Solution Manual For Financial Reporting 3rd Edition Janice Loftus Ken Leo Sorin Daniliuc Noel Boys Belinda Luke Hong Nee Ang Karyn Byrnes Download

Solution Manual for Financial Reporting, 3rd Edition, Janice Loftus, Ken Leo, Sorin Daniliuc
Solution Manual for Financial Reporting, 3rd Edition,

Janice Loftus, Ken Leo, Sorin Daniliuc, Noel Boys,
Belinda Luke Hong Nee Ang Karyn Byrnes
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Solutions manual
to accompany
Financial reporting
3rd edition
by
Loftus, Leo, Daniliuc, Boys, Luke, Ang

and Byrnes
Prepared by
Ken Leo
Not for distribution in full. Instructors may post selected solutions

for questions assigned as homework to their LMS.
© John Wiley & Sons Australia, Ltd 2020

Chapter 6: Intangible assets

Comprehension questions
1. What are the key characteristics of an intangible asset?
Paragraph 8 of AASB 138/IAS 38 defines an intangible asset as:
An identifiable non-monetary asset without physical substance.
Key characteristics are:

• Identifiable [see answer to comprehensive question 2 below]: because of its emphasis on
markets is inserted to exclude many possible intangibles that are difficult to measure e.g.
staff morale, good customer relations.
• Non-monetary: this characteristic excludes financial assets such as receivables from being
classified as intangibles.
• Without physical substance: excludes items of PP&E covered by AASB 116/IAS 16.
2. Explain what is meant by ‘identifiability’.
Paragraph 12 of AASB 138/IAS 38 states:
An asset meets the identifiability criterion in the definition of an intangible asset when it:
(a) is separable, i.e. is capable of being separated or divided from the entity and sold,
transferred, licensed, rented or exchanged, either individually or together with a
related contract, asset or liability; or
(b) arises from contractual or other legal rights, regardless of whether those rights are
transferable or separable from the entity or from other rights and obligations.
(a) Excludes goodwill, and other possible assets such as staff morale.
(b) Is included to allow such assets as water rights, where these were allocated by a government
but if not used were unable to be on-sold and so were not separable, to be classified as
intangible assets.
3. How do the principles for amortisation of intangible assets differ from those for
depreciation of property, plant and equipment?
The basic principle of allocation of the depreciable amount on a systematic basis over useful
life is the same. With intangibles, straight-line method is the default method where the pattern
of receipt of benefits cannot be reliably determined; not so for PPE. Intangibles can have
indefinite lives, not so for PPE. For intangibles with finite lives, residual value is assumed to
be zero unless criteria in paragraph 100 of AASB 138/IAS 38 are met; not so for PPE.
4. How is the useful life of an intangible asset determined?
Useful life must be assessed as finite or indefinite. Note paragraph 90 of AASB 138/IAS 38 in
relation to assessment of whether an indefinite useful life exists:
© John Wiley and Sons Australia Ltd, 2020 6.2

Solutions manual to accompany Financial reporting 3e by Loftus et al.. Not for distribution in full. Instructors
may post selected solutions for questions assigned as homework to their LMS.
Many factors are considered in determining the useful life of an intangible asset, including:
(a) the expected usage of the asset by the entity and whether the asset could be managed
efficiently by another management team;
(b) typical product life cycles for the asset and public information on estimates of useful
lives of similar assets that are used in a similar way;
(c) technical, technological, commercial or other types of obsolescence;
(d) the stability of the industry in which the asset operates and changes in the market
demand for the products or services output from the asset;
(e) expected actions by competitors or potential competitors;
(f) the level of maintenance expenditure required to obtain the expected future economic
benefits from the asset and the entity's ability and intention to reach such a level;
(g) the period of control over the asset and legal or similar limits on the use of the asset,
such as the expiry dates of related leases; and
(h) whether the useful life of the asset is dependent on the useful life of other assets of
the entity.
5. What intangible assets can never be recognised if internally generated? Why?
Internally generated brands, mastheads, publishing titles, customer lists and items similar
in substance shall not be recognised as intangible assets.
Paragraph 64 of AASB 138/IAS 38 gives the reason:
Expenditure on internally generated brands, mastheads, publishing titles, customer lists

and items similar in substance cannot be distinguished from the cost of developing the
business as a whole. Therefore, such items are not recognised as intangible assets.
6. Explain the difference between ‘research’ and ‘development’.
Paragraph 8 of AASB 138/IAS 38 contains the following definitions:
Research is original and planned investigation undertaken with the prospect of gaining
new scientific or technical knowledge and understanding.
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.
Paragraph 56 of AASB 138/IAS 38 gives examples of research activities:
(a) activities aimed at obtaining new knowledge;

(b) the search for, evaluation and final selection of, applications of research findings or
other knowledge;
(c) the search for alternatives for materials, devices, products, processes, systems or
services; and
(d) the formulation, design, evaluation and final selection of possible alternatives for
new or improved materials, devices, products, processes, systems or services.

Paragraph 59 of AASB 138/IAS 38 gives examples of development activities:
(a) the design, construction and testing of pre-production or pre-use prototypes and
models;
(b) the design of tools, jigs, moulds and dies involving new technology;
(c) the design, construction and operation of a pilot plant that is not of a scale
economically feasible for commercial production; and
(d) the design, construction and testing of a chosen alternative for new or improved
materials, devices, products, processes, systems or services.
7. Explain when development outlays can be capitalised.
Paragraph 57 of AASB 138/IAS 38 states that when all the following criteria are met,
development outlays can be capitalised:
(a) the technical feasibility of completing the intangible asset so that it will be available
for use or sale.
(b) its intention to complete the intangible asset and use or sell it.
(c) its ability to use or sell the intangible asset.
(d) how the intangible asset will generate probable future economic benefits. Among
other things, the entity can demonstrate the existence of a market for the output of
the intangible asset or the intangible asset itself or, if it is to be used internally, the
usefulness of the intangible asset.
(e) the availability of adequate technical, financial and other resources to complete the
development and to use or sell the intangible asset.
(f) its ability to measure reliably the expenditure attributable to the intangible asset
during its development.
8. Explain how intangible assets are initially measured, and whether the measurement
differs dependent on whether the assets are acquired in a business combination or
internally generated by an entity.
Paragraph 24 of AASB 138/IAS 38 states that an intangible asset must be initially measured at
cost. When internally generated, cost is based upon capitalisation of development costs. When
acquired in a business combination, cost is measured as the fair value of the asset at acquisition
date, and a hierarchy of measures of fair value is available – see paragraphs 39-41 of AASB
138/IAS 38.
9. What are the recognition criteria for intangible assets?
An intangible asset shall be recognised if, and only if:

(a) it is probable that the expected future economic benefits that are attributable to the
asset will flow to the entity; and
(b) the cost of the asset can be measured reliably.

10. Explain the application of the revaluation model for intangible assets.
The relevant paragraphs from AASB 138/IAS 38 that deal with the application of the
revaluation model to intangible assets are:
75. After initial recognition, an intangible asset shall be carried at a revalued amount,
being its fair value at the date of the revaluation less any subsequent accumulated
amortisation and any subsequent accumulated impairment losses. For the purpose
of revaluations under this Standard, fair value shall be determined by reference to an
active market. Revaluations shall be made with such regularity that at the balance
sheet date the carrying amount of the asset does not differ materially from its fair
value.
81. If an intangible asset in a class of revalued intangible assets cannot be revalued
because there is no active market for this asset, the asset shall be carried at its cost
less any accumulated amortisation and impairment losses.
82. If the fair value of a revalued intangible asset can no longer be determined by
reference to an active market, the carrying amount of the asset shall be its revalued
amount at the date of the last revaluation by reference to the active market less any
subsequent accumulated amortisation and any subsequent accumulated impairment
losses.
85. If an intangible asset's carrying amount is increased as a result of a revaluation, the
increase shall be credited directly to equity under the heading of revaluation surplus.
However, the increase shall be recognised in profit or loss to the extent that it reverses
a revaluation decrease of the same asset previously recognised in profit or loss.
86. If an intangible asset's carrying amount is decreased as a result of a revaluation, the
decrease shall be recognised in profit or loss. However, the decrease shall be debited
directly to equity under the heading of revaluation surplus to the extent of any credit
balance in the revaluation surplus in respect of that asset.
Method is basically the same as that under AASB 116IAS 16 for PPE. AASB 138/IAS 38 has
a restriction on use of fair value in that it must be measured by reference to an active market.
11. Explain the use of fair values in the accounting for intangible assets.
1. Initial recognition: Fair values are used to measure cost when intangibles are acquired in a
business combination. Fair values may be measured in a variety of ways – see paragraphs 39-
41.
2. Subsequent to initial recognition: After initial recognition, all intangibles may be measured
under the cost model or the revaluation model. However, to use the revaluation model, fair
value can only be measured by reference to an active market. AASB 13 defines an active
market as “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”.

Case studies
Case study 6.1
Accounting for brands
West Ltd is a leading company in the sale of frozen and canned fish produce. These
products are sold under two brand names.
• Fish caught in southern Australian waters are sold under the brand ‘Antarctic
Fresh’, which is the brand the company developed when it commenced operations
and which is still used today.
• Fish caught in the northern oceans are sold under the brand name ‘Tropical
Taste’, the brand developed by Fishy Tales Ltd. West Ltd acquired all the assets
and liabilities of Fishy Tales Ltd a number of years ago when it took over that
company’s operations.
West Ltd has always marketed itself as operating in an environmentally responsible

manner, and is an advocate of sustainable fishing. The public regards it as a dolphin-
friendly company as a result of its previous campaigns to ensure dolphins are not affected
by tuna fishing. The marketing manager of West Ltd has noted the efforts of the ship, the
Steve Irwin, to disrupt and hopefully stop the efforts of whalers in the southern oceans
and the publicity that this has received. He has recommended to the board of directors
that West Ltd strengthen its environmentally responsible image by guaranteeing to
repair any damage caused to the Steve Irwin as a result of attempts to disrupt the whalers.
He believes that this action will increase West Ltd’s environmental reputation, adding to
the company’s goodwill. He has told the board that such a guarantee will have no effect
on West Ltd’s reported profitability. He has explained that, if any damage to the Steve
Irwin occurs, West Ltd can capitalise the resulting repair costs to the carrying amounts
of its brands, as such costs will have been incurred basically for marketing purposes.
Accordingly, as the company’s net asset position will increase, and there will be no effect
on the statement of profit or loss and other comprehensive income, this will be a win–win
situation for everyone.
Required
The chairman of the board knows that the marketing manager is very effective at selling
ideas but knows very little about accounting. The chairman has, therefore, asked you to
provide him with a report advising the board on how the proposal should be accounted
for under accounting standards and how such a proposal would affect West Ltd’s
financial statements.
1. Accounting for the guarantee:

• Is there a liability? Legal or constructive? What is the past event? What obligation exists?
• Should it be recognised?
• How is it to be measured?
• Contingent liability?
We can expect that a provision/contingent liability would need to be raised in relation to the
guarantee. Measurement issues may lead to the need for a contingent liability.

2. Can costs be capitalised into brands?
• Note one brand is internally generated and one is acquired. The internally generated brand
“Antarctic Fresh” will not be recognised, while “Tropical Taste” was acquired in a business
combination and it will be recognised on acquisition. Note that accounting for internally
generated brands differs from that for brands acquired in a business combination.
• Extra outlays on the brand cannot be capitalised into an already existing brand as the outlays
are generally to maintain the existing asset rather than increase the asset. Also, it is hard to
distinguish the expenditure from the amount spent to develop the business as a whole.
• AASB 138/IAS 38 says that brands cannot be revalued as no active market exists.
• Can the outlay be related to the brand or is it internally generated goodwill: does it relate
to the entity as a whole rather than a single asset? Cannot recognise internally generated
goodwill.
• Expected result is that any outlays would need to be expensed.
3. Effects on financial statements:

• Liability? Provision?
• Contingent liability – notes only.
• Asset? No.
• Profit: expense relating to the guarantee provision?

Case study 6.2
Accounting for intangible assets
Mags Ltd is an Australian mail-order company. Although the sector in Australia is

growing slowly, Mags Ltd has reported significant increases in sales and net income in
recent years. Sales increased from $50 million in 2015 to $120 million in 2021, profit
increased from $3 million to $12 million over the same period. The stock market and
analysts believe that the company’s future is very promising. In early 2022, the company
was valued at $350 million, which was three times 2021 sales and 26 times estimated 2022
profit.
Company management and many investors attribute the company’s success to its
marketing flair and expertise. Instead of competing on price, Mags Ltd prefers to focus
on service and innovation, including:
• free delivery
• a free gift with orders over $200.
As a result of such innovations, customers accept prices that are 60% above those of
competitors, and Mags maintains a gross profit margin of around 40%.
Nevertheless, some investors have doubts about the company as they are uneasy about
certain accounting policies the company has adopted. For example, Mags Ltd capitalises
the costs of its direct mailings to prospective customers ($4.2 million at 30 June 2021) and
amortises them on a straight-line basis over 3 years. This practice is considered to be
questionable as there is no guarantee that customers will be obtained and retained from
direct mailings.
In addition to the mailing lists developed by in-house marketing staff, Mags Ltd
purchased a customer list from a competitor for $800 000 on 4 July 2022. This list is also
recognised as a non-current asset. Mags Ltd estimates that this list will generate sales for
at least another 2 years, more likely another 3 years. The company also plans to add
names, obtained from a phone survey conducted in August 2022, to the list. These extra
names are expected to extend the list’s useful life by another year.
Mags Ltd’s 2021 statement of financial position also reported $7.5 million of marketing
costs as non-current assets. If the company had expensed marketing costs as incurred,
2021 net income would have been $10 million instead of the reported $12 million. The
concerned investors are uneasy about this capitalisation of marketing costs, as they
believe that Mags Ltd’s marketing practices are relatively easy to replicate. However,
Mags Ltd argues that its accounting is appropriate. Marketing costs are amortised at an
accelerated rate (55% in year 1, 29% in year 2, and 16% in year 3), based on 25 years’
knowledge and experience of customer purchasing behaviour.
Required
Explain how Mags Ltd’s costs should be accounted for under AASB 138/IAS 38
Intangible Assets, giving reasons for your answer.
AASB 138/IAS 38 definitions:

• Asset: A resource:
(a) controlled by an entity as a result of past events; and
(b) from which future economic benefits are expected to flow to the entity.
• Intangible asset: An identifiable non-monetary asset without physical substance.
• Identifiable: An asset is identifiable when it:

(a) is separable – i.e. can be separated or divided from the entity and sold, transferred,
licensed, rented or exchanged, either individually or together with a related contract,
asset or liability; or
(b) arises from contractual or other legal rights.
Costs of direct mailings to prospective customers (capitalised and amortised):

• Under AASB 138/IAS 38 internally generated customer lists and items similar in substance
shall not be recognised as intangible assets.
• Accordingly, Mags Ltd should:
- Write off all costs capitalised to date; and
- Expense all such costs as incurred from now on.
Purchased customer list (capitalised and amortised):

• It meets the asset definition. Mags Ltd has control as it has the power to obtain the future
economic benefits flowing from it and can restrict the access of others to it. Future
economic benefits exist in the form of potential sales.
• It also meets the intangible asset definition, as it is non-monetary, has no physical
substance, and is identifiable as it can be sold.
• Assuming that it is probable that future economic benefits will be obtained from this list,
Mags Ltd’s treatment is correct – i.e. recognise it as an intangible asset at cost and then, as
the question indicates that Mags Ltd has chosen the cost model, amortise it.
Cost of phone survey conducted after customer list purchased (to be capitalised):
• Under AASB 138/IAS 38 subsequent expenditure on customer lists and items similar in
substance (whether externally acquired or internally generated) is always expensed as
incurred.
• Hence, Mags Ltd should expense the cost of the phone survey.
Marketing costs (capitalised and amortised):

• They do not meet the asset definition. Mags Ltd cannot demonstrate control over the future
economic benefits flowing from them, as it cannot restrict the access of others to those
benefits. AASB 138/IAS 38 states that control normally arises from legal rights (e.g.
restraint of trade agreements). Without such rights it is difficult to demonstrate control.
• Mags Ltd’s marketing practices and flair are known to competitors and accordingly could
be replicated.
• Hence, Mags Ltd should:
- Write off all costs capitalised to date; and
- Expense all such costs as incurred from now on.

Application and analysis questions
Exercise 6.1
Financial statements and intangible assets
Upton (2001, p. 50) notes:
There is a popular view of financial statements that underlies and motivates many
discussions of intangible assets. That popular view often sounds something like
this:
If accountants got all the assets and liabilities into financial statements, and they
measured all those assets and liabilities at the right amounts, stockholders’ equity
would equal market capitalization. Right?
Required
Comment on the truth of this ‘popular view’. (LO1)
Upton argues that ensuring all the assets and liabilities are in the statement of financial position
has never been an objective of accounting. He argues that financial reporting tries to provide
information about economic resources and the two groups that hold claims against those
resources. It helps to correct or confirm expectations. He provides an example of the mild
climate at the entity’s home office. This is not an asset of the entity but it may affect the value
of items that are economic resources such as the value of the home office building.
Four criteria must be met before including items in a statement of financial position:
• definitions
• measurability of a relevant attribute
• relevance, and
• reliability: representationally faithful, verifiable and neutral.
Information about some intangibles may be relevant, but many items are not measurable. Some
assets may be measurable, but the measurement attribute may not be relevant, for example
capitalisation of research costs.
Recognition of assets for expenditure for which economic benefits are not probable does not
provide relevant information. In outlaying the funds, management’s intention was to generate
future benefits. However, the degree of certainty that economic benefits will flow to the entity
beyond the current period is insufficient to warrant the recognition of an asset.

Exercise 6.2
Useful life of trademark
Snapper Ltd holds a trademark that is well known within consumer circles and has
enabled the company to be a market leader in its area. The trademark has been held by
the company for 9 years. The legal life of the trademark is 5 years, but is renewable by
the company at little cost to it.
Required
Discuss how the company should determine the useful life of the trademark, noting in
particular what form of evidence it should collect to justify its selection of useful life.
(LO2, LO4 and LO6)
1. Does the company have an asset beyond the 5 years:

• are there expected future benefits?
• Can the entity control those benefits [are they controlled by the government that issues the
licence? Compare with the employee who may leave]
• What is the past transaction given the renewal of the trademark for any subsequent term
has not yet been granted?
2. Evidence of control is the crucial element. In particular evidence relating to whether the
company controls the variables that determine renewal of the trademark. For example, does
renewal depend on the company meeting certain criteria which it can control, such as having
good business practices, or does it depend on the whim of a government bureaucrat, which the
entity cannot control.
3. Note paragraph 90 of AASB 138/IAS 38:

• Many factors are considered in determining the useful life of an intangible asset, including:
(a) the expected usage of the asset by the entity and whether the asset could be managed
efficiently by another management team;
(b) typical product life cycles for the asset and public information on estimates of useful
lives of similar assets that are used in a similar way;
(c) technical, technological, commercial or other types of obsolescence;
(d) the stability of the industry in which the asset operates and changes in the market
demand for the products or services output from the asset;
(e) expected actions by competitors or potential competitors;
(f) the level of maintenance expenditure required to obtain the expected future economic
benefits from the asset and the entity's ability and intention to reach such a level;
(g) the period of control over the asset and legal or similar limits on the use of the asset,
such as the expiry dates of related leases; and
(h) whether the useful life of the asset is dependent on the useful life of other assets of
the entity.

Exercise 6.3
Research and development
Sandy Beach Ltd’s research and development section has come up with an idea for a
project on using cane toad poison for medicinal purposes. The board of directors of Sandy
Beach Ltd believes that the project has promise and could lead to future profits for the
firm. The project is, however, very expensive and needs approval from the board.
The company’s chief financial officer, Mr Stone, has expressed concern that the profits
of the firm have not been strong in recent years and he does not want to see research and
development costs charged as expenses to the profit or loss. Mr Stone has proposed that
Sandy Beach Ltd should hire an outside firm, Shell Ltd, to undertake the work and obtain
the patent. Sandy Beach Ltd could then acquire the patent from Shell Ltd, with no effect
on the profit or loss of Sandy Beach Ltd.
Required
Discuss whether Mr Stone’s proposal is a sound idea, particularly in relation to the effect
on the profit or loss of Sandy Beach Ltd. (LO4)
If the project is undertaken internally then all costs of research must be expensed, while
costs of development cannot be capitalised until all the criteria in paragraph 57 of AASB
138/IAS 38 are met.
Mr Stone is correct in his assertion that undertaking this project internally will have an
effect on future profits as the project progresses.
Mr Stone is also correct in relation to the use of outside consultants, Shell Ltd.
Sandy Beach Ltd could acquire in-process research/development from Shell Ltd and
recognise this as an asset. Recognition of any asset needs to meet the recognition
requirements in the Framework, however the expected benefits would have to be probable.
This means that in relation to early research this test may be hard to meet.
It would be better to make large payments at extended intervals, e.g. $x in 1 years’ time,
rather than monthly payments, as at the first monthly payment it would be harder to meet
the probable expected benefits test.

Exercise 6.4
Recognition of intangible assets
Arrow Ltd has the following:

1. an investment in a subsidiary company
2. training costs associated with a new product
3. the cost of testing in search for product alternatives
4. legal costs incurred in securing a patent
5. long-term receivables.
Required
Which of these should be included as an intangible asset in the accounts of Arrow Ltd?
Give reasons for your answers. (LO3)
1. Investment in a subsidiary company:

• Paragraph 2 of AASB 138/IAS 38 excludes financial assets from AASB 138/IAS 38 as
these are accounted for under AASB 132.
2. Training costs:
• These are not separable; hence training costs are not identifiable as an asset. Paragraph
29(b) of AASB 138/IAS 38 also excludes costs of staff training as part of the cost of
an intangible asset as it is not a directly attributable cost.
3. Cost of testing in search of product alternatives:

• Paragraph 56(c) of AAB 138/IAS 38 gives as an example of research “the search for
alternatives for materials, devices, products, products, systems or services;” Being
research these costs are expensed.
4. Legal costs incurred in securing a patent:
• These would be costs that are directly attributable to preparing the asset for its intended
use and would be capitalised into the cost of the patent as an intangible asset.
5. Long-term receivables:
• Monetary items are money held and assets to be received in fixed or determinable
amounts of money.
• Receivables – short or long term – are monetary assets.
• Hence they are not intangible assets.

Exercise 6.5
Nemo Ltd has the following:

1. the cost of purchasing a trademark
2. unrecovered costs of a successful lawsuit to protect a patent
3. goodwill acquired in the purchase of a business
4. costs of developing a patent
5. the cost of engineering activity to advance the design of a product to the
manufacturing stage
6. payments to an advertising agency for advertisements to increase the goodwill of the
company.
Required
Which of these should be included as an intangible asset in the accounts of Nemo Ltd?
Give reasons for your answer. (LO3)
The key characteristics of an intangible asset are:

• identifiable
• non-monetary
• lack of physical substance.
1. Cost of purchasing a trademark:

• A trademark meets each of the above characteristics of an intangible asset. Hence
acquisition of a trademark would mean that an intangible asset could be recognised.
Initially intangible assets are measured at cost.
2. Unrecovered costs of a successful law suit to protect a patent:

• These cannot be recognised as an asset as they are not separable.
• Can they be capitalised into the cost of the patent? As they do not add to the benefits
of the patent no extra asset is acquired. The costs are of the same nature as “repairs
and maintenance costs” for PPE and should be expensed.
• In the late 1990s, Walt Disney Company faced the loss of its copyright on “Mickey
Mouse” which could have led to the loss of millions of dollars of sales. It went to the
Supreme Court and won an extension of copyright lives from 50 to 70 years. These
court costs could be capitalised into the copyright on Mickey Mouse as there was an
extension to the useful life of the copyright.
3. Goodwill acquired in the purchase of a business:
• This can be recognised as an asset under AASB 3.
• However goodwill is not an intangible asset as it is not separable.
4. Costs of developing a patent:

• The costs of developing a patent must be assessed under the accounting for research
and development principles.
• Any research costs must be expensed.
• Development costs can only be capitalised after the criteria in paragraph 57 of AASB
138/IAS 38 are all met.

5. Costs of engineering activity to advance the design of a product to the manufacturing

stage:
• If the criteria listed in paragraph 57 of AASB 138/IAS 38 are all met then these costs
can be capitalised into an intangible asset, being the design of the product.
6. Deposits with an advertising agency for advertisements to increase the goodwill of the
company:
• Internally generated goodwill cannot be recognised. Only acquired goodwill can be
recognised as an asset – but not as an intangible asset.
• These costs are not costs of acquiring goodwill – goodwill cannot be acquired as a
separate asset.
• The costs must be expensed.

Exercise 6.6
Brands and formulas
Wayne Upton (2001, p. 71) in his discussion of the lives of intangible assets noted that the
formula for Coca-Cola has grown more valuable over time, not less, and that Sir David
Tweedie, former chairman of the IASB, jokes that the brand name of his favourite Scotch
whisky is older than the United States of America — and, in Sir David’s view, the formula
for Scotch whisky has contributed more to the sum of human happiness.
Required
Outline the accounting for brands under AASB 138/IAS 38, and discuss the difficulties
for standard setters in allowing the recognition of all brands and formulas on statements
of financial position. (LO3 and LO4)
Accounting for brands under AASB 138/IAS 38:

(a) Internally generated:
• Internally generated intangibles must meet the recognition criteria in paragraph 57.
• Paragraph 63 specifically excludes the recognition of internally generated brands.
(b) Acquired brands:

• Recognised at cost.
• If acquired as part of a business, AASB 3 states that no recognition criteria need be
applied. Provided the asset meets the definition of an intangible asset, it must be
recognised as a separate asset. As with separately acquired intangible assets, paragraph
B33 of AASB 3 provides that, where intangible assets are acquired as part of a business
combination, the effect of probability is reflected in the measurement of the asset.
Hence the probability recognition criterion is automatically met. – see also paragraphs
11-12 of AASB 3.
• Initially measured at cost = fair value.
• Subsequently can be measured at cost or revalued amount, but use of the latter requires
the existence of an active market.
• Amortisation based on useful life, or non-amortisation on indefinite life
Consider a major brand of whisky – Chivas Regal, Johnny Walker etc. – and debate the
argument that the brand name is worthless if separated from the company, for example, could
Chivas Regal sell the brand name to another company making whisky that tastes different from
the Chivas Regal whisky? Or is the brand an integral part of the whole company? Compare
with Coca-Cola – would a lemonade company buy the brand name Coca Cola or is the brand
an integral part of the whole product of the company?

Exercise 6.7
Internally generated intangible assets
In their article entitled ‘U.S. firms challenged to get “intangibles” on the books’, Byrnes
and Aubin (2011) noted that in the United States some companies were accounting for
intangibles such as brands, patents and information technology differently when they
were developed internally rather than being acquired. This could mean major differences
in accounting numbers where internally generated intangibles developed at low costs by
one company were sold for large amounts to another company. They noted:
The accounting difference could result in distorted behaviour, warns Abraham

Briloff, a professor emeritus of accountancy at Baruch College, tempting
companies to buy intellectual property rather than doing research themselves . . .
Required
1. Explain the accounting for internally generated intangible assets in AASB 138/IAS
38.
2. Discuss any differences between accounting for internally generated intangible assets
and acquired intangible assets in AASB 138/IAS 38.
3. Discuss why companies may be reluctant to press for changes in AASB 138IAS 38 to
require more recognition of internally generated intangible assets.
(LO4)
1. Where there is no related expenditure on the existence of an internally generated asset it

cannot be recognised because, under paragraph 24 of AASB 138/IAS 38, intangible assets are
initially measured at cost.
Expenditure on the development of internally generated intangibles may be capitalised

dependent on whether the expenditure is classified as research or development.
Research is original and planned investigation with the prospect of new knowledge – see
paragraph 56 of AASB 138/IAS 38 for examples. Development is the application of research
findings - see paragraph 59 of AASB 138/IAS 38 for examples.
Research expenditure is expensed as incurred – paragraph 54 of AASB 138/IAS 38.

Development expenditure may be capitalised if all the six criteria in paragraph 57 of AASB
138/IAS 38 are met.
Paragraph 63 of AASB 138/IAS 38 states that certain internally generated intangibles such as
brands and mastheads cannot ever be recognised. This list does not include patents.
Note that “customer relationships” are mentioned in the beginning of the quoted article. This
should never be recognised as an intangible asset as it does not been the definition of an asset
as the company has no control over that asset. Even it were regard as an asset it does not meet
the criterion of identifiability – as it cannot be sold or exchanged – in the definition of an
intangible asset.
If recognised internally generated intangibles must be amortised unless they have indefinite
lives.

2. It is easier to recognise intangibles when they are acquired in comparison to when they are
internally generated. For acquired intangibles there is a market transaction and the acquired
assets are measured at cost – measured at fair value for business combinations.
For assets acquired in a business combination fair values may be used compared with having
to determine a cost.
With acquired assets, the assets prohibited in paragraph 63 of AASB 138/IAS 38 for
recognition as internally generated intangibles, may be recognised. Once recognised, all
intangible assets are subsequently treated the same.
3. Some reasons are:

• Managers prefer to inflate future profits. Where major investments in research and
development are written off, this is a guarantee that future revenues and earnings derived
from these acquisitions will be reported unencumbered by the major expense item, the
amortisation of the intangible asset. The effects on ratios such as rates of return on assets
and equity are better in the future if write-offs occur now rather than periodic amortisations
later.
• Investors generally consider write-offs as one-time items, of no consequence for valuation.
A number of large hits is considered better than periodic amortisation. Investors discount
the effect of one-time write-offs and cheer the improved profitability of subsequent years.
• Immediate expensing obviates the need to provide explanations in case of failure. Writing
off assets denotes failure, and managers prefer to avoid questions and lawsuits. Further
failure always attracts more attention than success.
• Cost and benefit. Accounting rules involve entities in incurring costs, such as those for
running analytical models, measuring fair values, and paying auditors to review the
measures.
• Lack of relevance of capitalised numbers. Is there a sufficient link between the capitalised
costs and the expected future benefits? For knowledge-based assets, the measurement of
the benefits may be impossible.

Exercise 6.8
Intangible assets acquired in a business combination
Blue Sky, an internet services provider, acquired ConnectUs, a social networking

company, for US$2.4 billion. At the date of acquisition, it recognised three amortisable
intangible assets, namely:
$’000
Developed technology 1 256 800
Customer contracts and related relationships 473 500
Trade name 244 000
These intangible assets were acquired as part of a business combination.
Required
Discuss the accounting for intangible assets acquired in a business combination and how
it differs from the recognition and measurement of other intangible assets. (LO4)
Separate Acquired as Internally generated

acquisition part of Research Development
business
combination
Recognition Never 1. Recognise if
criteria recognise the 6 criteria
1. Benefits to Always met Always met in paragraph
the entity are 57 are all met.
probable 2. Never
2. Cost can be Usually met Always met recognise
reliably assets in
measured paragraph 63.
Measurement Cost Fair value Cost – limited to
those incurred
after the paragraph
57 criteria are met.
Recognition
Before assets are recognised in the accounting records they must meet asset recognition criteria.
There are normally two recognition criteria for assets, namely (i) the expected future economic
benefits are probable and (ii) the cost can be reliably measured.
Paragraph 33 of AASB 138/IAS 38 states that in a business combination, the effect of

probability of the existence of future economic benefits is reflected in the measurement of the
asset at fair value, hence any probability recognition criteria is automatically met.

Paragraph 33 of AASB 138/IAS 38 also states that the reliability of measurement recognition
test is always met as sufficient information is always available in a business combination to
reliably measure intangible assets.
As per the table above, with a business combination, there are effectively no recognition criteria
for intangible assets as they are always considered to be met.
Measurement
For intangible assets, the general measurement rule is measurement at cost. However with
intangible assets acquired in a business combination cost is measured at fair value, measured
in accordance with AASB 13.
Provided the intangible assets meet the definition of an asset, they must be recognised as
separate assets.
Note in particular the asset “Developed technology”: it may be possible that ConnectUs
had expensed all development outlays as the criteria in paragraph 57 of AASB 138/IAS 38
had not been met. However in a business combination, development becomes an acquired
asset in contrast to an internally developed asset. Blue Sky will recognise any development
asset that exists and not also that, it does not have to consider the costs that had been
incurred by ConnectUs in relation to development as Blue Sky will measure this asset at
fair value.

Exercise 6.9
Recognising intangible assets
The Global Alliance (2013) provided the following statement in a press release on its
website.
During an event organised by the Spanish Association of Communication

Directors, Dircom, in the framework of the 8th World Public Relations Forum,
due to be held in Madrid from 21 to 23 September 2014, Gregory has made it
clear that CEOs have a key role to play in this new business environment, which
should be governed by authenticity and the heart. ‘Nowadays over 80% of
company assets are intangible, which means we need to communicate what makes
us unique through our business values.’
She believes this shift has changed the roles within organisations: ‘Intangible
assets are increasingly important with regard to other areas of the organisation,
such as the finance department. Reputation, brand and the meaning our job
conveys to society, the company and our stakeholders are taking precedence over
figures and transactions.’
Required
Discuss the limitations placed on the recognition of intangible assets in the financial
statements of by AASB 138/IAS 38 Intangible Assets. (LO3, LO6 and LO7)
Limitations include:
1. The definition of an intangible asset – particularly the criterion of “separability”.
Requiring separability means that potential assets such as human resources, reputation,
customer relationships labour relations and the “meaning our job conveys to society”
cannot be recognised as intangible assets.
2. The restrictions in paragraph 63 of AASB 138/IAS 38 on recognition of internally
generated brands, mastheads, publishing titles, customer lists and items similar in
substance.
3. The requirement to have an active market in order to be able to apply the revaluation
method. AASB 138/IAS 38 allows intangible assets acquired in a business combination
to be able to be measured at fair value without there being an active market. Why not
just allow AASB 13 Fair Value Measurement to apply.
4. The criteria in paragraph 57 of AASB 138/IAS 38 in relation to internally generated
intangibles – again why not allow fair value to be used as an upper limit on
capitalisation of cost?

Exercise 6.10
The latest annual report of Local Media Ltd states that the principal activities of the
group are ‘the production and broadcasting of television programs, local and national
radio production and broadcasting, the sale of advertising airtime and space in these
media’.
In the statement of financial position of Local Media Ltd, although goodwill is recognised,
no intangible assets are identified.
Required
1. List intangible assets that Local Media Ltd is likely to own and state the arguments
for and against capitalising each in the statement of financial position.
2. Explain why the statement of financial position excludes some assets that could have
been separately identified.
(LO3 and LO4)
1. Intangible assets likely to be owned by Local Media Ltd may include:

• Distribution networks.
• Intellectual property.
• Customer contracts.
• Licences and mastheads.
The above intangible assets are shown on an entity’s statement of financial position at cost
less accumulated depreciation and impairment losses where applicable.
The notes to the financial statements include additional details about intangible assets to
assist with the decision making of the users of those financial statements. Part of the notes
for intangibles assets would state whether or not they include capitalised development
costs.
Which assets are capitalised depends on meeting the requirements of AASB 138 /IAS 38.
These differ dependent on whether intangibles are acquired separately, acquired in a
business combination or internally developed.
2. The key reason for exclusion of intangible assets from the statement of financial position
is that the measurement of such assets is unreliable. This applies particularly to internally
developed intangible assets. Whether the criteria for recognition should be as strict as
those in paragraph 57 of AASB 138/IAS 38, and whether blanket exclusions such as in
paragraph 63 of AASB 138/IAS 38 should be required is subject to debate. The 2008
Discussion Paper by the AASB was written in order to try to influence the IASB in relation
to the accounting for internally generated intangibles as there seemed to be a disparity
between the recognition of acquired and internally generated intangibles.

Exercise 6.11
Research and development
General Labs Ltd manufactures and distributes a wide range of general pharmaceutical
products. Selected audited data for the reporting period ended 31 December 2022 are as
follows.
Gross profit $ 26 400 000

Profit before income tax 2 550 000
Income tax expense 750 000
Profit for the period 1 800 000
Total assets:
Current 10 950 000
Non‐current 171 250 000
The company uses a standard mark-up on cost.
From your audit files, you ascertain that total research and development expenditure for
the year amounted to $7 050 000. This amount is substantially higher than in previous
years and has eroded the profitability of the company. Mr Birkdale, the company’s
finance director, has asked for your firm’s advice on whether it is acceptable accounting
practice for the company to carry forward any of this expenditure to a future accounting
period.
Your audit files disclose that the main reason for the significant increase in research and
development costs was the introduction of a planned 5-year laboratory program to
attempt to find an antidote for the common cold. Salaries and identifiable equipment
costs associated with this program amounted to $3 525 000 for the current year.
The following additional items were included in research and development costs for the
year:
(a) Costs to test a new tamper-proof dispenser pack for the company’s major selling line
(20% of sales) of antibiotic capsules — $1 140 000. The new packs are to be introduced
in the 2023 financial year.
(b) Experimental costs to convert a line of headache powders to liquid form — $885 000.
The company hopes to phase out the powder form if the tests to convert to the stronger
and better-handling liquid form prove successful.
(c) Quality control required by stringent company policy and by law on all items of
production for the year — $1 125 000.
(d) Costs of a time and motion study aimed at improving production efficiency by
redesigning plant layout of existing equipment — $75 000.
(e) Construction and testing of a new prototype machine for producing hypodermic
needles — $300 000. Testing has been successful to date and is nearing completion.
Hypodermic needles accounted for 1% of the company’s sales in the current year, but
it is expected that the company’s market share will increase following introduction of

this new machine.
Required
Respond to Mr Birkdale’s question for each item above. (LO4)
The outlays must be analysed using paragraph 57 of AASB 138/IAS 38:

• Technical feasibility.
• Intention to complete and sell.
• Ability to use or sell.
• Existence of a market.
• Availability of resources.
• Ability to measure costs reliably.
(a) Dispenser pack: As the dispenser pack was a new product, costs incurred until the pack
developed met the tests in paragraph 57 of AASB 138/IAS 38 are expensed. In this case,
determining the technical feasibility of the pack and developing a cost effective product would
have been two key issues.
(b) Converting powders to liquid form: The tests have not yet proven successful, therefore the
technical feasibility test would not be met and the $885 000 must be expensed.
(c) Costs of quality control: These costs relate to products being produced and hence can be
capitalised into the products produced. No separate intangible such as “Superior Quality” could
be raised as such an asset is not identifiable.
(d) Costs of time and motion study: As the equipment is being used in current production, the
costs could be capitalised into the cost of the equipment.
(e) New prototype machine: This is a difficult one to classify. The question hinges on the
“nearing completion” statement. It is a question of what has yet to be done. Questions relating
to the criteria in paragraph 57 of AASB 138/IAS 38 need to be asked. For example: has
technical feasibility been established, and is it only minor adjustments that are being made? Do
any minor adjustments have a material effect on the determination of the costs of the machine?

Exercise 6.12
Recognition of copyright
Marlene Ltd acquired two copyrights during 2022. One copyright related to a textbook
that was developed internally at a cost of $12 500. This book is estimated to have a useful
life of 5 years from 1 September 2022, the date it was published. The second copyright
was purchased from the King George University Press on 1 December 2022 for $24 000.
This book, which analyses Aboriginal history in Western Australia prior to 2000, is
considered to have an indefinite useful life.
Required
Discuss how these two copyrights should be reported in the statement of financial position
of Marlene Ltd at 30 June 2023. (LO4 and LO7)
Internally developed copyright:

• It is unlikely that any asset is recognised with this copyright. Being internally
developed no costs can be capitalised until all the criteria in paragraph 57 of AASB
138/IAS 38 are met. Also under paragraph 63 of AASB 138/IAS 38, publishing titles
can never be recognised as intangible assets.
Acquired intangible:
• This copyright will be recognised as an intangible asset.
• In terms of recognition criteria, the probability recognition criterion is always met.
Further the cost can usually be measured reliably.
• Intangible assets are measured initially at cost.
• In this case the asset will be measured at cost of $24,000.
• Having an indefinite life there will be no amortisation charge per annum.

Exercise 6.13
JK Ltd is unsure of how to obtain computer software. Four possibilities are:

1. employ its own programmers to write software that the company will use.
2. buy computer software to incorporate into a product that the company will develop.
3. purchase computer software externally, including packages for payroll and general
ledger.
4. contract to independent programmers to develop specific software for the company’s
own use.
Required
Discuss whether the accounting will differ depending on which method is chosen. (LO4)
1. Employ programmers: Until the software meets the criteria in paragraph 57 of AASB
138/IAS 38, the costs of the programmers would be expensed.
2. Buy software to include in internally developed project: Assuming the product is still in the
research phase, the cost of the software would be expensed, unless the software has alternative
uses or could be sold separately.
3. Purchase the software: Being an acquired intangible, the acquirer could recognise an asset,
measuring it at the cost of the software.
4. Contract independent programmers: The amounts paid to the contractors would be

capitalised as this represents the cost of the acquired software.

Exercise 6.14
Research and development outlays
A small manufacturing company, Ousmane Ltd, has significantly increased it

expenditure on research and development over the past year.
Required
Advise Ousmane Ltd on how research and development expenditure should be accounted
for under AASB 138/IAS 38 (disregard any discussion on amortisation of intangible
assets). (LO4)
Accounting for research and development expenditure will depend on whether the R&D is
acquired as a separate asset, acquired as part of a business combination or whether the company
has spent money on developing its own intangible assets.
Separately acquired assets:

• If the company acquired in-process research from another company it would be recognised
as an asset if the cost could be reliably measured, which is usually the case – paragraph 26
of AASB 138/IAS 38. There is no need to apply any probability recognition test –
paragraph 25 of AASB 138/IAS 38.
• Assets meeting the recognition tests are measured at cost being the sum of purchase price
and directly attributable costs.
Assets acquired in a business combination:

• If R&D assets are acquired as part of a business combination there are no recognition tests
to be met. Provided the assets meet the definition of an asset they must be recognised as
separate assets.
• The initial measurement of the asset is at cost being its fair value at acquisition date –
paragraph 33 of AASB 138/IAS 38.
Expenditure on research activities is expensed when incurred: paragraph 54 of AASB 138/IAS

38.
Expenditure on development is capitalised as an intangible asset if all the six criteria in

paragraph 57 of AASB 138/IAS 38 are met. If the criteria are not met the expenditure is
expensed as incurred. If the criteria are met, the amount to be capitalised is the expenditure
incurred from the date when the intangible asset first meets the tests in paragraph 57 of AASB
138/IAS 38. There can be no reinstatement of amounts previously expensed.
Paragraph 63 of AASB 138/IAS 38 provides an exclusion in relation to recognising some
internally generated assets even if the tests in paragraph 57 of AASB 138/IAS 38 are met:
Internally generated brands, mastheads, publishing titles, customer lists and item similar in
substance shall not be recognised as intangible assets.
Subsequent expenditure:
• Paragraph 20 of AASB 138/IAS 38 discusses subsequent expenditure on intangible
assets. In general it is expected that subsequent expenditure will be expensed rather
than capitalised as it generally maintains currently recognised benefits rather than adds
to them. Subsequent expenditure on assets addressed in paragraph 63 of AASB 138/IAS
38 is always expensed.

Note paragraph 42 of AASB 138/IAS 38 in relation to subsequent expenditures relating to

acquired in-process research and development expenditure. Effectively the same criteria for
initially recognising an asset and expensing are applied to account for subsequent expenditure,
namely:
• Research outlays are expensed.
• Development outlays are only capitalised if the criteria in paragraph 57 of AASB 138/IAS
38 are all met, otherwise they are expensed.

Exercise 6.15
Research and development outlays
Rosalie Ltd has been involved in a project to develop an engine that runs on extracts from
sugar cane. It started the project in February 2023. Between the starting date and 30 June
2023, the end of the reporting period for the company, Rosalie Ltd spent $508 000 on the
project. At 30 June 2023, there was no indication that the project would be commercially
feasible, although the company had made significant progress and was sufficiently sure
of future success that it was prepared to outlay more funds on the project.
After spending a further $240 000 during July and August, the company had built a
prototype that appeared to be successful. The prototype was demonstrated to a number
of engineering companies during September, and several of these companies expressed
interest in the further development of the engine. Convinced that it now had a product
that it would be able to sell, Rosalie Ltd spent a further $130 000 during October
adjusting for the problems that the engineering firms had pointed out. On 1 November,
Rosalie Ltd applied for a patent on the engine, incurring legal and administrative costs
of $70 000. The patent had an expected useful life of 7 years, but was renewable for a
further 7 years upon application.
Between November and December 2023, Rosalie Ltd spent an additional amount of
$164 000 on engineering and consulting costs to develop the project such that the engine
was at manufacturing stage. This resulted in changes in the overall design of the engine,
and costs of $10 000 were incurred to add minor changes to the patent authority.
On 1 January 2024, Rosalie Ltd invited tenders for the manufacture of the engine for
commercial sale.
Required
Discuss how Rosalie Ltd should account for these costs. Provide journal entries with an
explanation of why these are the appropriate entries. (LO4)
The outlays must be analysed using paragraph 57 of AASB 138:

• Technical feasibility.
• Intention to complete and sell.
• Ability to use or sell.
• Existence of a market.
• Availability of resources.
• Ability to measure costs reliably.
At 30 June 2023:
The project is not commercially feasible, therefore all cost to date must be expensed:
Research costs Dr 508 000

Cash Cr 508 000
(Expensing research costs)
At 31 August 2023:

These costs must be expensed as the company is not yet convinced it has a product that it can
sell:

Cash Cr 240 000
At 31 October 2023:
The company now has an intention to complete and sell. Potentially, due to the adjustments
required by the engineering firms, the company is not yet able to measure the cost of the engine
reliably. If that is the case, expenses during this period must be expensed:

Cash Cr 130 000
At 1 November 2023:
The company now should be able to meet all the criteria in paragraph 57 of AASB 138/IAS 38
and all subsequent outlays should be capitalised:
Patent Dr 70 000
Cash Cr 70 000
(Recognition of internally generated asset)
At 31 December 2023:
The project is in the development stage and all outlays can be capitalised:
Patent Dr 174 000

Cash Cr 174 000
(Capitalisation of development costs)

Exercise 6.16
Considering accounting theory
Future Enterprises Ltd, a listed company, commenced a research and development

(R&D) project in July 2022 to modify the method of recharging batteries used in its
products. The project was successfully completed in June 2023 and the company applied
for a patent for the design.
Future Enterprises Ltd plans to modify all products in its consumer range over the next
two years and has incorporated these plans into its financial budget. The entity expects
to derive economic benefits from the new battery recharging technology over the next 10
years.
The accountant was unsure how to account for the project so they used the New Project
R&D account to accumulate the salaries of all engineers involved in the project during
the year ended 30 June 2023. The following analysis of the salaries expenditure is based
on the engineers’ time sheets.
$
Cost of time spent searching for and evaluating alternative materials 150 000
Cost of time designing models, and constructing and testing prototypes 1 050 000
Cost of time spent on training maintenance workers for the new design 300 000
The value in use of the design, estimated using present value techniques, is $6 000 000.
However, the fair value of the design is estimated to be only $4 500 000 because the only
potential buyer would need to modify the design to adapt it to its own products.
The following conversation took place between the chief executive officer (CEO) and the
accountant (ACC).
CEO: That ‘R&D asset’ should make our financial statements look great this year. We
can show it is worth $6 000 000 in the balance sheet and add an extra $4 500 000
to profit because it cost only $1 500 000.
ACC: I haven’t finalised accounting for it yet but I am quite sure the accounting
standard requires us to measure it at historical cost, and some of it will probably
have to be recognised as an expense.
CEO: It isn’t fair. These conservative accounting rules make it impossible to show
investors that our project was successful — and expensing any of it will cause our
share price to go down because the investors will think it didn’t work.
Required
1. How should the project be accounted for in the financial statements for the year ended
30 June 2023? Justify your answer with reference to relevant paragraphs of AASB
138/IAS 38.
2. To what extent might the rules or restrictions in AASB 138/IAS 38 reduce the
comparability of financial statements?

3. Write a response to the CEO, drawing on your understanding of AASB 138/IAS 38

and the efficient market hypothesis (refer to chapter 2 of this text). Include a
recommendation as to how the company might mitigate their concerns about
investors’ interpretation of the information reported in the financial statements.
(LO1, LO2, LO3, LO4 and LO7)
1. The internally generated intangible asset satisfied the recognition criteria because:
• it was successfully completed (thus technically feasible — paragraph 57(a) of AASB
138/IAS 38)
• they have the intention and ability of using it on their own products (paragraph 57(b) and
(c) of AASB 138/IAS 38)
• there is a market for its output, through its use in their own products (paragraph 57(d) of
AASB 138/IAS 38)
• they have the resources to use it evidenced by the budget, (paragraph 57(e) of AASB
138/IAS 38)
• and they can measure it reliably (paragraph 57(e) of AASB 138/IAS 38), as discussed
below.
Costs that are directly attributable to the development phase are included in the cost of the asset
until its completion (paragraphs 65 and 66 of AASB 138/IAS 38). This includes the engineers’
salaries for time spent designing models and constructing and testing prototypes (paragraph
66(b) of AASB 138/IAS 38).
Costs incurred during the research phase, such as searching for materials, are expensed in the
period in which they are incurred (paragraph 54 AASB 138/IAS 38).
Costs subsequent to completion and staff training costs are also expensed (paragraph 67(c) of
AASB 138/IAS 38). Thus the engineers’ salaries for time spent in the research phase, $300
000, and on staff training, $300 000, should be recognised as an expense in the year ended 30
June 2023. The development of the new battery recharging process should be recognised as an
internally generated intangible asset and measured at cost, which is $1 500 000. The intangible
asset should be amortised on a straight-line basis over 10 years from the time of completion,
when the asset is ready to be used.
The internally generated intangible asset should not be revalued because fair value, for the
purposes of revaluation under AASB 138/IAS 38, must be made with reference to an active
market (paragraph 75 of AASB 138/IAS 38). An active market does not exist for this asset
because there is only one potential buyer.
2. The prohibition on the capitalisation of costs incurred in the research phase does not allow
entities to distinguish between successful and unsuccessful research. AASB 138/IAS 38 makes
an assumption that future economic benefits would be too uncertain during the research phase
but this imposes a rule, rather than applying consistent definition and recognition criteria
irrespective of the stage of the project in which the costs are incurred. This reduces
comparability, because all costs incurred in the research phase are treated as expenses, thus
failing to distinguish between successful and unsuccessful projects in the research phase. The
omission of costs incurred in the research phase from the carrying amount of the internally
generated intangible asset also reduces comparability with purchased intangible assets.

Solution Manual for Financial Reporting, 3rd Edition, Janice Loftus, Ken Leo, Sorin Danil
3. A market is efficient in the semi-strong form if the security prices in that market rapidly
adjust to publicly available information, in an unbiased manner, such that the price reflects all
publicly available information. Information about costs incurred in the research phase and those
incurred in the development phase, if disclosed, becomes part of the publicly available
information set. Thus the efficient market hypothesis implies that the share price would react
to both the disclosure of research expenses and the information that the project was successful,
conveyed by the recognition of the internally generated intangible asset. However, the financial
statements are effectively restricted to the use of cost-based measurement for this type of asset.
Accordingly, if Future Enterprises Ltd prefers to signal the greater expected benefits of the new
design, supplementary disclosure in the notes or other publicly available sources, such the
company’s ‘operating and financial review’ is recommended.
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Chapter 6: Intangible assets

1. What are the key characteristics of an intangible asset?

Paragraph 8 of AASB 138/IAS 38 defines an intangible asset as:

An identifiable non-monetary asset without physical substance.

Key characteristics are:

2. Explain what is meant by ‘identifiability’.

Paragraph 12 of AASB 138/IAS 38 states:

4. How is the useful life of an intangible asset determined?

© John Wiley and Sons Australia Ltd, 2020 6.2

5. What intangible assets can never be recognised if internally generated? Why?

Paragraph 63 of AASB 138/IAS 38 states:

Paragraph 64 of AASB 138/IAS 38 gives the reason:

Expenditure on internally generated brands, mastheads, publishing titles, customer lists

6. Explain the difference between ‘research’ and ‘development’.

Paragraph 8 of AASB 138/IAS 38 contains the following definitions:

Paragraph 56 of AASB 138/IAS 38 gives examples of research activities:

(a) activities aimed at obtaining new knowledge;

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Paragraph 59 of AASB 138/IAS 38 gives examples of development activities:

7. Explain when development outlays can be capitalised.

9. What are the recognition criteria for intangible assets?

Paragraph 21 of AASB 138/IAS 38 states:

An intangible asset shall be recognised if, and only if:

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Case study 6.1

Accounting for brands

West Ltd has always marketed itself as operating in an environmentally responsible

1. Accounting for the guarantee:

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2. Can costs be capitalised into brands?

3. Effects on financial statements:

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Case study 6.2

Accounting for intangible assets

Mags Ltd is an Australian mail-order company. Although the sector in Australia is

AASB 138/IAS 38 definitions:

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Costs of direct mailings to prospective customers (capitalised and amortised):

Purchased customer list (capitalised and amortised):

Marketing costs (capitalised and amortised):

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Application and analysis questions

Financial statements and intangible assets

Upton (2001, p. 50) notes:

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Useful life of trademark

1. Does the company have an asset beyond the 5 years:

3. Note paragraph 90 of AASB 138/IAS 38:

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Research and development

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Recognition of intangible assets

Arrow Ltd has the following:

1. Investment in a subsidiary company:

3. Cost of testing in search of product alternatives: