1. F7

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3. 3 Designed to give you the knowledge and application of: Section C: Financial Statements C1. Statements of cash flows C2. Tangible non-current assets C3. Intangible assets C4. Inventory C5. Financial assets and financial liabilities C6. Leases C9. Taxation

4. 4 C3: Intangible Assets and Goodwill  Accounting treatment of internally generated and purchased intangibles.  Goodwill and other intangible assets.  Initial recognition and measurement of intangible assets.  Impairment tests in relation to goodwill.  Accounting treatment of gain on bargain purchase (negative goodwill)  Accounting for research and development Learning Outcomes

5. 5 Identifiable non-monetary asset without physical substance; e.g. import quotas, licences, marketing rights, copyrights, goodwill, patents, technical know-how etc. IA acquired through Separately acquired IA Business combinations Modes of acquisition / generation of IA Internally generated Government grants Exchange of assets Goodwill Other IA Internally generated and purchased intangible assets

6. 6 Conditions to be satisfied by an item to be called an IA Refer to Example on page 220 Identifiability IA must be separable (import licenses ) Asset arises due to contractual / legal rights, regardless of whether it is separable and transferable or not. (landing rights) Control over asset Power to obtain future economic benefits; and Power to restrict access of others to those benefits: e.g. famous footballer Existence of future economic benefits Revenue from sale of products / services Other benefits resulting from use of an asset Cost savings OR

7. 7 Discuss whether the following is an intangible asset: 1.Finux Inc produced a piece of antivirus software and declared it as ‘open’ software. Anybody can download it for free from the internet and anyone can make changes to it. 2.Jesta works on animation for computer games. It has developed a new technique for making computer images look completely human. Jesta believes that this product could be sold to film animation companies too. Question Answer 1.Whilst the antivirus software is identifiable, the criteria of control over the asset are not met, as it is considered ‘open’ - anyone can make changes to it. Although a valuable resource, it is not an intangible asset of Finux. 2.The product of Jesta is identifiable. Jesta also controls the asset. The question here is whether future economic benefits will flow to Jesta. In this case, it will not be enough to accept Jesta’s word that it will be able to sell this product technique. If Jesta can show some contracts proving the sale of this technique to animation houses, then the product could be treated as an intangible asset.

8. 8 Nature of Goodwill Goodwill: it represents a payment made by the acquirer in anticipation of future economic benefits from assets that are not capable of being individually identified and separately recognised (IFRS 3 ) In general terms it is good image / reputation of the entity in the minds of the customers. Goodwill = Amount paid by acquirer – (Assets – Liabilities) Measured as excess of cost over fair value of net assets acquired Goodwill Internally developed Purchased Not to be recognised Recognised & valued

9. 9 Value of all Assets $200,000 + Goodwill $100,000 Value of the business = $300,000 Inventory $5000 Tangible Assets $25,000 Property $150,000 Fixtures Fittings $20,000 Goodwill

10. 10 Distinguish between….. GoodwillOther IA It normally lacks identifiability; e.g. good labour relations, superior operating team It is identifiable It cannot be separated from the entity It has separate existence It is not recognised (unless purchased) as it cannot be measured Reliable measurement of the cost of other IA is possible; hence recognised It is generated over a long period of time It can be acquired instantly

11. 11 Criteria for initial recognition of IA Asset classified as intangible if Satisfies the recognition criteria Probable – future economic benefit flow to the entity Cost / value - measured reliably

12. 12 Measurement of IA…….  An IA should be initially measured at cost.  The measurement process depends upon the mode of acquisition / generation of an asset like whether it is separated acquired or acquired through business combination, government grants, exchange of asset or is it internally generated

13. 13 Measurement of IA Contd.. AssetInitial recognition: valueWhyExample Separately acquired Recognised at purchase price + attributable costs  Expected benefits will flow through use of assets or sale  Costs measured as stated in column 2 Patent purchased Acquired in business combinations Recognised at fair value at acquisition date Expected benefits will flow through use of assets or sale  Costs measured as stated in column 2 Licence acquired as a part of a running business Acquired by way of government grant Recognised at fair value or nominal amount + expenses incurred  Expected benefits will flow through use of assets or sale  Costs measured as stated in column 2 Licence to operate radio station; transport license for a route Continued…

14. 14 Measurement of IA Contd.. AssetInitial recognition: valueWhyExample Exchange of assets Measures at fair value unless:  exchange transactions lack commercial substance  fair value is not reliably measured  Expected benefits will flow through use of assets or sale Costs measured as stated in column 2 Plot of land given in exchange for a machine Internally generated goodwill Not recognised as an asset  Costs cannot be measured Business running for 25 years has goodwill, but cannot measure the value Recognition of an expense on an intangible asset Recognised as an expense except where expense is part of cost of asset and meets the recognition criteria  Not probable that the future economic benefits will flow to the entity Pharmaceutical company spending on initial trial of drugs on animals

15. 15 Accounting treatment of IA After initial recognition, an IA should be valued by using either the cost model or the revaluation model Valuation of intangible asset Revaluation model Cost model After initial recognition cost less any accumulated amortisation and impairment losses After initial recognition fair value at date of revaluation less subsequent accumulated amortisation and impairment losses

16. 16 Accounting for revaluations Carrying amount DecreasesIncreases If previous decrease in value If no previous decrease in the value Current increase recognised in SOCI (IS) Current increase recognised in OCIS (RS) If no balance in the OCIS (RS) If decrease, then amt in RS is reversed Entire decrease recognised in SOCI (IS If still a decrease,then it is recognised in SOCI (IS) Refer to Test Yourself 4 on page 227

17. 17 Useful life of an IA……. Accounting of an IA depends on its useful life  IA have a determinable life  IA with a finite useful life is amortised  Impairment test conducted if there is an indication of it If finite useful life… Part of asset value transferred from SOFP to SOCI (like depreciation)

18. 18 Useful life of an IA……. Indefinite useful life  IA whose useful life can not be determined  IA with a indefinite useful life is not amortised  Impairment test conducted annually / more frequently if required

19. 19 Amortisation....  Part of asset transferred from SOFP to SOCI  Amortised amount is allocated on systematic basis over its useful life  Amortisation begins: asset ready for intended use  Amortisation stops: asset is derecognised / classified as held for sale  Amortisation charge: recognised in SOCI  Amortisation not stopped when asset is not in use

20. 20  Gain / loss is immediately recognised in the SOCI  Gain not classified as revenue, but shown as other income Derecognition.... Derecognition: Removing an asset from the SOFP Asset derecognised when It is disposed of, OR No future benefits expected from its use / disposal

21. 21  After initial measurement, acquirer measures goodwill at cost less any accumulated impairment losses  Impairment test conducted annually / more frequently if required  This will be explained in detail in – Impairment of assets Goodwill and its impairment...

22. 22 Negative goodwill (Gain on Bargain Purchase).... Value of Identifiable Net assets > Purchase Consideration Reasons:  Bargaining power  Errors in measuring the fair values Negative goodwill / BP Accounting treatment  Recheck the existence of assets / liabilities & their valuation AND  Recognise the negative goodwill in the SOCI immediately

23. 23 Value of all Assets $200,000 - Bargain Purchase ($100,000) Total Value of Business = $100,000 Inventory $5,000 Tangible Assets $25,000 Property $150,000 Fixtures Fittings $20,000 Negative Goodwill Refer to Example on page 235

24. 24 Research and development expenditure... Research is original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding. Research phase Recognised as an expense and not an asset

25. 25 Research and development expenditure... Development is the application of research findings or other knowledge to a plan or design for the production of new or substantially improved product before the start of commercial production or use. 1. P robable future economic benefits will flow to entity 4. A bility to use or sell the asset 2. I ntention to complete, use & sell the asset 5. T echnical feasibility of completing the asset 3. R esources available to finish product (technical, financial/other) 6. E xpenditure reliably measured Development phase Recognised as an IA only if an entity can show:

26. 26 Gottaire Plc’s management wanted an improved design for one of its machines. It employed qualified engineers to do the task. The team did research into the available technology worldwide. They visited the existing manufacturers, decided on possible options, purchased materials and tried different designs of machines. They then put forward 2 alternative designs (A and B) to the management. They had spent $0.8m up to this stage. The management, convinced of the commercial prospects and approved alternative B, authorised the team to design and construct a pilot plant and operate it on a trial basis. It also authorised the required funds. The team spent $1.7m on this phase. Advise Gottaire on the accounting treatment. Test Yourself Continued…

27. 27 Expenditure up to stage where 2 alternative designs prepared = research (generation of probable future economic benefits not demonstrated -IAS 38, $0.8m should be expensed.) After the management approved design B and authorised the team on the specific plans, the criteria of IAS 38 for capitalising expenditure were met:  Technical feasibility was established;  The management had declared its intentions to use the asset;  The company had the ability to use the machinery;  Future economic benefits were evident; the company would use the machine to produce the goods to be sold;  The management made available adequate resources.  It had the ability to measure the expenditure on the development.  The $1.7m spent during this phase is development expenditure. It can be recognised as an intangible asset. Continued…

28. 28 RECAP:  Accounting treatment of internally generated and purchased intangibles.  Goodwill and other intangible assets.  Initial recognition and measurement of intangible assets.  Impairment tests in relation to goodwill.  Accounting treatment of gain on bargain purchase (negative goodwill)  Accounting for research and development

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