COVID – 19 effects one year on, IAS 1 paras 125, 97, key sources of estimation uncertainty, impairment and reversals of impairment, PPE, RoU assets, inventory and receivables

Burberry Group plc – Annual report – 27 March 2021
Industry: retail

1. Basis of preparation (extract)

Key sources of estimation uncertainty (extract)

Preparation of the consolidated financial statements in conformity with IFRS requires that management make certain estimates and assumptions that affect the measurement of reported revenues, expenses, assets and liabilities and the disclosure of contingent liabilities.

If in the future such estimates and assumptions, which are based on management’s best estimates at the date of the financial statements, deviate from actual circumstances, the original estimates and assumptions will be updated as appropriate in the period in which the circumstances change.

Estimates are continually evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances.

The COVID-19 pandemic (COVID-19) has had a major impact on the global economy throughout the current year. While the adverse impact on the Group’s operations and financial position has significantly diminished during the course of the financial year, at the date of signing these financial statements, there remains significant uncertainty regarding the timing of any global recovery from COVID-19, and the return to previous levels of footfall in city centres, travel and tourism in some locations. As a result, the impact of COVID-19 on the Group’s assets remains a significant source of estimation uncertainty.

The key areas where the estimates and assumptions applied have a significant risk of causing a material adjustment to the carrying value of assets and liabilities within the next financial year are discussed below. Further details of the Group’s accounting policies in relation to these areas are provided in note 2.

Impairment, or reversals of impairment, of property, plant and equipment and right-of-use assets

Property, plant and equipment and right-of-use assets are reviewed for impairment if events or changes in circumstances indicate that the carrying amount may not be recoverable. When a review for impairment is conducted, the recoverable amount of an asset or a cash generating unit is determined based on value-in-use calculations prepared using management’s best estimates and assumptions at the time.

Last year end, management recorded impairments of retail property, plant and equipment and right-of-use assets, based on the estimated impact of COVID-19 on the Group. At that time, the impact of COVID-19 was at its highest and many of the Group’s retail stores worldwide were closed. Since last year end, the rate of recovery has exceeded management estimates, indicating a potential impairment reversal. Therefore, management has updated their assumptions as at 27 March 2021, reflecting their latest plans over the next three years to March 2024, followed by longer-term growth rates of mid-single digits. This has resulted in net reversals of impairments.

Management has also reviewed the remaining retail property, plant and equipment and right-of-use assets, not covered by the above reassessment, for any indications of impairment. No new impairments of property, plant and equipment and right-of-use assets outside the scope of the reassessment of last year’s assumptions were identified.

Refer to notes 13 and 14 for further details of retail property, plant and equipment, right-of-use assets and impairment reviews carried out in the period and for sensitivities relating to this key source of estimation uncertainty.

Inventory provisioning

The Group manufactures and sells luxury goods and is subject to changing consumer demands and fashion trends. The recoverability of the cost of inventories is assessed every reporting period, by considering the expected net realisable value of inventory compared to its carrying value. Where the net realisable value is lower than the carrying value, a provision is recorded. When calculating inventory provisions, management considers the nature and condition of the inventory, as well as applying assumptions in respect of anticipated saleability of finished goods and future usage of raw materials.

Last year end, management recorded provisions against inventory, based on the estimated impact of COVID-19 on the Group. As noted above, performance during the current year has exceeded the estimates made at last year end and hence management has updated their assumptions regarding future performance. This has resulted in a release of inventory provisions, both relating to inventory sold during the current year, where this was for a higher net realisable value than had been assumed, and relating to assumptions regarding the net realisable value of inventory held at 27 March 2021.

Management has also reviewed the remaining inventory, not covered by the above reassessment, and provisions have been recorded where appropriate based on future trading expectations.

Refer to note 17 for further details of the carrying value of inventory and inventory provisions and for sensitivities relating to this key source of estimation uncertainty.

6. Adjusting items

Impact of COVID-19

COVID-19 has impacted both business operations and financial markets worldwide. COVID-19 has also had a significant impact on the financial results of the Group during the current and previous year. In the financial statements for the year ended 28 March 2020, the Group recorded adjusting items relating to the impairment of the carrying value of assets as a result of the expected impact of COVID-19 on the Group’s activities and future trading. This resulted in charges of £245.9 million relating to impairments of retail cash generating units, intangible assets and receivables and to inventory provisions. These charges were presented as adjusting items as they were considered to be material and one-off in nature.

At 27 March 2021, these impairments and provisions have been reviewed and the assumptions updated where appropriate, to reflect management’s latest expectations. The impact of changes in assumptions has been presented as an update to the adjusting item charge. Further details regarding the approach applied to measure these updates are set out below for each of the specific adjusting items.

Other items, where they are considered one-off in nature and directly related to the impact of COVID-19, have been presented as adjusting items. Income recorded in the year following application of the temporary COVID-19 Related Rent Concession amendment to IFRS 16 has been presented as an adjusting item. This is considered appropriate given that the amendment to IFRS 16 is only applicable for a limited period of time and it is explicitly related to COVID-19. Grant income recorded in the year, relating to government furlough arrangements worldwide, has also been presented as an adjusting item, as it is also explicitly related to COVID-19, and the arrangements are expected to last for a limited period of time. In aggregate these items give rise to a material amount of income in the year. Further details of these adjusting items are set out below.

All other financial impacts of COVID-19 are included in adjusted operating profit. As a result, additional costs recorded in the year, including masks, other personal protection equipment, hand sanitisers, production inefficiencies due to social distancing, operating costs of retail stores during closure the cost of voluntary payment of UK rates, have not been separately presented as adjusting items. These additional costs are not considered to be one-off in nature, and in some cases the discrete impact of COVID-19 on these costs cannot be reliably measured. Hence it is considered more appropriate to include these additional costs in adjusted operating profit.

Impairment of retail cash generating units

During the 52 weeks to 28 March 2020, an impairment charge of £156.5 million, recorded within selling and distribution costs in net operating expenses for impairment of retail store assets due to the impact of COVID-19, was presented as an adjusting item. It comprised a charge of £28.4 million, recorded against property, plant and equipment, and a charge of £128.1 million, recorded against right-of-use assets. A related tax credit of £28.7 million was also recognised in the year.

During the 52 weeks to 27 March 2021, the impairment provisions remaining have been reassessed, using management’s latest expectations, and a net reversal of £46.6 million has been recorded and presented as an adjusting item. This comprised a charge of £1.6 million and a reversal of £10.4 million against property, plant and equipment and a charge of £11.0 million and a reversal of £48.8 million against right-of-use assets. A related tax charge of £5.2 million has also been recognised in the year.

Any charges or reversals which did not arise from the reassessment of the original impairment adjusting item, had they arisen, would have not have been included in this adjusting item. However, there were no other impairment charges or reversals relating to retail cash generating units in the year. Refer to note 13 for details of impairment of retail cash generating units.

Impairment of inventory

During the 52 weeks to 28 March 2020, inventory provisions of £68.3 million were recorded in cost of sales, due to the impact of COVID-19. These charges related to current and recent seasons that under normal circumstances would be expected to sell through with limited loss and were presented as an adjusting item. A related tax credit of £12.5 million was also recognised in the year.

During the 52 weeks to 27 March 2021, reversals of inventory provisions, relating to inventory which had been provided for as an adjusting item at the previous year end and has either been sold, or is now expected to be sold, at a higher net realisable value than had been assumed when the provision had been initially estimated, of £22.3 million have been recorded and presented as an adjusting item. A related tax charge of £4.8 million has also been recognised in the year. All other charges and reversals relating to inventory provisions have been recorded in adjusted operating profit. Refer to note 17 for details of inventory provisions.

Impairment of receivables

During the 52 weeks to 28 March 2020, due to the global financial uncertainty arising from COVID-19, management reassessed and increased the expected credit loss rates for trade and other receivables, resulting in a charge of £11.1 million reported within selling and distributions costs in net operating expenses for impairment of receivables in the year. This charge relating to the increase in expected credit loss rates was presented as an adjusting item. A related tax credit of £2.1 million was also recognised in the year.

During the 52 weeks to 27 March 2021, the expected credit loss rates have been reassessed, taking into account the experience of losses incurred during the year and changes in market conditions at 27 March 2021 compared to the previous year end. As a result of this reassessment, management has reduced some of the expected credit loss rates. The reversal of £5.2 million, resulting from the reduction in credit loss rate assumption, has also been recorded as an adjusting item. A related tax charge of £1.1 million has also been recognised in the year. All other charges and reversals relating to impairment of receivables, arising from changes in the value and aging of the receivables portfolio, have been included in adjusted operating profit. Refer to note 28 for details of impairment of receivables.

COVID-19-related rent concessions

The Group has elected to apply the COVID-19-Related Rent Concessions amendment to IFRS 16 in the current year as described in note 1. Eligible rent forgiveness amounts have been treated as negative variable lease payments, resulting in a credit of £54.1 million for the 52 weeks to 27 March 2021 being recorded in net operating expenses. This income has been presented as an adjusting item, as set out above. A related tax charge of £9.6 million has also been recognised in the current year.

COVID-19-related furlough grant income

The Group has recorded grant income of £8.5 million within selling and distribution costs in net operating expenses for the 52 weeks to 27 March 2021, relating to government support for retention of employees on furlough, as a result of COVID-19. These grants related to income received from a number of government arrangements worldwide. None of the income related to UK based employees. This income has been presented as an adjusting item, as set out above. A related tax charge of £2.2 million has also been recognised in the current year.

Other adjusting items

Gain on disposal of property

On 22 December 2020, the Group completed the sale of an owned property in France for cash proceeds of £27.2 million resulting in a net gain on disposal of £23.0 million, recorded within administrative expenses in net operating expenses. A profit of £18.7 million has been presented as an adjusting item, after deducting incremental costs of £4.3 million relating to employee profit sharing agreements. This charge was recognised as an adjusting item, in accordance with the Group’s accounting policy, as this profit from asset disposal is considered to be material and one-off in nature. A related tax charge of £4.6 million was also recognised in the year.

Restructuring costs

Restructuring costs of £8.2 million (last year: £10.6 million) were incurred in the current year, arising as a result of the Group’s cost-efficiency programme announced in May 2016. These costs were recorded largely within administrative expenses in net operating expenses and are presented as an adjusting item as they are considered material and discrete in nature, being part of a restructuring programme running from May 2016 to March 2021. The costs in the current year are principally attributable to redundancies and functional restructuring costs. A related tax credit of £1.6 million (last year: £2.2 million) has also been recognised in the current year.

In July 2020, the Group announced organisational changes which include the creation of three new business units, allowing the Group to pool expertise within each unit to enhance product focus, increase agility and elevate quality. As part of these organisational changes, which include office space rationalisation, the Group will further streamline office-based functions to help improve efficiency. Restructuring costs of £21.6 million were incurred in the current year in relation to these organisational changes and it is anticipated that total restructuring costs of £45.0 million will be incurred by the end of the programme. Overall, the programme remains on track to materially complete in FY2022. The costs principally relate to redundancies and vacant property. These costs are recorded largely within administrative expenses in net operating expenses. They are presented as an adjusting item, in accordance with the Group’s accounting policy, as the costs of the restructuring are considered material and discrete in nature. A related tax credit of £4.4 million has also been recognised in the current year.

Items relating to the deferred consideration liability

On 22 April 2016, the Group entered into an agreement to transfer the economic right to the non-controlling interest in Burberry Middle East LLC to the Group in consideration of contingent payments to be made to the minority shareholder over the period to 2023.

A charge of £0.4 million in relation to the revaluation of this balance has been recognised within administrative expenses in net operating expenses for the 52 weeks to 27 March 2021 (last year: credit of £2.1 million). A financing charge of £0.6 million in relation to the unwinding of the discount on the non-current portion of the deferred consideration liability has also been recognised for the 52 weeks to 27 March 2021 (last year: £1.0 million). These movements are unrealised.

On 19 September 2018, the Group acquired Burberry Manifattura S.R.L. Consideration for the acquisition included a future performance related deferred consideration payment to be made in 2021. A financing charge of £0.1 million in relation to the unwinding of the discount on the non-current portion of the deferred consideration liability has been recognised for the 52 weeks to 27 March 2021 (last year: £0.2 million). These movements are unrealised.

No tax has been recognised on either of these items, as the future payments are not considered to be deductible for tax purposes. These items are presented as adjusting items in accordance with the Group’s accounting policy, as they arise from changes in the value of the liability for expected future payments relating to the purchase of a non-controlling interest in the Group and acquisition of a subsidiary respectively.

Adjusting items relating to prior year

Impact of COVID-19

Impairment of intangible assets

During the 52 weeks to 28 March 2020, following changes to management’s investment plans, due to the potential impact of COVID-19 on available resources, an impairment charge of £10.0 million was recorded in relation to computer software assets under construction. Due to resulting delay in the development of this software, management no longer expected to fully utilise the expenditure incurred to date. A related tax credit of £1.9 million was also recognised in the year.

Other impacts of COVID-19

During the 52 weeks to 28 March 2020, a credit of £5.0 million, principally related to the reversal of accrued costs for share-based payments no longer expected to vest as a result of the impact of COVID-19 on the expected performance of the Group, was presented as an adjusting item. A related tax charge of £1.0 million was also recognised in the year.

Other adjusting items

Gain on disposal of Beauty operations

During the year ended 31 March 2018, the Group entered into two agreements with Coty Geneva SARL Versoix (Coty) to grant Coty a licence to sell its fragrance and beauty products and to transfer the Group’s Beauty operations to Coty. In the 52 weeks to 28 March 2020 a credit of £5.0 million was recorded relating to reassessments of provisions for contract termination and consideration for assets transferred to Coty on completion and was presented as an adjusting item. A related tax charge of £1.0 million was also recognised in the 52 weeks to 28 March 2020.

13. Property, plant and equipment (extract)

During the 52 weeks to 27 March 2021, management carried out a review of retail cash generating units for any indication of impairment or reversal of impairments previously recorded. Where indications of impairment charges or reversals were identified, the impairment review compared the value-in-use of the cash generating units to their net book values at 27 March 2021. The pre-tax cash flow projections used for this review were based on financial plans of expected revenues and costs of each retail cash generating unit, approved by management, reflecting their latest plans over the next three years to 30 March 2024, followed by longer-term growth rates of mid-single digits and inflation rates appropriate to each store’s location. The pre-tax discount rates used in these calculations were between 9.6% and 14.1% (last year: between 9.2% and 21.1%) based on the Group’s weighted average cost of capital adjusted for country-specific borrowing costs, tax rates and risks for those countries in which a charge or reversal was incurred. Where indicators of impairment have been identified and the value-in-use was less than the carrying value of the cash generating unit, an impairment of property, plant and equipment and right-of-use asset was recorded. Where the value-in-use was greater than the net book value, and the cash generating unit had been previously impaired, the impairment was reversed, to the extent that could be supported by the value-in use and allowing for any depreciation that would have been incurred during the period the impairment was recorded. The fair value less cost to sell of the cash generating units was also considered, taking into account potential alternative uses for property, such as subletting of leasehold or sale of freehold. A review for any other indicators of impairment charges or reversals across the retail portfolio was also carried out.

In the financial statements for the year ended 28 March 2020 a charge of £156.5 million was recorded, as an adjusting item within net operating expenses, relating to the impairment of retail cash generating units as a result of the impact of COVID-19. During the 52 weeks to 27 March 2021, where these impairments, previously charged as an adjusting item, were reassessed and updated, any reversal or additional charge was also recorded as an adjusting item. This resulted in a net impairment reversal of £46.6 million reflecting improved trading expectations compared to those assumed at 28 March 2020 which has also been presented as an adjusting item in the current year. A charge of £1.6 million and a reversal of £10.4 million was recorded against property, plant and equipment (last year: net impairment charge of £28.4 million) and a charge of £11.0 million and a reversal of £48.8 million was recorded against right-of-use assets (last year: net impairment charge of £128.1 million). Refer to note 14 for further details of right-of-use assets. Refer to note 6 for details of adjusting items.

A net charge of £nil (last year: £11.2 million) was recorded within net operating expenses as a result of the annual review of impairment for all other retail store assets, excluding those impaired as a result of the impact of COVID-19. A charge of £nil (last year: credit of £2.0 million) was recorded against property, plant and equipment and a charge of £nil (last year: £13.2 million) was recorded against right-of-use assets.

Management has considered the potential impact of changes in assumptions on the impairment recorded against the Group’s retail assets. Given the significant uncertainty regarding the impact of COVID-19 on the Group’s retail operations and on the global economy, management has considered sensitivities to the impairment charge as a result of changes to the estimate of future revenues achieved by the retail stores. The sensitivities applied are an increase or decrease in revenue of 15% from the estimate used to determine the impairment charge or reversal. It is estimated that a 15% decrease/increase in revenue assumptions for the 53 weeks to 02 April 2022, with no change to subsequent forecast revenue growth rate assumptions, would result in a £54.2 million increase / £26.4 million decrease in the impairment charge of retail store assets in the 52 weeks to 27 March 2021.

The net impairment reversal recorded in property, plant and equipment related to 25 retail cash generating units (last year: net impairment charge related to 140 retail cash generating units) for which the total recoverable amount at the balance sheet date is £32.6 million (last year: £59.9 million).

In addition, an impairment charge of £1.3 million (last year: £nil) was recognised in relation to non-retail property, plant and equipment, of which £0.5 million was recognised as part of restructuring costs in adjusting items. Refer to note 6 for details of adjusting items. As a result the total net impairment reversal for property, plant and equipment was £7.5 million (last year: net impairment charge of £26.4 million).

14. Right-of-use assets (extract)

As a result of the assessment of retail cash generating units for impairment, an impairment charge of £11.0 million and a reversal of £48.8 million, resulting in a net reversal of £37.8 million (last year: net impairment charge of £141.3 million) was recorded for impairment of right-of-use assets. Refer to note 13 for further details of impairment assessment of retail cash generating units. This net impairment reversal of £37.8 million relates to the impact of COVID-19 on the value-in-use of retail cash generating units (last year: £128.1 million charge). No impairment charge or reversal relating to other trading impacts was recognised during the year (last year: £13.2 million charge). The charge relating to COVID-19 has been presented as an adjusting item (refer to note 6).

The net impairment reversal recorded in right-of-use assets relates to 27 retail cash generating units (last year: net impairment charge related to 140 retail cash generating units) for which the total recoverable amount at the balance sheet date is £199.6 million (last year: £344.7 million).

In addition, an impairment charge of £4.1 million (last year: impairment reversal of £1.0 million) was recognised in relation to vacant office premises. This charge was recognised as part of restructuring costs in adjusting items (last year: reversal of £0.6 million). Refer to note 6 for details of adjusting items.

As a result, the net impairment reversal for right-of-use assets was, in total, £33.7 million (last year: net impairment charge of £140.3 million).

17. Inventories (extract)

As at 28 March 2020, £68.3 million of the provision was included in cost of sales as a result of the estimated reduction in net realisable value of inventory due to COVID-19 and was presented as an adjusting item. This provision related to the current season and recent seasons that, under more normal circumstances, would be expected to sell through with limited loss. In the current year, £3.9 million of the provision has been utilised, where inventory previously provided for had been sold below cost in the current year and is recognised in cost of sales. An additional £22.3 million has been released upon re-assessment of the provision, where inventory previously provided for has been sold, or is now expected to be sold, for a higher net realisable value than has been estimated last year as performance during the current year has exceeded, and is expected to continue to exceed, the assumptions made at last year end. This reversal is presented as an adjusting item. Refer to note 6 for details of adjusting items. All other charges and reversals relating to inventory provisions have been included in adjusted operating profit.

Taking into account the significant uncertainty regarding the outcome of COVID-19 and its impact on retail operations and the global economy, as well as other factors impacting the net realisable value of inventory including trading assumptions being higher or lower than expected, management considers that a reasonable potential range of outcomes could result in an increase or decrease in inventory provisions of £24.0 million in the next 12 months. This would result in a potential range of inventory provisions of 17.9% to 27.1% as a percentage of the gross value of inventory as at 27 March 2021.

The net movement in inventory provisions included in cost of sales for the 52 weeks to 27 March 2021 was a release of £10.5 million (last year: charge of £88.9 million). The total release of inventory provisions during the current year, which is included in the net movement, was £67.1 million (last year: reversal of £16.2 million). Both these amounts include the reversal of £22.3 million, referred to above, which has been presented as an adjusting item.

28. Financial risk management (extract)

Credit risk (extract)

Trade receivables (extract)

At 28 March 2020, management assessed the expected credit losses for trade receivables. Due to the global financial uncertainty arising from COVID-19, management increased the expected credit loss rates for trade receivables based on their judgement as to the impact of COVID-19 on the trade receivables portfolio. In addition, certain individual customers (where there is objective evidence of credit impairment) were identified as having a significantly elevated credit risk and were provided for on a specific basis. This resulted in a charge of £12.3 million for impairment provisions recognised in profit and loss in the year, of which £9.1 million was considered to be related to the impact of COVID-19, arising from the increase in expected credit loss rates, and was presented as an adjusting item.

During the 52 weeks to 27 March 2021, the expected credit loss rates have been reassessed, taking into account the experience of losses incurred during the year and changes in market conditions at 27 March 2021 compared to the previous year end. As a result of this reassessment, management has reduced some of the expected credit loss rates. A reversal to the impairment provision of £3.2 million, resulting from the reduction in credit loss rate assumption, has also been recorded as an adjusting item. The remaining reversal of £0.9 million, arising from changes in the value and quality of the receivables portfolio, has been included in adjusted operating profit.

Receivables excluding trade receivables (extract)

At 28 March 2020, management assessed that there was an increased credit risk relating to store rent deposits, as a result of the potential impact of COVID-19 on the financial position of counterparties, and hence recorded a provision of £2.0 million. The charge for this provision was presented as an adjusting item.

During the 52 weeks to 27 March 2021, management has reassessed the credit risk for these particular counterparties and have concluded that the credit risk is now insignificant. As a result the provision of £2.0 million has been reversed in full and the credit has also been recorded as an adjusting item.