Recoverable Amount

What is Recoverable Amount?

The recoverable amount of an asset refers to the present value of the expected cash flows that are to arise from the sale or use of the asset and is calculated as greater of the two amounts, namely, the fair value of the asset as reduced by the related selling costs, and value in the use of such assets.

Explanation

The accounting standards require the companies to report the instances in the financial statementsFinancial StatementsFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more where the carrying amount of an asset is greater than its recoverable amount. Further, it is present in International Accounting Standard 36 (“IAS 36”). It provides for provision for an impairment loss in case the carrying valueCarrying ValueCarrying value is the book value of assets in a company's balance sheet, computed as the original cost less accumulated depreciation/impairments. It is calculated for intangible assets as the actual cost less amortization expense/impairments.read more of an asset is more than its recoverable amount. The carrying value of an asset means its book value. On the other hand, the recoverable amount of an asset refers to the maximum amount of cash flowsCash FlowsCash Flow is the amount of cash or cash equivalent generated & consumed by a Company over a given period. It proves to be a prerequisite for analyzing the business’s strength, profitability, & scope for betterment. read more that are expected to be obtained from the asset. The cash flows can either arise by selling the asset or by using it.

Recoverable Amount

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Source: Recoverable Amount (wallstreetmojo.com)

Recoverable Amount Formula

The recoverable amount of an asset is the higher of the following two amounts-

  • Fair value less cost to sell (abbreviated as “FVLCTS”)
  • Value in use

As we know, the calculation depends on FVLTS and Value in use. Let us understand the meaning of these two terms.

#1 – Fair Value Less Cost to Sell (“FVLCTS”)

It refers to the economic benefits that are expected to arise as a result of the sale of such. It has to be determined by reducing the expected cost of selling the asset from the fair value of the asset. Fair means the value at which the asset can be sold in the market. The expected cost of selling the asset means the transaction costs related to the sale of the asset.

#2 – Value in Use

It refers to the present valuePresent ValuePresent Value (PV) is the today's value of money you expect to get from future income. It is computed as the sum of future investment returns discounted at a certain rate of return expectation.read more of the expected cash flows that are to accrue as a result of the use of the asset. The same can be calculated by determining the weighted average of probability-based projected cash flows of the asset under consideration. Such a weighted average of probable cash flow shall be stated at its present value using the appropriate discount rate.

Example

Now, let us have a look at an example for a better understanding.

You can download this Recoverable Amount Excel Template here – Recoverable Amount Excel Template

For machinery, the details are given below.Open market value of the machinery = $62,000.There is a 30% probability that the cash flows will accrue to an amount of $30,000 in the future, and there is a 70% probability that the cash flows will accrue to an amount of $20,000 in the future for three years. The appropriate discount rate is 10%.

Solution:

Fair value will be –

Recoverable amount Example 1
  • Fair value = $62,000

Calculation of Value in use will be –

Example 1.1
  • Value in Use =20930 + 19090 + 17250 = 57270

The recoverable amount will be –

Recoverable amount Example 1.2

Thus, the recoverable amount of the machinery shall be higher of the FVLCTS ($62,000) and Value in Use ($5,7270). Accordingly, the recoverable amount comes to be FVLCTS, i.e., $62,000, being higher of the two amounts.

Note: Please refer above given excel template for a detailed calculation of the recoverable amount.

Recoverable Amount vs. Salvage Value

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