CFA Practice Question

There are 520 practice questions for this study session.

CFA Practice Question

A company prepares its financial statements in accordance with U.S. GAAP. It expected to be the sole supplier for a state-wide school milk program and had production facilities valued at $28.4 million. Recently several other companies were also granted milk-supply contracts throughout the state and the company now estimates that it will only be able to generate cash flows of $3 million per year for the next 7 years with its facilities. The firm has a cost of capital of 10%.

The impairment loss (in $ millions) on the production facilities will most likely be reported in the company's financial statements as a ______.
A. $13.8 reduction in operating cash flows
B. $13.8 impairment loss in the income statement
C. $7.4 reduction in the balance sheet carrying amount
Explanation: The company will report an impairment loss in the income statement:

The facilities fail the recoverability test; the net book value cannot be recovered from undiscounted cash flows: 7 yrs x $3 = $21 < $28.4. Therefore, the asset is impaired. The asset should be written down to its fair value.

Fair Value: PV of future benefits: (N=7; i=10; PMT=3): PV = 14.6

Impairment Loss: Carrying Value - Fair Value: 28.4 - 14.6 = 13.8 to be reported on the income statement

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