CFA Level I, Finan­cial Report­ing and Ana­ly­sis, Long-Lived Assets, Impairment

A machi­ne is bought for €15,000, it has a useful life of five years. At the end of the second year, its fair value amounts to €7,000, the cost to sell are € 2,000. Its cash flows for the peri­ods 3, 4, and 5 are €3,000 each. Cal­cu­la­te with an inte­rest rate of 10 percent. 

The impair­ment at the end of the second year is equal to

1. €1,539.44
2. €7,466.56
3. €3,000.00

Solu­ti­on. A is correct. 

First, we com­pu­te the reco­vera­ble amount.

reco­vera­ble amount = max{ future value is sold minus cost to sell; value in use} 

= max{7,000 — 2,000 ; 3,000/1,1 + 3,000/1,1^2 + 3,000/1,1^3}

= max{5,000 ; 7,466.56}

= €7,466.56.  

The­r­e­fo­re, an impair­ment of €1,539.44 needs to be added to the depre­cia­ti­on of €3,000 in the second year so that we have a book value of €7,466.56 at the end of the second year.

The most important points of Finan­cial Report­ing and Ana­ly­sis, and Long-Lived Assets in this post can be sum­ma­ri­sed in this Mind­Map:

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