Chapter 6
Intangible Assets
1.
Describe the characteristics of intangible assets.
2.
Identify the costs to include in the initial valuation of intangible assets.
3.
Explain the procedure for amortizing intangible assets.
4.
Describe the types of intangible assets.
5.
Explain the conceptual issues related to goodwill.
6.
Describe the accounting procedures for recording goodwill.
7.
Explain the accounting issues related to intangible-asset impairments.
8.
Identify the conceptual issues related to research and development costs.
9.
Describe the accounting for research and development and similar costs.
10. Indicate the presentation of intangible assets and related items.
Intangible Assets
Intangible assets are those noncurrent economic
resources that are used in the operations of the
business but have no physical existence.
Patents
Copyrights
Franchises
Intangible Assets
Intangible assets are those noncurrent economic
resources that are used in the operations of the
business but have no physical existence.
® a registered
trademark
Trademarks
Computer
software costs
Goodwill
Intangible Assets
Useful life is
often difficult
to determine.
Lack physical
substance.
Intangible
Assets
Economic benefits
last beyond the
current period.
Usually acquired
for operational
use.
Intangible Assets
Classification Attributes

Manner of acquisition

Identifiability

Exchangeability

Period of expected benefit
Intangible Assets
Accounting
At acquisition:
record at cost.
During use:
use the matching principle
to allocate cost to expense.
At disposition:
use the revenue recognition
principle to record any gain
or loss that might result.
Intangible Assets Determination of Cost

Record at current cash equivalent cost, including
purchase price, transfer, and legal fees.

If the asset is acquired through a nonmonetary exchange,
cost is
- cash paid, plus
- the current market value of the noncash consideration given.
Intangible Assets Determination of Cost

If the asset is created internally, the cost may include
- only the costs directly associated with the creation of the
intangible asset.

Costs classified as R&D must be expensed in the period
incurred.
- SFAS No. 2
Intangible Assets Amortization of Cost
•
Intangibles are written off over their useful lives, where
the assets have determinable useful lives.
•
Where the intangibles have indefinite useful lives, they
are not amortized.
•
Acquired intangibles should not be written off at
acquisition.
Intangible Assets Amortization of Cost
Factors to consider when estimating the
useful life of an intangible asset:
1.
2.
3.
Legal, regulatory, or contractual provisions that place a
limit on the maximum economic life.
Provisions for renewal or extension of rights or
privileges covered by specific intangible assets.
Effects of obsolescence, customer demand, competition,
rate of technological change, and other economic
factors.
Continued
Intangible Assets Amortization of Cost
Factors to consider when estimating the
useful life of an intangible asset:
4.
Possibility that the economic lives of intangibles
may be related to life expectancies of certain groups
of employees.
5.
Expected actions of competitors, regulatory bodies,
and others.
Intangible Assets Amortization of Cost
Intangible
Assets With a
Finite Life Are
Amortized.
The calculation of the
amortization of intangible
assets follows the same
principles as the depreciation
of tangible assets.
Intangible Assets Amortization of Cost
Amortization systematically and
rationally allocates the acquisition cost
of intangible assets to expense.
Acquisition
Cost
Cost
Allocation
Expense
Intangible Assets Amortization of Cost
1.
Select a method based on the pattern of
benefits, if not determinable, use the straight
line method.
2.
Intangible assets do not have a residual value.
Intangible Assets Amortization of Cost

The entry to record amortization of an intangible asset
includes:
- a debit to Amortization Expense.
- a credit directly to the intangible asset account.
Intangible Assets Amortization of Cost
A company purchases a patent for $85,000.
Patent
Cash
85,000
85,000
At year-end the patent is amortized over 10
years (no expected residual value).
Amortization Expense (or
Factory Overhead)
8,500
Patent (or Accumulated
Amortization: Patent)
8,500
Patents


An exclusive right recognized by law and
registered with the US Patent Office.
The holder is allowed to use, manufacture, sell,
and control the item, process, or activity
without interference or infringement by others.
Patents
 Costs of purchasing patents are capitalized.
 Costs to research and develop patents are
expensed as incurred.
 Patents are amortized over the shorter of the
legal life (20 years) or their useful lives.
 Legal fees incurred to successfully defend
patents are capitalized.
Patents
Question
Batter-Up, Inc. has developed a new device.
Patent registration costs consisted of $2,000
in attorney fees and $1,000 in federal
registration fees.
What is Batter-Up’s amortizable cost?
Patents
Question
Batter-Up, Inc. has developed a new device.
Patent registration costs consisted of $2,000
in attorney fees and $1,000 in federal
registration fees.
What is Batter-Up’s amortizable cost?
Batter-Up’s cost for the new
patent is $3,000.
Patents
Question
Batter-Up has estimated that the device has a
useful life of 5 years. The legal life is 20 years.
At the end of year 1, what is Batter-Up’s
amortization expense?
Patents
Question
Batter-Up has estimated that the device has a
useful life of 5 years. The legal life is 20 years.
At the end of year 1, what is Batter-Up’s
amortization expense?
Use the shorter of useful life or legal life; 5 years.
Amortization
=
Cost ÷ Est. Useful Life
= $3,000 ÷ 5 years
= $600
Patents
Question
Prepare the adjusting entry to record BatterUp’s amortization expense for the period.
Patents
Question
Prepare the adjusting entry to record BatterUp’s amortization expense for the period.
GENERAL JOURNAL
Page:
Date
Description
Amortization Expense
Device Patent
to record patent amortization
for the period
PR
Debit
15
Credit
600
600
Copyrights


A form of protection given by law to authors
of literary, musical, artistic, and similar works.
Copyright owners have exclusive rights to
print, reprint, copy, sell or distribute, perform
and record the work.
Copyrights
•
•
Copyrights are granted for life of the creator plus 70
years.
Copyrights can be sold or assigned, but cannot be
renewed.
•
Copyrights are amortized over their useful life.
•
Costs of acquiring copyrights are capitalized.
•
Research and development costs involved are
expensed as incurred.
Trademarks and Trade Names
• A symbol, design, or logo associated with a
business.
• Trademarks and trade names are renewable
indefinitely by the original user in periods of
10 years each.
Trademarks and Trade Names
•
•
Costs of acquired trademarks or trade names
are capitalized.
If trademarks or trade names are developed by
the a business, all direct costs (except R&D
costs) are capitalized.
Franchises and Licenses
•
A franchise is a contractual agreement under which:
The franchisor grants the franchisee:
• the right to sell certain products or services,
• the right to use certain trademarks or trade
names, or
• the right to perform certain functions, within a
certain geographical area.
Franchises and Licenses
•
•
•
•
A franchise may be for a limited time, for an
indefinite time period, or perpetual.
The cost of a franchise (for a limited time) is
amortized over the franchise term.
A franchise (for an unlimited time) is carried at cost
and not amortized.
Annual payments for a franchise are expensed.
Intangible Assets
Goodwill


Represents the value associated with favorable
characteristics of a firm that result in earnings
in excess of those expected from identifiable
assets of the firm.
For many large firms, goodwill is a major
reported asset.
Intangible Assets
Goodwill


Goodwill is always present, but is only
recorded when one company combines with
another company.
Goodwill is the excess of the actual purchase
price of an acquired firm over the fair market
value (FMV) of the identifiable net assets
acquired.
Intangible Assets
Goodwill Example
Eddy Company paid $1,000,000 to purchase all of
James Company’s assets and assumed James
Company liabilities of $200,000. James Company’s
assets were appraised at a fair value of $900,000.
Goodwill
Question
What amount of goodwill should be
recorded on Eddy Company books?
a. $100,000
b. $200,000
c. $300,000
d. $400,000
Goodwill
Question
What amount of goodwill should be
recorded on Eddy Company books?
a. $100,000
FMV of Assets
Debt Assumed
$
b. $200,000
FMV of Net Assets
Purchase Price
Goodwill
$
c. $300,000
d. $400,000
900,000
200,000
700,000
1,000,000
$ 300,000
Goodwill
Example
Sara Company purchases all the assets of Trevor Company
for $790,000 cash and Trevor Company is dissolved. Trevor
Company’s identifiable assets had a fair value of $920,000
and its liabilities totaled $200,000.
Assets
Goodwill
Liabilities
Cash
Individual assets and liabilities actually
would be debited or credited.
920,000
70,000
200,000
790,000
Negative Goodwill
•
•
•
Fair value of net assets acquired is higher than
purchase price of assets.
Resulting credit is negative goodwill (badwill).
FASB requires that any remaining excess be
recognized as an extraordinary gain.
Goodwill Write-Off
•
•
•
Acquired goodwill has an indefinite life and
should not be amortized but is subject to
impairment.
Impairment test should be performed at least
annually.
If applicable, loss recorded.
Impairments of Intangibles
• An impairment occurs when:
-- the carrying amount of an asset is not recoverable,
and
-- a write-off of the impaired amount is needed
• To determine the amount of impairment, a
recoverability test is used.
Impairment Tests
Type of Asset
•
•
•
•
Impairment Tests
Property, Plant
& Equipment
•
Limited Live
Intangible
Recoverability test,then fair
value test
•
Recoverability test, then fair
value test
•
Fair value test
•
Fair value test on reporting
unit, then fair value test on
implied goodwill
Indefinite-life
intangible,
other than
goodwill
Goodwill
Impairments: The Recoverability Test
Impairment?
Sum of expected
future net cash flows
from use and disposal
of asset is less than
the carrying amount
Sum of expected
future net cash flows
from use and disposal
of asset is
equal to or more than
the carrying amount
Impairment has
occurred
No impairment
Impairments: Measuring Loss
Impairment has occurred
Determine
impairment loss
Yes
Does an active market
exist for the asset?
No
Use company’s market
rate of interest
Loss =
Carrying amount
less
Fair value of asset
Loss =
Carrying amount
less
present value of
expected net cash
flows
Impairment: Accounting
• Loss = Carrying value less Fair value
• Amortize new cost basis
• Restoration of impairment loss is NOT permitted
Impairment Test: Fair Value Test
•
Compares fair value of intangible asset with
assets' carrying amount.
•
If fair value less than carrying amount,
impairment recognized.
Impairment of Goodwill
• The fair value of the reporting unit should be
compared to its carrying amount including
goodwill.
•
The fair value of the goodwill must be determined
and compared to its carrying amount.
Impairment of Goodwill
The Kent Company acquired the Devon
Company as a subsidiary several years ago.
The Devon Company has a book value of $3.6
million, including goodwill of $400,000. Kent
now Company estimates that its fair value is
$3 million. If Kent Company allocates $2.7
million of the fair market value to Devon
Company’s identifiable assets and liabilities,
this means that $300,000 is implied for
goodwill. Thus, there has been an impairment
loss of $100,000.
Impairment of Goodwill
Net Assets
Goodwill
Total
Book Value
$3,200,000
400,000
$3,600,000
Impairment Loss on Goodwill
Goodwill
Fair Value
$2,700,000
300,000
$3,000,000
100,000
100,000
Research and Development Costs

Research
-- Planned search or critical investigation aimed
at discovery of new knowledge

Development
-- The translation of research findings or other
knowledge into a plan or design for a new
product or process or for a significant
improvement to an existing product or
process whether intended for sale or use
Research and Development Costs

R&D costs are expensed as incurred.

Material R&D costs must be disclosed.

Equipment, facilities, and purchased intangibles
related to the research should be capitalized . . .
. . . if those items have alternative future uses.
Research and Development Question
Batter-Up, Inc. has developed a new device.
Research and development costs totaled $30,000.
Patent registration costs consisted of $2,000 in
attorney fees and $1,000 in federal registration fees.
What is Batter-Up’s amortizable cost?
Research and Development Question
Batter-Up, Inc. has developed a new device.
Research and development costs totaled $30,000.
Patent registration costs consisted of $2,000 in
attorney fees and $1,000 in federal registration fees.
What is Batter-Up’s amortizable cost?
Batter-Up’s cost for the new patent is
$3,000. The $30,000 R & D cost is expensed
as incurred.
Computer Software Cost
SFAS No. 86
Accounting for the Costs of Computer Software to be
Sold, Leased, or Otherwise Marketed


All costs incurred to establish the
technological feasibility of a computer
software product are to be treated as
R&D and expensed as incurred.
Subsequent costs to obtain product
masters are to be capitalized as an
intangible asset.
Computer Software Cost
Amortization


Amortization of capitalized computer software
costs starts when the product begins to be
marketed.
Two methods are allowed:
--
Revenue method
-- Straight-line method
Computer Software Cost
Disclosures

Balance Sheet
-- Unamortized computer software product master
cost is an asset.

Income Statement
-- Amortization expense associated with computer
software cost.
-- R&D expense associated with computer software
development cost.
Chapter 6
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