A staggering $518 billion was written off companies’ books through impairment charges in 2020 amidst the COVID-19 pandemic. $203.3 billion of that came from impairments related to property, plant, and equipment (PPE).
As noted in our most recent report, Impacts of COVID-19 on Public Companies, both the number of impairments disclosed by public companies and the magnitude of the aggregate charges drastically increased during the pandemic.
Sudden, unexpected events like the pandemic contribute to impairment charges due to the impact on estimates and assumptions. More companies had to re-evaluate their assets in response to the economic downturn, sometimes more than once in a year.
In the case of large write-downs, the need for a permanent adjustment to accurately reflect the underlying value of assets in response to the COVID-19 pandemic could indicate that the changes were already needed. If an impairment is primarily related to an unexpected event’s impact on estimates, it could be an indication the impairment is a result of ongoing problems at the company.
Though some types of assets are notoriously ripe for impairment during changing economic conditions (i.e. goodwill), impairment charges writing down the value of assets classified as PPE notably skyrocketed during the pandemic.
What made property, plant, and equipment assets a high risk for substantial impairment charges during the pandemic?
First, PPE impairments are typically very costly. Part of this relates to PPE impairments specifically of mining rights and oil & gas reserves. Historically, this type of impairment averages the most costly charges.
For example, in 2020, the average impairment charge of mining rights and oil & gas reserves was $1.5 billion. In comparison, the average for goodwill was only $0.35 billion, despite goodwill having the next highest average charge of the other asset types.
As evidenced by looking at annual aggregate impairment charges broken down by asset type, PPE and goodwill are consistently the most costly.
Looking at this a different way – through year-over-year changes in total impacts for each asset – the extent of the pandemic’s impact on PPE write-downs is clear.
PPE impairments experienced a downward trend in aggregate charges in the three years preceding 2019. But in 2020, total PPE impairment charges shot up 240%.
Second, assessing PPE assets relies on estimates of future pricing/utility and COVID-19 significantly shifted long-held future expectations.
In addition, there was a drastic reduction in demand for petroleum, fuel, and related products during the pandemic due to lockdowns and travel restrictions; in response to the reduced demand, the price plummeted.
The impact on companies with assets sensitive to petroleum pricing is evident when looking at trends in impairments by geographic region.
Companies in the US Southwest recorded over three times the impairment charges in 2020 compared to the next highest region. Part of this is due to the concentration of companies involved in energy and petroleum mining/manufacturing in that region. Nearly 50% of impairments disclosed in the Southwest in 2020 were disclosed by Manufacturing and Mining companies.
The confluence of historical costly charges for mining rights and oil & gas reserves and the price decrease of petroleum created a perfect storm for an explosion in PPE impairment charges.
There was no indication of how long the decrease in prices would last or when pandemic conditions would abate. Though petroleum prices rebounded by the end of 2020, companies do not have the luxury of waiting to see what might happen before impairing an asset. If conditions arise that suggest an impairment may be indicated, or if uncertainty exists about the asset in the future, it needs to be timely assessed and recorded.
As impairment charges for PPE are highly sensitive to trends in consumer behavior and patterns, other types of PPE were written down during the pandemic besides those related to petroleum and gas/oil.
For example, countless retail stores were shuttered during the pandemic due to lockdowns of nonessential businesses. Many retailers that traditionally operate out of a physical storefront were forced to change business models, with many opting for e-commerce platforms in place of in-store shopping.
Due to the unprecedented nature of the pandemic, and the uncertainty regarding the duration of the impacts, retailers may have to assume that the changes in consumer behavior brought on by pandemic conditions – such as that shift to e-commerce – are likely to be long-term or permanent.
This assumption would require that the value of the physical retail location be written down, in order to reflect the shift in consumer behaviors. A physical storefront may not be as valuable as it was before COVID-19 due to emerging consumer trends in the wake of the pandemic.
As COVID-19 continues to disrupt normal operations, companies must continue to cope with the interruptions to the supply chain, consumer behavior, and market activity.
These disruptions have detrimental impacts on companies’ ability to determine estimates and projected cash flows. The impact on those critical inputs for assessing assets for impairment is likely to continue for the foreseeable future.
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