I'm Larry Walther, this is principlesofaccounting.com, Chapter 11.
In this module, we will look at the accounting for intangible assets.
Intangibles are assets that lack physical existence but
still contribute significantly to the earnings capacity of a company.
They include such things such as patents, copyrights,
trademarks, even a company's brands, franchises, things of that nature.
A company may develop these intangibles through their internal business process or
they may acquire them externally.
Globally the internally developed intangibles in some cases these
are recognized where there's clear and measurable benefits to the company.
USA approach however is more limiting.
Self-created internal intangibles are seldom recognized on the balance sheet.
Intangible assets,
when purchased are recorded on the balance sheet at their cost.
Recall there's even a separate category on a classified balance sheet for
intangible assets.
The intangible assets costs should be amortized over its useful life.
We'll talk more in a few minutes about how we would determine the appropriate
useful life.
But bear in mind that amortization is simply
allocating the cost over the useful life.
In other words amortization is to an intangible
as depreciation is to property plant and equipment.
Some intangibles may have an indefinite economic life these would not
be amortized but they would be periodically evaluated for impairment.
Let's look at an example of amortization.
Mercury Pharmaceutical purchased a patent for $50,000 and
estimated its useful life to be five years.
Initially we debit patent for
50,000 to reflect the cash paid to purchase the asset.
Subsequently at the end of each year for five years
you see I'm debiting Amortization Expense and crediting the Patent.
Notice I'm crediting the Patent directly.
There's usually not an accumulated amortization account for intangibles
like there is accumulated depreciation for property plant and equipment.
Here's an example of an impairment.
First, a Music Download Service, Inc., purchased an internet domain name for
$50,000, and estimated that asset have an indefinite life.
The domain name would be recorded at its initial cost and
that $50,000 intangible asset, the domain name in that case is not being amortized.
However, perhaps after a periodic review at some subsequent date,
we determine that that asset is no longer valuable to the company.
Maybe its value is now no more than $20,000.
This would require an entry to impair that cost.
So notice that I'm crediting the domain name $30,000 and
just debiting a loss to record the declining value of that particular asset.
Let's look at specific intangibles, for example patents.
Patents give their owners exclusive rights to the use or
manufacture of a particular product.
Depending on the country, the life may vary.
But in general, around 20 years is the life that is allowed for a patent,
its legal life.
Now some items may have that long of a legal life, but
their economic life may be much shorter than that.
Some particular new technological innovation that may last three to five
years could be protected longer than that.
But produce the economic benefits for only that three to five year period
in which case we would advertise the cost over the shorter economic life.
The amount included in the patent account includes the cost to the purchase patent
and or any incidental cost related to registration and
protection of that patent.
Another type of intangibles will be the copyright.
These provide their owners with the exclusive right to produce or
sell an artistic or published work.
A copyright normally has a legal life equal to the life of the creator plus
an additional 70 years, although the economic life is usually shorter.
The economic life is the period of time over which the cost of
a copyright should be amortized.
Franchises give their owners the right to manufacture or sell certain products or
perform certain services on an exclusive or semi-exclusive basis.
The cost of a franchise can be reported as an intangible asset and
should be amortized over its estimated useful life.
Trademarks, brands,
internet domain names generally have fairly short legal lives, but
can be renewed indefinitely and as such they're viewed as having indefinite lives.
So a trademark for example might be renewed every ten years.
But there's no risk of not being able to renew an established trademark and so
you would view that as having an indefinite life.
You would not amortize its cost.
Finally let's close by looking at goodwill.
Goodwill is the unique intangible asset that arises
in the course of a business acquisition.
We saw this in a previous chapter in fact.
It reflects the excess of the cost of the acquired entity over the net of the amount
assigned to the identifiable assets and liabilities of the acquired company.
This excess may be paid because of a company's outstanding management.
Earnings record, other features,
cashmere lists,pyrobusiness, location, things of that nature.
A goodwill is considered to be an indefinite live asset so
we do not amortize its cost periodically.
But we're required to evaluate at least annually,
required to evaluate goodwill for impairment.