Asset Impairment

Companies don't test every asset every period; a triggering event prompts it — a significant drop in market value, physical damage, technological obsolescence, adverse legal or regulatory change, a decision to dispose of an asset early, or operating losses signaling the asset won't earn its keep. The economic idea is conservatism: assets should never be carried above the cash they can realistically generate. This is distinct from depreciation, which is the routine, scheduled allocation of cost over a useful life; impairment is an unexpected, one-time reduction triggered by deterioration.

US GAAP uses a two-step approach for long-lived assets: first a recoverability test (is carrying value greater than the sum of undiscounted future cash flows?); only if it fails do you write the asset down to fair value. IFRS (IAS 36) uses a single step — write down to the recoverable amount (higher of fair value less costs to sell, or value in use using discounted cash flows). The biggest divergence: under IFRS, impairments of most assets (not goodwill) can be reversed if conditions improve, whereas under US GAAP impairments are never reversed. This GAAP-vs-IFRS contrast is a favorite technical question.

Asset impairment behaves like goodwill impairment mechanically. On the income statement it's an expense lowering pre-tax and net income. On the cash flow statement it's a non-cash charge added back to net income, so no cash leaves — and the tax deductibility actually increases cash via the tax shield. On the balance sheet, the asset's carrying value falls and retained earnings fall by the after-tax loss. Because impairments are non-cash and usually one-time, analysts add them back when normalizing earnings — but a recurring pattern of impairments signals chronically poor capital allocation.