CHAPTER 12
Intangible Assets
LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Discuss the characteristics, 4. Identify impairment
valuation, and amortization of procedures and presentation
intangible assets. requirements for intangible
assets.
2. Describe the accounting for
various types of intangible 5. Describe the accounting and
assets. presentation for research and
development and similar
3. Explain the accounting issues for
costs.
recording goodwill.
12-1
MAIN TOPICS
12-2
Intangible Asset Issues
Characteristics
◆ Identifiable.
◆ Lack physical existence.
◆ Not monetary assets.
Normally classified as non-current asset.
Common types of intangibles:
1. Marketing-related. 4. Contract-related.
2. Customer-related. 5. Technology-related.
3. Artistic-related. 6. Goodwill.
12-3 LO 1
Intangible Asset Issues
Valuation
Purchased Intangibles
◆ Recorded at cost.
◆ Includes all acquisition costs plus expenditures to make
the intangible asset ready for its intended use.
◆ Typical costs include:
► Purchase price.
► Legal fees.
► Other incidental expenses.
12-4 LO 1
Valuation
Internally Created Intangibles
◆ Might include patents, computer software, copyrights,
and trademarks.
◆ Companies expense all research phase costs and some
development phase costs.
◆ Certain development costs are capitalized once
economic viability criteria are met.
◆ IFRS identifies several specific criteria that must be met
before development costs are capitalized.
12-5 LO 1
Intangible Asset Issues
Internally Created Intangibles
ILLUSTRATION 12.1
Research and Development Stages
12-6 LO 1
Intangible Asset Issues
Amortization of Intangibles
Limited-Life Intangibles
◆ Amortize by systematic charge to expense over useful life.
◆ Amortization expense should reflect the pattern in which
the company consumes or uses up the asset.
◆ Credit asset account or accumulated amortization.
◆ Amortization should be cost less residual value.
◆ Companies must evaluate the limited-life intangibles
annually for impairment.
12-7 LO 1
Intangible Asset Issues
Amortization of Intangibles
Indefinite-Life Intangibles
◆ No foreseeable limit on time the asset is expected to
provide cash flows.
◆ No amortization.
◆ Must test indefinite-life intangibles for impairment at least
annually.
12-8 LO 1
Intangible Asset Issues
Amortization of Intangibles
ILLUSTRATION 12.2
Accounting Treatment for Intangibles
12-9 LO 1
Types of Intangible Assets
Six Major Categories:
1. Marketing-related. 4. Contract-related.
2. Customer-related. 5. Technology-related.
3. Artistic-related. 6. Goodwill.
12-10 LO 2
Types of Intangible Assets
Marketing-Related Intangible Assets
◆ Examples:
► Trademarks or trade names, newspaper
mastheads, Internet domain names, and non-
competition agreements.
◆ Under common law, the right to use a trademark or
trade name rests exclusively with the original user
as long as the original user continues to use it.
◆ Capitalize purchase price.
◆ No amortization.
12-11 LO 2
Types of Intangible Assets
Customer-Related Intangible Assets
◆ Examples:
► Customer lists, order or production backlogs, and both
contractual and non-contractual customer
relationships.
◆ Capitalize acquisition costs.
◆ Amortized to expense over useful life.
12-12 LO 2
Types of Intangible Assets
Illustration: Green Market AG acquires the customer list of a large
newspaper for €6,000,000 on January 1, 2019. Green Market expects
to benefit from the information evenly over a three-year period.
Record the purchase of the customer list and the amortization of the
customer list for each year on the straight-line basis.
Jan. 1 Customer List
2019
Cash
Dec. 31 Amortization Expense
2019
Customer List *
2020
2021
12-13 * or Accumulated Amortization LO 2
Types of Intangible Assets
Artistic-Related Intangible Assets
◆ Examples:
► Plays, literary works, musical works, pictures,
photographs, and video and audiovisual material.
◆ Copyright granted for the life of the creator plus 70
years.
◆ Capitalize costs of acquiring and defending.
◆ Amortized to expense over useful life if less than the legal
life.
and Mickey
Mouse
12-14 LO 2
Types of Intangible Assets
Contract-Related Intangible Assets
◆ Examples:
► Franchise and licensing agreements, construction permits,
broadcast rights, and service or supply contracts.
◆ Franchise (or license) with a limited life should be amortized
as operating expense over the life of the franchise.
◆ Franchise with an indefinite life should be carried at cost and
not amortized.
12-15 LO 2
Types of Intangible Assets
Technology-Related Intangible Assets
◆ Examples:
► Patented technology and trade secrets granted by a
government body.
◆ Patent gives holder exclusive use for a period of 20 years.
◆ Capitalize costs of purchasing a patent.
◆ Expense all R&D costs and any development costs incurred
before achieving economic viability.
◆ Amortize over legal life or useful life, whichever is shorter.
12-16 LO 2
Types of Intangible Assets
Illustration: Harcott Co. incurs $180,000 in legal costs on January
1, 2019, to successfully defend a patent. The patent’s useful life is
10 years, amortized on a straight-line basis. Harcott records the
legal fees and the amortization at the end of 2019 as follows.
Jan. 1 Patents
Cash
Dec. 31 Patent Amortization Expense
Patents (or Accumulated Amortization)
Patent Amortization Expense = ($180,000 ÷ 10) = $
12-17 LO 2
Types of Intangible Assets
Goodwill
Conceptually, represents the future economic benefits arising from
the other assets acquired in a business combination that are not
individually identified and separately recognized.
Only recorded when an entire business is purchased.
Goodwill is measured as the ...
excess of cost over the fair value of the identifiable net assets
(assets less liabilities) acquired.
Internally created goodwill should not be capitalized.
12-18 LO 3
Recording Goodwill
Illustration: Feng, Inc. decides that it needs a parts division to
supplement its existing tractor distributorship. The president of Feng is
interested in buying Tractorling SA. The illustration presents the
statement of financial position of Tractorling SA.
ILLUSTRATION 12.4
Tractorling Statement of Financial Position
12-19 LO 3
Recording Goodwill
Illustration: Feng investigates Tractorling’s underlying assets to
determine their fair values. ILLUSTRATION 12.5
Fair Value of Tractorling’s Net Assets
Tractorling Company decides to accept Feng’s offer of $400,000. What
is the value of the goodwill, if any?
12-20 LO 3
Recording Goodwill
Illustration: Determination of Goodwill.
ILLUSTRATION 12.6
Determination of Goodwill—
Master Valuation Approach
12-21 LO 3
Recording Goodwill
Illustration: Feng records this transaction as follows.
Property, Plant, and Equipment 205,000
Patents 18,000
Inventory 122,000
Accounts Receivables 35,000
Cash 25,000
Goodwill 50,000
Liabilities 55,000
Cash 400,000
12-22 LO 3
Recording Goodwill
Goodwill Write-Off
◆ Goodwill considered to have an indefinite life.
◆ Should not be amortized.
◆ Only adjust carrying value when goodwill is impaired.
Bargain Purchase
◆ Purchase price less than the fair value of net assets
acquired.
◆ Amount is recorded as a gain by the purchaser.
12-23 LO 3
Impairment of Intangible Assets
An intangible asset is impaired when a company is not able
to recover the asset’s carrying amount either through using it
or by selling it.
The specific procedures for recording impairments depend
on the type of intangible asset—
1. limited-life or
2. indefinite-life (including goodwill).
12-24 LO 4
Impairment of Limited-Life Intangibles
The rules that apply to impairments of property, plant, and
equipment also apply to limited-life intangibles.
The impairment loss is the carrying amount of the asset less
the recoverable amount of the impaired asset.
12-25 LO 4
Impairment of Limited-Life Intangibles
Fair value less costs to sell means what the asset could be sold
for after deducting costs of disposal. Value-in-use is the present
value of cash flows expected from the future use and eventual
sale of the asset at the end of its useful life.
12-26 LO 4
Impairment of Limited-Life Intangibles
Illustration: Lerch SE has a patent on how to extract oil from shale
rock, with a carrying value of €5,000,000 at the end of 2018.
Unfortunately, several recent non-shale-oil discoveries adversely
affected the demand for shale-oil technology, indicating that the patent
is impaired. Lerch determines the recoverable amount for the patent,
based on value-in-use (because there is no active market for the
patent). Lerch estimates the patent’s value-in-use at €2,000,000,
based on the discounted expected net future cash flows at its market
rate of interest.
12-27 LO 4
Impairment of Limited-Life Intangibles
Calculate the impairment loss (based on value-in-use).
€3,000,000 Impairment Loss
€5,000,000 €2,000,000
Unknown €2,000,000
12-28 LO 4
Impairment of Limited-Life Intangibles
Calculate the impairment loss (based on value-in-use).
€3,000,000 Impairment Loss
€5,000,000 €2,000,000
Lerch makes the following entry to record the impairment.
Loss on Impairment
Unknown $2,000,000
Patents
12-29 LO 4
Impairment of Limited-Life Intangibles
Reversal of Impairment Loss
Illustration: The carrying value of the patent after impairment is
€2,000,000. Lerch’s amortization is €400,000 (€2000,000 ÷ 5) over
the remaining five years of the patent’s life. The amortization
expense and carrying amount after the impairment is shown below:
ILLUSTRATION 12.8
Post-Impairment Carrying Value of Patent
12-30 LO 4
Impairment of Limited-Life Intangibles
Reversal of Impairment Loss
Early in 2020, based on improving conditions in the market for
shale-oil technology, Lerch remeasures the recoverable amount of
the patent to be €1,750,000. In this case, Lerch reverses a portion
of the recognized impairment loss.
Patents (€1,750,000 - €1,600,000)
Recovery of Impairment Loss
12-31 LO 4
Impairment of Intangible Assets
Impairment of Indefinite-Life Intangibles
Other than Goodwill
◆ Should be tested for impairment at least annually.
◆ Impairment test is the same as that for limited-life
intangibles. That is,
► compare the recoverable amount of the intangible
asset with the asset’s carrying value.
► If the recoverable amount is less than the carrying
amount, the company recognizes an impairment.
12-32 LO 4
Impairment of Indefinite-Life Intangibles
Illustration: Arcon Radio purchased a broadcast license for
€2,000,000. The license is renewable every 10 years. Arcon Radio
has renewed the license with the GCC twice, at a minimal cost.
Because it expects cash flows to last indefinitely, Arcon reports the
license as an indefinite-life intangible asset. Recently, the GCC
decided to auction these licenses to the highest bidder instead of
renewing them. Based on recent auctions of similar licenses, Arcon
Radio estimates the fair value less costs to sell (the recoverable
amount) of its license to be €1,500,000.
ILLUSTRATION 12.9
Computation of Loss on Impairment of Broadcast License
12-33 LO 4
Impairment of Intangible Assets
Impairment of Goodwill
◆ Companies must test goodwill at least annually.
◆ Impairment test is conducted based on the cash-generating
unit to which the goodwill is assigned.
► Cash-generating unit = smallest identifiable group of
assets that generate cash flow.
◆ Estimation of the recoverable amount for goodwill impairments
is usually based on value-in-use estimates.
◆ Goodwill impairment loss reversals are not permitted.
12-34 LO 4
Impairment of Goodwill
Illustration: Kohlbuy AG has three divisions. It purchased one
division, Pritt Products, four years ago for €2 million. Unfortunately,
Pritt experienced operating losses over the last three quarters.
Kohlbuy management is now reviewing the division (the cash-
generating unit), for purposes of its annual impairment testing.
Illustration 12.10 lists the Pritt Division’s net assets, including the
associated goodwill of €900,000 from the purchase.
ILLUSTRATION 12.10
12-35 LO 4
Impairment of Goodwill
Kohlbuy determines the recoverable amount for the Pritt Division to
be €2,800,000, based on a value-in-use estimate.
€2,400,000 €2,800,000
No
Impairment
Unknown €2,800,000
12-36 LO 4
Impairment of Goodwill
Assume that the recoverable amount for the Pritt Division is
€1,900,000 instead of €2,800,000.
€500,000 Impairment Loss
€2,400,000 €1,900,000
Unknown €1,900,000
12-37 LO 4
5
Impairment of Goodwill
Assume that the recoverable amount for the Pritt Division is
€1,900,000 instead of €2,800,000.
€500,000 Impairment Loss
€2,400,000 €1,900,000
Kohlbuy makes the following entry to record the impairment.
Loss on Impairment
Goodwill Unknown $1,900,000
12-38 LO 4
5
Presentation of Intangible Assets
Statement of Financial Position
◆ Companies should report as a separate item all
intangible assets other than goodwill.
◆ Reporting is similar to the reporting of property, plant,
and equipment.
◆ Contra accounts are not normally shown for
intangibles.
12-39 LO 4
Presentation of Intangible Assets
Income Statement
Companies should report
◆ amortization expense and
◆ impairment losses and reversals
for intangible assets other than goodwill separately in net income
(usually in the operating section).
Notes to the financial statements should include the amortization
expense for each type of asset.
12-40 LO 4
Presentation of Intangible Assets
The reporting of intangible assets is similar to the reporting of
property, plant, and equipment.
ILLUSTRATION 12.12
Nestlé’s Intangible Asset Disclosures Unknown $1,900,000
12-41 LO 4
5
Research and Development Costs
Research and development (R&D) costs are not in
themselves intangible assets.
Frequently results in the development of patents or
copyrights such as new
◆ product, ◆ formula,
◆ process, ◆ composition, or
◆ idea, ◆ literary work.
12-42 LO 5
Research and Development Costs
◆ Research costs must be expensed as incurred.
◆ Development costs may or may not be expensed as
incurred.
◆ Capitalization begins when the project is far enough along
in the process such that the economic benefits of the R&D
project will flow to the company (the project is
economically viable).
12-43 LO 5
Research and Development Costs
Identifying R & D Activities ILLUSTRATION 12.14
Research Activities versus
Development Activities
Research Activities Examples
Original and planned investigation Laboratory research aimed at discovery of
undertaken with the prospect of gaining new knowledge; searching for applications of
new scientific or technical knowledge new research findings.
and understanding.
Development Activities Examples
Application of research findings or other Conceptual formulation and design of
knowledge to a plan or design for the possible product or process alternatives;
production of new or substantially construction of prototypes and
improved materials, devices, products, operation of pilot plants.
processes, systems, or services before
the start of commercial production or
use.
12-44 LO 5
Research and Development Costs
Accounting for R & D Activities
Costs Associated with R&D Activities:
◆ Materials, equipment, and facilities.
◆ Personnel.
◆ Purchased intangibles.
◆ Contract Services.
◆ Indirect Costs.
12-45 LO 5
Research and Development Costs
Costs Similar to R & D Costs
◆ Start-up costs for a new operation.
◆ Initial operating losses.
◆ Advertising costs.
These costs are expensed as incurred, similar to the
accounting for R&D costs.
12-46 LO 5
Presentation of R&D Costs
Companies should disclose the total R&D costs charged to
expense each period.
ILLUSTRATION 12.16
R&D Reporting
12-47 LO 5
