Chapter 12: Intangible Assets

Costs after we've reached technological feasibility, to obtain product masters (produce software, package, duplicate), what needs to be done with them?

- need to be capitalized as an intangible asset

With an Internally Created Intangible, what costs get capitalized?

- only direct costs incurred in developing the intangible (like legal) get capitalized

Examples of start up costs

- opening a new plant, new product/service, conducting business in a new territory

What are some examples of technology-related intangible assets?

- patented technology and trade secrets granted by the US Patent and Trademark Office

Common types of intangibles?

- patents - copyrights - franchises or licenses - trademarks/tradenames - goodwill

What are the most common types of intangibles assets?

- patents - copyrights - franchises or liscenses - trademarks or trade names - goodwill

How are Research Activities defined? (R&D)

- planned search or critical investigation aimed at discovery of new knowledge ex: lab research aimed at discov of new knowledge , searching for applic of new research findings

What are the two types of patents issued by the US patent and trademark offices?

- process patents and product patents

For valuating an intangible asset what price do we record them at? and how do we calculate this?

- record at cost (historical cost principle applies) - to record cost: include all costs necessary to make intangible asset ready for use - typical costs: purchase price, legal fees, other incidental expenses

What price do we record an intangible asset at?

- recorded at cost

Brand name is what type of intangible?

marketing-related intangible

What possible accounts would you use to amortize an intangible? (on the credit side)

- (credit) asset account OR - (credit) accumulated amortization

What does the cost of an intangible asset include?

- all costs necessary to make the intangible asset ready for its intended use (purchase price, legal fees, other incidentals)

(Software to be Sold, Leased or Licensed) What do we need to show on the Income Statement?

- amortization expense associated w/ computer software costs - R&D expense associated with computer software development cost

Goodwill is only record when?

- an entire business is purchased

You want to ___________ costs of purchasing a patent.

- capitalize

Franchise and licensing agreements, construction permits, broadcast rights, and service or supply contracts are what type of Intangible Assets?

- contract related intangible assets

What are some examples of Customer Related Intangibles?

- customer lists, order or production backlogs, and both contractual and non-contractual customer relationships

Why can't we consider R&D costs as an Asset? ---- Why is R&D expensed?

- definition of an asset- "something that will benefit you in the future" - when an company undertakes an R&D- for ex: a pharamecutical company is investigating a new drug - they may spend millions of dollars and in the end the drug is never approved by the FDA--- so all this $ they spend cannot be recovered - its not an asset, it doesn't provide any future benefit--- thats why R&D gets expensed - because there is no way to figure out what will happen in the future- because we don't know if product will become viable

What are R&D costs categorized as?

- expenses

On Artistic-related Intangible Assets how long is the copyright granted for?

- for life of the creator plus 70 years

What do we do with Internally Created Intangibles... How do we record?

- generally gets expensed

What was the Goodwill example Farhat gave

- goodwill is created when a business buys another business - ex: you bought a pizzeria- and you identified all the assets at FMV FMV Assets= $350,000 Debt= $100,00 Net Asset= $250,000 ----i paid $300,000 for something worth $250k ----- so you paid an extra 50k and you can't recognize where its from. -----i paid more than the net fmv of the asset- maybe it was a really lucrative opportunity for me?--- you can't identify why you paid an extra 50k

We only adjust carrying value of goodwill when?

- goodwill is impaired ---- we DO NOT amortize goodwill

Mostly, all R&D costs need to be expensed. What are the exceptions to this?

- if you have ASSETS that you are using and those assets have alternative use ex: bought a copier, its part of R&D, but once its part of the R&D we can use it in another place in the company - conducting research on behalf of others (their creating the product through research and they're just going to sell it) - then its an asset

How do we test for INDEFINITE-life Intangibles? (other than goodwill)

- impairment should be tested at least annually - THE TEST: 1 STEP --- the Fair Value Test : If the FV is less than the carrying value, an impairment loss is recognized for the difference ----recoverability test is not used

Goodwill is considered to have a ____________ (definite/indefinite) life

- indefinite

A purchased limited life intangible asset __________ (is/is not) amortized and is impairment tested using ____________.

- is - recoverability test and fair value test

What is the test for impairment of LIMITED-Life Intangibles?

- its the same as the impairment test for long-lived assets in the last chapter 1. RECOVERABILITY TEST sum of FCF < Carrying/Book Value === YES impairment 2. IMPAIRMENT LOSS (CV>FV) excess of carrying/bv amt over fair value ---the impairment loss is reported as part of income from continuing operations, "Other expenses and Losses" section

What are organizational costs?

- legal and state fees that are incurred to organize a new business entity

What life do you amortize with Technology-Related Intangible Assets?

- legal life or useful life, whichever is shorter

What type of intangible assets should be test for impairment?

- limited life intangibles - indefinite life intangibles

What are the type of costs R&D could include?

- materials, equipment - personnel - purchased intangibles - contract services - indirect costs

How do we amortize Artistic-Related Intangible Assets?

- need to be amortized to expense over useful life

(contract related intangible assets) Franchise with an indefinite life should be carried how?

- should be carried at cost and should NOT be amortized

Amortization of capitalized computer software costs starts when?

- starts when the product begins to be marketed

If you bought a business, and the purchase price was less than the fair value of the net assets acquired, how is the amount recorded?

- the amount is recorded as a gain by the purchaser ---- you would credit a gain under those circumstances

What is an example of an intangible with an indefinite life?

- the trademark of coca cola

How are customer related intangible assets amortized?

- they are amortized to expense over their useful life

What are start up costs?

- they are incurred for one-time activities to start a new operation

How are Development Activities defined? (R&D)

- 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 ex: construction of prototypes , pilot plants

(Software to be Sold, Leased or Licensed) What do we need to do on the balance sheet?

- unamortized computer software product costs is an asset (shown at LCM)

Is Goodwill a limited or unlimited life intangible?

- unlimited/indefinite life intangible

What if you created a software for internal use, then you change your mind and decide to sell it?

- use a cost recovery system (when you sell the software initially , when they make a pymt of cash for the software , YOU need to debit cash 3mil, you credit the asset , you first have to remove the software=it sits on your balance sheet as an asset and it has a book value, bv is 7mil, by crediting the asset, you start to remove the 7mil asset------ When do you start to recognize revenue with this?- after you recover your book value of the asset- once you recover 7mil of the book value from the sale of the software, --- you would then debit cash and credit revenues for any amt over that 7 million cost recovery: you cannot recognize revenue until you recover your book value (costs)

How do we treat start up costs and why?

- we need to EXPENSE them - we must be conservative.... we don't know if this is profitable for us, we don't know if we can treat this as an asset. Maybe we don't do so hot?--- why it needs to be expensed.

(Amortization of Intangibles) The useful life should reflect the periods where?

- where the asset will contribute to cash flows

With advertising costs, what happens if the company owns the billboard, or blimp?

- you CAN treat the billboard as an asset, , but to be conservative, you should just expense it - it can be an asset in the sense that you can RENT it! - SAFEST way is EXPENSE

What are Initial Operating Losses?

- you started a business, but now you are incurring losses - its like a start up cost, a cost to start up the business

What would happen if you purchased the intangible asset via stocks or via something else?

- you would look at: which of the two assets you would know the FMV - if you know the asset you are exchanging ---if you know your FMV of your stock, then you would use the FMV of the stock that you are trading - if you don't know your FMV for the stock, you would use the FMV for the intangible asset - rule is: whichever FMV is more evident, use that

What are the 6 major categories of Intangible Assets?

1. Marketing-related 2. Customer-related 3. Artistic-related 4. Contract-related 5. Technology-related 6. Goodwill

What are the two methods we can use when we need to Amortize Capitalized Software Costs?

1. Revenue Method 2. Straight-line Method (MUST use the method that gives the greater charge annually)

How would the following be reported on financial statements? 1. cost incurred in formation of a corporation 2. operating losses incurred in the start up of a business 3. training costs incurred in start up of operation 4. purchase cost of a franchise 5. goodwill generated internally 6. cost of testing in search of product alternatives

1. expense 2. operating loss 3. expense 4. intangible asset 5. not recorded- no such thing as goodwill created internally 6. r and d exp

How would the following be reported on financial statements? 1. goodwill acq in the purchase of a new business 2. cost of developing a patent 3. cost of purchasing a patent from an inventor 4. legal costs incurred in securring a patent 5. unrecovered costs of a successful legal suit to protect the patent

1. intangible asset 2. r and d exp 3. intangible asset 4. intangible asset 5. intangible asset (you want to capitalize the asset) ----not successful it is an expense

What are the main characteristics of intangible assets?

1. lack physical substance 2. not financial instruments

What are the main characteristics of an intangible asset?

1. lacks physical existence 2. not financial instruments

What type of intangibles are there?

1. limited life intangibles 2. indefinite life intangibles

How would the following be reported on financial statements? 1. investment in subsidiary company 2. timberland 3. cost of engineering activity req to advance the design of a product to the manufacturing stage 4. lease prepayment 5. cost of equipment obtained 6. cost of searching for apps of new research findings

1. long-term investment 2. ppe 3. R&D 4. prepaid rent 5. ppe 6. R&D

How would the following be reported on financial statements? 1. cost of conceptual formulation of possible product alternatives 2. cost of purchasing a copyright 3. r and d costs 4. long term receivables 5. cost of developing a trademark 6. cost of purchasing a trademark

1. r and d exp 2. intangible asset 3. r and d exp 4. long term investment 5. r and d exp 6. intangible asset

What are the two ways a company can acquire intangibles?

1. you can purchase them from another party 2. you can create them internally

In the US, trademarks or tradenames have legal protection for an indefinite number of _____ year renewal periods

10

A patent gives the holder exclusive use for a period of _______ years.

20

How are intangible assets classified?

= normally as a long term asset

Plays, literary works, musical works, pictures, video/audiovisual are examples of?

Artistic-related intangible assets

Amortization of an intangible asset is calculated using?

Cost - residual/salvage value

Under GAAP, what do you need to do with most start up costs?

EXPENSE them

What do you do with Initial Operating Losses under GAAP?

EXPENSE! :)

_____________ represents the future economic benefits arising from the other assets acquired in business combination that are not individually identified and separately recognized.

Goodwill

T/F: You can amortize marketing-related intangible assets

FALSE

T/F: Research and development costs (themselves) are intangible assets

FALSE- they are NOT intangible assets!!! (in themselves)

T/F: Indefinite life intangibles can be amortized

FALSE- they cannot!

_____________ Intangibles have no forseeable limit on time the asset is expected to provide cash flows.

Indefinite-Life Intangibles

___________ frequently results in something that company patents or copyrights: like new product, formula, composition, idea, etc

R&D

All costs incurred to establish the technological feasibility of a computer software product are to be treated as _______ and ________________ as incurred.

R&D, expensed

Internally created goodwill should or should not be capitalized.

SHOULD NOT

How do you amortize internal software costs?

STRAIGHT LINE only!!

T/F: As long as trademarks or tradenames are renewed every ten years, they have an indefinite life

TRUE

T/F: Companies must expense all research and development costs when incurred (with some exceptions)

TRUE

T/F: Indefinite-life intangibles must be tested for impairment at least annually.

TRUE

T/F: We do not write up fair value of an asset if the fair value has increased.

TRUE

T/F: You cannot amortize an indefinite-life intangible

TRUE

T/F: companies may not recognize restoration of the previously recognized impairment loss.

TRUE

What is the process for impairment of Goodwill?

TWO STEP PROCESS Step 1: if FV is less than the carrying amt of net assets (incl goodwill), then go to Step 2 Step 2: determine the FV of the goodwill (implied value of GW) and compare to the carrying amount of GW implied value of GW: Fair value of assets - Carrying amt net of GW

This type of intangible allows you to amortize the intangible by systematic charge to expense over useful life

limited-life intangible

You open a new operation internationally. Classify the following costs: a. Travel related costs, employee salaries, studies, accounting tax, gov't affairs b. Training local employees relating to product, maintanence, computers, finance, operations c. Recruiting, organizing, training to establish a distribution network d. Costs of tangible assets, like buildings, trucks, vehicles

a. Must EXPENSE b. EXPENSE c. EXPENSE d. CAPITALIZED

Which of the following CAN be amortized? a. copyrights b. goodwill c. tradename

a. YES b. NOOOO c. NOOOOO

a. Indefinite life intangibles: What test(s) are performed? b. Limited life intangibles: What test(s) are performed

a. only the fair value test b. recoverability test and fv test

**********MEMORIZE ME************************************ What type of IMPAIRMENT TEST is done on the following Intangible Assets? a. Limited Life b. Indefinite life (other than GW) c. Goodwill

a. recoverability test, then fair value test b. fair value test* (CV vs FV) c. fair value test on reporting unit, then fair value test on implied GW* *an optional qualitative assessment may be performed to determine whether the fair value test needs to be performed

How do you treat internally created intangibles? a. do they get expensed? b. what costs are capitalized, if any?

a. they generally are expensed b. only capitalize direct costs incurred in developing the intangible, like legal costs (developmental costs-after its created) cost to create (secret coke formula for examp) is expensed once you have the product and need to develop more - those direct costs get capitalized (ex: legal costs)

a. What do you do with the initial cost to create an intangible- costs b4 product is viable (ex: testing product)? b. What do you do with the DIRECT developmental costs of an intangible after it is created, ready to be used?

a. you expense it (until the development stage) b. capitalize these costs

With customer related intangible assets you need to _____________acquisition costs.

capitalize

With marketing-related intangible assets, you need to __________ acquisition costs

capitalize

For Artistic-Related Intangible Assets, Costs of acquiring and defending need to be ___________.

capitalized (defending-is a direct/developmental/initial cost- it needs to get capitalized) (a successful defense)

How is Goodwill measured?

cost of the purchase, over the FMV of the identifiable net assets (assets-liabilities) purchased

(contract related intangible assets) Franchise (or license) with a limited life should be amortized to _______ over the life of the franchise.

expense

You want to ___________ R&D costs in developing a patent.

expense

Goodwill _____________ (should/should not) be amortized

should not

What is an intangible asset? (think simple terms)

something that lacks physical existence

How should advertising costs be treated? and why? and how?

they're an EXPENSE :) why: EXPENSE because we cannot measure the future benefit of the expense - we don't know how much the ad will benefit the company how: a. when the pop stars have compl their singing assignments b. the first time the advertisement runs c. over the useful life of the advertising (ex: advertising the ad over 3 months-we can expense it for 3 months) d. in an appropriate fashion to each of the three periods identified above e. over the period that revenues are expected to result

What are some examples of marketing-related intangible assets?

trademarks, tradenames, newspaper mastheads, internet domain name, noncompetition agreements