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Accounting forIntangible Assets

Many organisations will have intan-

gible assets on their statement of

financial position. Intangible assets

can comprise assets such as:

· Licences and quotas.

· Patents and copyrights.

· Computer software.

· Trademarks.

· Franchises.

· Marketing rights.

To be eligible for (potential) recogni-

tion on the statement of financial

position, the intangible asset must

be identifiable. The term ‘identifi-

able’ essentially means that the asset

has the capability of being separated

from the rest of the organisation;

in addition, an intangible asset can

also meet the recognition criteria

when it arises from legal rights.

To quickly recap, the Conceptual

Framework defines an asset as: ‘a

resource controlled by the entity

as a result of past events from

which future economic benefits are

expected to flow’.

Therefore it follows that if the

intangible is not capable of being

separated from the business, or if it

does not arise from legal rights and

also does not meet the definition

of an asset in the IASB’s Concep-

tual Framework then no intangible

asset can be recognised on the

statement of financial position and

it is written off to profit or loss.

When you are dealing with the

accounting issues for intangible

assets, you need to be extremely

This article will look at the principles contained inIAS 38 ‘Intangible Assets’ and take a look at the different sorts of intangible assets that can be recognised on the statement of financial position as well as those which are prohibited.

Steve CollingsSteve Collings is the audit and technical partner at Leavitt Walmsley Associates Ltd and is the author of The Interpretation and Application of International Standards on Auditing.

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Technical22 23globalaccountantmagazine.com

careful because some items might

come across as being eligible for

recognition, but in fact are prohib-

ited. IAS 38 prohibits ‘internally-

generated’ intangible assets from

being recognised on the state-

ment of financial position; some

examples of the more ‘common’

internally-generated items that are

prohibited in IAS 38, which you

might come across in studies (or

even in real life) are:

· goodwill

· customer lists

· brands

· mastheads

· publishing titles

Business combinations

One word of caution to students

who are currently studying finan-

cial reporting papers – IAS 38 does

not cover goodwill acquired in a

business combination (i.e. the pur-

chase of a subsidiary); this is dealt

with in the provisions of IFRS 3

Business Combinations despite the

fact that goodwill is an intangible

asset. I will be covering the prin-

ciples in IFRS 3 in a later article.

During a business combination, a

presumption is made that the fair

value of an intangible asset can be

made reliably. However, during a

business combination if the intangi-

ble asset does not meet the definition

of, and the recognition criteria for, an

intangible asset then the expenditure

on the intangible asset should form

part of the amount attributed to the

goodwill on acquisition.

Measurement

Once you have established that

you have an intangible asset then

you need to know how to account

for it. IAS 38 offers two choices in

the form of:

· the cost model; and

· the revaluation model.

Under the cost model, the intan-

gible asset is carried at its cost and

amortised over its expected useful

life. If there are indicators of im-

pairment in an accounting period,

then the intangible must be written

down to its recoverable amount

(impairments are dealt with in IAS

36 Impairment of Assets). Do not

forget that assets can never be stat-

ed at any more than their recover-

able amount in the statement of

financial position. In real life, the

cost model is the most common

method used to measure intangible

assets after initial recognition.

Extreme care must be exercised if

an organisation wishes to measure

intangible assets under the revalua-

tion model after initial recognition!

This is because there has to be an

active market in order to obtain

fair values. The reality is that active

markets are particularly rare and

therefore the revaluation model is

not used, though IAS 38 suggests

active markets may exist for:

· production quotas

· fishing licences

· taxi licences

Amortisation

Once you have recognised an

intangible asset at cost and you

choose to measure it under the

cost model after initial recognition,

amortisation must be charged on

an intangible asset which has a

finite useful life. In the real world,

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amortisation is charged on a

straight-line basis over the life of

the intangible asset and usually has

a residual value of nil.

There are some intangible assets

which might be considered to have

an indefinite useful life. For such

intangible assets, amortisation is

not charged but these intangible

assets are tested annually for

impairment. There may also be cir-

cumstances or events which might

mean that an intangible asset which

had been previously assessed as

having an indefinite useful life now

has a finite useful life. When these

situations arise, the change from an

indefinite life to a finite life must

be accounted for as a change in

an accounting estimate as per IAS

8 Accounting Policies, Changes in

Accounting Estimate and Errors. Be-

cause it is an accounting estimate

change, the change is applied going

forward (prospectively) – in other

words you do not go back and

apply the change retrospectively

(this is only done for changes in

accounting policy).

Research and development

Many companies will carry out

research and development; for ex-

ample, a pharmaceutical company

which is looking to bring out a new

drug. The issue of research and

development can be quite prob-

lematic because of the extremely

different accounting treatments

between research expenditure and

development expenditure. All re-

search expenditure is written off to

the income statement as and when

it is incurred, whereas develop-

ment costs can be recognised as

an intangible asset if, and only if,

an entity can demonstrate all of the

following:

· the technical feasibility of

completing the intangible asset

so that it will be available for

use or sale;

· its intention to complete the in-

tangible asset and use or sell it;

· its ability to use or sell the

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intangible asset;

· how the intangible asset will

generate probable future

economic benefits. The entity

should also demonstrate the

existence of a market for the

intangible asset’s output or the

intangible asset itself or, if it is

to be used within the entity,

the usefulness of the intangible

asset;

· the availability of technical,

financial and other resources

to complete the development

and to use or sell the intangible

asset; and

· its ability to reliably measure

the expenditure attributable to

the intangible asset during its

development.

Example

1. An entity spent $25,000 in un-

dertaking market research into the

design of a new product which will

be made available within the next

five years.

The above example is a classic

example of research expenditure

which should be written off to the

income statement as and when it

is incurred because such costs are

incurred very early in the design

stage.

2. Another entity has just spent

$100,000 developing a new drug

which is going to be on sale

within the next six months. The

research phase was completed two

years ago and the entity is able to

demonstrate all six criteria for the

recognition of development expen-

diture on its statement of financial

position.

The $100,000 expenditure on the

new drug is clearly development

costs as the drug is going to be

on sale within a short period of

time. In addition, the entity has

been able to demonstrate the rec-

ognition criteria for development

costs in IAS 38.

Be careful with development costs

and how they are recognised as

an intangible asset – development

expenditure can only be recognised

as an intangible asset after the rec-

ognition criteria has been met. Any

development expenditure which

has already been recognised as an

expense in profit or loss cannot be

reinstated as an intangible asset.

Amortisation of develop-

ment costs

When you have satisfied the IAS

38 criteria in respect of develop-

ment costs, the entity must then

amortise the capitalised develop-

ment costs over the useful life as

soon as commercial production

begins.

Conclusion

IAS 38 is a relatively straight for-

ward accounting standard and the

majority of its technical content is

mainly common sense. Students

need to have a full awareness of

the recognition criteria which is

contained in the IASB’s Concep-

tual Framework as well as the two

subsequent measurement methods

within IAS 38. Remember, it will

be quite rare to adopt the revalua-

tion model to value intangible as-

sets – only when an active market

exists will it be permissible to carry

intangible assets at valuation.