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Lessons Table of Contents Confidence Levels Notes Bookmarks Highlights Intangible Assets
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r Practice INTANGIBLE ASSETS

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Learning Outcome
j Game Center explain the financial reporting and disclosures related to intangible assets

e Discussions Intangible assets are identifiable non-monetary assets without physical substance.1 An identifiable asset
can be acquired on a standalone basis (i.e., can be separated from the entity) or arises from contractual or
B Search
legal rights and privileges. Common examples include patents, licenses, trademarks, and customer lists.
The most common intangible that is not separately identifiable is goodwill, which arises in business
combinations and is discussed further in the next lesson.

IFRS permits companies to report intangible assets using either a cost model or a revaluation model. The
revaluation model can be selected only when there is an active market for an intangible asset. Both
measurement models are essentially the same as described for property, plant, and equipment (PP&E). US
GAAP permits only the cost model.

For each intangible asset, a company assesses whether the useful life of the asset is finite or indefinite.
Amortization and impairment principles apply as follows:

An intangible asset with a finite useful life is amortized on a systematic basis over the best estimate of its
useful life, with the amortization method and useful life estimate reviewed at least annually.
Impairment principles for an intangible asset with a finite useful life are the same as for PP&E.
An intangible asset with an indefinite useful life is not amortized. Instead, at least annually, the
reasonableness of assuming an indefinite useful life for the asset is reviewed and the asset is tested for
impairment.

Financial analysts traditionally view reported values of intangible assets - particularly goodwill - with caution.
Consequently, in assessing financial statements, some analysts exclude the book value assigned to
intangibles, reducing net equity by an equal amount (obtaining a “tangible book value”) and increasing
pretax income by any amortization expense or impairment associated with the intangibles. An arbitrary
assignment of zero value to intangibles is not advisable; instead, an analyst should examine each listed
intangible and assess whether an adjustment should be made. Note disclosures about intangible assets
may provide useful information to the analyst. These disclosures include information about useful lives,
amortization rates and methods, and impairment losses recognized or reversed.

Further, a company may have developed intangible assets internally that can be recognized only in certain
circumstances. Companies may also have assets that are never recorded on a balance sheet because they
are non-identifiable and the company does not have sufficient control over their future economic benefits.
These assets might include management and technical skills of employees, market share, name recognition,
a good reputation among customers, and so forth. Such assets are valuable and are reflected, in theory, in
the price at which the company’s equity securities trade in the market (and the price at which the entirety of
the company’s equity would be sold in an acquisition transaction). Such assets may be recognized as
goodwill by an acquirer if the company is sold.

Identifiable Intangibles
Under IFRS, identifiable intangible assets are recognized on the balance sheet if it is probable that future
economic benefits will flow to the company and the cost of the asset can be measured reliably. Examples of
identifiable intangible assets include patents, trademarks, copyrights, franchises, licenses, and other rights.
Identifiable intangible assets may have been created internally or purchased by a company. Determining the
cost of internally created intangible assets can be difficult and subjective. For these reasons, under IFRS
and US GAAP, the general requirement is that internally created identifiable intangibles are expensed rather
than reported on the balance sheet.

IFRS provides that for internally created intangible assets, the company must separately identify its research
phase and development phase.2 The research phase includes activities that seek new knowledge or
products. The development phase occurs after the research phase and includes design or testing of
prototypes and models. IFRS requires that costs to internally generate intangible assets during the research
phase must be expensed on the income statement while costs incurred in the development stage can be
capitalized as intangible assets if certain criteria are met, including technological feasibility, the ability to use
or sell the resulting asset, and the ability to complete the project.

US GAAP prohibits the capitalization of most costs of internally developed intangibles and research and
development. All such costs are expensed. Costs related to the following categories typically are expensed
under IFRS and US GAAP. They include the following:

internally generated brands, mastheads, publishing titles, and customer lists;

start-up costs;
training costs;
administrative and other general overhead costs;
advertising and promotion;
relocation and reorganization expenses; and
redundancy and other termination costs.

In contrast to internally created intangibles, acquired or purchased intangible assets are capitalized and
reported as separately identifiable intangible, so long as they arise from contractual rights (such as a
licensing agreement), other legal rights (such as patents), or have the ability to be separated and sold (such
as a customer list).

Measuring Intangible Assets

Alpha Inc., a motor vehicle manufacturer, has a research division that worked on the following projects
during the year:

Project 1 Research aimed at finding a steering mechanism that does not operate like a conventional
steering wheel but reacts to the impulses from a driver’s fingers.

Project 2 The design of a prototype welding apparatus that is controlled electronically rather than
mechanically. The apparatus has been determined to be technologically feasible, salable, and
feasible to produce.

The following is a summary of the expenses of the research division (in thousands of euros):

Exhibit 1: Summary of Expenses

General Project 1 Project 2

Material and services 128 935 620

Labor
Direct labor — 630 320

Administrative personnel 720 — —

Design, construction, and testing 270 450 470

1. Five percent of administrative personnel costs can be attributed to each project (Project 1 and 2).
Explain the accounting treatment of Alpha’s costs for Projects 1 and 2 under IFRS and US GAAP.

Hide Solution

Solution to 1:

Under IFRS, the capitalization of internal development costs for Projects 1 and 2 would be as
follows:

Amount Capitalized as an
Asset (in thousands of
euros)

Project Classified as in the research stage, so all costs are 0

1: recognized as expenses
Project Classified as in the development stage, so costs may be (620 + 320 + 470)= 1,410
2: capitalized. Note that administrative costs are not
capitalized.

Under US GAAP, there would no capitalization of these costs as US GAAP prohibits the
capitalization of most costs of internally developed intangibles and research and development. All
costs would be expensed.

Consider the balance sheet information presented in Exhibit 2 and 3 for SAP and Apple. SAP’s 2017
balance sheet shows EUR2,967 million of intangible assets, and Apple’s 2017 balance sheet shows
acquired intangible assets, net of USD2,298 million. SAP’s notes to financial statements disclose the types
of intangible assets (software and database licenses, purchased software to be incorporated into its
products, customer contracts, and acquired trademark licenses) and indicates that all of its purchased
intangible assets other than goodwill have finite useful lives and are amortized either based on expected
consumption of economic benefits or on a straight-line basis over their estimated useful lives, which range
from 2 to 20 years. Apple’s notes disclose that its acquired intangible assets consist primarily of patents and
licenses, and almost the entire amount represents definite-lived and amortizable assets for which the
remaining weighted-average amortization period is 3.4 years as of 2017.

Exhibit 2: SAP Group Consolidated Statements of Financial Position

(Excerpt: Non-Current Assets Detail) (in millions of EUR)

As of 31 December
Assets 2017 2016

Total current assets 11,930 11,564

Goodwill 21,274 23,311
Intangible assets 2,967 3,786
Property, plant and equipment 2,967 2,580
Other financial assets 1,155 1,358
Trade and other receivables 118 126
Other non-financial assets 621 532
Tax assets 443 450
Deferred tax assets 1,022 571
Total non-current assets 30,567 32,713
Total assets 42,497 44,277
Total current liabilities 10,210 9,674
Total non-current liabilities 6,747 8,205
Total liabilities 16,958 17,880
Total equity 25,540 26,397
Total equity and liabilities €42,497 €44,277
Source: SAP Group 2017 annual report.

Exhibit 3: Apple, Inc. Consolidated Balance Sheets (Excerpt: Non-

Current Assets Detail) (in millions of US dollars)

30 September 24 September
Assets 2017 2016

Total current assets 128,645 106,869

Long-term marketable securities 194,714 170,430
Property, plant and equipment, net 33,783 27,010
Goodwill 5,717 5,414
Acquired intangible assets, net 2,298 3,206
Other non-current assets 10,162 8,757 Rate Your Confidence

[All other assets] 246,674 214,817 High

Total assets 375,319 321,686
Liabilities and shareholders’ equity Medium

Total current liabilities 100,814 79,006

Low
[Total non-current liabilities] 140,458 114,431
Total liabilities 241,272 193,437
Continue !
Total shareholders’ equity 134,047 128,249
Total liabilities and shareholders’ equity 375,319 321,686
Category
Note: The italicized subtotals presented in this excerpt are not explicitly shown on the face of the financial statement as prepared by the
company. Analyzing Balance Sheets
Source: Apple Inc. 2017 annual report (Form 10K).

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