International Financial Reporting Standard (IFRS) 5 «Non-current Assets Held for Sale and Discontinued Operations»

Presentation of non-current assets held for sale__________________________________________________________________________________________

BC56 SFAS 144 requires an entity to present:

(a) a long-lived asset classified as held for sale separately in the balance sheet; and

(b) the assets and liabilities of a disposal group classified as held for sale separately in the asset and liability sections of the balance sheet. The major classes of those assets and liabilities are separately disclosed either on the face of the balance sheet or in the notes.

BC57 In the Basis for Conclusions on SFAS 144 the FASB noted that information about the nature of both assets and liabilities of a disposal group is useful to users. Separately presenting those items in the balance sheet provides information that is relevant. Separate presentation also distinguishes those assets that are not being depreciated from those that are being depreciated. The Board agreed with the FASB’s views.

BC58 Respondents to ED 4 noted that the separate presentation within equity of amounts relating to assets and disposal groups classified as held for sale (such as, for example, unrealised gains and losses on available-for-sale assets and foreign currency translation adjustments) would also provide useful information. The Board agreed and has added such a requirement to the IFRS.

Timing of classification as, and definition of, discontinued operations_____________________________________________________________________________________

BC59 With the introduction of SFAS 144, the FASB broadened the scope of a discontinued operation from a ‘segment of a business’ to a ‘component of an entity’. A component is widely drawn, the criterion being that it comprises ‘operations and cash flows that can be clearly distinguished, operationally and for financial reporting purposes, from the rest of the entity’. SFAS 144 states that a component may be a segment, a reporting unit, a subsidiary or an asset group.

BC60 However, at the same time, the FASB specified more restrictive criteria for determining when the component is classified as discontinued and hence when its results are presented as discontinued. SFAS 144 requires a component to be classified as discontinued only if it has been disposed of or if it meets the criteria for classification as an asset ‘held for sale’.

BC61 The definition of a discontinuing operation in IAS 35 as a ‘major line of business’ or ‘geographical area of operations’ is closer to the former, and narrower, US GAAP definition. The trigger in IAS 35 for classifying the operation as discontinuing is the earlier of (a) the entity entering into a binding sale agreement and (b) the board of directors approving and announcing a formal disposal plan. Although IAS 35 refers to IAS 37 Provisions, Contingent Liabilities and Contingent Assets for further guidance on what constitutes a plan, the criteria are less restrictive than those in SFAS 144.

BC62 Paragraph 12 of the Framework states that the objective of financial statements is to provide information about the financial position, performance and changes in financial position of an entity that is useful to a wide range of users in making economic decisions. Paragraph 15 of the Framework goes on to state that the economic decisions that are taken by users of financial statements require an evaluation of the ability of an entity to generate cash and cash equivalents. Separately highlighting the results of discontinued operations provides users with information that is relevant in assessing the ongoing ability of the entity to generate cash flows.

BC63 In terms of the timing of classifying an operation as discontinued, the Board considered whether more useful information is provided by making the classification conditional upon a firm decision to discontinue an operation (the current IAS 35 approach) or conditional upon the classification of an operation as held for sale.

BC64 The Board decided that, to be consistent with the presentation of assets held for disposal and in the interests of convergence, an operation should be classified as discontinued when it is disposed of or classified as held for sale.

BC65 IAS 35 also adopts a different approach from US GAAP when criteria for classification as discontinued are met after the period-end but before the financial statements are issued. SFAS 144 requires some disclosure; however, the component is not presented as a discontinued operation. IAS 35 requires the component to be classified as discontinuing.

BC66 The Board believes that, consistently with IAS 10 Events after the Balance Sheet Date, a component should not be classified as discontinued in the financial statements unless it meets the criteria to be so classified at the balance sheet date.

BC67 In terms of the definition of a discontinued operation, ED 4 proposed adopting the SFAS 144 definition of a discontinued operation. The Board argued that under existing IAS 35 there may be disposal transactions that, although likely to have an impact on the ongoing operations of the entity, do not meet the criteria for classification as a discontinuing activity. For example, an entity might dispose of a significant portion, but not all, of its cash-generating units operating in a particular geographical area. Under IAS 35, that might not meet the definition of a discontinuing operation. Under SFAS 144, if the relevant criteria were met, it would.

BC68 However, a substantial majority of respondents to ED 4 disagreed with this proposal. They preferred instead to retain the IAS 35 criterion that a discontinued operation should be a major line of business or geographical area of operations.

BC69 The Board reconsidered the issue in the light of the comments received and concluded that the size of unit that could be classified as discontinued in accordance with SFAS 144 was too small, with the result that the information provided by separately presenting discontinued operations may not be as useful as it could be.

BC70 The Board also noted that the FASB Emerging Issues Task Force (EITF) is considering practical problems that have arisen in implementing the criteria for discontinued operations in SFAS 144. Specifically, the EITF is considering (a) the cash flows of the component that should be considered in the determination of whether cash flows have been or will be eliminated from the ongoing operations of the entity and (b) the types of continuing involvement that constitute significant continuing involvement in the operations of the disposal component. As a result of these practical problems, the Board further concluded that it was not appropriate to change the definition of a discontinued operation in a way that was likely to cause the same problems in practice as have arisen under SFAS 144.

BC71 The Board therefore decided that it would retain the requirement in IAS 35 that a discontinued operation should be a major line of business or geographical area of operations, noting that this will include operations that would have been excluded from the US definition before SFAS 144, which was based on a reporting segment. However, the Board regards this as an interim measure and intends to work with the FASB to arrive at a converged definition within a relatively short time.

BC72 Lastly, the Board considered whether newly acquired subsidiaries that meet the criteria to be classified as held for sale should always be classified as discontinued. The Board concluded that they should be so classified because they are being disposed of for one of the following reasons:

(a) the subsidiary is in a different line of business from the entity, so disposing of it is similar to disposing of a major line of business.

(b) the subsidiary is required to be disposed of by regulators because the entity would otherwise have too much of a particular type of operation in a particular geographical area. In such a case the subsidiary must be a significant operation.

Presentation of discontinued operations_____________________________________________________________________________________

BC73 SFAS 144 requires the results of a discontinued operation to be presented as a separate component in the income statement (net of income tax) for all periods presented.

BC74 IAS 35 did not require the results of a discontinuing operation to be presented as a net amount on the face of the income statement. Instead, specified items are disclosed either in the notes or on the face of the income statement.

BC75 In ED 4, the Board noted that it was considering the presentation of discontinued operations in the income statement in its project on reporting comprehensive income and that it did not wish to prejudge the outcome of that project by changing the requirements of IAS 35 in respect of the components to be disclosed. Given that the project on reporting comprehensive income will not be completed as soon as previously expected, the Board decided to proceed with its decisions on the presentation of discontinued operations in this IFRS.

BC76 The Board believes that discontinued operations should be shown in a section of the income statement separately from continuing operations because of the different cash flows expected to arise from the two types of operations. The Board concluded that it is sufficient to show a single net figure for discontinued operations on the face of the income statement because of the limited future cash flows expected to arise from the operations. The IFRS therefore permits an analysis of the single net amount to be presented either in the notes or on the face of the income statement.

BC77 A substantial majority of the respondents to ED 4 supported such a presentation.

Transitional arrangements___________________________________________________________________________________

BC78 Some respondents to ED 4 noted that there could be difficulties in obtaining the information necessary to apply the IFRS retrospectively. The Board agreed that hindsight might be involved in determining at what date assets or disposal groups met the criteria to be classified as held for sale and their fair value at that date. Problems might also arise in separating the results of operations that would have been classified as discontinued operations in prior periods and that had been derecognised in full before the effective date of the IFRS.

BC79 The Board therefore decided to require application of the IFRS prospectively and allow retrospective application only when the necessary information had been obtained in the prior periods in question.

Terminology____________________________________________________________________________________

BC80 Two issues of terminology arose in developing the IFRS:

(a) the use of the term ‘probable’ and

(b) the use of the term ‘fair value less costs to sell’.

BC81 In SFAS 144, the term probable is described as referring to a future sale that is ‘likely to occur’. For the purposes of IFRSs, probable is defined as ‘more likely than not’. To converge on the same meaning as SFAS 144 and to avoid using the term ‘probable’ with different meanings in IFRSs, this IFRS uses the phrase ‘highly probable’. The Board regards ‘highly probable’ as implying a significantly higher probability than ‘more likely than not’ and as implying the same probability as the FASB’s phrase ‘likely to occur’. This is consistent with the Board’s use of ‘highly probable’ in IAS 39.

BC82 The measurement basis ‘fair value less costs to sell’ used in SFAS 144 is the same as the measurement ‘net selling price’ used in IAS 36 (as issued in 1998). SFAS 144 defines fair value of an asset as ‘the amount at which that asset could be bought or sold in a current transaction between willing parties, that is, other than in a forced or liquidation sale’, and costs to sell as ‘the incremental direct costs to transact a sale, that is, the costs that result directly from and are essential to a sale transaction and that would not have been incurred by the entity had the decision to sell not been made.’ IAS 36 defines net selling price as the amount obtainable from the sale of an asset in an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal. Costs of disposal are incremental costs directly attributable to the disposal of an asset, excluding finance costs and income tax expenses.

BC83 The Board considered using the phrase ‘net selling price’ to be consistent with IAS 36. However, it noted that ‘fair value’ is used in many IFRSs. The Board concluded that it would be preferable to use the same phrase as SFAS 144 so that it is clear that convergence on this point had been achieved and to amend IAS 36 so that the terminology in IAS 36 is consistent with other IFRSs. Therefore, a consequential amendment made by IFRS 5 replaces ‘net selling price’ with ‘fair value less costs to sell’ throughout IAS 36.

Summary of changes from ED 4_____________________________________________________________________________________________

BC84 The major changes from the proposals in ED 4 are:

(a) clarification that assets classified as non-current are not reclassified as current until they meet the criteria to be classified as held for sale (paragraph BC10).

(b) goodwill and financial assets under leases are included in the scope of the measurement provisions of the IFRS (paragraphs BC8-BC14).

(c) non-current assets carried at fair value with changes recognised in profit or loss are excluded from the measurement provisions of the IFRS (paragraphs BC8-BC14).

(d) assets that are revalued in accordance with IAS 16 or IAS 38 are, when classified as held for sale, treated consistently with assets that had not previously been revalued (paragraphs BC47 and BC48).

(e) the allocation of an impairment loss on a disposal group is consistent with the order of allocation of impairment losses in IAS 36 (paragraphs BC39-BC41).

(f) the criterion in IAS 35 that a discontinued operation should be a major line of business or area of geographical operations has been added (paragraphs BC67-BC71).

(g) discontinued operations can be presented on the face of the income statement as a single amount (paragraphs BC73-BC77).

Comparison with relevant aspects of SFAS 144___________________________________________________________________________________________

BC85 The following table sets out the extent of convergence with SFAS 144:

Dissenting opinions on IFRS 5

Dissent of Anthony T Cope and Harry K Schmid

DO1 Messrs Cope and Schmid dissent from the issue of IFRS 5.

Dissent of Anthony T Cope

DO2 Mr Cope dissents because, in his view, the IFRS fails to meet fully the needs of users in this important area.

DO3 In deciding to undertake this project, the Board had two objectives—to improve users’ ability to assess the amount, timing and uncertainty of future cash flows, and to converge with US GAAP. The ability to identify assets (or asset groups) whose value will be recovered principally through sale rather than through operations has significant implications for future cash flows. Similarly, separate presentation of discontinued operations enables users to distinguish those parts of a business that will not contribute to future cash flows.

DO4 The importance of identifying and disaggregating these components was emphasised in the 1994 report of the Special Committee on Financial Reporting of the American Institute of Certified Public Accountants (the AICPA Jenkins Committee). The Jenkins Committee report, arguably the most extensive and authoritative survey of user needs ever undertaken, recommended that:

[The definition of discontinued operations] should be broadened to include all significant discontinued operations whose assets and results of operations and activities can be distinguished physically and operationally and for business reporting purposes.

The sections of SFAS 144 dealing with discontinued operations were the direct response of the FASB to this recommendation.

DO5 Indeed, the Board appeared to agree in its initial deliberations. In ED 4, the Board stated:

[The Board] further concluded that the definition of discontinued operations in SFAS 144 leads to more useful information being presented and disclosed for a wider range of operations than did the existing definition in IAS 35. That information is important to users in their assessment of the amount, timing and uncertainty of future cash flows.

Mr Cope continues to agree with that statement.

DO6 However, the Board ultimately has decided to retain the definition in IAS 35, thus failing to gain convergence on an important point in a project designed to achieve such convergence, and failing to respond to the stated needs of users.

DO7 The reason given for the Board’s action is that implementation problems with SFAS 144 have emerged in the US. (Most of these problems seem to be with the guidance concerning the definition in SFAS 144, rather than the definition itself.) In paragraph BC71, the Board describes its action as an interim measure, and plans to work with the FASB to arrive promptly at a converged solution. In Mr Cope’s view, it would have been much preferable to have converged first, and then dealt with any implementation problems jointly with the FASB.

Dissent of Harry K Schmid

DO8 The main reasons for Mr Schmid’s dissent are:

(a) depreciation/amortisation of non-current assets that are still in active use should not cease only because of a management decision to sell the assets that has not yet been fully carried out; and

(b) measurement of assets should not be based on a management decision that has not yet been fully carried out, requiring a very rule-based Standard.

DO9 Mr Schmid believes that not depreciating/amortising assets classified as held for sale but still in active use is conceptually wrong and is especially problematic for discontinued operations because such operations represent a separate major line of business or geographical area of operations. Mr Schmid does not accept that measurement at the lower of carrying amount and fair value less costs to sell acts as a proxy for depreciation because, in most such cases, the fair value less costs to sell will be higher than the carrying amount as the fair value of such disposal groups will often reflect internally generated goodwill. Therefore, non-current assets in such disposal groups will simply remain at their carrying amounts even though they are still actively used, up to one year or even longer. In addition, the net profit shown separately in the income statement for discontinued operations will not be meaningful because depreciation/amortisation charges are not deducted for the continued use of the assets and this profit cannot be compared with the information restated in comparative periods where depreciation had been charged.

DO10 The proposed classification ‘held for sale’ and resulting measurement of non-current assets (or disposal groups) so classified is based on a management decision that has not yet been fully carried out and demands detailed (anti-abuse) rules to define the classification and to fix the time boundaries during which these assets can remain within the classification. The final result is, in Mr Schmid’s view, an excessively detailed and rule-based Standard.

DO11 Mr Schmid believes that a more simple and straightforward solution would have been possible by creating a special category of non-current assets retired from active use. The concept ‘retired from active use’ would have been simple to apply and management intentions would be removed from the Standard. The classification would equally apply to any form of disposal (sale, abandonment, exchange, spin-off etc); no detailed (anti-abuse) rules and no illustrations would be necessary and the Standard would be simple and based on a clear and unambiguous principle. Mr Schmid, on this point, does not agree with the conclusions in paragraph BC18 that a classification ‘retired from active use’ would not require fewer criteria to support it than the category ‘assets held for sale’.

DO12 Mr Schmid agrees with paragraph BC17 of the Basis for Conclusions, but in order to provide information of intended sales of non-current assets, especially discontinued operations, disclosure could have been required to take effect as soon as such assets are likely to be sold, even if they are still in active use.

DO13 Mr Schmid is fully in favour of seeking, whenever possible, convergence with US GAAP, but only if the converged solution is of high quality. He is of the opinion that this is not the case for this Standard for the reasons given.

IFRS 5 IG

Contents

GUIDANCE ON IMPLEMENTING IFRS 5 NON-CURRENT ASSETS HELD FOR SALE AND DISCONTINUED OPERATIONS

Guidance on implementing

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations

This guidance accompanies, but is not part of, IFRS 5.

Availability for immediate sale (paragraph 7)____________________________________________________________________________________________

To qualify for classification as held for sale, a non-current asset (or disposal group) must be available for immediate sale in its present condition subject only to terms that are usual and customary for sales of such assets (or disposal groups) (paragraph 7). A non-current asset (or disposal group) is available for immediate sale if an entity currently has the intention and ability to transfer the asset (or disposal group) to a buyer in its present condition. Examples 1-3 illustrate situations in which the criterion in paragraph 7 would or would not be met.

Example 1

An entity is committed to a plan to sell its headquarters building and has initiated actions to locate a buyer.

(a) The entity intends to transfer the building to a buyer after it vacates the building. The time necessary to vacate the building is usual and customary for sales of such assets. The criterion in paragraph 7 would be met at the plan commitment date.

(b) The entity will continue to use the building until construction of a new headquarters building is completed. The entity does not intend to transfer the existing building to a buyer until after construction of the new building is completed (and it vacates the existing building). The delay in the timing of the transfer of the existing building imposed by the entity (seller) demonstrates that the building is not available for immediate sale. The criterion in paragraph 7 would not be met until construction of the new building is completed, even if a firm purchase commitment for the future transfer of the existing building is obtained earlier.

Example 2

An entity is committed to a plan to sell a manufacturing facility and has initiated actions to locate a buyer. At the plan commitment date, there is a backlog of uncompleted customer orders.

(a) The entity intends to sell the manufacturing facility with its operations. Any uncompleted customer orders at the sale date will be transferred to the buyer. The transfer of uncompleted customer orders at the sale date will not affect the timing of the transfer of the facility. The criterion in paragraph 7 would be met at the plan commitment date.

(b) The entity intends to sell the manufacturing facility, but without its operations. The entity does not intend to transfer the facility to a buyer until after it ceases all operations of the facility and eliminates the backlog of uncompleted customer orders. The delay in the timing of the transfer of the facility imposed by the entity (seller) demonstrates that the facility is not available for immediate sale. The criterion in paragraph 7 would not be met until the operations of the facility cease, even if a firm purchase commitment for the future transfer of the facility were obtained earlier.

Example 3

An entity acquires through foreclosure a property comprising land and buildings that it intends to sell.

(a) The entity does not intend to transfer the property to a buyer until after it completes renovations to increase the property’s sales value. The delay in the timing of the transfer of the property imposed by the entity (seller) demonstrates that the property is not available for immediate sale. The criterion in paragraph 7 would not be met until the renovations are completed.

(b) After the renovations are completed and the property is classified as held for sale but before a firm purchase commitment is obtained, the entity becomes aware of environmental damage requiring remediation. The entity still intends to sell the property. However, the entity does not have the ability to transfer the property to a buyer until after the remediation is completed. The delay in the timing of the transfer of the property imposed by others before a firm purchase commitment is obtained demonstrates that the property is not available for immediate sale. The criterion in paragraph 7 would not continue to be met. The property would be reclassified as held and used in accordance with paragraph 26.

Completion of sale expected within one year (paragraph 8) Example 4_____________________________________________________________________________________________

To qualify for classification as held for sale, the sale of a non-current asset (or disposal group) must be highly probable (paragraph 7), and transfer of the asset (or disposal group) must be expected to qualify for recognition as a completed sale within one year (paragraph 8). That criterion would not be met if, for example:

(a) an entity that is a commercial leasing and finance company is holding for sale or lease equipment that has recently ceased to be leased and the ultimate form of a future transaction (sale or lease) has not yet been determined.

(b) an entity is committed to a plan to ‘sell’ a property that is in use, and the transfer of the property will be accounted for as a sale and finance leaseback.

Exceptions to the criterion in paragraph 8_____________________________________________________________________________________________

An exception to the one-year requirement in paragraph 8 applies in limited situations in which the period required to complete the sale of a non-current asset (or disposal group) will be (or has been) extended by events or circumstances beyond an entity’s control and specified conditions are met (paragraphs 9 and B1). Examples 5-7 illustrate those situations.

Example 5

An entity in the power generating industry is committed to a plan to sell a disposal group that represents a significant portion of its regulated operations. The sale requires regulatory approval, which could extend the period required to complete the sale beyond one year. Actions necessary to obtain that approval cannot be initiated until after a buyer is known and a firm purchase commitment is obtained. However, a firm purchase commitment is highly probable within one year. In that situation, the conditions in paragraph B1(a) for an exception to the one-year requirement in paragraph 8 would be met.

Example 6

An entity is committed to a plan to sell a manufacturing facility in its present condition and classifies the facility as held for sale at that date. After a firm purchase commitment is obtained, the buyer's inspection of the property identifies environmental damage not previously known to exist. The entity is required by the buyer to make good the damage, which will extend the period required to complete the sale beyond one year. However, the entity has initiated actions to make good the damage, and satisfactory rectification of the damage is highly probable. In that situation, the conditions in paragraph B1(b) for an exception to the one-year requirement in paragraph 8 would be met.

Example 7

An entity is committed to a plan to sell a non-current asset and classifies the asset as held for sale at that date.

(a) During the initial one-year period, the market conditions that existed at the date the asset was classified initially as held for sale deteriorate and, as a result, the asset is not sold by the end of that period. During that period, the entity actively solicited but did not receive any reasonable offers to purchase the asset and, in response, reduced the price. The asset continues to be actively marketed at a price that is reasonable given the change in market conditions, and the criteria in paragraphs 7 and 8 are therefore met. In that situation, the conditions in paragraph B1(c) for an exception to the one-year requirement in paragraph 8 would be met. At the end of the initial one-year period, the asset would continue to be classified as held for sale.

(b) During the following one-year period, market conditions deteriorate further, and the asset is not sold by the end of that period. The entity believes that the market conditions will improve and has not further reduced the price of the asset. The asset continues to be held for sale, but at a price in excess of its current fair value. In that situation, the absence of a price reduction demonstrates that the asset is not available for immediate sale as required by paragraph 7. In addition, paragraph 8 also requires an asset to be marketed at a price that is reasonable in relation to its current fair value. Therefore, the conditions in paragraph B1(c) for an exception to the one-year requirement in paragraph 8 would not be met. The asset would be reclassified as held and used in accordance with paragraph 26.

Determining whether an asset has been abandoned_____________________________________________________________________________________

Paragraphs 13 and 14 of the IFRS specify requirements for when assets are to be treated as abandoned. Example 8 illustrates when an asset has not been abandoned.

Example 8

An entity ceases to use a manufacturing plant because demand for its product has declined. However, the plant is maintained in workable condition and it is expected that it will be brought back into use if demand picks up. The plant is not regarded as abandoned.

Presenting a discontinued operation that has been abandoned____________________________________________________________________________________

Paragraph 13 of the IFRS prohibits assets that will be abandoned from being classified as held for sale. However, if the assets to be abandoned are a major line of business or geographical area of operations, they are reported in discontinued operations at the date at which they are abandoned. Example 9 illustrates this.

Example 9

In October 2005 an entity decides to abandon all of its cotton mills, which constitute a major line of business. All work stops at the cotton mills during the year ended 31 December 2006. In the financial statements for the year ended 31 December 2005, results and cash flows of the cotton mills are treated as continuing operations. In the financial statements for the year ended 31 December 2006, the results and cash flows of the cotton mills are treated as discontinued operations and the entity makes the disclosures required by paragraphs 33 and 34 of the IFRS.

Allocation of an impairment loss on a disposal group________________________________________________________________________________________

Paragraph 23 of the IFRS requires an impairment loss (or any subsequent gain) recognised for a disposal group to reduce (or increase) the carrying amount of the non-current assets in the group that are within the scope of the measurement requirements of the IFRS, in the order of allocation set out in paragraphs 104 and 122 of IAS 36 (as revised in 2004). Example 10 illustrates the allocation of an impairment loss on a disposal group.

Example 10

An entity plans to dispose of a group of its assets (as an asset sale). The assets form a disposal group, and are measured as follows:

(a) In this guidance, monetary amounts are denominated in ‘currency units’ (CU).