Chapter 12 Homework Questions
Q1. What are the two main characteristics of intangible assets?
The two main characteristics of intangible assets are:
they lack physical substance.
they are not a financial instrument.
Q4. Why does the accounting profession make a distinction between internally created intangibles and purchased intangibles?
When intangibles are created internally, it is often difficult to determine the validity of any future service potential. To permit deferral of these types of costs would lead to a great deal of
subjectivity because management could argue that almost any expense could be capitalized on the basis that it will increase future benefits. The cost of purchased intangibles, however, is capitalized because its cost can be objectively verified and reflects its fair value at the date of acquisition.
Q6. What are factors to be considered in estimating the useful life of an intangible asset?
Factors to be considered in determining useful life are:
The expected use of the asset by the entity.
The expected useful life of another asset or a group of assets to which the useful life of the intangible asset may relate.
Any legal, regulatory, or contractual provisions that may limit useful life.
Any legal, regulatory or contractual provisions that enable renewal or extension of the asset’s legal or contractual life without substantial cost.
The effects of obsolescence, demand, competition, and other economic factors.
The level of maintenance expenditure required to obtain the expected future cash flows from the asset.
Q11. Explain the difference between artistic-related intangible assets and contract-related intangible assets.
Artistic-related intangible assets involve ownership rights to plays, pictures, photographs, and video and audiovisual material. These ownership rights are protected by copyrights.
Contract related intangible assets represent the value of rights that arise from contractual arrangements. Examples are franchise and licensing agreements, construction permits, broadcast rights, and service or supply contracts.
Q12. What is goodwill? What is “negative” goodwill?
Varying approaches are used to define goodwill. They are
(a) Goodwill should be measured initially as the excess of the fair value of the acquisition cost over the fair value of the net assets acquired. This definition is a measurement definition but does not conceptually define goodwill.
(b) Goodwill is sometimes defined as one or more unidentified intangible assets and identifiable intangible assets that are not reliably measurable. Examples of elements of goodwill include new channels of distribution, synergies of combining sales forces, and a superior management team.
(c) Goodwill may also be defined as the intrinsic value that a business has acquired beyond the mere value of its net assets whether due to the personality of those conducting it, the nature of its location, its reputation, or any other circumstance incidental to the business and tending to make it permanent. Another definition is the capitalized value of the excess of estimated future profits of a business over the rate of return on capital considered normal in the industry.
Negative goodwill develops when the fair value of the assets purchased is higher than the cost. This situation may develop from a market imperfection. In this case, the seller would have been better off to sell the assets individually than in total. However, situations do occur (e.g., a forced liquidation or distressed sale due to the death of the company founder), in which the purchase price is less than the value of the identifiable net assets.
Q13. Under what circumstances is it appropriate to record goodwill in the accounts? How should goodwill, properly recorded on the books, be written off in order to conform with GAAP?
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