Recap of IAS and IFRS from the perspective of Accounting.

This standard has become very important and pertinent for financial reporting due to emergence of tech companies like Amazon, Alphabet, Meta, Netflix, Uber, and Crypto currencies.

?Introduction:

IAS 38 (International Accounting Standard 38) governs the accounting treatment of intangible assets in financial reporting. Intangible assets are non-monetary assets without physical substance but possess value due to their rights, recognition, or legal protections. These assets can be crucial for businesses, particularly in industries like technology, pharmaceuticals, and media. IAS 38 ensures that these assets are properly recognized, measured, and disclosed in financial statements.

Definition of Intangible Assets (IAS 38):

According to IAS 38, an intangible asset is an identifiable, non-monetary asset without physical substance. To qualify as an intangible asset, it must meet the following criteria:

1. Identifiability: The asset must be identifiable, meaning it can be separated from the company and sold, transferred, licensed, rented, or exchanged.
2. Control: The company must have control over the asset, meaning it has the power to obtain future economic benefits from the asset.
3. Future Economic Benefit: The asset must be expected to generate future economic benefits, such as revenue generation or cost savings.

Types of Intangible Assets:

IAS 38 distinguishes between two broad categories of intangible assets:

1. Internally Generated Intangible Assets: These are assets developed by a company through its internal processes. Examples include trademarks, patents, and brand names developed internally. Example: A software development company creating a proprietary software product. While the development costs of the software may be capitalized, costs like research and the initial development phases may be expensed.
2. Purchased Intangible Assets: These are acquired through transactions, either by purchase or as part of a business combination. Example: A pharmaceutical company purchases a patent from a competitor. This patent is considered a purchased intangible asset and will be recognized at its acquisition cost.

Criteria for recognition of development cost as an intangible Assets:

For an intangible asset to be recognized in the financial statements, it must meet the following criteria:

Development costs should be capitalized if they meet the following criteria, which is also known as acronym PIRATE;

1. Project is technically feasible
2. Intention to complete the asset
3. Resources are sufficient to complete the project
4. Able to use or sell the asset once completed
5. The expectation that future economic benefits will be generated

For instance, an intangible asset like a patent is expected to generate income through royalties.

1. Expenditure can be reliably measured

?Measurement Criteria:

1.???? Cost Model: Under the cost model, after initial recognition, the intangible asset is carried at cost less any accumulated amortization and/or any impairment losses.

?2.???? Revaluation Model: Under the revaluation model, intangible assets can be measured at fair value at the revaluation date, provided that there should be an active market exit for that asset, which is rare barring few exceptions like Bitcoin.

?Examples of Intangible Assets Under IAS 38;

1. Patents: A company patents a new technology. The cost of registering the patent, including legal fees and other direct expenses, can be capitalized as an intangible asset. Example: If a technology firm patents a unique mobile app, the patent's registration cost and legal fees can be capitalized and amortized over its useful life.
2. Trademarks: A business may develop its own brand and trademark, which is legally protected. The development costs related to the trademark, if internally generated, may be expensed under certain conditions, but purchased trademarks are recognized at cost. Example: A fashion company buys the rights to a famous logo from another company. The purchase cost is recognized as an intangible asset.
3. Software: Developed software, either purchased or created internally, is another example of an intangible asset. The cost of development or purchase is capitalized. Example: A company purchases a customer relationship management (CRM) software. The purchase price is recognized as an intangible asset and amortized over its useful life.

?Amortization of Intangible Assets:

Intangible assets are generally amortized over their estimated useful life unless they have an indefinite useful life. IAS 38 requires that the amortization method and useful life of the asset be reviewed annually and adjusted if necessary.

1. Finite Useful Life: Most intangible assets have a finite useful life. The asset is amortized over its useful life. Example: A software developed by a company has an expected useful life of 5 years. The development cost is amortized over this period.
2. Indefinite Useful Life: If an intangible asset has an indefinite useful life (i.e., it has no foreseeable limit to the period over which it is expected to generate economic benefits), it is not amortized. However, it must be tested for impairment annually. Example: A brand name with strong market recognition might have an indefinite useful life, so it is not amortized, but it undergoes annual impairment testing to ensure its carrying amount is not greater than its recoverable amount.

?Impairment of Intangible Assets:

Intangible assets must be tested for impairment when there is an indication that the carrying amount may not be recoverable. This is done in accordance with IAS 36 – Impairment of Assets.

• Example: If a pharmaceutical company owns a patent, but a competitor introduces a superior product, the value of the patent might decline. In this case, the company must assess whether the patent’s carrying amount exceeds its recoverable amount, and if so, an impairment loss should be recognized.

Internally Generated Goodwill:

One important aspect of IAS 38 is that internally generated goodwill (such as the value of a company’s brand or reputation) cannot be recognized as an intangible asset. This is because goodwill is considered an inherent and integral part of the overall business, and its value is not separately identifiable. Goodwill is annually tested for impairment and if there is indication of impairment, it is impaired in conjunction with Cash Generating Unit (CGU).

• Example: A company may have developed a strong reputation in the market over many years, but under IAS 38, this reputation cannot be recognized as an intangible asset.

?Expenditures Not Recognized as Intangible Assets:

Some costs related to intangible assets are expensed rather than capitalized. These include:

1. Research Costs: Research activities aimed at discovering new knowledge or products are expensed as incurred. Only development costs, once certain above mentioned criteria are met, can be capitalized. Example: The cost of basic scientific research undertaken by a biotechnology company to explore new drug compounds is expensed.
2. Start-up Costs: The initial costs of setting up a business, such as legal fees for setting up a new company, are expensed. Example: Legal fees incurred when starting a new subsidiary are expensed and not recognized as intangible assets.

?Conclusion:

IAS 38 provides a clear framework for the recognition, measurement, and amortization of intangible assets. This standard helps businesses ensure that intangible assets are accurately reflected in their financial statements, providing transparency and consistency. By properly accounting for intangible assets like patents, trademarks, and software, companies can better manage their resources and offer stakeholders a more accurate picture of their financial position and performance.

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