What Is a Cash-Generating Unit (CGU) Under IAS 36?

A cash-generating unit under IAS 36 is the smallest identifiable group of assets that generates cash inflows largely independent of the cash inflows from other assets or groups of assets.¹ The concept exists because most individual assets, such as a single machine or a piece of specialized software, do not produce revenue on their own. Grouping interdependent assets into a unit lets a company test whether their combined book value is still supported by the earnings they can generate together. That test, and the way any resulting loss is allocated, is the practical reason CGUs matter.

How to Identify a CGU

Identification starts with how management actually runs the business. If leadership monitors performance by product line, geographic region, or individual retail location, those operational groupings are strong candidates for CGU boundaries.¹ A standalone store that earns its own revenue without depending on sales at other locations would typically qualify as its own CGU. The way management decides whether to continue operating or dispose of a group of assets is often the clearest signal of where the line falls.

External markets matter too. If an active market exists for the output a group of assets produces, that group can be a CGU even when some or all of the output is consumed internally by other parts of the business.¹ A market price means the cash inflows from that output could, in principle, stand on their own.

Once a CGU is defined, the entity has to keep the same grouping from period to period.¹ Consistency prevents companies from shuffling assets between units to mask impairment. A change is only appropriate when a new grouping better reflects how the business generates cash, or when a significant reorganization has occurred.

What Goes Into the Carrying Amount

The carrying amount of a CGU is the total net book value of the assets that contribute to its future cash inflows: original cost minus accumulated depreciation and any prior impairment charges.² Only assets that can be directly attributed to the CGU, or allocated to it on a reasonable and consistent basis, count.

Working capital, such as inventory and receivables, is a choice. You can include it in the carrying amount or leave it out, but the treatment has to match how the related cash flows are handled in the value-in-use calculation. Include the inventory in the carrying amount and you include the cash inflows and outflows from selling and replacing it in the projections; leave it out on one side and you leave it out on the other. Because these items settle in the short term, discounting rarely has a significant effect.

Liabilities are generally excluded because recoverable amount is normally determined without factoring in debt-related cash flows. The exception is a liability a buyer would have to assume, such as an environmental cleanup obligation. In that case the liability is deducted from both the carrying amount and the recoverable amount so the comparison stays balanced.²

Allocating Goodwill and Corporate Assets

Goodwill from an acquisition does not produce cash flows on its own, so it has to be assigned to the CGU or group of CGUs expected to benefit from the synergies of the business combination. IAS 36 requires that allocation at the lowest level within the entity at which management monitors goodwill internally.¹ That level cannot be larger than an operating segment as defined by IFRS 8.³ Goodwill therefore usually lands at a division or business-unit level rather than being spread across the whole company.

Corporate assets, such as a headquarters building or a centralized research facility, benefit multiple CGUs but do not generate independent cash flows. Before testing, they must be allocated to the CGUs they support on a reasonable and consistent basis.² Where a corporate asset can be allocated to a single CGU, the test proceeds on that unit. Where it cannot, the entity tests the smallest group of CGUs that includes the asset.

When a CGU Must Be Tested

Most CGUs are only tested when there is an indication that value has declined. IAS 36 lists external indicators (a significant drop in market value beyond normal use or aging, adverse changes in the technological, economic, or legal environment, increases in market interest rates that would push up the discount rate, and market capitalization falling below the carrying amount of net assets) and internal indicators (physical damage or obsolescence, significant changes in how an asset is used or is expected to be used, and internal reporting showing performance is worse than expected). The lists are not exhaustive; any credible sign that recoverable amount may have fallen below carrying amount should prompt a closer look.

One exception overrides the indicator approach. CGUs that contain goodwill or intangible assets with indefinite useful lives must be tested at least once a year, regardless of whether indicators exist.¹ Performing the test at the same point in the reporting cycle each year is standard practice.

How the Impairment Test Works

An impairment test compares the CGU’s carrying amount against its recoverable amount. Recoverable amount is the higher of fair value less costs of disposal and value in use.² If recoverable amount exceeds carrying amount, no impairment exists and the analysis stops. If carrying amount is higher, the difference is the impairment loss.

Fair Value Less Costs of Disposal

Fair value is the price that would be received to sell the CGU in an orderly transaction between market participants. Costs of disposal include legal fees, transfer taxes, and the direct costs of readying the unit for sale. A quoted market price for an identical unit is the most reliable evidence; where none exists, fair value is estimated using market-based valuation techniques or income approaches consistent with IFRS 13.

Value in Use

Value in use is the present value of the future cash flows the CGU is expected to generate. Projections are based on reasonable and supportable assumptions, usually drawn from the most recent management-approved budgets or forecasts, and are capped at five years unless the entity can demonstrate that longer projections are reliable based on past experience.¹

Beyond the explicit forecast period, cash flows are extrapolated using a steady or declining growth rate. That rate generally cannot exceed the long-term average growth rate for the relevant industry, country, or market.¹ An increasing rate is only permissible with objective evidence to support it.

The discount rate is a pre-tax rate reflecting what investors would require for an investment generating equivalent cash flows.² It should capture the time value of money and risks specific to the asset, without double-counting risks already reflected in the cash flow estimates.

Allocating an Impairment Loss

When carrying amount exceeds recoverable amount, the loss is allocated within the CGU in a set order. It first reduces the carrying amount of any goodwill allocated to the unit, to zero if necessary.² Any remainder is distributed among the other assets of the CGU pro rata based on their relative carrying amounts.

Floor limits protect individual assets. No asset’s carrying amount can drop below the highest of its fair value less costs of disposal (if measurable), its value in use (if determinable), or zero.² Any portion of the loss that a floor blocks gets redistributed pro rata to the remaining assets.

Reversing an Impairment Loss

Conditions can improve. At each reporting date, the entity assesses whether any indication exists that a previously recognized impairment loss has decreased or no longer applies.⁴ A reversal is only recognized when there has been a genuine change in the estimates used to determine recoverable amount, not simply the passage of time unwinding a discount.

The reversal is allocated pro rata across the CGU’s assets, excluding goodwill, based on their carrying amounts. A ceiling applies: no asset can be increased above what its carrying amount would have been, net of depreciation or amortization, had the original impairment never been recorded.⁴ Blocked amounts are redistributed to the remaining assets, subject to the same ceiling.

Goodwill impairment losses are permanent. Once goodwill is written down, that loss cannot be reversed in any later period.⁴ Any apparent recovery in value after that point would be internally generated goodwill, which IAS 38 prohibits from being recognized.

Key Disclosures

Where a CGU carries a significant allocation of goodwill or indefinite-life intangibles, the entity must disclose the carrying amount of those items assigned to the unit, whether recoverable amount was based on value in use or fair value less costs of disposal, and the key assumptions that most influenced the result.¹

For value-in-use, disclosures go further: the discount rate, the growth rate used to extrapolate cash flows beyond the forecast period, the time horizon of the projections, and how management determined the values assigned to each key assumption. A period longer than five years has to be justified.¹

Sensitivity disclosures apply when a reasonably possible change in a key assumption would push the CGU’s carrying amount above its recoverable amount. The entity then discloses the margin by which recoverable amount exceeds carrying amount, the value assigned to the critical assumption, and how much that assumption would need to shift before the unit tips into impairment.

CGU Versus the U.S. GAAP Reporting Unit

Companies reporting under U.S. GAAP use a “reporting unit” rather than a CGU for goodwill impairment testing, and the two operate at different scales. A U.S. GAAP reporting unit is an operating segment, or one level below it, where discrete financial information is available and segment management regularly reviews operating results. A CGU under IFRS is defined by the smallest group of assets generating largely independent cash inflows, which can be much smaller. A division that qualifies as a single reporting unit under U.S. GAAP might contain several distinct CGUs under IFRS, meaning IFRS impairment tests often operate at a more granular level.

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IFRS Foundation. IAS 36 Impairment of Assets
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IFRS Foundation. IAS 36 Impairment of Assets
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IFRS Foundation. IAS 36 Impairment of Assets
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IFRS Foundation. IAS 36 Impairment of Assets