Patents
If a patent is purchased, the full purchase price is recorded in the patent account. In
most cases, the purchase price of the patent would reimburse the seller for research
costs in developing the product patented, as well as for the legal costs of filing and
defending the patent.
If a patent is developed internally, only the legal costs to file and defend the patent
may be recorded in the patent account. All research and development costs to discover
and perfect the product or technology must be recorded as expenses as they are
incurred. Research and development costs are expensed because a company can never
be sure whether or not its projects will lead to marketable products. Once a product is
determined to be marketable, it would be difficult to go back and trace all the costs
that went into the product—especially since it may have taken several years to
develop the product.
As a result, patents that are developed internally will be carried at a substantially
lower value than patents that are purchased.
Goodwill
Let's say that you wanted to open a restaurant that specializes in pizza. You price
ovens, refrigerators, tables, chairs, cash registers—all the items you need to open your
restaurant. You discover that the needed equipment will cost $75,000.
You also hear that the owner of a local pizzeria wants to sell his business. This
business has all of the equipment you had priced for your own store. Although this
equipment is used, it is in good working order. The business is in a location
equivalent to the one you were considering. This pizzeria has been in business for
more than 20 years and has an established clientele. The owner is asking $125,000 for
his business.
How can the owner of the established pizzeria justify asking $125,000 for a business,
when the same equipment could be purchased new for $75,000?
Whenever a company is purchased at a price higher than the value of its assets,
goodwill is recognized. If you were to purchase the established pizzeria, you would
record the following entry:
Assets (list actual accounts) 75,000
Goodwill…………………. 50,000
Cash………………
125,000