Issues surrounding recognition and measurement of internally generated intangible assets

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This section examines the issues surrounding recognition and measurement of internally generated intangible assets such as research and development cost, computer software cost and so on. The discussion will be started from the definition of assets and intangible assets and follow by the structure of recognition criteria as well as three existing accounting standards that address intangible assets. It then continues to analyze the issue surrounding the recognition of intangible assets.

Both FASB and IASC similarly defines asset as a "future economic benefits as a result of a past transaction or event, and is controlled by the entity". Assets can be divided into two parts which are noncurrent asset and current asset. The examples of noncurrent assets are properties, plants and equipment (PPE), building, machines and so on. While, cash on hands, bank and account receivables are the example of current assets. On top of that, FASB Exposure Draft also defines intangible asset as a noncurrent asset that lack of physical substance such as research and development cost, computer software cost, patent, goodwill, franchises and so on.

Besides that, there are four fundamental recognition criteria under Paragraph 63 of FASB Concepts Statement No. 5 to be followed to avoid any omission of recognition assets in financial statement. The first criterion is definition. As long as the item meets the definition of an asset, then it can be recognized in financial statement. Next, the second criterion is measurability. If the item has relevant attribute measurable with sufficient reliability, then it also can be recognized in the financial statement. The third criterion is relevance. If the information of an item is capable to make a difference in user decisions, then it can also be recognized in financial statement. Last but not least, the forth criterion is reliability. As long as the information could represent the faithful, verifiable and neutral, then it can be recognized in financial statement.

However, several questions about how to recognize intangible assets such as capitalizing or expensing it had been argued. Thus, three accounting standard have address on these questions. The first standard is FASB Statement No. 2. In this statement stated that the research and development (R&D) cost (internally generated intangible asset) should be charged to expense as it incurred. This is because there is an uncertainty of future benefits. The failure rate for the project is high even after the R&D stage. Besides that, there is also lack of causal relationship between research and development (R&D) expenditures and extended future benefits. So, it is better to recognition the R&D costs as an expenditure instead of capitalizing it. In addition, the R&D cost should be charged to expenditure because of inability to measure future benefit. This means that unless a resource's future benefits can be identified and objectively measured, it cannot be recognized as an asset for accounting purpose. Moreover, according to FASB Statement No. 2, capitalized research and development cost is not useful in assessing the potential profit of an entity. Thus, R&D costs should be recognized as expenditure because it is lack of usefulness if capitalizing it.

The second standard is FASB Statement No. 86. This statement divided the recognition of computer software cost (internally generated intangible asset) into two phases. The first phase is under Statement 2, the cost incurred to build the technological feasibility of a product is included in research and development (R&D) and should be recognized as expenditure. While, the second phase stated that the costs should be capitalized after establishing the technological feasibility and before the product is obtainable for general release. However, FASB chairman Dennis Beresford argues that, "the subsequent cost is inherently immaterial, so software development costs should be charged to research and development cost". This will result in more consistency in financial reporting because there are obstructions in determining when technological feasibility is found.

The third standard is International Accounting Standards (IAS) 38. This standard is similarly with Statement 86 where no intangible asset will be raised from research project instead it should be recognized as expenditure. A research project will only be recognized as an intangible asset if there have technical feasibility; intention and ability of adequate technical, financial and other resources to complete, use or sell it; generate probable future economic benefits and the ability to measure the expenditure attributed.

Furthermore, there is a significant gap between the expenditure and efforts that create the item and the identification of the item as a candidate for recognition. Some intangible assets are valuable items but it is hard to estimate. For example, the value of a particular brand name and newspaper mastheads are hard to estimate. Thus, several questions have arisen from it. For instance, the values will become apparent at what point? What expenditures gave risk to the value of the brand name, if the cost is measurement attribute? Therefore, three possible approaches had been address on it.

The first approach is retroactive capitalization or restatement approach. This approach stated that research and development (R&D) costs would be recognized as expenditure until the project produce a commercially viable product. After that, the expenditure would be capitalized and reported as assets. However, only little help provide by retroactive capitalization in addressing the recognition of brands and similar items that lack a series of discrete expenditures.

The second approach is discovery as a recognition event approach. This approach is a departure from accountants' customary reference to discrete exchange transactions and external events. It is also consistent with the FASB and IASC conceptual framework because the cost will only be capitalized after it is arriving at technological feasibility (an identification point). On top of that, the problem of too flexible of identification point and the delaying of recognition until remaining costs are immaterial can largely be removed based on the identification with either value-based measurement or a retroactive capitalization. The reason is that a manager might delay the recording of an asset by a few quarters, but he or she could not be avoided to recognize assets at some point.

The third approach is in-process assets approach. This approach divided into two view which are traditional view and modern view. In traditional view, in-process account is a device for accumulating the costs of something that will eventually become an asset. This means that the in-process account itself would not be recognized as an asset. For example, a particular cost will be charged as expenditure if there is sufficient uncertainty that the cost will eventually be associated with an asset. While, in modern view, work in process, especially in-process research and development (R&D) costs will be recognized as an asset in its own right.

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