22.intangible assets - 2011-bw

8/7/2019 22.Intangible Assets - 2011-BW

http://slidepdf.com/reader/full/22intangible-assets-2011-bw 1/24

Session 22

Intangible Assets

� R&D

� Goodwill

± Impairment

� Other Intangibles

� Customer Satisfaction



R&D

Asset or Expense?

� Expense it all

� Expense up to a certain point in thedevelopment

� Capitalize it all and write off the amountsassociated with projects deemed unsuccessful

� Capitalize it all ± Are the costs of failed projects part of the cost

of the identifying the good projects ± Oil and Gas Full cost vs Successful Efforts

� Mark it to Market



R&D SFAS #2 - (1974)

Rationale for Expensing

� There is normally a high degree of uncertainty about thefuture benefits of individual research and developmentprojects ± The element of uncertainty may diminish as a project progresses.

� Even after a project has passed beyond the research anddevelopment stage, and a new or improved product orprocess is being marketed or used, the failure rate is high.

� A direct relationship between research and developmentcosts and specific future revenue generally has not beendemonstrated, even with the benefit of hindsight. ± For example, three empirical research studies, which focus on companies in

industries intensively involved in research and development activities,generally failed to find a significant correlation between research anddevelopment expenditures and increased future benefits as measured bysubsequent sales, earnings, or share of industry sales.



R&D SFAS #2 - (1974)

� Equipment or facilities that are acquired or constructed forresearch and development activities and that havealternative future uses (in research and development projectsor otherwise) shall be capitalized as tangible assets whenacquired or constructed.

� The cost of such materials consumed in research anddevelopment activities and the depreciation of suchequipment or facilities used in those activities are researchand development costs

� Disclosure shall be made in the financial statements of thetotal research and development costs charged to expense ineach period for which an income statement is presented.



Computer Software Development

SFAS 86 (1985)

� Costs incurred internally in creating a computer softwareproduct shall be charged to expense when incurred asresearch and development until technological feasibilityhas been established for the product.

� Technological feasibility is established upon completion of a detail program design or, in its absence, completion of aworking model.

� Thereafter, all software production costs shall becapitalized and subsequently reported at the lower of

unamortized cost or net realizable value.� Capitalized costs are amortized based on current and

future revenue for each product with an annual minimumequal to the straight-line amortization over the remainingestimated economic life of the product.



Software to be used Internally

� Capitalize once the application development

stage has been reached

� This is much earlier than technologicalfeasibility



Do R&D Expenditures improve your

ability to predict future profits?

� Lagged regression of Operating Income on on Prior R&Dexpenditures (all scaled by sales)

± For virtually industries, the relationship is significant and the R2 is high(.60 to .89)

� We Can use this to construct an amortization schedule for

R&D ± The lag structure varies significantly by industry (e.g. its much shorter

in computers and electronics than it is in Chemicals andPharmaceuticals

t t 1 t k 0 1 2,k

k t t 1 t k

OpIncome TotAssets R & D InvestSales Sales Sales

! P P P§



Is the Constructed" R&D Asset Priced?

Price = a + b Reported + c Adjustment + d Adjustment

Earnings To Earnings to Balance Sheet

for R&D for R&D

Coeffient 6.3 8.8

T-statistic 16.2 8.3

Adjusted R2 = .46

Coefficient 4.7 2.4 2.1

T-statistic 16.9 2.5 11.7

Adjusted R2 = .55



In Process R&D

� In many High Tech acquisitions that are accounted for as a

purchase, a substantial portion of the acquisition price

(relative to book value) is assigned to the value of R&D

projects that are in process� Because it is R&D, it is expensed immediately.

± However, it is often highlighted as a non-recurring

item.

± Moreover, companies often emphasize in their MD&Apro-forma results with this charge removed



In Process R&D - continued

� With most of the acquisition premium off the books, the

purchase method is similar to the pooling of interests

numbers in the years subsequent to the acquisition



In Process R&D Disclosures

� See Sun Microsystems



In Process R&D

FASB Exposure Draft

� Acquired IPR&D shall be measured at their fair

value and recognized as an intangible asset

� The intangible asset should be considered

indefinite-lived until the completion or

abandonment of the associated research and

development efforts� at which point the acquiring entity would

make a separate determination of the useful

life of that asset.



Where Does Goodwill Come From?

Acquisitions and The Purchase Method

� Recognize individual assets and liabilities acquired at theirfair market value

� Intangible assets acquired shall be recognized as an assetapart from goodwill if that asset arises from

± contractual or other legal rights

± or if it can be separated from the acquiring entity andsold, transferred, licensed, rented, etc.

� Goodwill will be recognized as the excess of the cost of theentity over the net of the amounts assigned to assetsacquired and liabilities assumed



Effective Date

� No pooling for combinations initiated after June 30, 2001

� New goodwill amortization rules begin for fiscal yearsbeginning after December 15, 2001 (earlier adoption is

allowed)� Retro-active application is not permitted

� Previously recognized goodwill should be accounted for inaccordance with the new rules

± stop future amortization (and conductimpairment tests)

± But you cant undo the previously recognizedamortization



Impairment Test for Goodwill

� Goodwill should be tested for impairment annually at the

reporting unit level (at or one step below an operating

segment)

� Two step Process

± Compare the fair value of the reporting unit to its

carrying value (including its goodwill)

± If Fair Value < Carrying Value, then compare the

carrying amount of the goodwill to the implied fairvalue of the goodwill

� Write off any excess of carrying value above implied fair value

of the goodwill



Disclosure of Impairment of Goodwill

� A separate line in the operating section of the income

statement

� Once an impairment loss is recognized, it cannot be restored

in future years

� Conduct an impairment view more frequently than annually if

significant adverse events occur

� See Sun Microsystems Disclosures



Disposals and Discontinuations

� If a reporting unit is disposed of, include its goodwill in

the cost of the disposal

� If a reporting unit is partially disposed of, write-down a

proportion of that reporting unit¶s goodwill in proportion tothe fair value of the assets retained versus disposed of



Amortization of Intangibles

Other Than Goodwill

� Intangible assets with Finite Lives

± amortized the asset over its life (use your best guess as to

what the life will be)

± also review it for impairment

� Intangible assets with Indefinite Lives (a trademark is

renewable every 10 years)

± do not amortize until its life is determined to be finite

± Review it (at least annually) for impairment



INTANGIBLE ASSETS :

Brand Names

� How Big Are They?

� Do They Appear to Be Priced?

� How are they Estimated?

± Interbrand method



Regression of Market Value of Equity

(MVE)

Variable Coefficient T-stat

Book Value (BVE) 0.64 8.84

Net Op Income 5.23 12.78Brand Value* 0.29 5.57

R2 = 0.56

How do you interpret the lower coefficient onBrand Value compared to regular Book Value?

* Brand Values from Interbrand survey reported in Financial World



What variables determine Brand Value?

Regress Brand Value from Interbrand on morefundamental factors

Variable CoefficientT-stat

Advertising Expense 1.70 6.40

Brand margin 3.58 17.34

Firm Sales Growth -2.03 -0.47

Brand Market Share 0.06 2.89R2 = 0.58

Note: the negative coefficient on sales growth was unexpected



Customer Satisfaction

� Is It Related to Customer Retention?

� Is It Related to Future Revenue?

� Does It Appear to Be Priced?

� What Could (Should) Companies Discloseabout Customer Satisfaction?



Is Customer Satisfaction

Valued By the Market?

Market Book Book Customer

Value = a + b1 Value + b2 Value + b3 Satisfaction

Equity Assets Liabilities Index

Coefficient 2.19 -2.25 235.67

t-statistic 18.22 -17.13 2.39

Adjusted R2 = .77



Pressure to Begin Putting Non-Financial

Measures into Financial Statements

� How will these be standardized so they are

comparable across firms, yet still meaningful?

22.intangible assets - 2011-bw

Documents