Intangible Assets Definition, Classification, and Balance Sheet Recording
Spillin' the Beans on Intangibles
Intangible assets—no physical form, yet they deliver heaps of economic benefits. You can't touch them, but they can outvalue their tangible counterparts, like they're made of gold. Think patents, trademarks, and copyrights. They ain't like property, plant, and equipment (PP&E) that you can see on the factory floor.
Companies score them from internal development or acquisitions. Accounting methods ain't always up to the task, and these assets are tricky to measure accurately. Sometimes they don't even make the balance sheet cut.
Intangibles: The Keys to Long-Lasting Business Value
Intangibles are a must-have for long-term success. No physical form, but they stake the company's reputation, connections, image, intellectual property, and workforce. They're what makes the company competitive.
What's Goodwill?
Goodwill often pops up when a company buys another company at a premium. The purchase gives access to intangible assets like brand equity, trademarks, and more, along with the benefits of the acquired company's resources and capabilities.
Brand Equity
Brand equity = perceived value. This explains why consumers often favor certain brands over others. It fuels customer loyalty and keeps them coming back for more. Companies can charge a premium price for branded products and expand their product lines, taking advantage of the strong brand image to boost profits.
Apple, for instance, is a premium brand in the electronics biz. It leverages its strong brand to develop diverse products, from laptops to mobile phones. Despite the hefty price tag, consumers keep buying them, even queuing for the latest release.
Trademark
Trademarks set a company's products apart from competitors'. They consist of a unique combo of words, symbols, or phrases, and they're exclusive to the company. Trademarks create positive customer relationships. They help customers identify a product's attributes, like quality and price.
Copyright
Copyright protects intellectual property by preventing others from publishing, copying, and distributing the company's works. This keeps the money flowing to the company. If competitors could easily sell its works without issues, they could exploit it to generate sales. That means money moves from the company to the competitor.
Patent
A patent gives a company the exclusive right to monetize its inventions. It keeps others from using it without permission. As long as it's still valid, other parties can't use it without asking.
Intangible Assets: Franchising and Licensing
Franchising and licensing allow other parties to operate the business using the original brand and products. Franchising offers the right to run the business, while licensing allows them to use intellectual property or goods. Both bring revenue to the franchisor or licensee through royalty payments and profit-sharing, depending on the agreement. The business expands faster with franchising and licensing, giving it an edge over competitors.
Reporting Intangible Assets in Financial Statements
Under IFRS, intangible assets, whether from acquisition or internal development, are recognized if they provide economic benefits to the company and their cost can be measured reliably. Research-stage costs aren't recognized as assets, though. They're just expenses when they're incurred.
US GAAP usually doesn't record most internally generated intangible assets on the balance sheet. The company only acknowledges acquired or purchased assets. To evaluate the success of internal intangible asset development, focus on the long-term growth rate of income, margins, and cash flow. All research and development expenditures are recorded as expenses in the income statement and not as assets on the balance sheet.
Upon acquisition, intangible assets are valued at the purchase price. They fall into two groups:
- Assets with a limited life, like patents. These are amortized and require regular impairment testing.
- Assets with unlimited life, like goodwill, trademarks, and everlasting franchises. These remain unamortized but undergo annual impairment testing.
Goodwill Example
Goodwill consists of two parts: accounting goodwill and economic goodwill. Accounting goodwill happens when a company buys another company for more than the fair value of its net assets. Economic goodwill results from internal development and isn't reflected on the company's balance sheet.
For example, suppose a company acquires a target company with net assets of RP 50 million. The acquirer paid RP 60 million, considering the target's strong position in the market due to its brand, loyal customers, and strategic location. The acquirer reports RP 10 million's goodwill under its long-term assets in the balance sheet.
The company recognizes the accounting goodwill. Since it has an indefinite life, there's no amortization but annual impairment testing is required.
Dive Deeper
- Accounts Receivable: Meaning, How to Report, and Analyze It
- Goodwill: Meaning, Examples, Types, and Reporting
- Noncurrent Assets: Meaning, Types, Why They Matter
- Current Assets: Items, How to Calculate, and Analysis
- Inventory: Types, Effect on GDP, Accounting Analysis
- Investment Property in Accounting: Meaning, Pros, Cons, Reporting
- Operating ROA: Formula, Calculation, and Interpretation
- Return on Assets (ROA): Calculation and Interpretation
- Companies invest in intangibles such as brand equity, trademarks, copyrights, and patents to secure long-term business value, which encompasses reputation, connections, intellectual property, and workforce.
- In the process of franchising or licensing, intangible assets like brands and intellectual property can bring revenue to a company through royalty payments and profit-sharing, offering an edge in competition.
