COVID – 19 effects two years 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 – 2 April 2022
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 continued to have an 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.

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

In March 2020, 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 March 2020, the rate of recovery has exceeded management estimates, and a partial reversal of this initial impairment was recognised at March 2021. Management has updated these assumptions again as at 2 April 2022, reflecting their latest plans over the next three years to March 2025, followed by longer-term growth rates of mid-single digits and inflation rates appropriate to each store’s location.

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.

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.

In March 2020, management recorded provisions against inventory, based on the estimated impact of COVID-19 on the Group. As noted above, performance since March 2020 has exceeded the estimates made at the time. Management has updated their assumptions regarding future performance as part of the current year estimate. 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 both 27 March 2021 and 2 April 2022.

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 continued to impact 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.

As at the beginning of the last financial year, the Group had balances relating to COVID-19 impairment charges that had previously been charged as adjusting items in prior years, as they were considered to be material and one-off in nature. £246 million COVID-19 impairment charges were recognised at 28 March 2020. The charges related to impairments of retail cash generating units (£157 million), intangible assets (£10 million) and receivables (£11 million) and to inventory provisions (£68 million).

At 2 April 2022, 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 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 and the cost of voluntary payment of UK rates, have not been separately presented as adjusting items. 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 53 weeks to 2 April 2022, the impairment provisions remaining have been reassessed, using management’s latest expectations, with a charge of £5 million recorded (last year: £47 million net reversal). A related tax credit of £1 million (last year: charge of £5 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 not have been included in this adjusting item. Refer to notes 13 and 14 for details of impairment of retail cash generating units.

Impairment of inventory

During the 53 weeks to 2 April 2022, 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 £16 million (last year: £22 million) have been recorded and presented as an adjusting item. A related tax charge of £4 million (last year: £5 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 53 weeks to 2 April 2022, 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 2 April 2022 compared to the previous year end. As a result of this reassessment, management has revised the expected credit loss rates, with a reversal of £1 million recorded as an adjusting item (last year: £5 million), resulting from the reduction in credit loss rate assumption. A related tax charge of £nil (last year: £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 16 for details of impairment of receivables.

COVID-19-related rent concessions

Eligible rent forgiveness amounts have been treated as negative variable lease payments, resulting in a credit of £18 million (last year: £54 million) for the 53 weeks to 2 April 2022 being recorded in net operating expenses. This income has been presented as an adjusting item, as set out above. A related tax charge of £4 million (last year: £10 million) has also been recognised in the current year.

COVID-19-related grant income

The Group has recorded grant income of £2 million (last year: £9 million) within selling and distribution costs in net operating expenses for the 53 weeks to 2 April 2022, relating to government support for the retention of employees, 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 £1 million (last year: £2 million) has also been recognised in the current year.

Other adjusting items

Restructuring costs

Restructuring costs of £11 million (last year: £30 million) were incurred in the current year, arising primarily as a result of the organisational efficiency programme announced in July 2020 that included the creation of three new business units to enhance product focus, increase agility and elevate quality and, to further streamline of office-based functions and facilities. The costs for the 53 weeks to 2 April 2022 principally relate to redundancies and consulting costs and are recorded in operating expenses. They are presented as an adjusting item, in accordance with the Group’s accounting policy, as the anticipated cost of the restructuring programme is considered material and discrete in nature. A related tax credit of £3 million (last year: £6 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 of the non-controlling interest in Burberry Middle East LLC to the Group in exchange for consideration of contingent payments to be made to the minority shareholder over the period to 2023.

A charge of £1 million in relation to the revaluation of this balance has been recognised in net operating expenses for the 53 weeks to 2 April 2022 (last year: £nil). A financing charge of £1 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 53 weeks to 2 April 2022 (last year: £1 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 noncontrolling interest in the Group and acquisition of a subsidiary respectively.

Adjusting items relating to prior years

Gain on disposal of property

During the 52 weeks to 27 March 2021, the Group completed the sale of an owned property in France for cash proceeds of £27 million resulting in a net gain on disposal of £23 million, recorded within administrative expenses in net operating expenses. A profit of £18 million was presented as an adjusting item, after deducting incremental costs of £4 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 £5 million was also recognised in the year.

13. Property, plant and equipment (extract)

During the 53 weeks to 2 April 2022, 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 2 April 2022. 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 29 March 2025, 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 9.9% and 18.4% (last year: between 9.6% and 14.1%) 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 since 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 52 weeks to 27 March 2021 a net impairment reversal of £47 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. This net reversal reflected improved trading expectations compared to those assumed at 28 March 2020. During the 53 weeks to 2 April 2022, 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 charge of £5 million, which has also been presented as an adjusting item in the current year. A net impairment reversal of £1 million was recorded against property, plant and equipment (last year: net impairment reversal of £9 million) and a charge of £6 million was recorded against right-of-use assets (last year: net impairment reversal of £38 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 £3 million (last year: £nil) 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 £2 million (last year: charge of £nil) was recorded against property, plant and equipment and a net charge of £1 million (last year: charge of £nil) was recorded against right-of-use assets.

The net impairment charge recorded in property, plant and equipment related to 13 retail cash generating units (last year: net impairment reversal related to 25 retail cash generating units) for which the total recoverable amount at the balance sheet date is £7 million (last year: £33 million).

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 10% from the estimate used to determine the impairment charge or reversal. We have also considered retail cash generating units with no indicators of impairment but with a significant asset balance. It is estimated that a 10% decrease/increase in revenue assumptions for the 52 weeks to 1 April 2023, with no change to subsequent forecast revenue growth rate assumptions, would result in a less than £10 million increase / less than £10 million decrease in the impairment charge of retail store assets in the 53 weeks to 2 April 2022.

An impairment charge of £nil (last year: £1 million) was recognised in relation to non-retail property, plant and equipment. Refer to note 6 for details of adjusting items. As a result the total net impairment charge for property, plant and equipment was £1 million (last year: net impairment reversal of £7 million).

As of 2 April 2022 the Group had three freehold properties that met the criteria to be classified as held for sale. These assets were required to be recorded at the lower of carrying value or fair value less any costs to sell. As the fair value less any costs to sell exceeded the carrying value for each, the related assets and liabilities were recorded at their carrying value. The sale of these properties is expected to complete within the next 12 months.

14. Right-of-use assets (extract)

As a result of the assessment of retail cash generating units for impairment, a net impairment charge of £7 million (last year: net impairment reversal of £34 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 charge comprises £6 million relating to the impact of COVID-19 on the value-in-use of retail cash generating units (last year: £38 million reversal) and £1 million relating to other trading impacts was recognised during the year (last year: £nil). The charge relating to COVID-19 has been presented as an adjusting item (refer to note 6).

The net impairment charge recorded in right-of-use assets relates to 12 retail cash generating units (last year: net impairment reversal related to 27 retail cash generating units) for which the total recoverable amount at the balance sheet date is £26 million (last year: £200 million).

In the prior year, an impairment charge of £4 million was recognised in relation to vacant office premises as part of restructuring costs in adjusting items.

As a result, the net impairment charge for right-of-use assets was, in total, £7 million (last year: net impairment reversal of £34 million).

17. Inventories (extract)

As at 28 March 2020, £68 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, £14 million of the provision has been utilised (last year: £4 million), where inventory previously provided for had been sold below cost in the current year and is recognised in cost of sales. An additional £16 million has been released upon re-assessment of the provision (last year: £22 million), 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 £17 million in the next 12 months. This would result in a potential range of inventory provisions of 13.1% to 19.8% as a percentage of the gross value of inventory as at 2 April 2022.

The net movement in inventory provisions included in cost of sales for the 53 weeks to 2 April 2022 was a release of £1 million (last year: release of £11 million). The total reversal of inventory provisions during the current year, which is included in the net movement, was £43 million (last year: reversal of £67 million). Both these amounts include the reversal of £16 million (last year: £22 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 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. During the 53 weeks to 2 April 2022 and 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 2 April 2022 and 27 March 2021 compared to the previous year end. As a result of these reassessments, management has reduced some of the expected credit loss rates. A reversal to the impairment provision of £1 million (last year: £3 million), resulting from the reduction in credit loss rate assumption, has been recorded as an adjusting item. The remaining increase of £nil (last year: reduction £1 million), arising from changes in the value and quality of the receivables portfolio, has been included in adjusted operating profit.