PROBLEMS ON IDENTIFIABLE INTANGIBLE ASSETS 2 ACFAR 2132 INTERMEDIATE ACCOUNTING LEOPOLDO D. MEDINA, CPA, MSA COPYRIGHT PROBLEM 1 Bookware Publishing Corp acquired a copyright to Bernardine Evaristo’s “Girl, Woman, Other”, a best seller novel and a 2019 Booker Prize winner, for P285,000 on January 1, 2020. The copyright has a remaining legal life of 20 years. Sales of the novel are estimated as: 2020 50,000 copies 2021 30,000 copies 2022 10,000 copies 2023 5,000 copies PREPARE JOURNAL ENTRIES FOR 2020 AND 2021. 2020 Copyright 285,000 Cash Amortization exp 285,000 150,000 Copyright 150,000 285,000/95,000 = 3 ; 2021 Amortization exp 3 x 50,000 = 150,000 90,000 Copyright 3 x 30,000 = 90,000 90,000 PROBLEM 2 Attenborough Company incorrectly charged the P300,000 cost of a copyright acquired in early 2019 to the retained earnings account. The error was discovered as part of the 2020 audit. The entity followed the policy of amortizing copyright cost over the expected period of benefit by the straight line method. The copy right is expected to be useful in producing revenue for 5 years. A. PREPARE JOURNAL ENTRY NECESSARY IN 2020 TO CORRECT THE PRIOR PERIOD ERROR. Copyright 240,000 Retained earnings Cost 240,000 300,000 -Amortization 300 T / 5 CA 60,000 240,000 B. PREPARE JOURNAL ENTRY TO RECORD THE AMORTIZATION OF THE COPYRIGHT FOR 2020. Amortization expense Copyright 60,000 60,000 PROBLEM 3 Brooks Company acquired three intangible assets before 2020. The entity is preparing financial statements on December 31, 2020. Before that date, no formal financial statements had been prepared and the cost of intangible assets had been charged to operations when acquired. The following intangible assets were accounted for in this manner. Acquisition date Useful life Cost Copyright 1 January 1, 2016 10 Copyright 2 July 1, 2017 360,000 Patent 15 January 1, 2018 400,000 10 500,000 A. PREPARE CORRECTING ENTRY TO RECORD AMORTIZATION OF INTANGIBLE ASSETS ON JANUARY 1, 2020. COPYRIGHT 1 COST Accumulat ed Amortizatio n Carrying Amount 1/1/2020 COPYRIGHT 2 400,000 400 T / 20 x4 360,000 360 T / 15 80,000 320,000 PATENT x 2.5 500,000 500 T / 10 60,000 300,000 x2 100,000 400,000 Copyright 620,000 Patent 400,000 Retained earnings 1,020,000 B. PREPARE JOURNAL ENTRY TO RECORD AMORTIZATION OF INTANGIBLE ASSETS FOR 2020. Amortization expense T 94,000 Copyright 44,000 Patent 50,000 20 T + 24 FRANCHISE PROBLEM 1 Forman Company entered into a franchise agreement to sell the products of a franchisor for 20 years. The agreement provides that Forman Company shall pay an initial fee of P6,000,000 in cash upon the signing of the agreement at the beginning of current year. The agreement further provides that the franchise shall pay a periodic fee of 5% based on the annual gross sales. During the current year, the entity realized gross sales of P250,000. PREPARE JOURNAL ENTRIES FOR THE CURRENT YEAR ON THE BOOKS OF THE FRANCHISEE. Franchine 6,000,000 Cash Amortization exp 6,000,000 300,000 6M / 20 Franchise Cash Sales Franchise fee exp Cash 300,000 25,000,000 25,000,000 1,250,000 25 M x 5 % 1,250,000 PROBLEM 2 At the beginning of current year, Levinson Company entered into a franchise agreement with Jollybee Company to sell Jollybee products for an indefinite period. The agreement provides for an initial fee of P20,000,000: P5,000,000 down upon signing of the contract and the balance in four equal annual payments every year-end. The entity signed 10% interest -bearing note for the balance. The collection of the note is reasonably assured. The agreement further provides that the franchisor will assist in the site location, make a survey of potential market and provide training of management and employees. Jollybee Company has already performed all initial services required under the agreement. PREPARE JOURNAL ENTRIES FOR THE CURRENT YEAR ON THE BOOKS OF THE FRANCHISEE. Franchise 20,000,000 Cash 5,000,000 Note payable discounted 15,000,000 interest bearing ; NOT Note payable 3,750,000 15 M / 4 Interest expense 1,500,000 15 M x 10% Cash 5,250,000 *there is no amortization ; franchise is for indefinite period PROBLEM 3 At the beginning of current year, Bertolucci Company signed an agreement to operate as a franchise of Pizza Delizioso for an initial franchise fee of P80,000,000 for a period of 10 years. Of this amount P3,000,000 was paid when the agreement was signed and the balance payable in five annual payments of P1,000,000 at every year-end. The franchise signed a noninterest -bearing note for the balance. The market rate of interest for this note is 10%. In return for the initial franchise fee, the franchisor will help in locating the site, negotiate the lease or purchase the site, supervise the construction activity and provide training to employees. The initial services required of the franchisor are substantially performed. PREPARE JOURNAL ENTRIES ON THE BOOKS OF THE FRANCHISEE FOR THE CURRENT YEAR. Initial payment 3,000,000 + PV of note 1M x 3.791 3,791,000 Cost of franchise 6,791,000 Face of note (1M x 5) 5,000,000 -PV of note 3,791,000 Implied interest or DNP 1,209,000 Franchise Discount on NP Cash 6,791,000 1,209,000 3,000,000 Note payable Amortization exp 10 5,000,000 679,100 Franchise Note payable Cash 6.791M / 679,100 1,000,000 1,000,000 INTEREST EXPENSE DISCOUNT ON NP PAYMENT 1.1.20 12.31.20 12.31.21 12.31.22 12.31.23 12.31.24 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 379,100 379,100 INTEREST 379,100 317,100 248,720 173,592 90,951 90,488 PRINCIPAL 620,900 682,900 751,280 826,408 909,512 PV OF NOTE 3,791,000 3,170,100 2,487,200 1,735,920 909,512 0 PROBLEM 4 At the beginning of current year, Cameron Company signed an agreement to operate as a franchisee for an initial franchise fee of P6,000,000. On the same date, the entity paid P2,000,000 and agreed to pay the balance in four equal annual payments of P1,000,000 at every year-end. The down payment is not refundable, and no future services are required of the franchisor. The entity can borrow at 14% for a loan of this type. WHAT IS THE INITIAL MEASUREMENT OF THE FRANCHISE? Downpayment 2,000,000 + PV of note 1M x 2.914 Initial measurement 2,914,000 4,914,000 TRADEMARK PROBLEM 1 Spielberg Company developed a trademark to distinguish its products from those of the competitors. Through advertising and other means, the entity is seeking to establish significant product identification to increase future sales. The similarity between the trademark costs and other intangible and operating costs has caused some confusion over proper accounting. The following items are being treated as part of the cost of the trademark: Marketing research to study consumer tastes Design costs of trademark 400,000 1,500,000 Legal fees of registering trademark 150,000 Advertising to establish recognition of trademark 200,000 Registration fee with Patent Office 50,000 WHAT IS THE INITIAL COST OF THE TRADEMARK? Design costs of trademark 1,500,000 Legal fees of registering trademark 150,000 Registration fee with Patent Office 50,000 1,700,000 PROBLEM 2 Zemeckis Company purchased a new trademark and incurred the following: Purchase price 1,000,000 Nonrefundable value added tax 50,000 Training of personnel on the use of new trademark 70,000 Research expenditures associated with the purchase of the new trademark 240,000 Legal cost incurred to register the new trademark Administrative salaries 120,000 105,000 WHAT IS THE INITIAL COST OF THE TRADEMARK? Purchase price Nonrefundable value added tax 1,000,000 50,000 Legal cost incurred to register the new trademark 105,000 1,155,000 PROBLEM 3 On January 1, 2020, Minghella Company acquired the following intangible assets: A trademark for P2,000,000. The trademark has a remaining legal life of 8 years. The trademark will be renewed in the future indefinitely without problem. The trademark is now expected to generate cash flows of just P120,000 per year. A patent for P6,000,000. The patent has an economic life for just 5 years. On December 31, 2020, the intangible assets are tested for impairment. The cash flows expected to be generated by the patent amount to P1,000,000 annually for each of the next 4 years. The appropriate discount rate for all intangible assets is 8%. A. WHAT IS THE TOTAL IMPAIRMENT LOSS ON TRADEMARK? CA 2,000,000 IL > VIU 1,500,000 ** 500,000 ** the trademark has INDEFINITE life ; to get the VIU, simply 120,000 / 80 % 8 yrs / 10 yrs legal life B. WHAT IS THE IMPAIRMENT LOSS ON PATENT? Cost 6,000,000 -Amort 6M / 5 CA 1 M x 3.312 1,200,000 4,800,000 > VIU IL 1,488,000 3,312,000 PROBLEM 4 Redford Company reported the following account balances on January 1, 2020: Patent 1,920,000 Accumulated amortization 240,000 Transactions during the current year and other information relating to intangible assets were as follows: The patent was purchased for P1,920,000 on January 1, 2018 at which date the remaining legal life was 16 years. On January 1, 2020, the entity determined that the useful life of the patent was only eight years form the date of acquisition. On January 1, 2020, in connection with the purchase of a trademark from another entity, the parties entered into a noncompetition agreement and a consulting contract. The entity paid the other party P800,000, of which three- fourths was for the trademark, and one-fourth was for the counterparty’s agreement not to compete for a five-year period in the line of business covered by the trademark. The entity considered the useful life of the trademark to be indefinite. Under the consulting contract, the entity agreed to pay the counterparty P50,000 annually on January 1 of each year for 5 years. The first payment was made on January 1, 2020. PREPARE JOURNAL ENTRIES FOR THE CURRENT YEAR. Amortization exp 280,000 Accumulated amortization 1.92 M – 240 T Trademark (3/4) / 280,000 6 yrs = 280 T 600,000 Noncompetition agreement (1/4) 200,000 Cash 800,000 Amortization exp agreement 40,000 for noncompetition Accumulated amortization 200 T / 5 indefinite life Royalty expense Cash 40,000 ; trademark is not amortized because of its 50,000 50,000 * PPE ; NOT AN INTANGIBLE ASSET LEASEHOLD IMPROVEMENT* PROBLEM 1 On January 1, 2018, Polanski Company signed a 12-year lease for warehouse space. The entity has an option to renew the lease for an additional 8-year period on or before January 1, 2021. During January 2020, the entity made substantial improvement to the warehouse. The cost of the improvement was P540,000 with an estimated useful life of 15 years. On December 31, 2020, the entity intended to exercise the renewal option. The entity has taken a full year depreciation on this leasehold improvement for 2020. ON DECEMBER 31, 2020, WHAT IS THE CARRYING AMOUNT OF THE LEASEHOLD IMPROVEMENT? original life 540,000 12 + extension 36,000 8 total 504,000 20 - expired 2 Revised remaining 18 Cost -AD 540T / 15 CA > 15 PROBLEM 2 On January 1,2020, Mendes Company signed an eight-year lease for office space. The entity had the option to renew the lease for an additional four-year period on or before January 1, 2027. In early January 2020, the entity incurred the following costs: P1,200,000 for general improvement to the leased premises with an estimated useful life of ten years. P500,000 for office furniture and equipment with useful life of ten years. P400,000 for moveable assembly line equipment with useful life of 5 years. On December 31, 2020, the entity’s intention as to exercise of the renewal option is uncertain. WHAT IS THE ACCUMULATED DEPRECIATION OF LEASEHOLD IMPROVEMENT OF DECEMBER 31, 2020? Accumulated depreciation 1.2 M / 8 = 150,000 EXPENSE ; NOT AN INTANGIBLE ASSET ORGANIZATION COSTS* Soderbergh Company, a major winery, started construction of a new facility in Bacolod City. The entity incurred the following costs in conjunction with the start-up activities of the new facility: Production equipment 8,150,000 * Travel costs of salaried employees License fee 400,000 140,000 ** Training of local employees for production and maintenance operations 1,200,000 Advertising costs 850,000 WHAT PORTION OF THE ORGANIZATION COSTS SHOULD BE EXPENSED? *Capitalized as Equipment 8,150,000 **If License fees are in connection with licensing in securing the patent rights, then this item is capitalized as Patent 140,000 Therefore, the answer is : 2,450,000 start-up costs ; not simply organization costs Start-up costs : organization costs, pre-operating costs, preopening costs