fixed discount rate to be used in valuing future
serve the purpose of managing earnings.14 Under such conditions, we cash flows (e.g., 10%), this is less costly to a firm than being required
would expect transparency to be low. Consistent with this view, a recent to estimate an appropriate rate and justify the choice in the form of a
report by the ESMA expresses concern about the quality of disclosures disclosure note. Costs can arise in undertaking the analysis to support a
on assumptions and judgments underlying impairments of non-financial decision, and in developing a justification and responding to questions
assets (ESMA, 2011). Among the problem areas identified in the report and challenges from users. Whenever management judgment is required
are the lack of adequate justification for business plans and discount in reporting decisions, such costs are potentially incurred. We describe
rates, absence of meaningful disclosures on impairment triggering such disclosure requirements as “high effort.” We predict and test
events, excessive use of boilerplate language and the non-disclosure of whether compliance is lower for relatively high-effort disclosures.
information on assumptions used in determining recoverable amounts.
We classify disclosure requirements into those that require high levels
Evidence from IFRS reporting jurisdictions confirms implementation of effort and judgment (high-effort disclosures) and those for which
issues such as those noted in ESMA (2011). For example, Petersen compliance can be satisfied with minimum judgment or effort (low-effort
and Plenborg (2010) report on inconsistencies in the implementation disclosures). This latter group comprises those items for which companies
of IAS 36 especially in relation to how companies define a CGU and can easily engage in using boilerplate language, as opposed to providing
develop estimates for recoverable amounts. Carlin and Finch (2009) specific information that will assist users in better understanding the
explore how the discretion in selecting a discount rate can be used to estimates and judgments underlying accounting measurements.
opportunistically avoid or manage the timing of impairment losses, to the
detriment of transparency, comparability and decision usefulness. Their
study finds evidence consistent with this discretionary behavior on the
part of financial statement preparers in Australia.

14
Although the views in Watts (2003) and Ramanna and Watts (2012) relate to SFAS 142 within the framework of US GAAP, they are equally applicable to IFRS. This is due to the fact that IFRS 3, which prohibits pooling of
interests and abolishes goodwill amortization, was the outcome of an IASB-FASB joint project and is often viewed as being complemented by revisions to IAS 36 that led to annual impairment testing rules for acquired
goodwill.

Accounting for asset impairment: a test for IFRS compliance across Europe 21
5. Timeliness of impairments
in Europe: the big picture
Introduction Column (2) of table 5.1 shows that impairment charges are present
for at least one of the three asset classes considered in 29.55% of all
In this section, we first provide descriptive evidence on the overall
companies for which we can estimate impairment intensity. However, the
incidence of impairment charges during 2010-11 recognized by listed
proportion of companies recognizing impairments varies considerably
European non-financial companies.15 We concentrate on impairments
across countries, with the proportion of impairment companies in Spain
of non-current non-financial assets - specifically PP&E, intangible assets
and Italy being in excess of 50% while, on the other hand, Romania,
and goodwill. Companies included in the analysis: (i) are domiciled and
Lithuania and Greece have fewer than 20% impairment companies.
listed in one of 23 European Union countries, Norway or Switzerland,16
Although lower rates of impairment recognition in this latter group of
(ii) have financial statement data available in the Worldscope database
countries could be due to more benign economic conditions, they could
for the two most recent financial years in the period 2009-11 and (iii) have
also reflect more aggressive assumptions in estimating recoverable
non-zero total assets in both years.17
amounts (more headroom in impairment calculations) or, alternatively,
There are 4,474 unique companies satisfying these initial sample less diligent application of impairment testing. We acknowledge,
requirements. For this sample, we then evaluate the timeliness of however, that some of the low impairment countries are relatively small,
impairments during the post-IFRS adoption period (2006-11) based in terms of the number of listed companies covered in Worldscope.
on the ability of accounting to reflect good news and bad news that is Therefore, reported differences between countries have to be interpreted
impounded in stock returns. Our assessment is based on the notion that with caution and are not necessarily statistically significant.
earnings respond more to bad news (negative stock returns) than to
In column (3), we present the median magnitude of impairment intensity
good news (positive stock returns).
(total impairment charge as a percentage of total assets at the previous
The incidence and intensity of impairments year-end) for the subset of impairment companies. Over the full impairment
sample, the median impairment charge is 0.52% of opening total assets.
In order to establish an understanding about the overall incidence
However, impairment intensity in some countries is much higher. For
of impairments across countries and industries, we compute a
example, in Romania, Slovakia and Sweden, median impairment intensity
measure of overall impairment intensity. This is defined as the total
exceeds 2.5% of total assets.
non-current non-financial asset impairment charge as a percentage
of total assets at the beginning of the year (% assets).18 We require that As shown in column (4), the asset class suffering the most frequent
impairment intensity is positive and that each of the three components impairment is PP&E, partially reflecting the fact that most companies
of the total impairment charge is non-negative in both the most recent have significant assets in this class while fewer companies have
and previous reporting periods.19 We also compute impairment goodwill and other intangible assets on their balance sheets. The overall
frequency, which is defined as the percentage of companies in the proportion of companies impairing PP&E is 19.73%, but in three countries
selected sample that report impairment charges (% firms). We examine (Austria, Italy and Spain), more than 35% of companies take PP&E
both overall impairments and the three components separately. impairment charges. The median impairment charge for PP&E impairers
is 0.26% of total assets (column 5), but in Romania and Slovakia the
In table 5.1, we present summary statistics describing impairment
median impairment again exceeds 2.5% of total assets.
frequencies and impairment intensity both overall and for each of the
three asset classes. We report median values of impairment intensity
because small numbers of companies in our sub-samples recognize
relatively large impairment charges, rendering mean values misleading.
We also note that, in some cases, the number of companies taking
impairments in some countries is quite small. Therefore, we do not seek
to test whether differences across countries are statistically significant.

15
Financial industry is defined as banks, insurance, real estate, financial services and equity/non-equity investment instruments. These are excluded due to the specialized nature of their activities and industry-specific
financial reporting practices.
16
We exclude firms domiciled in Bulgaria, Cyprus, Latvia and Malta as Worldscope does not capture impairment data for these countries. It is not feasible to determine with certainty whether this is due to the absence of
impairments in these countries, or whether it stems from database limitations.
17
We use the convention that the financial year is labeled 2010 if it ends in the period between June 2010 and May 2011. A similar rule is applied for financial year 2009.
18
Total impairment charge = goodwill impairment (Worldscope item WS18225) + other intangibles impairment (Worldscope item WS18226) + PP&E impairment (Worldscope item WS18274). These items are based on the
Worldscope Database Datatype Definitions Guide provided by Thomson Financial.
19
In a small number of cases, Worldscope records negative impairment charges, perhaps as a result of partial reversals of prior period charges.

22 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 5.1 - Impairment frequency (% Firms) and impairment intensity (% Assets) by country

All non-current non-financial

PP&E Intangible assets Goodwill
assets
Country Firms (1)
% Firms (2) % Assets (3) % Firms (4) % Assets (5) % Firms (6) % Assets (7) % Firms (8) % Assets (9)

Austria 50 44.68 0.31 38.30 0.19 22.45 0.13 14.00 0.52

Belgium 88 34.48 0.32 26.44 0.18 7.95 0.28 9.09 0.40

Czech Republic 14 33.33 0.42 25.00 0.31 0.00 NA 7.14 0.53

Denmark 103 32.04 0.59 17.48 0.19 22.33 0.38 5.83 3.76

Estonia 13 36.36 0.20 27.27 0.07 15.38 0.06 7.69 0.34

Finland 107 36.19 0.44 25.71 0.11 13.08 0.16 13.08 1.08

France 524 28.54 0.39 18.38 0.27 6.68 0.17 13.77 0.29

Germany 570 28.60 0.46 20.92 0.25 16.32 0.14 8.79 0.52

Greece 216 17.29 0.27 12.62 0.24 3.24 0.05 6.02 1.78

Hungary 31 23.33 0.09 20.00 0.06 9.68 0.07 3.23 0.02

Ireland 33 45.45 0.56 27.27 0.36 27.27 0.26 3.03 0.44

Italy 205 50.25 0.16 35.32 0.08 18.05 0.10 12.68 0.30

Lithuania 25 16.67 0.51 12.50 0.26 8.00 0.42 0.00 NA

Luxembourg 7 42.86 0.18 28.57 0.12 14.29 0.11 14.29 0.59

Netherlands 87 46.99 0.27 32.53 0.19 24.14 0.33 11.49 0.43

Norway 153 42.76 0.74 34.21 0.34 9.80 0.37 13.07 0.78

Poland 291 26.02 0.41 18.59 0.24 5.86 0.08 6.21 0.56

Portugal 45 29.55 0.32 22.73 0.25 4.44 0.82 11.11 0.89

Romania 71 1.41 2.57 1.41 2.57 0.00 NA 0.00 NA

Slovakia 11 18.18 3.46 18.18 3.46 0.00 NA 0.00 NA

Slovenia 28 25.00 0.43 21.43 0.27 3.57 10.77 7.14 0.01

Spain 96 55.29 0.32 47.06 0.26 8.33 0.24 12.50 0.48

Sweden 368 24.66 2.53 12.33 0.24 11.68 1.94 9.24 3.97

Switzerland 168 36.20 0.36 29.27 0.17 16.67 0.20 8.38 0.41

United Kingdom 1,170 25.56 1.42 13.86 0.60 12.01 1.49 8.66 1.91

Total 4,474 29.55 0.52 19.73 0.26 11.62 0.33 9.34 0.61

Accounting for asset impairment: a test for IFRS compliance across Europe 23
Goodwill impairments are observed for 9.34% of the Worldscope In table 5.2, we repeat the analysis of impairment intensity and the
sample (column 8), while intangible assets suffer impairment charges magnitudes of impairment charges across the three asset classes
in 11.62% of companies (column 6). Again, we observe considerable based on nine broad industry codes: building materials, consumer
cross-country variation in the magnitudes of impairment charges in the goods, consumer services, healthcare, industrials, oil and gas,
case of these two asset classes. While the median goodwill impairment technology, telecommunications and utilities.20 The frequency with
is 0.61% of total assets, it exceeds 3% of total assets in Denmark and which impairments are recognized varies considerably across the nine
Sweden. Similarly, in the case of intangible assets, the median industries, with over 40% of companies in oil and gas, telecommunications
impairment is just 0.33% of total assets, but it exceeds 10% in Slovenia and utilities recognizing impairments in one or more asset class in 2010-11.
and is almost 2% in Sweden. On the other hand, the median value of The magnitude of impairment intensity is also high for oil and gas,
impairments of intangible assets is very low in several countries including exceeding 1% of total assets in this industry and in the healthcare and
Estonia, Greece, Hungary and Poland. technology industries. Impairment intensity is lowest in the
telecommunications industry.
Table 5.2 - Impairment intensity and impairment components by industry

All non-current
PP&E Intangible assets Goodwill
Firms non-financial assets
Industry
(1)
% Firms % Assets % Firms % Assets % Firms % Assets % Firms % Assets
(2) (3) (4) (5) (6) (7) (8) (9)
Basic Materials 391 33.51 0.62 24.66 0.34 13.30 0.48 4.86 0.15

Consumer Goods 681 28.25 0.32 22.29 0.21 10.15 0.19 7.37 0.30

Consumer Services 719 33.09 0.55 22.03 0.32 12.83 0.19 12.57 0.71

Healthcare 346 26.33 1.27 14.50 0.45 15.03 1.05 6.94 2.81

Industrials 1,268 26.76 0.36 18.25 0.18 8.61 0.19 9.39 0.50

Oil and gas 253 44.35 1.34 29.44 0.84 22.92 2.47 7.91 0.87

Technology 616 21.38 1.17 8.88 0.25 8.62 1.36 9.43 1.91

Telecommunicatins 68 41.54 0.22 29.23 0.03 25.00 0.11 14.71 0.43

Utilities 132 44.27 0.30 35.11 0.20 12.88 0.14 20.45 0.20

Total 4,474 29.55 0.52 19.73 0.26 11.62 0.33 9.34 0.61

Columns (4) to (9) of table 5.2 reveal considerable variation 2.8% of total assets in the healthcare industry and the highest impairment
across industries in the frequency of impairment charges and charge for intangible assets is found in the oil and gas industry (2.4%).
impairment intensity in different asset classes. The oil and gas and
Overall, the descriptive statistics in tables 5.1 and 5.2 indicate that over
telecommunications industries have relatively high incidences of
the 2010-11 reporting period, impairments of non-current non-financial
impairment charges for PP&E and intangible assets, while utilities
assets were recognized by approximately 30% of listed companies in
companies are far more likely to impair goodwill. However, the
Europe. Of course, many companies are not acquisitive and therefore
magnitudes of impairments of PP&E are highest in the oil and gas
do not have recognized goodwill, and many other companies do not
industry (0.8%), while the median impairment of goodwill is
recognize intangible assets.

20
Our industry analysis of impairment intensity and the magnitude of impairment charges is based on the Industry Classification Benchmark (ICB) of Dow Jones and FTSE (excluding Financials).

24 Accounting for asset impairment: a test for IFRS compliance across Europe
For such companies, we would not expect to observe impairments in Table 5.3 - European institutional country-clusters
these asset classes. However, most companies do recognize PP&E.
In the prevailing unfavorable economic conditions, it is not clear whether Cluster 1 Cluster 2 Cluster 3
the observed incidence of impairments of 19.73% is more or less than Large and developed Less developed Less developed
might reasonably have been expected. To answer this question would stock markets stock markets stock markets
require consideration of how sensitive economic values of firm-specific
Dispersed Concentrated Concentrated
assets are to general economic conditions and also how aggressive ownership ownership ownership
companies have been in recognizing impairments in previous years.
We examine this issue based on the timeliness of impairments by Strong investor Weak investor Weak investor
protection protection protection
European companies in the post-IFRS adoption period.
Strong enforcement Strong enforcement Weak enforcement
Timeliness of recognition of economic losses
Ireland Austria Czech Republic*
Upward revaluations of non-current non-financial assets are rare
under IFRS, and when they occur, they usually do not affect reported United Kingdom Belgium Estonia*
earnings in the current period.21 Instead, increases in economic Denmark Greece
values will be recognized gradually in the future as higher expected
Finland Hungary
cash flows are recognized as part of future earnings. In contrast,
impairment losses reflecting reductions in economic values of assets France Italy
do flow through current period earnings. Consistent with conservative Germany Lithuania*
accounting, Basu (1997) and others (e.g., Pope and Walker, 1999;
Luxembourg Poland*
Ball et al., 2000; Holthausen and Watts, 2000; Giner and Rees, 2001)
document systematic evidence of more-timely recognition of losses Netherlands Portugal
than gains, partly as a result of impairment accounting. This strand Norway Romania*
of conservatism research usually adopts a reverse regression model
Spain Slovakia*
to capture the extent to which concurrent changes in economic
values, proxied by stock returns, are recognized and reflected in Sweden Slovenia*
contemporaneous accounting earnings. Switzerland

We rely on this model to assess the extent to which economic losses flow
through into reported earnings and impairments in a timely manner for *We include Eastern European countries in the relatively weaker institutional cluster based on their
our sample of European companies over the post-IFRS adoption period. proximity to other countries included in cluster 3 although results for these countries are not available in
Based on Basu (1997), we derive a measure of the fraction of economic Leuz et al. (2003) or Leuz (2010).22

loss suffered by a firm in a financial year that is actually recognized in Table 5.4 contains the timeliness measure based on the reverse regression
reported earnings during the same reporting period. We also estimate model. In unreported results, we find that, when companies experience
the proportion of economic loss that is captured by recognized good news (increases in economic value), current period earnings are
impairment charges on our three asset classes. In our tests, we use generally not related to contemporaneous increases in companies’
contemporaneous stock returns as the proxy for economic gains (losses) economic values. Instead, current period good news shows up gradually
experienced by the firm. in future period earnings. This finding is consistent with results from previous
Subsequently, we examine how the speed of recognition of bad news research (e.g., Pope and Walker, 1999; Ball et al., 2000; Roychowdhury and
in earnings varies with the nature of countries’ institutional features. For Watts, 2007).
these purposes, we classify our sample of European countries based
on Leuz (2010) discussed in section 4. Our sample country-clusters are
presented in table 5.3.

21
Based on the revaluation model of both IAS 16 and IAS 38, revaluation increases are credited to “revaluation surplus” which is reported as part of comprehensive income and accumulated in equity. An exception,
however, is the remeasurement of investment property based on the fair value model of IAS 40 according to which, gains or losses arising from changes in fair value must be included in net profit or loss for the period
in which it arises.
22
We test the sensitivity of our results to the selected classification of Eastern European countries not included in Leuz (2010). The findings are generally robust under the alternative specification that excludes results
for these countries.

Accounting for asset impairment: a test for IFRS compliance across Europe 25
Table 5.4 - Sensitivity of current period earnings and impairments to When we estimate the speed of bad news recognition within the
bad news framework of the identified country-clusters, we find strong evidence that
the speed of recognition of bad news is highest in the cluster 1 countries
Countries Earnings PP&E Intangible Goodwill (35.1%) where institutions and the capital market infrastructure are
and clusters (1) impairment (2) asset impairment (4)
strongest. Companies suffering economic losses in cluster 2 countries
impairment (3)
also capture a relatively high proportion of bad news (32.9%) in current
All countries 31.7% 5.7% 7.4% 17.8% period earnings, although this is statistically significantly lower than
Cluster 1 35.1% 9.4% 9.2% 20.7% cluster 1 countries. In contrast, cluster 3 countries recognize a much
lower proportion of bad news in current period earnings (18.6%).
Cluster 2 32.9% 4.4% 5.3% 12.9%
This pattern of bad news timeliness across the country-clusters is
Cluster 3 18.6% 1.2% 0% 5.9%
repeated in columns (2) to (4) when we focus on recognized impairment
In contrast, when companies experience bad news (decreases in losses. Companies in cluster 1 countries consistently recognize higher
economic value), a significant proportion of economic losses are levels of impairment loss in relation to their incurred economic losses than
reflected in current period earnings. Column (1) shows that, over all companies in cluster 2 countries, which in turn recognize impairments in
countries, approximately 31% of economic losses are reflected in current a more-timely manner than those in cluster 3 countries.
period earnings. Of this, 5.7% can be attributed to PP&E impairment
Overall, these findings suggest important cross-country differences
charges, 7.4% to impairments of intangible assets and 17.8% to goodwill
in the quality of bad news recognition decisions that originate in the
impairments. Thus, as predicted, the speed of recognition of bad news
institutions within which financial reporting takes place. They indicate
is faster relative to good news recognition; and impairment charges
the role that the institutional infrastructure plays in shaping financial
account for a significant proportion of the overall bad news recognition.
reporting outcomes in different European countries that are all reporting
under IFRS.

26 Accounting for asset impairment: a test for IFRS compliance across Europe
Accounting for asset impairment: a test for IFRS compliance across Europe 27
6. Survey of impairment
disclosure practices
and compliance
Objectives of the survey Data from the instrument are summarized in two compliance indices:
(i) unweighted index and (ii) partial index. The indices are first calculated
We examine IFRS impairment disclosures in 2010-11 for a sample of
for each sample company across the three asset classes. Each index is
European listed companies and seek to shed light on the role of firm-level
then aggregated to produce country- and industry-level results. The
attributes and country-level institutions in shaping reporting practices.
widely accepted method for quantifying compliance is the unweighted
We pursue three main objectives. The principal objective of our survey is
index (e.g., Street and Bryant, 2000). The unweighted index treats all
to assess the degree to which disclosure practices relating to
disclosure items as equally important. But adopting this approach has its
impairments conform to the requirements of IFRS. Next, we assess the
limitations. In particular, the number of items included in the different
significance of firm-specific features and institutional factors in explaining
areas of disclosure varies, meaning that areas with the largest number of
compliance levels. Finally, we analyze the level of compliance with
disclosure dimensions (questions) are essentially given higher weight in
disclosure requirements in relation to our assessment of the level of
the overall compliance index. To avoid this problem, we also rely on the
implementation effort involved.
partial index approach of Street and Gray (2002). According to this
Survey design method, the overall disclosure rating for each company is reflected in its
average score based on the ratio of the number of observed to
We focus on impairment reporting practices in three asset classes:
applicable requirements. This approach allocates equal weighting to
PP&E, intangible assets and goodwill. To quantify reporting behavior,
each reporting item and avoids the problem of assigning more weight to
we rely on a self-constructed compliance survey instrument against
groups with a larger number of requirements.
which the financial disclosures of sample companies are evaluated.23
This instrument was developed based on our review of reporting Survey sample
standards applicable to each asset class and Ernst & Young illustrative
To assess compliance, we analyze financial statement disclosures for a
checklists summarizing the disclosure requirements of IFRS. Our
subset of companies drawn from the main sample described in section 5.
assessment emphasizes both overall compliance and disclosure quality
This sample is based on the top 30% of companies in each country
in 11 areas. These include: (i) accounting policies and judgments, (ii)
ranked by overall non-current non-financial asset impairment intensity.
estimation uncertainty, (iii) changes to past assumptions, (iv) sensitivity of
This requirement ensures a reasonably representative degree of balance
carrying amounts, (v) events and circumstances, (vi) basis for
across European countries. It also avoids skewness toward countries
recoverable amount, (vii) impairments as part of segment results, (viii)
where the magnitude of recognized impairment is especially high.
allocation of impaired assets to segments, (ix) CGU description and
From the initial Worldscope sample with evidence of impairment charges,
allocation of goodwill to CGUs, (x) impairment by asset class, segment
we select the top 365 companies. We search for annual reports for
and CGU and (xi) cash flow projections, growth and discount rates.24
financial periods ending between June 2010 and May 2011 using the
Given its importance in generating our survey data, we conduct reliability Thomson One Banker company filings database, or if unavailable,
and validity checks on the application of the survey instrument. For through company websites. Excluding companies with missing or
reliability, we investigate results from a series of trial cases involving incomplete annual reports and non-IFRS companies, and those where
members of the research team. Using a constant set of annual reports for the financial statements did not contain evidence of impairments, the
assessment, we establish stable outcomes across different team survey sub-sample reduces to 324 companies, as outlined in table 6.1.
members. To assess validity, we subject the instrument to scrutiny and
review by a range of academic peers and a panel from Ernst & Young
subject matter professionals in impairment reporting. Completion of the
survey instrument is based on a document study of sample companies’
annual reports. For each sample company, a disclosure checklist is
completed following a tri-modal “comply”, “non-comply” or
“not-applicable” taxonomy.25

23
The compliance assessment instrument is available on request from CeFARR.
24
We also analyze disclosures on the separate inclusion of current period impairments as part of assets’ opening to closing balance reconciliation schedules but do not report tabulated findings for this item. We do,
however, account for its results when evaluating overall compliance and the role of judgment and effort in shaping disclosure behavior.
25
We exclude non-applicable items from our compliance indices, but assess and confirm the robustness of our overall results to their omission.

28 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.1 - Survey sample Tables 6.2 and 6.3 describe the composition of the survey sample
by country and by industry. According to table 6.2, the median
Impairment-intensive firms 365
Incomplete or missing information 7 impairment intensity for the sample is just over 5% of total assets noted in
Firms with available information 358
column (2). However, median impairment intensity varies considerably,
Non-impairment firms 16 reaching 17.5% of total assets in Sweden and close to 15% in the UK.
Non-IFRS reporters 18 Impairments are spread fairly evenly across the three asset classes,
Final sample 324 with over 50% of the sample taking impairments in each asset class.
However, the highest level of impairments for most countries relates
to goodwill (column 8), where the median impairment level is 3.89%
of total assets.

Table 6.2 - Survey sample: Impairment intensity and impairment components by country

Non-current
PP&E Intangible assets Goodwill
non-financial assets
Country
Firms (1) % Assets (2) Firms (3) % Assets (4) Firms (5) % Assets (6) Firms (7) % Assets (8)

Austria 6 6.21 4 1.73 4 5.95 3 3.20

Belgium 7 2.71 6 1.23 3 2.15 2 0.32

Czech Republic 1 0.53 - - - - 1 0.53

Denmark 8 7.53 3 0.21 6 9.77 4 4.42

Estonia 1 1.02 1 0.96 1 0.06 - -

Finland 10 5.24 6 0.41 4 0.73 9 4.16

France 33 2.34 16 0.98 12 1.01 21 2.21

Germany 43 2.49 28 1.30 30 0.93 23 1.81

Greece 8 9.64 3 2.44 4 0.68 8 2.89

Hungary 2 1.60 2 1.42 1 0.36 - -

Ireland 3 1.12 1 0.92 3 1.12 - -

Italy 27 1.05 16 0.81 12 0.64 11 1.00

Lithuania 1 0.84 0 - 1 0.84 - -

Netherlands 11 2.34 6 0.87 8 1.80 4 3.47

Norway 18 5.37 11 3.62 5 2.28 7 5.80

Poland 16 2.34 11 2.11 6 1.00 3 1.16

Portugal 2 1.99 1 0.89 2 0.82 1 1.44

Slovenia 2 8.97 1 7.17 1 10.77 1 0.00

Spain 13 2.99 8 3.00 5 1.27 6 1.44

Sweden 19 17.52 5 1.05 11 10.25 11 14.04

Switzerland 16 1.34 13 0.74 9 0.93 5 5.19

United Kingdom 77 14.57 26 4.38 53 6.92 40 11.02

Total 324 5.01 168 1.37 181 1.97 160 3.89

Accounting for asset impairment: a test for IFRS compliance across Europe 29
Table 6.3 - Survey sample: Impairment intensity and impairment components by industry

Non-current
PP&E Intangible assets Goodwill
non-financial assets
Industry
Firms (1) % Assets (2) Firms (3) % Assets (4) Firms (5) % Assets (6) Firms (7) % Assets (8)

Basic materials 29 5.42 20 1.72 18 1.81 5 5.19

Consumer goods 41 2.21 27 1.34 19 1.38 13 2.25

Consumer services 54 4.22 26 0.78 34 1.18 39 6.37

Healthcare 29 7.54 13 1.49 22 2.76 9 8.78

Industrials 59 4.59 30 2.19 25 1.21 39 3.20

Oil and gas 44 6.39 29 2.61 30 4.97 8 3.80

Technology 51 8.34 12 6.24 24 2.26 34 8.39

Telecommunications 3 10.77 2 1.41 3 10.25 1 0.01

Utilities 14 1.76 9 0.98 6 0.93 12 0.84

Total 324 5.01 168 1.37 181 1.97 160 3.89

Compliance: descriptive findings Table 6.4 presents country-level compliance indices for the three
asset classes. The findings show that, with the exception of Ireland
In this section, we report descriptive evidence from our survey. First,
within the PP&E class, there are no other instances of full compliance.
findings from the unweighted and partial indices that include all
We find variation in the unweighted (partial) compliance indices between
impairment reporting requirements are outlined. We present these
and within the asset classes. Median compliance ranges from 77.2%
results by country and industry. We complement these findings with an
(87.4%) for intangible assets to 85.6% (93.1%) for PP&E. We document
evaluation of impairment reporting requirements in the eleven disclosure
collectively high disclosure quality for PP&E in several countries within
areas noted above. To do so, we initially discuss disclosures that are
our sample, including Estonia, Norway and Portugal, all registering
common across the three asset classes. This approach facilitates
compliance of over 90%. Lower rates are found for sample companies
comparisons of the similarities and disparities that may exist in disclosure
in Greece, Poland and Sweden. Turning to intangible assets, we observe
quality across the assets. We then turn to evaluating results for goodwill-
low compliance close to 60% for sample companies in Germany,
specific disclosures. For all asset groups, we aim to highlight disclosure
Greece and Lithuania, while those based in Finland, Hungary and
areas where compliance is lacking, problematic or heterogeneous.
Slovenia exhibit scores of over 90%. For goodwill, we find low
 Overall compliance compliance within companies in Belgium, Greece and Slovenia,
Following our compliance measurement methodology, we summarize the while companies in Finland, Switzerland and the United Kingdom
hand-collected data from companies’ annual reports using unweighted have relatively higher levels of compliance.
and partial disclosure indices. The indices are described at two levels: (i)
As noted earlier, given the relatively small size of our cross-sectional
country of domicile and (ii) industry. The adoption of these two bases is
sample, caution should be exercised in generalizing from these
rooted in the role of country-level institutions and industry-wide forces in
findings. Nevertheless, our overall results indicate that Finnish companies
shaping reporting attitudes. Given differences in enforcement and
in our sample consistently score high on compliance, while those from
regulatory regimes, it would not be surprising to observe uneven levels of
Greece are persistently ranked among the low-compliance group.
IFRS compliance in different countries. Similarly, disclosure practices may
These differences may stem from country-level institutions or firm-specific
reflect industry commonalities.26 While intra-sector comparability might be
features or they may relate to impairment intensity. Generally, a positive
most important to many financial statement users, cross-industry
association should hold between the materiality of impairments and
differences can be equally interesting and indicative of implementation
efforts to comply with the rules. A possible link between impairment
and compliance difficulties arising due to industry-specific issues.
materiality and compliance appears to have some support in the data.

26
Jaafar and McLeay (2007), among others, report on industry effects on the level of corporate disclosures. We examine the role of industry in explaining compliance in further detail later in this section.

30 Accounting for asset impairment: a test for IFRS compliance across Europe
For instance, in UK companies within the goodwill class, a high level of above-median compliance. On the other hand, the low impairment-intensity
intensity (11.02%) is coupled with an above-median compliance score of companies of Poland exhibit below-median compliance of 65.8%. This
85.3%. Observations in Sweden in the same group are also consistent relation does not appear to be as strong in the PP&E group. For example,
with this view. Similar findings are found for intangible assets where the although the relatively high impairment-intensity companies of Norway
high impairment-intensity companies of Sweden and Slovenia register (3.62%) and the UK (4.38%) reveal above-median compliance, equally

Table 6.4 - Impairment reporting: Country-level compliance indices

PP&E Intangible assets Goodwill

Country IFRS compliance IFRS compliance IFRS compliance

Firms Intensity Unweighted Partial Firms Intensity Unweighted Partial Firms Intensity Unweighted Partial
Austria 4 1.73% 83.5% 87.6% 4 5.95% 75.1% 87.4% 3 3.20% 82.0% 88.9%
Belgium 6 1.23% 85.5% 94.0% 3 2.15% 75.3% 88.1% 2 0.32% 61.1% 73.8%
Czech
- - - - - - - - 1 0.53% 87.5% 85.4%
Republic
Denmark 3 0.21% 86.3% 94.2% 6 9.77% 75.0% 83.2% 4 4.42% 81.0% 89.3%
Estonia 1 0.96% 92.3% 96.9% 1 0.06% 64.3% 79.2% - - - -
Finland 6 0.41% 91.1% 96.3% 4 0.73% 94.4% 97.3% 9 4.16% 90.9% 94.7%
France 16 0.98% 85.3% 91.4% 12 1.01% 77.7% 87.0% 21 2.21% 82.1% 88.3%
Germany 28 1.30% 79.5% 85.5% 30 0.93% 61.5% 71.2% 23 1.81% 81.7% 84.2%
Greece 3 2.44% 73.3% 83.5% 4 0.68% 58.2% 67.6% 8 2.89% 68.0% 77.4%
Hungary 2 1.42% 82.6% 93.2% 1 0.36% 93.3% 97.5% - - - -
Ireland 1 0.92% 100% 100% 3 1.12% 88.7% 93.6% - - - -
Italy 16 0.81% 87.9% 92.9% 12 0.64% 77.2% 89.7% 11 1.00% 82.5% 84.5%
Lithuania - - - - 1 0.84% 58.3% 82.1% - - - -
Netherlands 6 0.87% 87.3% 98.5% 8 1.80% 83.8% 93.2% 4 3.47% 89.7% 93.4%
Norway 11 3.62% 92.2% 97.8% 5 2.28% 70.6% 76.1% 7 5.80% 77.2% 81.6%
Poland 11 2.11% 75.2% 84.1% 6 1.00% 65.8% 81.4% 3 1.16% 75.0% 83.2%
Portugal 1 0.89% 92.3% 96.9% 2 0.82% 77.2% 90.8% 1 1.44% 87.5% 85.4%
Slovenia 1 7.17% 78.6% 91.7% 1 10.77% 93.8% 97.8% 1 0.00% 44.4% 65.8%
Spain 8 3.00% 85.7% 93.9% 5 1.27% 86.8% 94.7% 6 1.44% 78.9% 83.5%
Sweden 5 1.05% 74.3% 85.1% 11 10.25% 80.3% 85.9% 11 14.04% 81.4% 82.7%
Switzerland 13 0.74% 82.5% 89.2% 9 0.93% 83.9% 88.4% 5 5.19% 92.3% 96.0%
United
26 4.38% 85.6% 92.5% 53 6.92% 76.6% 85.9% 40 11.02% 85.3% 90.5%
Kingdom
Total/median 168 1.37% 85.6% 93.1% 181 1.97% 77.2% 87.4% 160 3.89% 81.8% 84.9%

Accounting for asset impairment: a test for IFRS compliance across Europe 31
high compliance is found in the low impairment-intensity companies of mixed results. For instance, high goodwill impairment-intensive industries
Finland and Italy. High levels of compliance in this asset class could, such as consumer services and technology also have relatively high levels
however, be attributed to the lower degree of subjectivity involved in the of compliance. For intangible assets, however, the telecommunications
impairment reporting process compared with the other two asset groups. industry exhibits below-median compliance levels while registering
the highest degree of intensity. Similarly, PP&E impairment intensity is
Table 6.5 highlights variations in impairment intensity and compliance
relatively high in the technology industry but compliance is very low.
across different industries. Across the three asset classes, compliance
In contrast, oil and gas and industrials, which are the other impairment-
tends to be lower in intangible assets (73.1%) compared with PP&E
intensive industries within this group, display considerably higher
(85.7%) and goodwill (77.8%). In terms of our conjecture on the
compliance scores of 90.3% and 84.2% respectively.
association between impairment intensity and compliance, we find
Table 6.5 - Impairment reporting: Industry-level compliance indices

PP&E Intangible assets Goodwill

Industry IFRS compliance IFRS compliance IFRS compliance

Firms Intensity Unweighted Partial Firms Intensity Unweighted Partial Firms Intensity Unweighted Partial

Basic
20 1.72% 85.4% 89.9% 18 1.81% 73.0% 85.2% 5 5.19% 77.6% 84.6%
materials
Consumer
27 1.34% 76.5% 84.6% 19 1.38% 72.0% 83.9% 13 2.25% 72.6% 78.8%
goods
Consumer
26 0.78% 85.7% 92.6% 34 1.18% 77.0% 83.8% 39 6.37% 86.4% 91.0%
Services
Healthcare 13 1.49% 87.6% 99.0% 22 2.76% 76.0% 85.4% 9 8.78% 77.8% 84.9%
Industrials 30 2.19% 84.2% 90.2% 25 1.21% 73.1% 84.3% 39 3.20% 83.9% 87.6%
Oil and gas 29 2.61% 90.3% 97.1% 30 4.97% 79.0% 88.3% 8 3.80% 76.5% 83.7%
Technology 12 6.24% 68.0% 76.0% 24 2.26% 70.6% 77.3% 34 8.39% 84.1% 88.4%
Telecomm-
2 1.41% 100% 100% 3 10.25% 72.3% 72.2% 1 0.01% 79.2% 81.9%
unications
Utilities 9 0.98% 90.6% 96.2% 6 0.93% 81.5% 90.5% 12 0.84% 77.3% 81.0%
Total/median 168 1.37% 85.7% 92.6% 181 1.97% 73.1% 84.3% 160 3.89% 77.8% 84.6%

32 Accounting for asset impairment: a test for IFRS compliance across Europe
We now turn to the analysis of eleven disclosure areas from items a relevant IFRS without attempting to provide detailed disclosure
included in the measurement of companies’ overall compliance indices. on the nature and reasoning of their judgments.
 Accounting policies and judgments To the extent that boilerplate box-ticking is a problem, measures of
IAS 1 requires the provision of information on the measurement basis overall compliance might appear high but can mask low levels of
(or bases) used in preparing the financial statements (IAS 1.117). The compliance in areas requiring managerial effort as the key ingredient
standard also requires disclosures on judgments made in applying to satisfying reporting requirements. We return to this issue in the last
accounting policies (IAS 1.122). Judgments lie at the heart of the financial part of this section.
reporting process and have an important effect on income recognition  Estimation uncertainty
and asset remeasurement. The provision of disclosures on judgments is
Estimation uncertainty is an inherent characteristic of many accounting
intended to assist users in better understanding the measurement bases
measurements. In estimating future uncertain values, financial
used in financial statements. Unfortunately, disclosures on judgments
information must not only represent relevant phenomena, but it should
can often be bland and uninformative.
also faithfully represent the phenomena that the information purports
Based on the likely influence of judgments on the outcomes of the to represent (Framework, QC12). But faithful representation may not be
reporting process, we assess compliance with IFRS requirements on sufficient in producing useful information. Estimates of the amount by
policy disclosures relating to PP&E, intangible assets and goodwill. which carrying amounts should be adjusted to reflect impairment can
Our primary objective is to determine the presence or otherwise of be a faithful representation if the entity properly applies an appropriate
such disclosures and to then evaluate the nature and quality of process, properly describes the estimate and explains any uncertainties
information contained in the disclosures. that significantly affect the estimate. However, if the level of uncertainty in
such an estimate is sufficiently large, that estimate will not be particularly
Initial results suggest that a majority of companies within the three asset
useful (Framework, QC16).
groups provide a relevant policy note. Similarly, most of the companies
present a note on judgments made in recognizing and measuring the IAS 1 requires entities to disclose information on their assumptions
assets.27 The only noticeable exceptions in this category are companies about the future and other sources of estimation uncertainty that have
from Greece, where compliance scores are 66.7% and 75% for a significant risk of leading to a material adjustment to the carrying
judgments associated with PP&E and intangible assets respectively. amounts of assets and liabilities within the next financial year (IAS 1.125).
The standard notes various examples of types of relevant disclosures
In spite of the generally high degree of compliance, we find variations in
(IAS 1.129) and clarifies that the nature and extent of these disclosures
the depth of the disclosures. A majority of companies can be described
vary based on the nature of the assumption and other circumstances.
as “box-ticking” their way through the compliance process, while a
smaller number of companies present detailed disclosures on the nature
of and reasoning underlying their impairment policies and judgments.
A common feature of the box-ticking group is the excessive use of
boilerplate language whereby companies can claim to have complied
with disclosure requirements by essentially restating the wording used in

27
Given the homogeneous level of compliance observed in this disclosure area at both the country and industry levels, the results for this disclosure area have not been tabulated.

Accounting for asset impairment: a test for IFRS compliance across Europe 33
Our review of disclosures on the nature of assumptions and estimation  Sensitivity of carrying amounts to changes in methods,
uncertainty confirms that compliance is generally quite high across assumptions and estimates
the three asset classes. We find that a large majority of companies in
For all three asset classes, we evaluate disclosures on the sensitivity of
the PP&E impairment category provide the minimum required level of
carrying amounts to changes in methods, assumptions and estimates.
disclosure on assumptions influencing estimation uncertainty together
While we find evidence of such disclosures in the goodwill asset class,
with descriptions of their nature. Adequate disclosures are also found in
consistent with our earlier expectations, we find no disclosures in this
most cases that we review in the intangible assets category. The minor
area within the two other asset groups. For the goodwill sub-sample,
exceptions are sample companies in Poland with 60%, and those in
our findings are summarized in tables 6.6 and 6.7. We note that a
Germany and Greece with 73% and 75% compliance, reflecting some
significant proportion of the sensitivity disclosures for which we assess
inadequacy or absence of information. Turning to the goodwill
compliance are based on information reported under IAS 36 as part
sub-sample, with the exception of sample companies domiciled in
of sensitivity analyses of goodwill impairment tests.
Austria and Belgium that register low compliance for disclosures on
estimates influencing the presentation of goodwill (66.7% and 50%, The results in the two tables indicate a general decline in compliance
respectively), in the majority of other European countries, we find high quality compared with disclosures discussed earlier. At the country level,
levels of IFRS compliance. we document an apparent absence of required disclosures in this area
within the set of sample companies from the Eastern European cluster of
Adopting an industry perspective, our results are highly consistent with
the Czech Republic, Poland and Slovenia. We find similarly low levels of
findings noted above. The sole outlier is the telecommunications industry
compliance for the Greek sample companies (25%). In contrast, the Finnish
and the disclosures we observe in the intangible assets sub-sample. In
sub-sample registers the highest level of compliance in this category.
spite of high impairment intensity in this asset class, we document a
relatively low compliance score of 66.7% for disclosures on estimation Similar results are found at the industry level. Our analysis shows that
uncertainty in this industry. compliance scores are very low in the oil and gas industry (12.5%) and
in the basic materials industry (20%). The high goodwill impairment-
 Changes to past assumptions
intensity healthcare industry also registers low compliance of 22.2%.
Consistent with the requirements of IAS 1, we also evaluate disclosures For the single sample company from the telecommunications industry,
on changes made to past assumptions by sample companies within we observe no meaningful disclosures in this area.
each of the three asset groups.28 Contrary to our expectations, and
despite the dynamic nature of the economic fundamentals (e.g., interest
rates and economic growth levels) associated with the assumptions
that companies should be considering in the initial measurement and
subsequent remeasurement of non-current assets, we observe a notable
decline in the extent of disclosures in this area for a majority of companies
included in our three sub-samples.

28
Results for this disclosure area have not been tabulated here, but are available on request.

34 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.6 - Sensitivity of carrying amount: Compliance by country Table 6.7 - Sensitivity of carrying amount: Compliance by industry

Goodwill IFRS compliance Goodwill IFRS compliance

Sensitivity Sensitivity
Country to methods, Industry to methods,
Firms Intensity Firms Intensity
assumptions assumptions
and estimates and estimates

Austria 3 3.20% 66.7% Basic materials 5 5.19% 20%

Belgium 2 0.32% 50% Consumer goods 13 2.25% 53.8%

Czech Republic 1 0.53% 0% Consumer services 39 6.37% 64.1%

Denmark 4 4.42% 75.0% Healthcare 9 8.78% 22.2%

Finland 9 4.16% 100% Industrials 39 3.20% 71.8%

France 21 2.21% 76.2% Oil and gas 8 3.80% 12.5%

Germany 23 1.81% 56.5% Technology 34 8.39% 67.6%

Greece 8 2.89% 25.0% Telecommunications 1 0.01% 0%

Italy 11 1.00% 54.5% Utilities 12 0.84% 66.7%

Netherlands 4 3.47% 75.0% Total/median 160 3.89% 53.8%

Norway 7 5.80% 57.1%

Poland 3 1.16% 33.3%

Portugal 1 1.44% 0%

Slovenia 1 0.00% 0%

Spain 6 1.44% 75.0%

Sweden 11 14.04% 45.5%

Switzerland 5 5.19% 80%

United Kingdom 40 11.02% 57.5%

Total/median 160 3.89% 56.8%

Accounting for asset impairment: a test for IFRS compliance across Europe 35
 Events and circumstances We find similar results for intangible assets. Country-level compliance
ranges from full compliance in countries including Finland, Hungary and
We assess disclosures on triggering events underlying the recognition
Ireland, to non-compliance in sample companies in Estonia and Lithuania
of an impairment loss during the reporting period. Based on our analysis,
and low compliance in Germany (31.7%), Poland (33.3%) and Spain
we identify a wide array of alternative triggering events for the three
(20%). We note, however, that this asset class includes both finite-and
asset classes. Among the frequently observed indicators are: (i) less
indefinite-life intangibles. Our review emphasizes disclosures on possible
than favorable economic conditions, (ii) volatility in markets and changes
triggers (for finite-life and potentially for indefinite-life intangibles) as well
in levels of market risk and exchange rate risk, (iii) persistent decline in
as information on annual impairment tests (indefinite-life intangible assets
market demand and reduced profit margins, (iv) downward revisions
only). Turning to industry-level results, consumer goods registers low
to sales projections, (v) loss of major customers that lead to lower
compliance levels at 39.5% followed by consumer services (51.5%) and
future cash flows from business segments, (vi) reorganizations due to
basic materials (52.8%).
failed projects and (vii) discontinuation or disposal of units or divisions
that adversely affect future cash flows. Our assessment focuses on For goodwill, we document full compliance in the Czech Republic,
the quality of information and compliance in this area. The results are Denmark, Italy, Netherlands, Portugal and Spain. The lowest level of
summarized by country and industry in tables 6.8 and 6.9. disclosure quality in this category (50%) is registered for preparers in
Belgium and Greece. We find no meaningful disclosures in this area for
The findings again confirm substantial cross-country and
the sample company from Slovenia. At the industry level, compliance
cross-industry variation in the quality of disclosures on the circumstances
ranges between 67% and 89%, excluding the exceptional case of
that explain the incidence of an impairment loss. In the PP&E category,
non-compliance for the single firm from the telecommunications industry,
for example, at the country level, the index ranges from full compliance
which may be partly attributed to its low level of goodwill impairment-
by companies in Austria, Estonia, Ireland and Portugal to lower
intensity in the assessment period.
compliance in France (56.3%), Greece (33.3%) and Sweden (20%),
while the single sample company from Slovenia registers an absence
of compliance. Similar differences are present across the industries.
The consumer goods (55.6%) and technology (41.7%) industries,
for example, exhibit the lowest level of compliance while the two
companies in the telecommunications industry display full compliance.

36 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.8 - Events and circumstances: Compliance by country

PP&E Intangible assets Goodwill

IFRS compliance IFRS Compliance IFRS Compliance
Country
Events and Events and Events and
Firms Intensity Firms Intensity Firms Intensity
circumstances circumstances circumstances

Austria 4 1.73 100% 4 5.95% 50% 3 3.20% 66.7%

Belgium 6 1.23 83.3% 3 2.15% 66.7% 2 0.32% 50%

Czech
- - - - - - 1 0.53% 100%
Republic

Denmark 3 0.21 66.7% 6 9.77% 66.7% 4 4.42% 100%

Estonia 1 0.96 100% 1 0.06% 0% - - -

Finland 6 0.41 66.7% 4 0.73% 100% 9 4.16% 77.8%

France 16 0.98 56.3% 12 1.01% 54.2% 21 2.21% 61.9%

Germany 28 1.30 63.0% 30 0.93% 31.7% 23 1.81% 69.6%

Greece 3 2.44 33.3% 4 0.68% 75.0% 8 2.89% 50%

Hungary 2 1.42 50% 1 0.36% 100% - - -

Ireland 1 0.92 100% 3 1.12% 100% - - -

Italy 16 0.81 87.5% 12 0.64% 66.7% 11 1.00% 100%

Lithuania - - - 1 0.84% 0% - - -

Netherlands 6 0.87 66.7% 8 1.80% 75.0% 4 3.47% 100%

Norway 11 3.62 100% 5 2.28% 100% 7 5.80% 85.7%

Poland 11 2.11 63.6% 6 1.00% 33.3% 3 1.16% 66.7%

Portugal 1 0.89 100% 2 0.82% 100% 1 1.44% 100%

Slovenia 1 7.17 0% 1 10.77% 100% 1 0.00% 0%

Spain 8 3.00 75.0% 5 1.27% 20% 6 1.44% 100%

Sweden 5 1.05 20% 11 10.25% 54.5% 11 14.04% 80%

Switzerland 13 0.74 84.6% 9 0.93% 55.6% 5 5.19% 80%

United
26 4.38 84.0% 53 6.92% 64.2% 40 11.02% 82.5%
Kingdom

Total/median 168 1.37 70.8% 181 1.97% 66.7% 160 3.89% 80%

Accounting for asset impairment: a test for IFRS compliance across Europe 37
Table 6.9 - Events and circumstances: compliance by industry

PP&E Intangible assets Goodwill

IFRS compliance IFRS compliance IFRS compliance
Industry
Events and Events and Events and
Firms Intensity Firms Intensity Firms Intensity
circumstances circumstances circumstances

Basic materials 20 1.72% 80% 18 1.81% 52.8% 5 5.19% 80%

Consumer goods 27 1.34% 55.6% 19 1.38% 39.5% 13 2.25% 69.2%

Consumer services 26 0.78% 65.4% 34 1.18% 51.5% 39 6.37% 75.7%

Healthcare 13 1.49% 88.5% 22 2.76% 63.6% 9 8.78% 88.9%

Industrials 30 2.19% 78.3% 25 1.21% 60% 39 3.20% 87.2%

Oil and gas 29 2.61% 87.9% 30 4.97% 70% 8 3.80% 75.0%

Technology 12 6.24% 41.7% 24 2.26% 62.5% 34 8.39% 67.6%

Telecommunications 2 1.41% 100% 3 10.25% 100% 1 0.01% 0%

Utilities 9 0.98% 66.7% 6 0.93% 66.7% 12 0.84% 75.0%

Total/median 168 1.37% 78.3% 181 1.97% 62.5% 160 3.89% 75.0%

Basis for recoverable amount Examining the role of economic conditions in determining the choices
Value in use is the popular choice for determining recoverable amount made in estimating recoverable amounts is beyond the scope of this
for assets and CGUs across all the asset classes. The distribution of study. Nonetheless, it is relevant to note that, despite the ongoing
the application of the two methods across the three asset categories for economic downturn over the period covered by the financial statements
companies that disclose their selected basis for recoverable amount is in our survey, we observe limited disclosures on how market conditions
presented in tables 6.10 and 6.11. may have influenced estimates of recoverable amounts based on
future cash flows (e.g., higher discount rates and/or uncertain growth
While the data show that the prevalent method for determining prospects), especially in connection to PP&E and intangible assets.
recoverable amount is VIU, an equally important observation in both We would argue that this is a particularly important omission, given that
tables is the significant number of cases where disclosures lack clarity in most of the cases where VIU estimates are used, this is based on a
in explicitly identifying the selected basis. There are numerous cases discounted cash flow analysis. In fact, even in those instances where
within the three asset classes, and especially in the PP&E and intangible FVLCD is adopted, estimates are based on the discounted cash flow
assets classes, where we find that, at the policy-note level, the company approach, although the cash flows and discount rates are of a different
adequately establishes and communicates its understanding of the nature (cash inflows and post-tax discount rates) compared with those
requirements under IAS 36 for the estimation of recoverable amount, used in estimating VIU.
but in implementing the impairment test(s) fails to specify the adopted
basis clearly.

38 Accounting for asset impairment: a test for IFRS compliance across Europe
Finally, consistent with our earlier findings, we find substantial cross- generally far from perfect. Results for the intangible assets (median value
company differences in the depth and detail of information. Only a limited 51.9%) and goodwill (median value 73.2%) samples follow a similar trend,
number of companies in each asset class provide disclosures that with high levels of non- or partial-compliance being the predominant
are beyond the minimum requirements that would likely provide users pattern. At the industry level, the results appear to improve. But this may
with a better understanding of the assumptions underlying estimated stem from the aggregation of results and the masking of low compliance
recoverable amounts. in most companies by other companies within an industry that exhibit
 Impairments as part of segment results high degrees of compliance.

According to IAS 36, companies that report segment information under In analyzing these results further, we find that the apparent absence
IFRS 8 are required to provide, for each reportable segment, the amount of impairment disclosures at the segment level is partly due to a
of current period impairment loss (IAS 36.129). This is consistent with large number of companies that report a single operating segment.
the requirement under IFRS 8 to disclose, as part of each reportable Under IFRS 8, two or more operating segments with similar economic
segment’s results, all material non-cash items other than depreciation characteristics may be aggregated into a single operating segment
and amortization (IFRS 8.23). We evaluate the quality and the extent to (IFRS 8.12).29 In conducting our review, we encounter various cases in
which such disclosures are made. which non- or partial-disclosure of segment information is explained
by citing the aggregation criteria of IFRS 8. Given the relevance of
Our findings indicate high levels of cross-country and cross-industry disaggregated disclosures in providing users with a basis for making
variation in reporting practices related to the allocation of impairment more informed judgments about the company as a whole, in those
losses to segments. For example, for the PP&E sample, we document instances where the aggregation criteria is applied, it is important
limited disclosures in companies domiciled in Hungary and Slovenia, that preparers provide adequate information on the reasons underlying
while low levels of compliance are registered in Greece (33.3%), the decision.
Norway (45.5%) and Spain (50%). Compliance in other countries is still

29
A problem cited in the segment reporting literature is that of underreporting and overreporting. This relates to situations where some companies exploit the definitions of financial reporting standards to either underreport
by combining all operations as a single, broadly defined segment or overreport by organizing various homogeneous activities as different segments. The management approach of IFRS 8 is designed to rectify such
inadequacies based on which, the nature and content of externally disclosed segment information will coincide with how a company is organized and managed internally. While the IASB is currently conducting a post-
implementation review of IFRS 8, the effectiveness of the standard in improving the quality of disaggregated disclosures in Europe is yet unclear.

Accounting for asset impairment: a test for IFRS compliance across Europe 39
Table 6.10 - Basis for recoverable amount: distribution by country

PP&E Intangible assets Goodwill

Country Recoverable amount Recoverable amount Recoverable amount

Firms Unspecified VIU FVLCD Firms Unspecified VIU FVLCD Firms Unspecified VIU FVLCD

Austria 4 2 50% 50% 4 2 100% 0% 3 1 100% 0%

Belgium 6 2 80% 20% 3 2 100% 0% 2 1 100% 0%

Czech
- - - - - - - - 1 0 100% 0%
Republic

Denmark 3 0 100% 0% 6 3 100% 0% 4 1 100% 0%

Estonia 1 0 100% 0% 1 1 n/a n/a - - - -

Finland 6 1 100% 0% 4 0 100% 0% 9 0 90% 10%

France 16 3 92.3% 7.7% 12 4 87.5% 12.5% 21 2 90% 10%

Germany 28 11 60% 40% 30 15 62.5% 37.5% 23 1 72.7% 27.3%

Greece 3 2 100% 0% 4 2 100% 0% 8 2 100% 0%

Hungary 2 1 100% 0% 1 0 100% 0% - - - -

Ireland 1 0 100% 0% 3 0 100% 0% - - - -

Italy 16 4 69.2% 30.8% 12 5 87.5% 12.5% 11 0 91.7% 8.3%

Lithuania - - - - 1 1 n/a n/a - -

Netherlands 6 2 60% 40% 8 0 75.0% 25.0% 4 0 75.0% 25.0%

Norway 11 0 83.3% 16.7% 5 2 100% 0% 7 1 100% 0%

Poland 11 8 66.7% 33.3% 6 4 100% 0% 3 0 100% 0%

Portugal 1 0 100% 0% 2 1 100% 0% 1 0 100% 0%

Slovenia 1 0 100% 0% 1 0 100% 0% 1 1 n/a n/a

Spain 8 5 100% 0% 5 1 100% 0% 6 0 100% 0%

Sweden 5 4 100% 0% 11 4 100% 0% 11 1 100% 0%

Switzerland 13 7 83.3% 16.7% 9 1 75.0% 25.0% 5 0 100% 0%

United
26 8 70% 30% 53 21 84.8% 15.2% 40 0 86.4% 13.6%
Kingdom

Total/Median 168 60 - - 181 69 - - 160 11 - -

40 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.11 - Basis for recoverable amount: distribution by industry

PP&E Intangible assets Goodwill

Industry Recoverable amount Recoverable amount Recoverable amount

Firms Unspecified VIU FVLCD Firms Unspecified VIU FVLCD Firms Unspecified VIU FVLCD

Basic
20 6 80% 20% 18 12 83.3% 16.7% 5 0 66.7% 33.3%
materials

Consumer
27 11 68.8% 31.3% 19 6 85.7% 14.3% 13 2 81.8% 18.2%
goods

Consumer
26 9 84.2% 15.8% 34 10 96.0% 4.0% 39 1 88.1% 11.9%
services

Healthcare 13 6 55.6% 44.4% 22 8 60% 40% 9 1 77.8% 22.2%

Industrials 30 12 78.9% 21.1% 25 8 82.4% 17.6% 39 4 94.4% 5.6%

Oil and gas 29 5 76.9% 23.1% 30 11 89.5% 10.5% 8 1 85.7% 14.3%

Technology 12 10 50% 50% 24 11 84.6% 15.4% 34 1 93.9% 6.1%

Telecomm-
2 0 100% 0% 3 1 100% 0% 1 0 100% 0%
unications

Utilities 9 1 87.5% 12.5% 6 2 100% 0% 12 2 90% 10%

Total/Median 168 60 - - 181 69 - - 160 11 - -

Based on IAS 36, if a company reports segment information in For PP&E, compliance scores are quite variable at the industry level,
accordance with IFRS 8, then for each material impairment loss, it is ranging from 23.1% in basic materials to full compliance in the
required to disclose the reportable segment to which the asset belongs telecommunications industry. The results are far less encouraging for
(IAS 36.130c). Therefore, for each of the three asset groups, we first intangible assets. Median compliance score for this asset class is 29.2%
assess the applicability of IFRS 8 disclosures and then examine the and the scores range from non-compliance in the telecommunications
inclusion or not of impairment assets as part of reportable segments’ industry to a high of 33.3% in the utilities industry.
information. However, given that this requirement applies to individual
assets, our assessment relates only to the allocation of PP&E and
(non-goodwill) intangible assets.
Our findings reveal that disclosures in this area suffer from most of the
shortcomings noted above in relation to the allocation of impairment
losses to segments. At the country level, we find various cases of non- or
partial-compliance (e.g., companies from Estonia, Portugal and Slovenia
in the PP&E asset class and Belgium, Estonia, Greece, Lithuania, Poland
and Slovenia in the intangible assets category).

Accounting for asset impairment: a test for IFRS compliance across Europe 41
CGU description and allocation of goodwill to CGUs Impairment by asset class, segment and CGU
For each material goodwill impairment loss recognized during the period, We analyze impairment-related disclosures for CGUs. As noted in
IAS 36 requires the provision of CGU-related disclosures, including a section 3, IAS 36 requires disclosure of the amount of impairment loss
description of each CGU (IAS 36.130d). Also, given that the goodwill recognized by class of assets and if applicable by reportable segment
impairment test is based on the allocation of goodwill to CGUs, IAS 36 and by CGU (IAS 36.130d). Findings from our assessment of compliance
requires the disclosure of the carrying amount of goodwill allocated to a in this category are summarized in tables 6.12 and 6.13.
CGU or group of CGUs. This allocation is important as it reflects
We document significant differences in compliance levels for the two
judgments in attributing goodwill to different components of the business.
requirements. For disclosures relating to impairment by asset class or
In spite of their significance in the goodwill reporting process, our segment, we find several cases of non-compliance at both the country
findings reveal a fairly high degree of diversity in reporting outcomes in level (e.g., sample companies in the Czech Republic, Poland and
these two disclosure areas across both countries and industries. In a Slovenia) and the industry level (basic materials and telecommunications).
majority of cases, there is an absence of transparent qualitative Results for other countries and industries are generally low as well
information on the nature of decisions and judgments involved in defining (median country score of 20% and median industry value of 23.1%).
CGUs and allocating goodwill to CGUs for impairment testing purposes.
In further analyzing the results for this disclosure area, we consider
Equally important are the various instances of partial- and non-
whether each sample company provides disclosures under IFRS 8.
compliance that we document.
In those cases where segment information is reported by the company,
At the country level, our findings indicate non-compliance in sample we find that the quality of disaggregated disclosures may have influenced
companies in Belgium and Slovenia versus full compliance in sample the disclosure quality of CGU impairments by asset class or segment.
companies in Austria, the Czech Republic and Spain. For the remainder
of countries, compliance for both requirements is at best, modest. For
example, in the case of disclosures on the description of a CGU, France
and Germany each register compliance rates of 57.1% and 69.6%
respectively, while companies domiciled in Greece (50.0%) and Norway
(57.1%) exhibit somewhat lower compliance levels.
For the allocation of goodwill to CGUs, the index increases for most of the
countries. But there are still many cases where compliance is low.
Examples include Belgium (50.0%) and Norway (57.1%). We observe
fairly similar results at the industry level with companies in the consumer
goods and basic materials industries registering low scores of
respectively 38.5% and 40% for the provision of CGU descriptions.
Industry-level compliance for the allocation of goodwill to CGUs is not so
variable, with scores ranging between 60% (basic materials) to full
compliance (telecommunications).

42 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.12 - Impairment by asset class or segment and per CGU: Table 6.13 - Impairment by asset class or segment and per CGU:
compliance by country compliance by industry

Goodwill Goodwill
IFRS compliance IFRS compliance
Country Industry Impairment by
Impairment by Impairment
Impairment Firms Intensity asset class or
Firms Intensity asset class or per CGU
per CGU segment
segment
Austria 3 3.20% 33.3% 66.7% Basic materials 5 5.19% 0% 40%

Belgium 2 0.32% 0% 100% Consumer goods 13 2.25% 23.1% 69.2%

Czech Republic 1 0.53% 0% 100% Consumer services 39 6.37% 30.8% 71.8%

Denmark 4 4.42% 75.0% 50% Healthcare 9 8.78% 22.2% 66.7%

Estonia - - - - Industrials 39 3.20% 20.5% 71.8%

Finland 9 4.16% 11.1% 88.9% Oil and gas 8 3.80% 37.5% 37.5%

France 21 2.21% 28.6% 85.7% Technology 34 8.39% 33.3% 63.6%

Germany 23 1.81% 34.8% 73.9% Telecommunications 1 0.01% 0% 0%

Greece 8 2.89% 12.5% 50% Utilities 12 0.84% 25.0% 75.0%

Hungary - - - - Total/Median 160 3.89% 23.1% 66.7%

Ireland - - - -

Italy 11 1.00% 45.5% 90.9%

Disclosures on impairment per CGU register considerably higher rates
Netherlands 4 3.47% 50% 75.0% of compliance at both the country and industry levels (median scores of
Norway 7 5.80% 14.3% 42.9%
70.3% and 66.7%, respectively). The variation, nonetheless, persists with
country-level scores ranging from non-compliance in the sample
Poland 3 1.16% 0% 33.3%
company from Slovenia, low compliance in Poland (33.3%) to full
Portugal 1 1.44% 0% 100% compliance in Belgium, the Czech Republic, Portugal and Spain. We find
Slovenia 1 0.00% 0% 0%
a similar pattern at the industry level where compliance ranges from 75%
in the utilities industry to a low score of 40% in basic materials and an
Spain 6 1.44% 66.7% 100%
apparent absence of compliance in the telecommunications industry.
Sweden 11 14.04% 20% 50%

Switzerland 5 5.19% 40% 60%

United Kingdom 40 11.02% 20% 60%

Total/median 160 3.89% 20% 70.3%

Accounting for asset impairment: a test for IFRS compliance across Europe 43
 Cash flow projections, growth and discount rates Compliance: the role of institutions and firm-level attributes

For those companies that estimate the recoverable amount of CGUs Evidence in the previous sub-sections indicates considerable variation
based on VIU estimations, we follow the requirements of IAS 36 and in compliance with impairment disclosure requirements. We now turn
evaluate the provision or otherwise and the quality of disclosures relating to a simple examination of the determinants of compliance levels. We
to assumptions on future cash flows, growth rates and discount rates. rely on two sets of factors: (i) country-level institutions and (ii) firm-level
characteristics. This selection is motivated by results from prior studies
These disclosures are relevant because they can potentially signal
that establish a role for both factors in shaping financial reporting
information on a company’s perceptions in developing VIU estimates.
practices and outcomes. In the final segment of this section, we use an
Hence, they can allow users to gain a finer understanding of the
alternative basis (i.e., judgment and effort) to examine differences in
judgments and estimates made in the impairment recognition process.
compliance attitudes.
IAS 36 requires disclosures on a range of assumptions. We emphasize those
To capture the role of institutions, we rely on the institutional classification
that relate to: (a) key assumptions on which management has based its
of Leuz (2010). As noted in section 5, the factors included in this
cash flow projections for the period covered by the recent budgets or
classification relate to the strength of countries’ securities regulation,
forecasts, (b) the growth rate(s) used to extrapolate cash flow projections
enforcement, capital market development, investor protection, disclosure
beyond the period covered by the recent budgets or forecasts and
and transparency of reporting practices. We follow our grouping of
(c) the discount rate(s) applied to the cash flow projections (IAS 36.134d).
European countries into the three country-clusters of Leuz (2010) as
Our primary aim is to establish the extent of provision of this information
outlined in table 5.3. Our prediction is based on the view that stronger
as part goodwill disclosures.
institutions will motivate higher compliance. We also consider the role
Analyzing by country and industry, with the exception of a few minor of firm-specific variables. This is due to the importance of accounting
cases, we document high levels of compliance. While we observe for those characteristics that shape compliance over and beyond that
information on discount rates in a majority of companies, uncertainty which is driven by country-level institutional forces. We test whether: (i)
surrounding future economic conditions appears to have had an impact compliance levels vary across the three country-clusters, (ii) compliance
on companies’ ability to generate detailed information on forecasts of levels increase with the strength of institutions and (iii) institutional factors
future cash flows and growth rates. These effects are more pronounced and firm-level attributes play a role in explaining compliance.
in Greece, Italy and Poland with relatively low scores of 66.7% (66.7%),
To examine disparities in companies’ impairment reporting quality across
54.5% (72.7%) and 66.7% (33.3%), respectively for disclosures on future
the institutional settings, we analyze variations in mean compliance
cash flows (growth rates).
scores across the three country-clusters. Our first set of results confirms
Industry-level results are consistent with this conclusion as median the presence of statistically meaningful differences in the mean rank
compliance scores for both cash flow projections and growth rates are scores between at least two combinations of country-clusters in Europe.
considerably lower than that of discount rates. For cash flow projections, Additional pairwise analysis of country-clusters reveals that compliance
we find compliance to be lowest in the consumer goods (55.6%) and oil by companies domiciled in cluster 1 countries is different and higher than
and gas (66.7%) industries while basic materials (50.0 %), oil and gas that of companies in both cluster 2 and cluster 3 countries. We further
(66.7%) and telecommunications (66.7%) constitute the lower end of the find that overall compliance by companies in cluster 2 countries is not
score range for disclosures on growth rates. statistically different from those classified in cluster 3.30

30
Following results from the Shapiro-Wilk test of normality, we adopt the non-parametric Kruskal-Wallis, Mann-Whitney and Wilcoxon tests to assess differences in mean compliance scores across the three country-
clusters.

44 Accounting for asset impairment: a test for IFRS compliance across Europe
These results confirm our prediction of uneven compliance levels  Audit: evidence from prior research suggests that large audit firms
across different institutional settings in Europe.31 They show that isolated fulfil an effective monitoring function in limiting managers’ opportunistic
changes in accounting and disclosure regimes are less likely to be reporting behavior. Street and Gray (2002), Brown and Tarca (2005)
effective if they are not coupled with simultaneous improvements in and more recently Hodgdon et al. (2009) support the favorable link
country-level institutions. The findings also lend partial support to the between the type of audit firm and clients’ quality of disclosure and
view that compliance increases with the strength of institutions and compliance.
enforcement mechanisms.  Cross-listing and foreign operations: cross-listed companies may be
Building on these results, we evaluate how compliance behavior is subject to additional market pressure and regulatory monitoring, which
explained by both institutional factors and firm-specific attributes. We can motivate higher compliance. Similarly, the nature of demand for
rely on evidence from studies that identify characteristics associated with information from international companies and the scrutiny they face in
companies’ reporting practices. Findings from this strand of research terms of compliance differs from those that operate solely at the
highlight the importance of different factors as major determinants of national level (Cuijpers and Buijink, 2005). Evidence on the potential
compliance with disclosure rules in corporate reports. These attributes impact on compliance of cross-listing and foreign operations supports
are explained below. the proposition that cross-listed companies and those with overseas
operations exhibit higher compliance (e.g., Street and Bryant, 2000).
 Size: the size attribute of larger companies can create incentives for
 Industry: maintaining favorable comparability within an industry may
high compliance. Research shows that economically important large
be a potent motivating force for corporate managers. Therefore,
companies are more likely to comply with reporting standards. Large
companies can have incentives to follow common industry practice.
companies have more shareholders and are better positioned to afford
But the evidence from IFRS studies so far indicates no association
the costs of increased disclosure. According to Bens et al. (2011),
between industry type and level of compliance (e.g., Street and Bryant,
smaller companies are also less likely to be able to implement the
2000; Glaum and Street, 2003). Moreover, as Jaafar and McLeay
complex requirements of impairment reporting fully.
(2007) suggest, country-specific effects are considerably greater than
 Profitability: prior studies (e.g., Lang and Lundholm, 1993) suggest industry effects.
that a firm’s performance is positively associated with the extent of its
 Ownership: demand for information can vary with the level of ownership
disclosures. Recent evidence (e.g., Daske et al., 2012) shows that
concentration. In companies with a highly dispersed investor base, greater
more-profitable companies are likely to have stronger incentives for
asymmetries can increase demand for public disclosures. This view is
providing reports that are relevant to outside investors. Given
consistent with Daske et al. (2012), who argue that companies with
companies’ incentives for informative reporting, there will be motives
dispersed ownership are likely to have stronger incentives for transparency
for compliance as well.
and informative reporting. Conversely, in companies that are controlled by
 Leverage: leverage may be relevant in explaining compliance.
individual investors, lower demand for public disclosure may lead to lower
Companies with high levels of debt have higher agency costs and a
incentives for compliance as well.
greater demand for monitoring. If public disclosures provide
debtholders with monitoring information, then high-leverage
companies will have incentives for compliance. Findings in recent
studies (e.g., Al-Shammari et al., 2008) support this view and indicate
that IFRS compliance increases with the level of debt.

31
Given that differences between the clusters stems from the nature of countries’ economic/financial systems and/or the strength of their regulatory and enforcement regimes, our results may also provide support for
conjectures on the dominant role of the type of financial system (outsider versus insider) in explaining and predicting the nature of demand for and supply of IFRS-type financial reports (see: Nobes, 1998).

Accounting for asset impairment: a test for IFRS compliance across Europe 45
 Book-to-market (BTM) ratio: if book value reflects economic value, A summary of the operational definitions we use to test the relevance
including impairments, the book value of equity (BVE) and the market of firm-level attributes in explaining compliance levels is presented in
value of equity (MVE) are equal (BTM=1). The BTM ratio can deviate table 6.14.
from one due to unrecognized impairments (BTM>1) or as a result of
Table 6.14 - Operational definitions for firm-level attributes
unrecognized increases in the value of assets or unrecognized
intangibles (BTM<1). Therefore, a higher BTM ratio may suggest that
Factors Definition
the market is accounting for losses that are yet to be captured through
the accounting system.32 Higher compliance with impairment reporting Size Natural logarithm of the market value of equity (WS07210)
standards should result in the more timely recognition of economic
Net income before extraordinary items (WS01551) divided
impairments. Therefore, an inverse relation may hold between Profitability
by total assets (WS02999)
compliance levels and BTM.
Total liabilities (WS03351) divided by total assets
 Impairment intensity: the relative materiality of impairment positions Leverage
(WS02999)
can influence compliance attitudes. As Heitzman et al. (2010) report,
Audit Binary variable based on whether the auditor is a Big 4 firm
companies’ propensity to disclose is positively associated with the
materiality of the underlying economic phenomenon. Based on this Cross-listing
Binary variable based on whether the firm is cross-listed in
argument, Chen and Gu (2010) find that companies with larger another market

goodwill and goodwill impairment positions disclose more about the Foreign operations Percentage ratio of foreign sales (WS08731)
underlying impairment test. This leads us to question whether larger
Nominal variable based on Industry Classification Benchmark
impairment positions result in additional effort to ensure compliance. Industry
(ICB excluding Financials )

Closely held shares (WS05474) divided by common shares

Ownership
outstanding (WS05302)

Book value of equity (WS03501) divided by the market

Book-to-market
value of equity (WS07210)

Asset impairment charge as a percentage of total assets

Impairment intensity
(WS02999)

32
We note, however, that just as BVE may not be comparable across different countries even under uniform standards due to diversity in enforcement and compliance, MVE may just as well not be equally informative
across countries as a result of differences in the capital market infrastructure.

46 Accounting for asset impairment: a test for IFRS compliance across Europe
Considering the three country-clusters and the set of firm-specific Compliance: the role of judgment and effort
factors, we evaluate the relevance of forces that shape compliance with
The analysis that we present in this sub-section is motivated by evidence
impairment disclosure requirements in Europe. To estimate a model,
on managers’ tendency to favor the discretion offered by the impairment
we use Autometrics™ as an automatic econometric model selection
reporting process over systematic depreciation and amortization
algorithm available through the PcGive package. The method begins
(Watts, 2003; Ramanna, 2008; Ramanna and Watts, 2012). The extent of
by including all variables that we believe may be relevant in explaining
discretion available to managers in recognizing impairment losses can
observed compliance levels, i.e., the three institutional clusters and all
have implications for compliance. To examine this issue, we propose a
firm-level attributes. This information provides the ingredients for setting
novel approach to the analysis of reporting requirements. Our approach
up a general unrestricted model. The method then applies a reduction
is based on evaluating compliance behavior through the lens of “effort.”
procedure, eliminating variables that are not statistically significant. This
This view rests on the premise that variations in compliance between
process continues until a simpler specific model is derived. Termination
different sets of reporting requirements are due to uneven degrees of
is based on our measure of marginal significance for the variables
effort required to satisfy them.
(Hendry, 1995; Doornik, 2008).33
Based on our proposed approach, we classify impairment reporting
For the 324 sample companies included in our survey, results
requirements into two classes: (i) high-effort requirements and
from Autometrics™ identify a model including six statistically significant
(ii) low-effort requirements. To assess its validity, we subject our
determinants of compliance. The significant determinants of compliance
proposed dichotomous classification to review by academic peers
recognized by the model are: (i) audit quality, (ii) industry (oil and gas),
and a panel of subject matter professionals at Ernst & Young with audit
(iii) leverage, (iv) intensity of goodwill impairments, (v) size and (vi)
expertise in the area of impairment reporting. The views we gather
being domiciled in a cluster 1 country.34 This result is highly consistent
reflect on experience with companies and the actual effort exercised in
with our predictions. It highlights the role of large international audit
the process of demonstrating compliance with different requirements.
firms as a first-line constraint that encourages IFRS compliance. The
Our refined classification serves as a benchmark for testing the
findings on the oil and gas industry reflect the generally high degree
proposition on differences in compliance between the two classes of
of compliance observed in this impairment-intensive industry. The
impairment reporting requirements. We predict that an inverse relation
documented leverage effect are consistent with debtholders’ demand
holds between the level of reporting effort and compliance.
for transparency in accounting information and the likely influence that
borrowing relationships have on companies’ incentives to comply with Descriptive results on compliance levels for the three asset classes
the requirements of IFRS. Companies with higher levels of goodwill based on the proposed classification are presented in table 6.15. Data on
impairment are also found to be in better compliance with the disclosure mean compliance levels indicate considerable differences in disclosure
rules. Compliance also increases with firm size. This probably reflects compliance between the high- and low-effort reporting requirements.
the higher levels of institutional investor and analyst scrutiny that Our tests show that these differences are statistically significant.
larger companies face. Instances of weak financial reporting in larger
companies usually receive wider coverage and are interpreted as bad
signals by the investor community. Finally, the significance of cluster 1
countries in the model underscores the relevance of a strong economic
and institutional environment in promoting IFRS compliance.

33
Autometrics™ is based on the general-to-specific (GETS) reduction theory of Hendry (1995). The model is often referred to as the London School of Economics (LSE) methodological approach to econometric modeling.
34
The selected variables for the final model are all statistically significant at 5%.

Accounting for asset impairment: a test for IFRS compliance across Europe 47
Table 6.15 - Compliance scores by asset class: high-effort versus low-effort

Asset class PP&E Intangible assets Goodwill

Effort level High Low High Low High Low

Compliance 69.24% 89.80% 52.64% 86.11% 74.82% 88.80%

Number of requirements 6 11 7 13 13 18

We complement these findings with descriptive results based on in the area of goodwill disclosures with compliance ranging between
bundles of requirements within each of the three asset groups. The 86.53% and 73.77%. Again, formal statistical tests show that these
disaggregation of the asset-level results is useful in that it uncovers low differences are significant.
compliance with high-effort requirements that may be masked by high
We find equally important variations in compliance levels within
compliance with low-effort disclosures. Tables 6.16, 6.17 and 6.18 present
disclosures on key estimation assumptions in the intangible assets
findings on compliance levels within different groups of requirements in
and goodwill classes which, due to their nature, are more likely to be
the PP&E, intangible assets and goodwill sub-samples.
influenced by measurement uncertainty. As noted in table 6.17, variation
Important differences in compliance emerge in the area of impairment- in compliance for intangible assets ranges from 94.03% (low effort) to
related disclosures for all three asset groups. For PP&E, compliance 59.09% (high effort). The difference is slightly less pronounced in the
ranges between 88.70% (low effort) and 54.10% (high effort). The goodwill category where compliance ranges from 91.89% to 62.92%.
variation is greater in the intangible asset class where compliance ranges Again, high- versus low-effort differences in this category are statistically
from 80.57% to as low as 37.33%. The differences are less pronounced significant.

Table 6.16 - PP&E: compliance scores by bundles of IFRS requirements

PP&E
Asset class
Compliance scores: bundles of IFRS requirements

Summary of significant Reconciliation of opening and PP&E and impairment

Disclosure items Key estimation assumptions
accounting policies closing carrying amount disclosures

Effort level High Low High Low High Low High Low
Compliance 98.30% 100% 96.55% 95.17% - 89.20% 54.10% 88.70%

Number of requirements 1 1 2 2 0 1 3 7

48 Accounting for asset impairment: a test for IFRS compliance across Europe
Table 6.17 - Intangible assets: compliance scores by bundles of IFRS requirements

Intangible assets
Asset class
Compliance scores: bundles of IFRS requirements

Summary of significant Key estimation Change in accounting

Disclosure items Impairment disclosures Intangible assets
accounting policies assumptions estimates

Effort level High Low High Low High Low High Low High Low

Compliance 95.52% 100% 59.09% 94.03% - 96.97% 37.33% 80.57% - 84.08%

Number of
1 1 2 2 0 2 4 7 0 1
requirements

Table 6.18 - Goodwill: compliance scores by bundles of IFRS requirements

Goodwill
Asset class
Compliance scores: bundles of IFRS requirements

Summary of significant Change in accounting Goodwill and impairment

Disclosure items Key estimation assumptions
accounting policies estimates disclosures

Effort level High Low High Low High Low High Low
Compliance 95.20% 99.40% 62.92% 91.89% - 97.81% 73.77% 86.53%

Number of requirements 1 1 2 2 0 2 10 13

Summary
Findings from our survey of impairment reporting practices show that the An implication of this finding is that, in assessing overall compliance
nature and content of companies’ IFRS disclosures are heterogeneous. with IFRS disclosure requirements, it is likely that high compliance
For many of the disclosure areas that we analyze, there is considerable with low-effort requirements will mask low compliance with high-effort
diversity in reporting practices. These diversities are present both requirements.
across European countries and across industries. In explaining the
differences, our results indicate the significance of institutions in shaping
IFRS compliance. We identify firm-level attributes that are also important
in explaining disparities in compliance levels. Our survey further
reveals that disclosure quality declines markedly as the cost and effort
associated with fulfilling compliance increases.

Accounting for asset impairment: a test for IFRS compliance across Europe 49
7. Toward improved
impairment reporting
in Europe
In this section, we present some brief recommendations for improving the  Triggering events: in many cases, we find that preparers do not explain
quality and content of impairment disclosures. The proposals noted here the triggering event. To a certain extent, we also find boilerplate
are largely rooted in our observations of impairment reporting practices disclosures, but this is not as widespread as some of the other disclosure
of European listed companies discussed earlier. areas that we cover. Specific knowledge of the circumstances underlying
the impairment loss is important. It broadens users’ understanding about
 Accounting policies and judgments: most companies appear to be
the justification of asset write-offs. It can also lead to revisions in their
in compliance with requirements on policies and judgments. In our
expectations about the future prospects of the company. Therefore, in
view, however, there is room for improving the depth and content of
avoiding additional user uncertainty, preparers should seek to ensure
disclosures in this area. We find largely identical policy and judgment
transparent and effective disclosure in this area.
notes for various non-current non-financial assets across companies
operating in different countries and industries. Even for the non-English  Basis for recoverable amount: we find cases where the adopted
reports that we examine, in most cases, disclosures appear to be mere basis for recoverable amount is not explicitly specified (PP&E: 36%,
translations of standard boilerplate policy disclosures. Commonalities intangible assets: 38% and goodwill: 7%). The selected bases will likely
undoubtedly exist between accounting policies and judgments have a significant impact on asset positions reported on balance sheets.
adopted by different companies, but we would also expect that the Therefore, given its potential relevance, we believe that care must be
nature of these disclosures reflects diversity in the economic taken by both preparers and auditors in ensuring the transparent and
environments in which companies operate. effective communication of bases for recoverable amount.
 Estimation uncertainty and changes to past assumptions:  Allocation of impairments to segments: for a large number of
disclosures on estimation uncertainty and key assumptions about the companies that provide segment information, impairment losses are
future enable users to better understand reporting areas that are prone aggregated and jointly reported with segment depreciation and
to subjectivity and sensitive to changing assumptions. In times of amortization charges. In fact, in some industries, this appears to be
financial volatility and uncertainty, the likelihood of change to past common practice. In our view, such reporting practices contradict the
assumptions increases. In our view, under these circumstances, the purpose of disaggregation. Results that are reported based on largely
provision of information on key assumptions and their (in)stability is aggregated amounts will not offer a useful basis for gauging and
crucially important. The finding that disclosures on revisions to past comparing segments’ performance. Another shortfall relates to cases
assumptions, or justifications for their continued relevance, are where asset allocations to segments are complete, but impairment losses
frequently inadequate or absent arguably reduces the usefulness of are not included in or explicitly reported as part of segments’ results.
companies’ impairment disclosures and the perceived reliability of
non-current asset valuations.
 Sensitivity of carrying amounts: these disclosures relate primarily to
goodwill impairments. As noted in section 6, we document relatively
low compliance levels in this area. Preparers must take into account
that this may have implications for the perceived relevance of their
goodwill information. Sensitivity disclosures provide users with a
reasonable basis to form independent assessments about the
reliability of valuations under alternative scenarios. Consequently, the
inadequacy or lack of such disclosures may be interpreted as a
negative signal as it can significantly hinder users’ understanding of
goodwill numbers.

50 Accounting for asset impairment: a test for IFRS compliance across Europe
 Allocation of assets to segments: a problem we identify in this area  Cash flow projections, growth and discount rates: for disclosures
relates to the absence of adequate disaggregation of information on on cash flow projections, we find that a large proportion of companies
impaired assets allocated to reportable segments. In many of the cases provide information on the projection period as part of their
we analyze, segment assets are not itemized; they are presented as assessments of future cash flows. This usually takes the form of a
lump sum figures without any explanation on components of the single forecast period, although we find minor cases where multiple or
aggregate amounts. This issue becomes even more complicated as a a range of forecast periods are adopted. A similar observation we
result of incomplete asset allocations to segments. These are cases make across most companies included in the goodwill sub-sample is
where the main basis for disaggregation is noted to be on a business that they generally adopt a single growth rate that does not exceed
basis while the allocation of assets is carried out on the basis of long-term average growth rates for the markets in which the CGUs
geographical segments. Lack of clarity in identifying and disclosing operate. Again, we note that there are instances where the reporting
the allocation bases and the opacity of disclosures on components of entity applies multiple growth rates or even a range of growth rates for
assets allocated to segments can adversely affect the usefulness of estimating VIU. As noted earlier, disclosures on discount rate(s) are
disaggregated disclosures. extensive and of high quality. We find that a large percentage of
 Description of CGUs and allocation of goodwill to CGUs: compliant companies refer to the WACC when explaining the basis for
our analysis of goodwill-related disclosures reveals two issues that determining the discount rate. But there are cases where the
could be relevant to preparers’ disclosure decisions in future periods. information has been difficult to interpret and analyze. For instance,
First, in many cases that we examine, there is a high degree of there are companies that make no mention of the basis used for
correspondence between the basis used to identify operating determining the adopted discount rates and simply state that their
segments and the approach adopted to define CGUs. For instance, selection takes into account the time value of money and the risks
in most single-segment companies, we observe a single CGU for associated with the CGU. Moreover, in spite of its wide usage across
goodwill impairment testing. In such cases, potentially low reporting countries and industries covered by our goodwill sub-sample
quality at the segment level appears to have influenced reporting companies, it may be questionable that many companies adopt a
outcomes for CGUs. Companies that identify CGUs on the basis of single discount rate (e.g., a company-wide WACC) and apply this
their segments must be aware of such effects and its potential evenly to all CGUs regardless of differences that may exist in the risk
consequences. Another issue relates to limited disclosures on profiles of each of the separately defined CGUs. Preparers should note
judgments and subjective estimates underlying the goodwill allocation that in light of differences in risk levels across the CGUs, the adoption
decision. Although the outcome of the estimation process may be of this approach may distort the results of their impairment testing
disclosed quantitatively in relevant notes, preparers should note that process for goodwill and other assets allocated to CGUs.
what may matter more to users’ understanding is the qualitative
justification supporting allocation decisions, which in most cases we
do not observe.

Accounting for asset impairment: a test for IFRS compliance across Europe 51
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Accounting for asset impairment: a test for IFRS compliance across Europe 55
Appendix - Impairment
disclosures: selected excerpts
This appendix includes selected excerpts from European companies’
disclosures relevant to impairment reporting for the three classes of 9. Summary of significant accounting policies
non-current non-financial assets that are of interest to us in this study.
9.3. Property, plant and equipment
We present these disclosures to highlight examples of reporting
practices that can be indicative of compliance and consistency with Property, plant and equipment are measured at cost less accumulated
IFRS requirements for impairment reporting. The sample footnotes are depreciation and impairment losses. The initial cost of an item of property,
plant and equipment comprises its purchase price and any directly
presented as three cases and relate mainly to those disclosure areas
attributable costs of bringing the asset to working condition for its intended
outlined in IAS 36 and asset-specific reporting requirements covered use. Cost also comprises the cost of replacement of fixed asset components
in IAS 16, IAS 38 or IFRS 3. Case A illustrates sample disclosures for when incurred, if the recognition criteria are met. Subsequent expenditures,
the impairment of PP&E. Case B presents a similar set of selected such as repair or maintenance costs, are expensed in the reporting period
disclosures for intangible assets (other than goodwill). Case C outlines in which they were incurred.
disclosures that are relevant to the impairment of goodwill. Upon purchase, fixed assets are divided into components, which represent
items with a significant value that can be allocated a separate useful life.
Case A: Property, plant and equipment - Arctic Paper Overhauls also represent asset component.
S.A., Poland
Property, plant and equipment are depreciated using the straight-line
The sample excerpts below illustrate selected disclosures from the 2010 method over their estimated useful lives.
annual report and financial statements of Arctic Paper S.A. The footnotes
Type Period
presented here highlight some of the information disclosed on property,
plant and equipment and the impairment of relevant non-current non- Buildings and constructions 25-50 years
financial assets based on IFRS. Plant and machinery 5-20 years

Office equipment 3-10 years

5. Significant professional judgements and estimates
Motor vehicles 5-10 years
5.2. Estimates and assumptions Computers 1-10 years
Impairment of Fixed Assets in Arctic Paper Mochenwangen
Residual values, useful lives and depreciation methods of property,
At 31 December 2010 impairment test was conducted in the production
plant and equipment are reviewed annually and, if necessary, adjusted
company Arctic Paper Mochenwangen in respect to fixed assets and
retrospectively i.e., with effect from the beginning of the financial year that
intangible assets. A detailed description of the impairment test is included in
has just ended.
Note 25 of these financial statements.
An item of property, plant and equipment is derecognised upon disposal
Depreciation and amortisation rates
or when no future economic benefits are expected from its further use.
Depreciation and amortisation rates are determined based on the Any gain or loss arising on derecognition of an asset (calculated as the
anticipated economic useful lives of property, plant and equipment and difference between the net disposal proceeds and the carrying amount
intangible assets. The economic useful lives are reviewed annually by the of the asset) is recognised in the income statement for the period in which
Group based on current estimates. derecognition took place.
Assets under construction (construction in progress) include assets in the
course of construction or assembly and are recognised at purchase price or
cost of construction less any impairment losses. Assets under construction
are not depreciated until completed and brought into use.

56 Accounting for asset impairment: a test for IFRS compliance across Europe
9.7. Impairment of non-financial assets 25. Impairment test of tangible and intangible assets

An assessment is made at each reporting date to determine whether there As at 31 December 2010 the Group performed impairment tests of tangible
is any indication that an asset may be impaired. If such indication exists, or in and intangible assets in the paper mill Arctic Paper Mochenwangen.
case an annual impairment testing is required, the Group makes an estimate
Impairment test in Arctic Paper Mochenwangen was performed in
of the recoverable amount of that asset or the cash-generating unit that the
connection with lower than expected results generated by the paper
asset is a part of.
mill in Mochenwangen. Financial results in Arctic Paper Mochenwangen
The recoverable amount of an asset or a cash-generating unit is the higher of were influenced by the market conditions including increase in prices of
the asset’s or cash-generating unit’s fair value less costs to sell and its value in raw materials and intensification of competition in the segment of paper
use. The recoverable amount is determined for an individual asset, unless the produced by Arctic Paper Mochenwangen.
asset does not generate cash inflows that are largely independent of those
With regards to the above indications the Group’s Management made a
from other assets or groups of assets. Where the carrying amount of an asset
decision to perform the impairment test using discounted cash flows
exceeds its recoverable amount, the asset is considered impaired and is
method. The impairment test revealed impairment loss in the amount of PLN
written down to its recoverable amount. In assessing value in use, the
16,186 thousand. Details regarding impairment test and its assumptions
estimated future cash flows are discounted to their present value using a
were presented in the following point.
pre-tax discount rate that reflects current market assessments of the time
value of money and the risks specific to the asset. Impairment losses of The recoverable amount of the cash-generating unit selling AP Tech,
continuing operations are recognised in the income statement in the expense L-Print and Pamo paper has been determined based on the value in use
categories consistent with the function of the impaired asset. calculation using cash flow projections from financial budgets approved
by the key management covering a five-year period from 2011-2015.
An assessment is made at each reporting date as to whether there is any
The pre-tax discount rate applied to the cash flow projections is 10.3%
indication that previously recognised impairment losses may no longer
and the cash flows beyond the five-year period are extrapolated using a
exist or may have decreased. If such indication exists, the Group makes an
1.6% growth rate.
estimate of recoverable amount. A previously recognised impairment loss is
reversed only if there has been a change in the estimates used to determine Key assumptions used in value in use calculations
the asset’s recoverable amount since the last impairment loss was
The calculation of value in use for Arctic Paper Mochenwangen cash-
recognised. If that is the case, the carrying amount of the asset is increased
generating unit is most sensitive to the following factors: Discount rates;
to its recoverable amount. That increased amount cannot exceed the
Increase in sales prices; Increase in energy prices; and Currency risk.
carrying amount that would have been determined, net of depreciation or
Discount rate represents the assessment made by the management of
amortisation, had no impairment loss been recognised for the asset in prior
the risks specific to the cash-generating unit. The discount rate is used
years. Such reversal is recognised immediately in the income statement,
by the management to assess the operating efficiency (results) and future
unless the asset is carried at revalued amount, in which case the reversal
investment propositions. In the budgeted period the discount rate amounts
is treated as a revaluation increase. After a reversal of an impairment loss is
to 8.1%. The discount rate was determined using the weighted average cost of
recognised, the depreciation (amortisation) charge for the asset is adjusted
capital (WACC).
in future periods to allocate the asset’s carrying amount, less its residual
value (if any), on a systematic basis over its remaining useful life. Increase in raw material prices (primarily prices of pulp) - assessments of
change in raw materials prices are made using the ratios published based
on the data regarding pulp prices. The main source of data used as a base
for assumptions is Internet site: www.foex.fi. It should be mentioned that pulp
prices are featured with high volatility.
Increase in energy prices - increase in energy prices, in particular coal
which is a basic source of the energy, results from the assumptions
used in the projections approved by the local management of Arctic Paper
Mochenwangen.

Accounting for asset impairment: a test for IFRS compliance across Europe 57
 Case B: Intangible assets (other than goodwill) -
Currency risk - the risk relates to the purchase cost of raw materials used for Faroe Petroleum, United Kingdom
production of paper, in particular to the purchase of pulp where costs are
incurred mainly in USD. In the projected period the USD/EUR exchange rate The sample excerpts presented below are selected disclosures from the
was set at the level of 0.7143. 2010 annual report and financial statements of Faroe Petroleum. These
Main assumptions used in calculation of value in use are presented in the footnotes highlight some of the information disclosed on intangible assets
table below. (other than goodwill) and the impairment of relevant non-current non-
financial assets based on IFRS.
Key assumption

Prognosis based on year 2011-2015 2. Accounting policies

Income tax rate 27,40%

Oil and gas expenditure - exploration and evaluation assets
Pre-tax discount rate 10,32% Capitalisation
Weighted average cost of capital 8,10% Pre-acquisition costs on oil and gas assets are recognised in the Income
Growth in residual period 1,60% Statement when incurred. Costs incurred after rights to explore have been
obtained, such as geological and geophysical surveys, drilling and
The following table presents the impairment loss recognised as at commercial appraisal costs and other directly attributable costs of
31 December 2010: exploration and appraisal including technical and administrative costs are
capitalised as intangible exploration and evaluation (“E&E”) assets. The
Balance value Value in assessment of what constitutes an individual E&E asset is based on
as at 31.12.2010 used by technical criteria but essentially either a single licence area or contiguous
31.12.2010 licence areas with consistent geological features are designated as
individual E&E assets.
Tangible assets, therein: 72,969 56,783
E&E costs are not amortised prior to the conclusion of appraisal activities.
 land 13,699 13,699 Once active exploration is completed the asset is assessed for impairment.
 buildings 1,754 1,269
If commercial reserves are discovered then the carrying value of the E&E
asset is reclassified as a development and production (“D&P”) asset,
 machinery and equipment 55,040 39,340 following development sanction, but only after the carrying value is
assessed for impairment and where appropriate its carrying value adjusted.
 assets under construction 2,475 2,475
If commercial reserves are not discovered the E&E asset is written off to the
Intangible assets 15,813 15,813 Income Statement.

Working capital 19,671 19,671

Cash and equivalents 6,958 6,958 Impairment

Total value 115,411 99,225 The Group’s oil and gas assets are analysed into cash generating units
(“CGU”) for impairment review purposes, with E&E asset impairment testing
Impairment recognised in profit and loss, 16,186
being performed at a grouped CGU level. The current CGU consists of
therein:
the Group’s whole E&E portfolio. E&E assets are reviewed for impairment
 machinery and equipment 15,700 when circumstances arise which indicate that the carrying value of an E&E
asset exceeds the recoverable amount. When reviewing E&E assets for
 buildings 486 impairment, the combined carrying value of the grouped CGU is compared
with the grouped CGU’s recoverable amount. The recoverable amount of a
The impairment loss amounting to PLN 16,186 thousand was recognised in
grouped CGU is determined as the higher of its fair value less costs to sell
consolidated income statement for the year ended 31 December 2010 in the position
and value in use. Impairment losses resulting from an impairment review are
cost of sales.
written off to the Income Statement.

58 Accounting for asset impairment: a test for IFRS compliance across Europe
4. Asset impairment Sensitivity to changes in assumptions

Key assumptions used in the value-in-use calculations For certain fields, a reasonably possible change in any of the above
assumptions would cause the estimated recoverable value to be lower than
The calculation of value-in-use for oil and gas assets under development or the carrying value, resulting in a further impairment loss. The assumptions
in production is most sensitive to the following assumptions: which would have the greatest impact on the recoverable amounts of the
 Production volumes; fields are production volumes and commodity prices.

 Commodity prices;
 Fixed and variable operating costs; Impairment losses

 Capital expenditure; and The asset impairment in 2010 of £5,896,000 (2009: £3,647,000) is primarily for
the Glitne field (£3,852,000) (2009: nil) although the Schooner, Topaz, Wissey
 Discount rates.
and Enoch fields have also been impaired to a lesser degree. The Glitne field
Production volumes/recoverable reserves - Annual estimates of oil and operator’s increase in estimated abandonment costs for Glitne account for the
gas reserves are generated internally by the company’s reservoir engineers. majority of the impairment. A revision in the reserve base for Topaz occurred
These are reported annually to the Board in conjunction with an externally when the Group moved from external to internal reserve estimates. The
generated Competent Persons Report (“CPR”). The self certified estimated impairment on Wissey is due to a mismatch between the reserves used in the
future production profiles are used in the life of the fields which in turn are valuation calculation and those used in the depreciation calculation, due to a
used as a basis in the value-in-use calculation. “back-out agreement” with the owners of the Horne & Wren fields nearby.
Schooner was written down due mainly to a lower long term gas price and
Commodity prices - Published forward prices for natural gas and Brent Enoch was written down due to small changes in reserve estimates.
oil are used for the first three years of future cash flow and a flat real price
thereafter, in accordance with the Company’s corporate assumptions.
Field specific discounts and prices are used where applicable.
Fixed and variable operating costs - Typical examples of variable
operating costs are pipeline tariffs, treatment charges and freight costs.
Commercial agreements are in place for most of these costs and the
assumptions used in the value-in-use calculation are sourced from these
where available. Examples of fixed operating costs are platform costs and
operator overheads. Fixed operating costs are based on operator budgets.
Capital expenditure - Field development is capital intensive and future
capital expenditure has a significant bearing on the value of an oil and gas
development asset. In addition, capital expenditure may be required for
producing fields to increase production and/or extend the life of the field.
Cost assumptions are based on operator budgets or specific contracts
where available.
Discount rates - Discount rates reflect the current market assessment of
the risks specific to the oil and gas sector and are based on the weighted
average cost of capital for the Group. Where appropriate, the rates are
adjusted to reflect the market assessment of any risk specific to the field for
which future estimated cash flows have not been adjusted. The Company
has applied a discount rate of 10% for the current year (2009: 10%).

Accounting for asset impairment: a test for IFRS compliance across Europe 59
Case C: Goodwill - Glaston Corporation, Finland
Impairment of assets
The sample disclosures presented below have been extracted from the
Annual impairment tests for goodwill are performed during the fourth quarter
2010 annual report and financial statements of Glaston Corporation.
of the year. If there is, however, an indication of impairment of goodwill, the
The selected footnotes from this company highlight some of the key impairment tests for goodwill are performed earlier during the reporting
information that is disclosed for goodwill and its impairment as part of period. Other assets of the Group are evaluated at the end of each reporting
required disclosures for non-current non-financial assets under IFRS. period or at any other time, if events or circumstances indicate that the value of
an asset has been impaired. If there are indications of impairment, the asset’s
Note 1 - Summary of significant accounting policies recoverable amount is estimated, based on the higher of an asset’s fair value
less costs to sell and value in use. An impairment loss is recognized in profit or
Goodwill loss whenever the carrying amount of an asset or cash generating unit
exceeds its recoverable amount. If subsequently recording the impairment
Goodwill represents the excess of the acquisition cost over fair value of loss a positive change has occurred in the estimates of the recoverable
the assets less liabilities of the acquired entity. Goodwill arising from the amount, the impairment loss made in prior years is reversed no more than up
acquisition of foreign entities of acquisitions made after 1 January, 2004, to the value which would have been determined for the asset, net of
is treated as an asset of the foreign entity and translated at the closing amortization or depreciation, had impairment loss not been recognized in
exchange rates at the end of the reporting period. Goodwill arising from prior years. For goodwill, a recognized impairment loss is not reversed.
the acquisitions of foreign entities made before 1 January, 2004, has
been translated into Euros at the foreign exchange rate prevailing on the Cash flow projections have been calculated on the basis of reasonable and
acquisition date. supportable assumptions. They are based on the most recent financial plans
and forecasts that have been approved by management. Estimated cash
Acquisitions made after 1 January, 2004, have been recognized in flows are used for a maximum of five years. Cash flow projections beyond
accordance with IFRS 3. Purchase consideration has been allocated to the period covered by the most recent plans and forecasts are estimated by
intangible assets, if they have met the recognition criteria stated in IAS 38 extrapolating the projections using a steady or declining growth rate. The
(Intangible Assets). Acquisitions made before 1 January, 2004, have not discount rate is the weighted average cost of capital. It is a pre-tax rate and
been restated to be in accordance with IFRS-standards. The revised reflects current market assessments of the time value of money at the time of
IFRS 3 standard will be applied for business combinations made after 1 review and the risks related to the assets.
January, 2010. In accordance with IFRS 3 Business Combinations, goodwill
is not amortized. The carrying amount of goodwill is tested annually for
impairment. The testing is made more frequently if there are indications of
impairment of the goodwill. Any possible impairment loss is recognized
immediately in profit or loss.
Glaston’s goodwill has been reallocated to reportable segments in 2010.
Previously the estimated benefits to the segments arising from the One-
Stop-Partner sales had an effect on the goodwill allocated to the segments.
Currently Glaston no longer markets the One-Stop-Partner concept, which
has resulted in reallocation of goodwill between the reportable segments.
In addition, the change of IFRS standards in the beginning of 2010 resulted
in a change the allocation of goodwill. The goodwill, which was previously
allocated to the Machines reportable segment, had to be reallocated to the
operating segments within the Machines reportable segment
(Heat Treatment, Pre-processing and Tools).

60 Accounting for asset impairment: a test for IFRS compliance across Europe
Note 13-Depreciation, amortization and impairment of assets

Impairment of assets
Glaston’s cash generating units consist of reportable segments, generating cash flows, which are largely independent of the cash flows of other reportable segments.
Glaston’s goodwill has been reallocated to reportable segments in 2010. In addition, the goodwill allocated to the Machines reportable segment has been allocated further
to the operating segments within the Machines reportable segment (Heat Treatment, Pre-processing and Tools).
Goodwill and intangible assets with indefinite useful life are tested annually in accordance with IAS 36 for impairment. Glaston does not have other intangible assets
than goodwill with indefinite useful life and which are not amortized. Intangible assets not yet in use are also tested during the reporting period for impairment.
Impairment testing is performed also always when there is indication that the recoverable amount of an asset or cash generating unit is lower than its carrying amount.
Goodwill has been tested for impairment by comparing the recoverable amount of the cash generating unit, to which the goodwill has been allocated, with the carrying
amount of the cash generating unit. Impairment loss has been recorded if the recoverable amount is lower than the carrying amount. Consistent methods have been
used in testing property, plant and equipment and intangible assets.
The recoverable amount of a cash generating unit is its value in use, based on its discounted future cash flows. These cash flows are mainly based on the budgets
and estimates approved by the management. Budgets and estimates are used as a basis of the future cash flows for a maximum of five years. Subsequent cash flows
are estimated by extrapolating the cash flow estimates. Terminal values have been calculated using Western European long-range growth rate if Western Europe has
been considered to be the main market area of the cash-generating unit. If the main market areas are considered to have moved or to move over to other areas, such
as Asia, where the estimated growth is expected to be higher than in the Western Europe, this growth have been taken into account in terminal value. This can be seen
in the higher terminal year growth rates in these cash generating units. If the asset has been classified as held for sale, the recoverable amount used is the fair value of
the asset, less costs of sale.
The assumptions used in value in use calculations are mainly the same as used in budgets. Cash flows based on the assumptions have, however, been adjusted
so that the future cash flows used in impairment testing exclude any cash flows from uncommitted future restructuring, and cash flows arising from improving or
enhancing the asset’s performance. The cash flows of restructuring programs, in which the Group was committed at the date of the testing, are included in testing.
The assumptions used in impairment calculations, such as, for example development of markets and price development of products, are based on past experience
and information gathered from external sources. Based on this information Glaston has arrived at the assumptions used in estimates. The cash flows are not expected
to recover to the pre-recession level immediately but during several years. The fundamentals of the business are, however, expected to remain unchanged, so the
development of the subsequent years is expected to be positive compared with 2010. If the recovery of the industry is further postponed or slows down, that will have
a negative effect on the future cash flows. As the geographical focus of the business is moving toward areas with higher economical growth it balances the financial
effects of a possibly slower recovery in Western Europe.
The profitability assumptions used in the impairment testing are based on the restructuring programs carried out as well as initiated during 2010, which are expected to
result in significant cost savings. The cash flow effects of the restructuring programs are taken into account in the calculations. In addition, the effects of the ongoing net
working capital improvement program during the forecast period have a positive impact on the estimated cash.
The discount rate used in arriving at recoverable amount is the pre-tax weighted average cost of capital, which reflects the market assessment of time value of
money and risks specified to the assets and the countries where the segments operate. Also the industry’s median capital structure has been taken into account in
determining the discount rate as well as Glaston’s cost of debt, which has increased from the previous year.
There are no major changes in the sources of information used in determining the discount rate. The importance of the different geographical areas has changed due to the
change in the geographical focus of business. This has had an impact on defining the risk-free interest rates and country risk premiums.
Discount rates have been calculated separately for each operating segment, and they can vary between the segments. The discount rate of each segment depends,
among other things, on the geographical allocation of cash flows in each segment as well as the relative importance of these cash flows. These can differ between
the segments.

Accounting for asset impairment: a test for IFRS compliance across Europe 61
 Discount rates of segments are not fully compared with the rates used in 2009 2009 impairment testing of goodwill was performed using the goodwill
due to the changes in, for example, geographical allocation of cash flows in the allocated to the segments at the time the tests were performed.
segment, especially in the operating segments within the Machines segment.
Goodwill (EUR million)
As the Software Solutions segment has remained unchanged, its discount rate
is comparable.
Segment Allocated in Impairment 31 December,
2010 loss 2010
The most significant Machines: Machines: Machines:
assumptions used in value Heat Pre- Tools Machines
in use calculations in 2010 Treatment processing
Heat Treatment 4.1 - 4.1
Pre-tax discount rate 11.9% 13.2% 14.5%
Pre-processing 19.0 -5.8 13.2
Long-term growth rate 2.5% 3.0% 2.0%
Tools 5.7 - 5.7

Services 16.8 - 16.8

The most significant Services Software
Software Solutions 12.8 - 12.8
assumptions used in value Solutions
in use calculations in 2010 Total 58.4 -5.8 52.6

Pre-tax discount rate 13.2% 12.4% -

Long-term growth rate 2.0% 2.0% - Segment Allocated in Impairment 31 December,

2009 loss 2009

Machines 43.1 -6.4 36.8

The most significant Machines Services Software
assumptions used in Solutions Services 10.7 -1.4 9.3
value in use calculations
in 2009 Software Solutions 12.3 - 12.3

Pre-tax discount rate 12.9% 12.2% 10.9% Total 66.2 -7.8 58.4

Long-term growth rate 2.0% 2.0% 2.0% Sensitivity analysis

The recoverable amounts used in impairment testing are subject to change
Impairment testing of goodwill
if the assumption used in calculation of the recoverable amounts changes.
Glaston’s goodwill has been reallocated to reportable segments in 2010.
The management estimates, that in most cases, a reasonably possible
Previously the estimated benefits to the segments arising from the
change in a key assumption of the Services and the Software Solutions
One-Stop-Partner sales had an effect on the goodwill allocated to the
segments as well as in the Heat Treatment and Tools operating segments
segments. Currently Glaston no longer markets the One-Stop-Partner
within the Machines segment does not cause the cash generating unit’s
concept, which has resulted in reallocation of goodwill between the
carrying amount to exceed its recoverable amount. The cases in which a
reportable segments. In addition, the change of IFRS standards in the
reasonably possible change in a key assumption would cause the carrying
beginning of 2010 resulted in a change the allocation of goodwill. The goodwill,
amount of a cash generating unit to exceed its recoverable amount are
which was previously allocated to the Machines reportable segment, had to be
presented below.
reallocated to the operating segments within the Machines reportable segment
(Heat Treatment, Pre-processing and Tools). The recoverable amounts of these cash generating units exceed their
carrying amounts by 117 percent in the Services segment, by 43 percent
in the Software Solutions segment, by 21 percent in the Heat Treatment
operating segment and by 24 percent in the Tools operating segment.

62 Accounting for asset impairment: a test for IFRS compliance across Europe
A change in an assumption which, other things being equal, would cause
Note 5-Segment information
the recoverable amount to equal the carrying amount is presented in the
table below. Goodwill, depreciation, amortization and impairment losses by segment

2010 2009
Post-tax Value assigned to Change
discount rate* the assumption Goodwill, EUR million:
Increase of 3.5 Machines 23.0 36.8
Services 10%
percentage points
Services 16.8 9.3
Software Increase of 3.25
9.5% Software Solutions 12.8 12.3
Solutions percentage points

Increase of 1.5 Segments total 52.6 58.4

Heat Treatment 10%
percentage points

Increase of 2.5
Tools 11.1% 2010 2009
percentage points
Depreciation and amortization by
segment, EUR thousand:
Long-term Value assigned to Change
Machines 4,017 3,736
growth rate* the assumption
Services 633 1,339
Decrease of 5.5
Services 2.0%
percentage points Software Solutions 1,949 2,020

Software Decrease of 4.75 Segments total 6,599 7,094

2.0%
Solutions percentage points
Unallocated 909 1,304
Decrease of 2
Heat Treatment 2.5% Total depreciation and amortization 7,508 8,398
percentage points

Decrease of 3.5
Tools 2.0%
percentage points
2010 2009
*The consequential effects of the change in the assumption on other variables used to measure
Impairment loss and reversals of
recoverable amounts have not been incorporated in the sensitivity analysis.
impairment loss of property, plant and
The sensitivity analyses of the Pre-processing operating segment within equipment and intangible assets, net*
the Machines segment have been performed by calculating the effect of
the possible changes in the key assumptions on the impairment loss of Machines 6,572 7,479
goodwill recognized. Glaston’s management estimates that there are no
Services** 907 2,607
grounds to perform the goodwill impairment testing in the Pre-processing
operating segment using fair value less costs of sale instead of value in use. Software Solutions -633 1,167

Sensitivity analysis of the Pre-processing operating segment Segments total 6,846 11,253

Unallocated 186 1,200

Assumption Change in Increase in impairment loss
assumption of goodwill, EUR million Total impairment losses 7,032 12,453

*Includes impairment loss of goodwill

**Includes EUR 0.7 million impairment losses arising from non-current assets held for sale
Post-tax discount +0.5 percentage EUR 2.0 million
rate* points

Long-term -0.5 percentage points EUR 1.5 million

growth rate*

*The consequential effects of the change in the assumption on other variables used to measure
recoverable amounts have not been incorporated in the sensitivity analysis.

Accounting for asset impairment: a test for IFRS compliance across Europe 63
64 Accounting for asset impairment: a test for IFRS compliance across Europe
Accounting for asset impairment: a test for IFRS compliance across Europe 65