Recoverable Amount
Recoverable Amount can be defined as the higher of an asset’s value in use and fair value less costs of disposal. The Value in use refers to the present value of the future cash flows expected to be derived from using the asset and fair value less costs of disposal means the market price of the asset less disposal costs.
Basically, the recoverable amount of an asset is calculated for impairment purposes. Impairment is determined by comparing the carrying amount of an asset with its recoverable amount. If the carrying amount of an asset is higher than its recoverable amount, then the carrying amount is lowered to its recoverable amount.
How to Calculate the Recoverable Amount of an Asset?
To calculate the recoverable amount of an asset, we need to first identify or calculate the asset’s fair value less costs of disposal and its value in use.
Fair Value Less Costs of Disposal
IAS 36 defines fair value as the price that would be received to sell or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Simply put, fair value is the price of an asset in an active market. Costs of disposal include legal fees such as attorney fees, permits, and other payments associated with removing the asset as well as preparing the asset for sale.
Fair value less costs of disposal formula = Market Price of the asset – disposal costs
Value in Use
Value in use is the present value of the future cash flows that can be derived from using the asset instead of selling it. It is simply the monetary benefit that the company can receive by using the asset in its operations.
Value in use can be calculated using the following steps:
- Estimate the future cash inflows and outflows from continuing use of the asset.
- Estimate the cash inflow from the disposal of the asset.
- Discount the inflows and outflows using appropriate discount rate.
Calculating the Recoverable Amount
Now that we know how to calculate value in use and fair value less costs of disposal, we can easily calculate the recoverable amount of an asset by comparing the TWO values. The higher of value in use and fair value less costs of disposal is taken as the recoverable amount figure.
Question: A company owns a truck that was involved in an accident and is now barely useable. Its value in use is estimated at $500. However, the parts of the truck are expensive and the fair value less costs of disposal of the parts is $5000.
Answer
Recoverable amount is the higher of value in use and fair value less costs of disposal.
Value in use = $500
Fair value less costs of disposal = $5,000
Recoverable amount of the truck = $5,000 (higher one in value in use and fair value less costs of disposal)
Recoverable Amount Vs Carrying Amount
There is a huge difference between the recoverable amount and the carrying amount of an asset. A recoverable amount is the higher of fair value less disposal costs whereas, a carrying amount is the value of an asset less accumulated depreciation. It is simply the book value of an asset.
