Chapter 3: IAS 38

Intangible Assets
Definition
An intangible asset is an identifiable non-monetary asset without physical substance.

Intangible assets include items such as:

• licences and quotas
• intellectual property, e.g. patents and copyrights
• brand names
• trademarks
• Motion picture films and video recordings

Some intangibles may be contained in or on a physical medium (e.g. software on a

disk or embedded within the hardware). Judgment has to be used to determine
which element is more significant (i.e. the intangible or the tangible asset).
Identifiable Assets
For an asset to be identifiable IAS 38 Intangible Assets states that it must fall into one of
two categories:
• It is separable – the asset can be bought or sold separately from the rest of the business
• It arises from legal/contractual rights – this will arise as part of purchasing an entire
company. This will be looked at further in the consolidated financial statements chapters.

It must also meet the normal definition of an asset:

• controlled by the entity as a result of past events (normally by enforceable legal rights)
• a resource from which future economic benefits are expected to flow (either from
revenue or cost saving).
Recognition Criteria
An intangible asset is recognised if it meets:
• the definition of an intangible asset and an asset; and
• the recognition criteria set out in the standard.

The recognition criteria are:

• future economic benefits attributable to the asset are probable; and
• the cost of the asset can be measured reliably.
Purchased Intangible assets
• If an intangible asset is purchased separately (such as a licence, patent, brand name), it
should initially be recognised at cost.
Measurement after initial
recognition
There is a choice between:
• cost model
• revaluation model
 Cost Model
• The intangible asset should be carried at cost less amortisation and any impairment losses.
• This model is more commonly used in practice.

Amortisation works the same as depreciation. The intangible asset is amortised over the
useful life, with the annual expense being shown in the statement of profit or loss each year.

An intangible asset with a finite useful life must be amortised over that life, normally using
the straight-line method with a zero residual value.
An intangible asset with an indefinite useful life:
• should not be amortised
• should be tested for impairment annually, and more often if there is an actual indication of
possible impairment.
 Revaluation Model
• The intangible asset may be revalued to a carrying amount of fair value less subsequent
amortisation and impairment losses.
• Fair value should be determined by reference to an active market.
An active market is a market in which transactions for the asset take place with sufficient
frequency and volume to provide pricing information on an ongoing basis.
IAS 38 states that active markets for intangible assets are rare, and specifically prohibits the
revaluation of patents, brand names, trademarks and publishing rights.
As a guide, indicators of an active market would include:
• the items traded within the market are homogeneous (identical)
• prices are available to the public.

Most intangible assets have value because of their uniqueness, and are therefore unlikely
to be homogeneous. Certain licences may fit this model and could possibly be revalued,
but most other intangible assets will not.
Internally generated intangible
assets
• Generally, internally-generated intangible assets cannot be capitalised, as the costs
associated with these cannot be identified separately from the costs associated with
running the business.
The following internally-generated items may never be recognised:
• goodwill ('inherent goodwill’)
• brands
• mastheads
• publishing titles
• customer lists
Purchased and Internally
generated goodwill
Purchased goodwill:
• arises when one business acquires another as a going concern
• includes goodwill arising on the consolidation of a subsidiary
• will be recognised in the financial statements as its value at a particular point in time is
certain.

Non-purchased goodwill:
• is also known as inherent goodwill
• has no identifiable value
• is not recognised in the financial statements.
Subsequent expenditures of
Intangible assets
• In most cases, there are no additions to an intangible asset or the replacement of
parts of such assets because:
• Most subsequent expenditures maintain the expected future economic benefits in
an existing intangible asset and do not meet the definition of an intangible asset
and IAS 38 recognition criteria.
• It is often difficult to attribute subsequent expenditure directly to a particular
intangible asset rather than to the business as a whole.
• Therefore, only rarely will subsequent expenditure be added to the carrying amount
of an asset. Normally, such expenditure must be written off through profit or loss.
• Subsequent expenditure on brands, mastheads, publishing titles, customer lists, etc
(whether internally or externally generated) must always be recognised as an
expense.
Research and Development
Definitions

• 'Research is original and planned investigation undertaken with the prospect of gaining
new scientific knowledge and understanding’
• 'Development is the application of research findings or other knowledge to a plan or
design for the production of new or substantially improved materials, devices, products,
processes, systems or services before the start of commercial production or use'
Examples
Examples of research activities are:
• activities aimed at obtaining new knowledge;
• the search for, evaluation and final selection of applications of research findings;
• the search for alternatives for materials, devices, products, processes, etc; and
• the formulation, design, evaluation and final selection of possible alternatives for new or improved
materials, devices, products, processes, etc.
Examples of development activities are:
• the design, construction and testing of pre-production or pre-use prototypes and models;
• the design of tools, jigs, moulds and dies involving new technology;
• the design, construction and operation of a pilot plant which is not of a scale economically feasible
for commercial production; and
• the design, construction and testing of a chosen alternative for new or improved materials, devices,
products, processes, systems or services.
Accounting treatment
Research expenditure: write off as incurred to the statement of profit or loss.
Development expenditure: recognise as an intangible asset if, and only if, an entity can
demonstrate all of the following:
I. Probable flow of economic benefit from the asset, whether through sale or internal
cost savings.
II. Intention to complete the intangible asset and use or sell it
III. Reliable measure of development cost
IV. Adequate resources to complete the project
V. Technical feasibility of completing the intangible asset so that it will be available for
use or sale
VI. Expected to be profitable, i.e. the costs of the project will be exceeded by the benefits
generated.
Practice sum
An entity has incurred the following expenditure during the current year:

(a) $100,000 spent on the initial design work of a new product – it is anticipated that this
design will be taken forward over the next two-year period to be developed and tested
with a view to production in three years' time.
(b) $500,000 spent on the testing of a new production system which has been designed
internally and which will be in operation during the following accounting year. This new
system should reduce the costs of production by 20%.
How should each of these costs be treated in the financial statements of the entity?
Practice sum
An entity has incurred the following expenditure during the current year:

(i) A brand name relating to a specific range of chocolate bars, purchased for $200,000. By
the year-end, a brand specialist had valued this at $250,000.
(ii) $500,000 spent on developing a new line of confectionery, including $150,000 spent on
researching the product before management gave approval to fully fund the project.
(iii) Training costs for staff to use a new manufacturing process. The total training costs
amounted to $100,000 and staff are expected to remain for an average of 5 years.
Explain the accounting treatment for the above issues.
 Practice sum
Sam Co has provided the following information as at 31 December 20X6:
(i) Project A – $50,000 has been spent on the research phase of this project during the year.
(ii) Project B – $80,000 had been spent on this project in the previous year and $20,000 this
year. The project was capitalised in the previous year however, it has been decided to
abandon this project at the end of the year.
(iii) Project C – $100,000 was spent on this project this year. The project meets the criteria
of IAS 38 and is to be capitalised.
Which of the following adjustments will be made in the financial statements as at 31
December 20X6?
A. Reduce profit by $70,000 and increase non-current assets by $100,000
B. Reduce profit by $150,000 and increase non-current assets by $20,000
C. Reduce profit by $130,000 and increase non-current assets by $180,000
D. Reduce profit by $150,000 and increase non-current assets by $100,000