This essay will discuss the importance of the accounting standards for intangible assets. The Australian Accounting Standard Board (AASB) emphasises on the establishment of separate accounting standards for tangible and non-tangible assets. According to AASB, it is very important to distinguish between the tangible assets such as property, plant and equipment and the intangible assets such as name and brands for reliable measurement of the value of the asset. Usually the companies report their tangible assets on the financial statements, but do not consider to include intangible assets, which leaves a big gap between the market value of the company and its recorded net assets. The methodology that Interbrand uses to recognise the value of its clients brands is to analyse financial performance, the role of the brand and the strength of the brand. The question is whether this is supported by the financial standards in a proper valuation of intangible assets and internally generated assets.
- The definition of intangible assets according to AASB 138 Intangible Assets and the Characteristics of intangible assets that make them different from tangible assets.
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The standard setters believe a significant difference between intangible assets and tangible assets and consider the importance of separate accounting standards for these assets. The problem in the measurement of intangible assets arises the need of specific accounting principles to be established for them. The definition of intangible assets according to AASB 138, Intangible Assets is similar to IAS 38 of the same name as issued by the International Accounting Standards Board. According to paragraph 8 of AASB, an intangible asset is identifiable and, non-monetary asset which cannot be seen or touched. The purpose of AASB 138 is to set an accounting standard for intangible assets that are not dealt with specifically in another standard. It is relevant for annual reporting periods beginning on or after 1 January 2005.
AASB 138 deals with all intangible assets except for:
•Intangible assets which is dealt by another standard
•Financial assets, as per AASB 132
•Research and evaluation assets, as per AASB 6
•Spending on development and extraction of minerals, oil and related resources.
. Intangible assets attributes to the value of the business representing the future economic benefits that rise from other assets in business combination that are not individually identified and separately recognised. According to AASB 138 definition, intangible assets have three main characteristics which differentiate them from other assets. These characteristics are identifiability, non-monetary in nature and lack of physical substance. The first criteria is identifiability, which enables the measurement of the asset easier. AASB 138 does not contain a definition of identifiable, however in paragraph 12, an asset is considered as an intangible asset, if it fulfils either of the two following criteria
- Seperatability Test: If it can be separated or divided from other assets and can be transferred to another entity.
- Contractual Obligations: It arises from legal or contractual rights. Generally this category takes place when government gives or sell a right to an entity.
The second characteristic of intangible assets is non-monetary assets. Non-monetary assets are the assets which do not require any determinable amount of money and they are included in definition to exclude financial assets such as loans and receivables from being classified as intangible assets.
Lack of Physical substance is the third characteristic of intangible assets. This characteristic separates assets such as property, plant and equipment from intangible assets and attains their significance from the right and privileges approved to the company to use them. Some intangible assets may be used combined with tangible assets. In this case paragraph 4 of AASB138 requires a judgement to identify the asset, which substance is tangible or intangible.
- A comparison of the recognition requirements applied to intangible assets in AASB 138 and tangible assets in AASB 116 Property, Plant and Equipment. In the case of internally generated intangible assets, how should they be recognised and measured?
The recognition requirement
An asset is recognised when it is brought into the accounting record (Leo, et al., 2012). Recognition criteria used for intangible assets in AASB 138 and tangible assets in AASB 116 Property, Plant and Equipment are about the same. According to the Paragraph 21 of AASB 138 an intangible asset must meet two criteria to get recognized. These criteria include that it is likely that the anticipated future economic benefits that are attributable to the asset will flow to the entity and that the cost of the asset can be measured reliably (AASB, 2013). Paragraph 7 of AASB 116 defines the similar two requirements for the cost of an item of property, plant and equipment to be recognised. (AASB, 2013). However, these recognition criteria should only be regarded as general principles only.
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Paragraph 24 AASB 138 states that an intangible asset shall be measured primarily at cost, and that an item of property, plant and equipment that is recognised as an asset shall be also measured at its cost (Paragraph 15 AASB 116). Without the important criteria of recognition, the reliable measurement of cost, an asset cannot be recognised under the standards. (AASB 138 and AASB 116). This affects the recognition of intangible assets that are internally generated rather than acquired (Leo, et al., 2012). It is because, when the intangible asset has been developed through the establishment of a business, it generates a dynamic market and provides estimated number which can be measured reliably. However, if the intangible asset was internally generated then the cost of producing the asset cannot be differentiated from the cost of maintainance or the enhancement of the business internally generated goodwill or of running day-to-day operations (AASB, 2013). For example the value of the number 1 brand name of Coca Cola,listed in Interbrand’s 2011 best global brands is $71,861 million (Interbrand, 2011). However, if it was sold and bought by another firm, the fair value of the business would include the $71,861 million in the acquisition price, which will be an acknowledged figure. But, if it was internally generated, the initial cost for creating the brand name would not be measured and recognised under AASB 138. To overcome this problem, the AASB has set out a resolution for the business in the AASB 138. The standard board has resolved the issue of, when to start capitalised costs of intangible assets by classifying the production of the asset into two phases, the research phase and the development phase (Leo, et al., 2012).
Research is the "original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding" (Leo, et al., 2012). 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" (Leo, et al., 2012). Paragraph 54 AASB 138 declares that intangible asset, arising from research and expenditure shall not be recognised as an expense when it is incurred (AASB, 2013).
On the other hand, an intangible asset arising from development shall be recognised only if, an entity can comply with all of the criteria found in Paragraph 57 AASB 138. They include the probability of completing the intangible asset which can be available for use or sale, its intention and ability to complete the intangible asset and use or sell it, how the intangible asset will generate feasible future economic benefits, the accessibility of suitable resources such as technical, financial and others to complete the development and to use or sell the intangible asset and finally, reliably the expenditures can be measureable that are attributable to the intangible asset during its development (AASB, 2013).
3. The justification for these differences in recognition including your opinion whether such differences are or are not appropriate.
As noted earlier, the overall recognition requirements applied to intangible assets in AASB 138 are not different to the tangible assets in AASB 116 Property, Plant and Equipment. However, there are substancial differences in the recognition of intangible assets that are generated internally to those that are developed. It is Known that determining the initial cost of an asset is not possible when the asset has been generated internally. This will incur significant differences in the financial statement.
Moreover, the example given above, the recognition of brand names (Coca Cola), relates to AASB 3 Business Combinations. Paragraph 13 AASB 3 states that “the acquirer’s application of the recognition principle and conditions may result in recognising some assets and liabilities that the acquiree had not previously recognised as assets and liabilities in its financial statements” (AASB, 2013). This enables a buyer to evaluate the identifiable intangible assets (the brand name) which is not recognised as assets by the seller in financial statements because they were internally developed and considered the related costs to expense. This is commendable that a reliable primary initial cost measurement can now be identified. Moreover add additional disclosures may be required for the users of the general purpose financial reports to enable them to understand, what is relevant, and what should or should not be recognised.
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4. How does the measurement (after recognition) of intangible assets in AASB 138 differ from that of tangible assets in AASB 116?
Paragraph 24 of AASB 138 notes that, an intangible asset shall be measured initially at cost.
According to paragraph 15 of AASB 116 an item of property, plant and equipment that fulfils the requirement for recognition as an asset shall be measured at its cost.
Paragraph 16 of AASB 116 specifies three mechanisms of cost:
•its acquisition price
•Directly attributable costs
•the prime approximated costs involved in disassembling and eliminating the item and refurbishing the site on which it is located
Measurement requirements for each type of asset has different measurement requirement. Once the asset is recognised, the entity may select any of the two accounting policies, the cost model or the revaluation model for measurement. For measurement, the entity must use the same model for all of its intangible asset which are of a similar nature, unless there is no active market for those assets, for tangible assets an entity must apply either the cost or revaluation model policy to the entire set of tangible assets which are property plant and equipment.
Under cost model, assets should be carried at its cost less any accumulated amortisation/depreciation and any accumulated impairment losses, and under revaluation model, intangible assets must be carried at a revalued amount, being its fair value at the date of the revaluation less any ensuing accumulation amortisation and any following accumulated impairment loss. the Coca-Cola brand name is not an active market asset therefore it can be measured using the cost model and an active intangible asset can be measured through future cash flows using the revaluation model.
The difference between intangible and tangible measurements is that an entity can use either the cost model or the revaluation model at the same time. If the intangible assets are not from the same class and are a non-active market asset, they cannot be used, whereas for tangible assets the entity has to use either one for all property, plant and equipment. Another difference is that intangible assets are mostly unidentifiable. It cannot exist independent of the business as a whole, for example goodwill of Coca-Cola
Whereas, for tangible assets an entity must use either the cost or revaluation model policy to all tangible assets which are property plant and equipment (AASB 116, 2010).
While using cost model, both assets should be carried at its cost less any accumulated amortisation/depreciation and any accumulated impairment losses (AASB 138, 2010) (AASB 116, 2010).
While under a revaluation model, intangible assets must be assessed at a revalued amount, being its fair value at the date of the revaluation less any ensuing accumulation amortisation and any following accumulated impairment loss (Leo, 2012). The purpose of revaluation is the fair value must be determined by reference to an active market. This must be complete with such reliability that the carrying amount of the asset at the end of the year does not change greatly for its value (AASB 138, 2010). However, this model does not allow the revaluation if an intangible assets has not been recognised as an asset previously or was recognised at other amount than cost initially (AASB 138, 2010).
For example, the Coca-Cola brand name is not an active market asset therefore it can be measured using the cost model and an active intangible asset can be measured through future cash flows using the revaluation model.
However, tangible assets at fair value that can be measured constantly shall be carried at a revalued amount, being its fair value at the date of the revaluation less any following accumulated depreciation and ensuing accumulated impairment losses (AASB 116, 2010). Revaluation must be carried out sufficient regularity to ensure the carrying amounts does not vary greatly from the revalued amount (Leo, 2012).
The difference between intangible and tangible measurements is that an entity can use either the cost model or the revaluation model at the same time. If the intangible assets are not from the same class and are a non-active market asset, they cannot be used, whereas for tangible assets the entity has to use either one for all property, plant and equipment. Another difference is that intangible assets are mostly unidentifiable. It cannot exist independent of the business as a whole, for example goodwill of Coca-Cola.
The major variance in measurement between tangible and intangible assets is that intangible assets are considered to be in an ‘active market’.
Justification of Differences in Measurement
There may be different reasons for the variation between the measurement of tangible assets or intangible assets. One reason could be the difficulty in comparison between the twoThis difference can be found because the measurement of an intangible asset is difficul as compare to tangible The difficulty would come from a number of areas, one of these being that there is lack of clarity defining classes of intangible assets. AASB 138 paragraph 73 states that “a class of intangible assets is a grouping of assets of a similar nature and use in an entity’s operations” (AASB 138, 2010). AASB 116 states the same quote; however, it provides examples on classes of tangible assets (AASB 116, 2010). There are no such examples in the former standard.
The reason why that there is lack of clarity of intangible asset classes could come from the insignificance of intangible assets. The fact that the asset cannot be seen or touched creates this obscurity; the measurement of said asset adds to this. An example of this obscurity comes from the measurement of the Coca-Cola brand name. It was established earlier that it was not an active market asset; therefore Coca-Cola is measured using the cost model. The ability to ‘cost’ the brand name itself is an arduous task. Brand names are often incorrectly synonymised with goodwill. Goodwill that is internally generated cannot be recognised as an asset (AASB 138, 2010). A brand name affects goodwill, but is not solely goodwill. However, since the cost model is being used, there will be very little difference between the cost model of an intangible asset and the cost model of a tangible asset. The difference comes from valuation.
The methodology that Interbrand employs to value a brand can be questionable. From the information provided on Interbrand’s web page, a number of questions can be raised. The methodology they use relies on a company’s net operating profit. If Coca-Cola measured and valued their assets incorrectly and not according to accounting standards, this could affect their net operating profit and therefore affect the result of this valuing of their brand. For example, Coca-Cola could have recognised some intangible items as expenses instead of assets.