2 Copyright John Wiley & Sons Canada, Ltd. 12:INTANGIBLE ASSETS AND GOODWILLAfter studying this chapter you should be able to:Understand the importance of intangible assets and goodwill from a business perspective.Define and describe the characteristics of intangible assets.Identify and apply the recognition and measurement requirements for purchased intangible assets.Identify and apply the recognition and measurement requirements for internally developed intangible assets.Explain how intangible assets are accounted for after initial recognition.Identify and explain the accounting for specific types of intangible assets.Explain and account for impairment of limited-life and indefinite-life intangible assets.Explain the concept of goodwill and how it is measured and accounted for after acquisition.Identify the types of disclosure requirements for intangible assets and goodwill and explain the issues in analyzing these assets.Identify differences in accounting between ASPE and IFRS.Copyright John Wiley & Sons Canada, Ltd.
3 Goodwill and Other Intangible Assets Definition, Recognition and MeasurementCharacteristicsRecognition and measurement at acquisitionRecognition and measurement of internally developed intangible assetsRecognition and measurement after acquisitionSpecific intangiblesImpairment and DerecognitionImpairment of limited-life intangiblesImpairment of indefinite-life intangiblesDerecognitionGoodwillDefinition of goodwillRecognition and measurement of goodwillBargain purchaseValuation after acquisitionImpairment of goodwillPresentation, Disclosure, and AnalysisPresentation and disclosureAnalysisIFRS and ASPE ComparisonComparisonLooking aheadCopyright John Wiley & Sons Canada, Ltd.
4 Copyright John Wiley & Sons Canada, Ltd. CharacteristicsIntangible assets must meet all of the following characteristics:They are identifiable, having at least one of the following characteristics:Results from contractual or legal rights, orCan be separated from the entity and sold, rented, exchanged, transferred or licensedThey lack physical substance, andThey are non-monetaryIdentifiable intangibles with similar characteristics should be grouped and reported togetherCopyright John Wiley & Sons Canada, Ltd.
5 Recognition and Measurement at Acquisition Recognize ifprobable future economic benefit, andasset can be measured reliablyInitially recorded at costIntangible assets may be:PurchasedAcquired as part of a business combination, orDeveloped internallyCopyright John Wiley & Sons Canada, Ltd.
6 Purchased Intangibles Cost includes all expenditures that are necessary to get the intangible asset ready for its intended use (e.g., purchase price, legal fees)If there are delayed payment terms, recognize financing expense (interest)If acquired for shares, cost is generally measured at asset’s fair value (or value of shares if value of asset cannot be determined)If intangible assets are exchanged for non-monetary assets, the fair value of the item given up or the fair value of the intangible received is used to determine costFor a “basket purchase” of intangibles, the cost is allocated based on fair valuesCopyright John Wiley & Sons Canada, Ltd.
7 Acquired in Business Combination Business combination: when one business acquires control over one or more other businessesIdentifiable intangible assets acquired are recognized at fair valueCopyright John Wiley & Sons Canada, Ltd.
8 Copyright John Wiley & Sons Canada, Ltd. PrepaymentsPrepaid asset can be recognized only when an entity has paidfor goods before delivery (or other access rights), orfor services before receiving/using those servicesPrepaid assets represent the right to receive goods/services, and no longer exist once those goods/services are received (asset is de-recognized)Copyright John Wiley & Sons Canada, Ltd.
9 Internally Developed Intangibles Costs that a company incurs internally to create intangibles (such as patents and brand names)Internally developed intangibles present significant challenges:Recognition: When to recognize? Is there probability of future cash flows?Measurement: What costs to capitalize vs. expense? How to reliably measure the costs?IFRS requires that costs be capitalized when certain criteria are met, and expense all other costsASPE also allows for an accounting policy option to expense all costs relating to internally generated intangiblesCopyright John Wiley & Sons Canada, Ltd.
10 Identifying Research and Development Phases Process of generating intangible assets is broken down into two phasesResearch activities:involve planned search or critical investigation aimed at discovery of new knowledgemay or may not be directed towards a specific projectDevelopment activities include:translation of research findings or other knowledge into a plan or design for a new product or process, orsignificant improvement to an existing product or processCopyright John Wiley & Sons Canada, Ltd.
11 Research and Development (R&D) Costs All research costs are charged to expense when incurredDevelopment costs are charged to expense except in certain defined circumstancesCopyright John Wiley & Sons Canada, Ltd.
12 Copyright John Wiley & Sons Canada, Ltd. Development CostsDevelopment cost capitalization criteria:Technical feasibilityIntent to complete for use or saleAbility to use or sellAvailability of resources (technical, financial, and other) needed to complete, and to use or sellIf the intent is to sell, a market exists and is clearly defined; if the intent is to use, there is a definable use/needProduct/process clearly defined, and costs can be identifiedCopyright John Wiley & Sons Canada, Ltd.
13 Copyright John Wiley & Sons Canada, Ltd. Development CostsExamples of development costs include the following:Materials and services consumedDirect personnel costs (e.g., salaries)Fees needed to register a legal rightAmortization of other intangibles needed to generate the assetInterest and borrowing costsCopyright John Wiley & Sons Canada, Ltd.
14 Measurement after Acquisition There are two models for measuring intangible assets subsequent to initial recognition:Cost model (CM)Revaluation model (RM)Under ASPE, cost model is the only method allowedRevaluation model requires that intangible assets have fair value determined in an active marketBoth models are applied in same way as for property, plant, and equipmentCopyright John Wiley & Sons Canada, Ltd.
15 Limited-Life Intangibles An intangible asset with limited (or finite) useful life is amortized over its useful lifeIntangibles assumed to have no residual value, unless:There is a commitment to purchase, orThere is an observable marketUseful life and amortization method are reviewed at least annually (under ASPE) or at least at the end of each financial year (under IFRS)Copyright John Wiley & Sons Canada, Ltd.
16 Valuation after Acquisition Factors to consider when determining useful life of an intangible asset:Expected future usageLegal, regulatory, or contractual provisions that may limit useful lifeEffects of technological or commercial obsolescenceLevel of maintenance expenditures required to obtain future benefitsMethod of amortization chosen should match benefits received, otherwise, straight-line amortization usedCopyright John Wiley & Sons Canada, Ltd.
17 Indefinite-Life Intangibles An intangible asset with an indefinite useful life is not amortized and an impairment test is carried out every accounting periodIndefinite life is not the same as “infinite” (forever)Copyright John Wiley & Sons Canada, Ltd.
18 Copyright John Wiley & Sons Canada, Ltd. Types of IntangiblesFive major categories for intangibles: 1. Marketing-related 2. Customer-related 3. Artistic-related 4. Contract-based 5. Technology-basedCopyright John Wiley & Sons Canada, Ltd.
19 Marketing-Related Intangibles Used in marketing and promotionInclude:Trademarks or trade namesNewspaper mastheadsInternet domain namesNon-competition agreementsCopyright John Wiley & Sons Canada, Ltd.
20 Trademarks and Trade Names Trademarks and trade names are renewable, so the legal life may be unlimited; the useful life, however, may be limitedCosts of acquired trademarks or trade names are capitalizedIf trademarks or trade names are developed by the business, direct costs may be capitalized if all six capitalization requirements are metIf the future benefits of a trademark (such as Coca-Cola) is determined to have an indefinite life, it is not amortizedCopyright John Wiley & Sons Canada, Ltd.
21 Customer-Related Intangibles Result from interactions with third partiesInclude:Customer listsOrder/production backlogsContractual and noncontractual customer relationshipsCopyright John Wiley & Sons Canada, Ltd.
22 Artistic-Related Intangibles Ownership rights to artistic endeavoursExamples: literary works, musical works, pictures, photographs and audiovisual materialThese ownership rights are protected by copyrightsCopyright John Wiley & Sons Canada, Ltd.
23 Copyright John Wiley & Sons Canada, Ltd. CopyrightsCopyrights are granted for the life of the creator, plus 50 yearsCopyrights can be sold or assigned, but cannot be renewedUseful life is generally less than the legal lifeAmortized over period in which benefits accrueCosts of acquiring and defending copyrights may be capitalizedResearch costs associated with a copyright are expensedCopyright John Wiley & Sons Canada, Ltd.
24 Contract-Based Intangibles Value of a right resulting from a contractual arrangementExamples: licensing arrangement, leaseholds, construction permits, broadcast rights, service or supply contracts, and franchisesA franchise is a contractual agreement where franchisor grants the franchisee the rights to:sell specified products or servicesuse certain trademarks or trade namesperform certain functions within a particular geographical areaCopyright John Wiley & Sons Canada, Ltd.
25 Franchises and Licenses A franchise may exist for a limited time or for an indefinite time periodThe cost of a franchise (with a limited life) is amortized over the lesser of the legal or useful lifeA franchise (with an unlimited life) is amortized over:expected useful life if such life is deemed limited, orit is not amortizedAnnual operating payments for a franchise are expensedCopyright John Wiley & Sons Canada, Ltd.
26 Copyright John Wiley & Sons Canada, Ltd. LeaseholdsAgreement between the lessor (owner) and the lessee (renter)Gives the lessee the right to use the propertyValid for a specific period of timeThe lessee makes stipulated, usually periodic cash paymentsCopyright John Wiley & Sons Canada, Ltd.
27 Technology-Based Intangibles Relate to innovations or technological advancesInclude:Product PatentsPhysical (tangible) productsProcess PatentsProcess by which products are madeComputer Software CostsCopyright John Wiley & Sons Canada, Ltd.
28 Copyright John Wiley & Sons Canada, Ltd. PatentsA patent gives exclusive right to the holder for making, selling or using a product or processPatent rights have a legal life of 20 years from the date the patent application is filed with the Patent OfficeCosts of purchasing patents are capitalizedCosts to research and most development costs are expensed as incurredPatents are amortized over the shorter of the legal life (20 years) or their useful livesLegal fees and other costs to successfully defend a patent are capitalized and amortized over the remaining useful life of the patentCopyright John Wiley & Sons Canada, Ltd.
29 Impairment of Limited-Life Intangibles Impairment of limited-life intangibles is covered by same impairment models and standards as for long-lived tangible assetsPotential impairment is assessedunder ASPE, when events or circumstances indicate that carrying value may not be recoverableUnder IFRS, at the end of each reporting periodTwo impairment models are:Cost recovery impairment model (ASPE)Rational entity impairment model (IFRS)Copyright John Wiley & Sons Canada, Ltd.
30 Cost Recovery Impairment Model Under this model, an asset is impaired only if carrying amount cannot be recovered from using and eventually disposing of the asset (recoverability test)i.e. impaired if carrying amount > undiscounted future net cash flowsImpairment loss is then measured as asset’scarrying amountless fair valueImpairment losses cannot be reversedApplied by ASPE and U.S. GAAPCopyright John Wiley & Sons Canada, Ltd.
31 Rational Entity Impairment Model Impairment loss is measured by comparing the asset’s carrying amount and recoverable amountRecoverable amount is measured as higher ofValue in use, and(present value of future net cash flows)Fair value less cost to sellIf carrying amount < recoverable amount, then there is no impairment lossIf carrying amount > recoverable amount, then impairment loss is difference between two valuesImpairment losses may be reversedApplied under IFRSCopyright John Wiley & Sons Canada, Ltd.
32 Impairment of Indefinite-Life Intangibles ASPEUse fair value test onlyFair value of intangible compared to the carrying amountWhen fair value is less than carrying amount, impairment has occurred and loss is recordedThe recoverability test is not used for indefinite-life intangible assetsIFRSCompare carrying value and recoverable amount on an annual basis, whether or not there is indication of impairment.Copyright John Wiley & Sons Canada, Ltd.
33 Copyright John Wiley & Sons Canada, Ltd. GoodwillGoodwill is the excess of the consideration transferred to acquire the business over the fair value of the identifiable tangible and intangible net assets acquired in a business combinationGoodwill can be acquired and sold only when a business combination occursGoodwill cannot be separated from the businessInternally-generated goodwill is not capitalizedCopyright John Wiley & Sons Canada, Ltd.
34 Acquired Goodwill: Valuation Given:Purchase price (cash): $ 400,000Book value of assets: $ 255,000Book value of liabilities: $ 55,000Fair value of net assets: $ 350,000To determine goodwill, see the following:Copyright John Wiley & Sons Canada, Ltd.
35 Acquired Goodwill: Calculation Goodwill = Consideration paid less fair value of identifiable net assets = $400,000 less 350,000 = $50,000 Entry in the books of the Purchaser: Assets (various) 405,000 Goodwill 50,000 Liabilities 55,000 Cash 400,000Copyright John Wiley & Sons Canada, Ltd.
36 Goodwill: Bargain Purchase A “bargain purchase” or negative goodwill arises when fair value of acquired identifiable net assets is greater than the consideration transferred for those assetsThe current standard requires any negative goodwill be recognized immediately as a gain in net income after a thorough reassessment of the variables used in determining its amount.Copyright John Wiley & Sons Canada, Ltd.
37 Valuation after Acquisition Three approaches have been suggested:Charge immediately to expenseResults in consistent accounting for purchased goodwill and internally generated goodwillOne rationale is that it is difficult to identify the useful lifeAmortize over useful lifeBetter matching of costs to benefitsCarry at cost indefinitely, unless value impairedConsistent with requirements under ASPE and IFRSCopyright John Wiley & Sons Canada, Ltd.
38 Copyright John Wiley & Sons Canada, Ltd. Goodwill ImpairmentBecause goodwill is not identifiable and does not generate its own direct cash flows, it is assigned to a reporting or cash generating unit (CGU) in order to be tested for impairmentCopyright John Wiley & Sons Canada, Ltd.
39 Copyright John Wiley & Sons Canada, Ltd. Goodwill ImpairmentASPEImpairment test done whenever events or changes in circumstances indicate possible impairmentImpairment test for other assets in group is done before the impairment test for goodwillImpairment loss exists if carrying amount of reporting unit including goodwill > fair value of reporting unitLoss is calculated as amount of excessGoodwill impairment losses cannot be reversedCopyright John Wiley & Sons Canada, Ltd.
40 Copyright John Wiley & Sons Canada, Ltd. Goodwill ImpairmentIFRSImpairment test done annually and also whenever there is indication that CGU may be impairedImpairment loss exists if carrying amount of unit including goodwill > recoverable amount of unitLoss is calculated as amount of excessImpairment loss is allocated first to goodwill and then to other assets on a relative carrying amount (proportionate) basisGoodwill impairment losses cannot be reversedCopyright John Wiley & Sons Canada, Ltd.
41 Presentation and Disclosure There are many required disclosures for intangible assets and goodwillAlso, IFRS has many more requirements compared to ASPECopyright John Wiley & Sons Canada, Ltd.
42 Copyright John Wiley & Sons Canada, Ltd. Looking AheadStandards are unlikely to face significant changes in the short to medium termCopyright John Wiley & Sons Canada, Ltd.