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Chapter 4 • IAS 38 Intangible Assets

• Research and development costs

Intangible assets

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Learning objectives

• Discuss the nature and accounting treatment of internally

generated and purchased intangibles
• Describe the criteria for the initial recognition and
measurement of intangible assets
• Describe and apply the requirements of relevant IFRS
standards to research and development expenditure

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Chapter overview

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Chapter overview (cont)

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IAS 38 Intangible Assets 1

Definition
• An identifiable non-monetary asset without physical
substance. The asset must be:
(a) Controlled by the entity as a result of events in the past
(b) Something from which the entity expects future economic
benefits to flow
• Examples:
– Patents
– Copyrights
– Brands
– Goodwill

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Intangible assets

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Intangible asset: must be identifiable

• An intangible asset must be identifiable in order to distinguish it

from goodwill.
• (a) If an intangible asset is acquired separately through
purchase, there may be a transfer of a legal right that would
help to make an asset identifiable, eg patent
• (b) An intangible asset may be identifiable if it is separable, ie if
it could be rented or sold separately. However, 'separability' is
not an essential feature of an intangible asset.

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Intangible asset: control by the entity

• The entity must be able to enjoy the future economic benefits from the
asset, and prevent others from also benefiting.
• (a) Control over technical knowledge or know-how only exists if it is
protected by a legal right.
• (b) The skill of employees, arising out of the benefits of training costs,
are unlikely to be recognised as an intangible asset, because the
entity does not control the future actions of its staff.
• (c) Similarly, market share and customer loyalty cannot normally be
intangible assets, since an entity cannot control the actions of its
customers.

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IAS 38 Intangible Assets 2

Recognition
An intangible asset should be recognised when the
recognition criteria from IAS 38 are met:
• It is probable that future economic benefit from the
asset will flow to the entity.
• The cost of the asset can be reliably measured.

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Intangible asset: expected future economic benefits

• An item can only be recognised as an intangible asset if

economic benefits are expected to flow in the future from
ownership of the asset
• (a) If an intangible asset is acquired separately, its cost can
usually be measured reliably as its purchase price (including
incidental costs of purchase such as legal fees, and any
costs incurred in getting the asset ready for use).
• (b) When an intangible asset is acquired as part of a
business combination (ie an acquisition or takeover), the
cost of the intangible asset is its fair value at the date of the
acquisition.

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IAS 38 Intangible Assets 3

Measurement at recognition
Depends on how the intangible was acquired:

Acquired as Internally
Internally Acquired by
Separate part of generated
generated government
acquisition business intangible
goodwill grant
combination assets

Cost Fair value NOT Only Asset/grant @

(IFRS 3) recognised recognised FV
if PIRATE or
criteria met Nominal
amount + direct
expenditure

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Research and development costs 1

Research definition
• Costs incurred to gain new scientific or technical
knowledge and understanding
Accounting treatment
• No certainty of future economic benefit
• Recognise as an expense in profit or loss as incurred

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Research and development costs 2

Development costs definition

• Application of research findings to a plan/design for the
production of new or substantially improved materials,
products or processes prior to commercial production
or use
Accounting treatment
• Expenditure incurred now will lead to future revenues
• Capitalise expenditure as an intangible non-current
asset if all IAS 38 criteria are met

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Research and development costs 3

Capitalisation criteria
• All six criteria must be met:
– P robable future economic benefits
– I ntention to compete and use/sell the asset
– R esources adequate and available to complete and use/
sell asset
– A bility to use/sell asset
– T echnical feasibility of completing asset for use/sale
– E xpenditure can be reliably measured
• Should any of the criteria not be met, the expenditure must
be treated as an expense.

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Research and development costs 4

• Expenditure on internally generated brands,

mastheads, publishing titles, customer lists and similar
items should be treated as an expense because they
cannot be distinguished from the cost of developing the
business as a whole.
• Start-up, training, advertising, promotional, relocation
and reorganisation costs are all recognised as
expenses as they relate to ongoing business costs.

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Research and development costs 5

Measurement after recognition

• Choice of accounting policy.
• Cost model:
– The intangible asset is carried at cost less
accumulated amortisation and impairment losses.
• Revaluation model:
– The intangible asset is carried at a revalued amount
(fair value) less accumulated amortisation ad
impairment losses.
• The fair value must be determined by reference to an
active market.

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Research and development costs 6

• An active market is a 'market in which transactions for

the asset or liability take place with sufficient frequency
and volume to provide pricing information on an
ongoing basis' (IFRS 13, para.18).
• It is uncommon for an active market to exist for
intangible assets because by their very nature they
tend to be unique.
• Active markets do exist however for intangibles such as
freely transferable taxi licences and quotas.

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Research and development costs 7

• Revaluations should be carried out sufficiently often so

that the carrying value of the intangible is not materially
different from its fair value at the end of the reporting
period.
• Where intangibles are revalued all intangibles in the
same class must be revalued unless there is no active
market for them. In this case they would be recognised
according to the cost model.

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Research and development costs 8

Amortisation
• Intangible assets with a finite useful life should be amortised
over their useful life.
• The depreciable amount of an intangible is the cost/revalued
amount less residual value, although the residual value is
generally assumed to be zero.
• Amortisation should begin when the asset is available for
use and the method used should reflect the pattern in which
the asset's future economic benefits are consumed.
• The useful life and amortisation method used should be
reviewed at least every financial year end and adjusted
where necessary.

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Research and development costs 9

Amortisation (continued)
• Intangible assets with an indefinite useful life should not be
amortised.
• The appropriateness of the indefinite useful life assessment
should be reviewed each period to determine whether the
assessment is still appropriate.
• Intangible assets with an indefinite useful life should be
subject to annual impairment reviews.

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• Which of the following statements are correct?

1. Capitalised development expenditure must be amortised over a
period not exceeding five years
2. Capitalised development costs are shown in the statement of
financial position under the heading of non-current assets
3. If certain criteria are met, research expenditure must be recognized
as an intangible asset.
a. 2 only
b. 2 and 3 only
c. 1 only
d. 1 and 3 only

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Assoria Co had $20 million of capitalised development expenditure at

cost brought forward at 1 October 20X7 in respect of products currently
in production and a new project began on the same date.
The research stage of the new project lasted until 31 December 20X7
and incurred $1.4 million of costs.
From that date the project incurred development costs of $800,000 per
month. On 1 April 20X8 the directors of Assoria Co became confident that
the project would be successful and yield a profit well in excess of
costs. The project was still in development at 30 September 20X8.
Capitalised development expenditure is amortised at 20% per annum
using the straight-line method.
What amount will be charged to profit or loss for the year ended 30
September 20X8 in respect of research and development costs?

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Question 1
Booker is involved in developing new products and has spent
$15 million on acquiring a patent to aid in this development. The
initial investigative phase of the project cost an additional $6
million, whereby it was determined that the future feasibility of the
product was guaranteed.
Subsequent expenditure incurred on the product was $8 million,
of which $5 million was spent on the functioning prototype and
the remainder on getting the product into a safe and saleable
condition.
A further $1 million was spent on marketing and $0.5 million on
training sales staff on how to demonstrate the use of the product.
At the reporting date the product had not yet been completed.
Explain how Booker should account for the expenditure in
its financial statements

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Question 2
GSK is a large pharmaceutical business involved in the research
and development of viable new drugs. It commenced initial
investigation into the viability of a new drug on 1 February 20X5 at a
cost of $40,000 per month. On 1 August 20X5 GSK were able to
demonstrate the commercial viability of the new drug and intend to
sell it on the open market once fully complete.
Costs subsequent to 1 August 20X5 remained at $40,000 per
month. At 31 December 20X5, GSK’s reporting date, the drug was
not yet complete but it is believed that by mid-20X6 the drug will be
available for sale.
The finance director is confident of the success of the drug’s sales
that he wishes to revalue the intangible at the reporting date, using a
discounted future cash flow model to establish the fair value.
Explain the treatment of the above costs in GSK’s financial
statements for the year-ended 31 December 20X5.

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Question: Stauffer
Stauffer is a public listed company reporting under IFRSs. It has asked
for your opinion on the accounting treatment of the following items.
(a) The Stauffer brand has become well known and has developed a
lot of customer loyalty since the company was set up eight years
ago. Recently, valuation consultants valued the brand for sale
purposes at $14.6m. Stauffer's directors are delighted and plan to
recognise the brand as an intangible asset in the financial
statements. They plan to report the gain in the revaluation surplus
as they feel that crediting it to profit or loss would be imprudent.
(b) On 1 October 20X5 the company was awarded one of six licences
issued by the government to operate a production facility for five
years. A 'nominal' sum of $1m was paid for the licence, but its fair
value is actually $3m.

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Question: Stauffer (continued)

(c) The company undertook an expensive, but successful advertising
campaign during the year to promote a new product. The campaign
cost $1m, but the directors believe that the extra sales generated by
the campaign will be well in excess of that over its four-year
expected useful life.
(d) Stauffer owns a thirty-year patent which it acquired two years ago
for $8m and which is being amortised over its remaining useful life
of sixteen years from acquisition. The product sold is performing
much better than expected. Stauffer's valuation consultants have
valued its current market price at $14m.

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Goodwill (IFRS 3) 1

Definition
• Goodwill is the future economic benefits arising from
assets that are not capable of being individually
identified and separately recognised.
• Arises due to factors such as an entity's reputation and
branding.
• There are two types of goodwill:
– Internally generated goodwill (IAS 38)
– Purchased goodwill (IFRS 3)

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Goodwill (IFRS 3) 2

Goodwill

Purchased (IFRS 3) Internally generated

Positive • Not recognised in the books
• Capitalise and test annually
for impairment

'Negative’ (A gain on a
bargain purchase, acquired
net assets exceed cost)
• Reassess and then credit
any remainder to profit or
loss attributable to the parent
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Question: Stauffer (continued)

(e) On 1 August 20X6, Stauffer acquired a smaller company in the
same line of business. Included in the company's statement of
financial position was an in-process research and development
project, which showed promising results (and was the main reason
why Stauffer purchased the other company), but was awaiting
government approval. The project was included in the company's
own books at $3m at the acquisition date, while the company's net
assets were valued at a fair value of $12m (excluding the project).
Stauffer paid $18m for 100% of the company and the research and
development project was valued at $5m by Stauffer's valuation
consultants at that date. Government approval has now been
received, making the project worth $8m at Stauffer's year end.
Required
Explain how the directors should treat the above items in the financial
statements for the year ended 30 September 20X6.

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Past exam questions

Nature of question Exam details

Presentation of intangibles on the SOFP Dec 2014

Treatment of research & development costs MCQ/OTQ style

Patents/licences questions
Recognition of different treatments of assets

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Chapter Summary 1

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Chapter Summary 2

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Chapter Summary 3

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Chapter Summary 4

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