Intangible assets drive value and competitive advantage. Accounting for these intangibles requires a comprehensive framework, and that’s where ASC 350 (Intangibles – Goodwill and Other) comes into play.
This article explores the key aspects of ASC 350, providing insights into the accounting and financial reporting requirements for intangible assets.
What are Intangible Assets?
Under ASC 350 (Accounting Standards Codification), intangible assets are classified into two main categories: indefinite-lived and definite-lived intangible assets
Indefinite-lived intangible assets do not have a determinable useful life. Examples of indefinite-lived intangible assets include trademarks, brands, and other similar assets. Indefinite-lived intangible assets are not amortized but are subject to impairment testing at least annually or whenever there is an indication of potential impairment.
Definite-lived intangible assets have a determinable useful life. Examples of definite-lived intangible assets include patents, licenses, customer relationships, software, and technology. Definite-lived intangible assets are amortized over their estimated useful lives, reflecting the consumption of their economic benefits.
What Is Goodwill?
Goodwill is an intangible asset that represents the excess of the purchase price paid for an acquired business over the fair value of its identifiable net assets. In simpler terms, it is the value attributed to intangible factors such as reputation, customer relationships, brand recognition, and other non-quantifiable elements associated with a business.
Goodwill arises in situations such as business acquisitions, mergers, or combinations. When one company acquires another, the purchase price may exceed the fair value of the acquired company’s identifiable assets (such as tangible assets and identifiable intangible assets). The difference between the purchase price and the fair value of the net assets acquired is recorded as goodwill.
Goodwill is recorded on the acquirer’s balance sheet and represents the value of the acquired company’s intangible assets that cannot be separately identified or measured. It is considered an asset because it represents future economic benefits that are expected to arise from the acquired business’s reputation, customer base, brand loyalty, and other intangible factors.
Under accounting standards such as ASC 350 (Accounting Standards Codification), goodwill is subject to periodic impairment testing. This means that companies must assess whether the recorded goodwill’s carrying amount exceeds its fair value. If an impairment is identified, the company is required to reduce the carrying amount of goodwill and recognize an impairment loss in its financial statements.
What Is ASC 350?
ASC 350 Intangibles, Goodwill and Others, provides guidance on the recognition, measurement, presentation, and disclosure of intangible assets, as well as impairment testing for both indefinite-lived and definite-lived intangible assets. The standard outlines criteria for recognizing intangible assets, their initial measurement, subsequent measurement, impairment assessment, and presentation in financial statements.
Disclosures
ASC 350 (Accounting Standards Codification) provides guidance on the recognition, measurement, and disclosure of intangible assets, including goodwill. The disclosure requirements under ASC 350 aim to provide relevant information to financial statement users about the nature, carrying amount, and potential risks associated with intangible assets. While the specific disclosure requirements may vary based on the circumstances and nature of the intangible assets, some common disclosure requirements under ASC 350 include:
General description of the nature of the intangible assets
This disclosure should provide a general explanation of the types of intangible assets the company holds and their significance to the business.
Useful life and amortization
For definite-lived intangible assets, companies are required to disclose the estimated useful lives or the amortization periods used for those assets.
Changes in carrying amount
Companies should disclose significant changes in the carrying amount of intangible assets, such as additions, disposals, impairments, or reclassifications.
Impairment testing
If applicable, companies should disclose the methods, assumptions, and key inputs used in the impairment testing of indefinite-lived intangible assets, including goodwill.
Goodwill
For goodwill, companies should disclose information about the recognized amount, changes in carrying amount, impairment losses, and the reporting units used for impairment testing.
Intangible assets under development
If the company has intangible assets under development, they should disclose the amount capitalized and provide a description of the nature of those assets.
Restrictions on intangible assets
If any of the company’s intangible assets are restricted, such as by legal or contractual arrangements, the nature and impact of these restrictions should be disclosed.
Contingencies and commitments
Companies should disclose any contingencies or commitments related to intangible assets, such as legal disputes, pending litigations, or contractual obligations.
What Is the Appropriate Accounting Treatment for Acquired Intangible Assets Other Than Goodwill?
The appropriate accounting treatment for acquired intangible assets other than goodwill depends on the nature and characteristics of the specific intangible asset. Generally, acquired intangible assets are recognized and measured at fair value at the time of acquisition. Here are some common accounting treatments for acquired intangible assets:
- Separately identifiable intangible assets: If an intangible asset meets the criteria of being separately identifiable from the acquired business, it is recognized as a separate asset. The fair value of the intangible asset is determined, and it is recorded on the acquirer’s balance sheet.
- Recognition as part of a group of assets: In some cases, certain intangible assets may not meet the criteria to be separately identifiable but are still part of a group of assets acquired. In such situations, the fair value of the group of assets as a whole is determined, and the value is allocated among the individual assets within the group, including the intangible assets.
- Amortization: Acquired intangible assets with finite useful lives are typically amortized over their estimated useful lives. The amortization expense is recorded over time, reflecting the consumption of the asset’s economic benefits. The specific amortization method and period depend on the nature and characteristics of the intangible asset.
- Impairment testing: Acquired intangible assets, similar to internally generated intangible assets, are subject to impairment testing. If there are indicators of impairment, the asset’s carrying amount is compared to its recoverable amount. If the carrying amount exceeds the recoverable amount, an impairment loss is recognized.
What Are the Different Methods for Amortizing General Intangible Assets?
There are several methods for amortizing general intangible assets, and the appropriate method to use depends on the nature and characteristics of the specific intangible asset. Here are some common methods for amortizing general intangible assets:
Straight-line amortization: This is the most common method used for amortizing general intangible assets. Under straight-line amortization, the asset’s cost is evenly allocated over its estimated useful life. The amortization expense remains constant each period.
Declining balance amortization: This method involves higher amortization expenses in the earlier years of the asset’s life, with the expenses decreasing over time. The declining balance method applies a predetermined rate or percentage to the asset’s carrying value to calculate the amortization expense.
Units of production amortization: This method is used when the useful life of the intangible asset is tied to its productive capacity or usage. The asset’s cost is allocated based on the actual usage or production output. The amortization expense varies based on the level of usage or production.
Sum-of-years-digits amortization: This method applies a declining fraction to the asset’s cost over its useful life. The fraction is based on the sum of the digits representing the number of years in the asset’s useful life. This method results in higher amortization expenses in the earlier years and lower expenses in the later years.
Residual value method: In certain cases, an intangible asset may have a residual value at the end of its useful life. The residual value represents the estimated value that the asset will have after deducting all accumulated amortization. The amortization expense is calculated by subtracting the residual value from the asset’s cost and then allocating the remaining amount over its useful life.
How Is Goodwill Initially Recognized and Measured?
Goodwill is initially recognized and measured when an entity acquires another business through a business combination. The recognition and measurement of goodwill involve several steps, which are outlined below:
- Identify the acquisition: The acquirer identifies and determines the business combination that triggers the recognition of goodwill. A business combination occurs when one entity obtains control over another entity or business.
- Determine the purchase price: The acquirer determines the purchase price paid to acquire the business. The purchase price typically includes the fair value of the consideration transferred, which may consist of cash, equity instruments, liabilities assumed, and contingent consideration.
- Allocate the purchase price: The acquirer allocates the purchase price to the identifiable assets acquired and liabilities assumed. This allocation is based on their fair values at the acquisition date. The identifiable assets and liabilities are typically measured separately from goodwill.
- Calculate the residual amount: After allocating the purchase price to the identifiable assets and liabilities, any residual amount remaining represents goodwill. It reflects the excess of the purchase price over the fair value of the net identifiable assets acquired.
- Record goodwill: The acquirer recognizes goodwill as an intangible asset on its balance sheet. Goodwill is recorded as of the acquisition date and is reported separately from other intangible assets. It represents the future economic benefits expected to arise from assets that are not individually identified and separately recognized.
- Review for impairment: After recognition, goodwill is tested for impairment at least annually or more frequently if there are indicators of impairment. If the carrying amount of goodwill exceeds its implied fair value, an impairment loss is recognized.
How Often Should Goodwill Be Tested for Impairment?
Under ASC 350 (Intangibles – Goodwill and Other), goodwill should be tested for impairment at least annually, or more frequently if there are indicators of impairment. The primary purpose of impairment testing is to assess whether the carrying amount of goodwill exceeds its fair value, indicating a potential impairment loss. Goodwill is not reassessed or revalued after its initial recognition.
Once goodwill has been initially recognized and measured at the time of a business combination, it is typically carried on the balance sheet at its initial amount. Subsequent changes in the value of goodwill are not reflected in the financial statements unless there is an impairment.
Instead of reassessing or revaluing goodwill, companies are required to test it for impairment at least annually, or more frequently if there are indicators of impairment. Impairment testing compares the carrying amount of goodwill to its implied fair value to determine if an impairment loss should be recognized.
However, there are limited circumstances in which goodwill may be subject to a revaluation. For example, in some jurisdictions or under specific accounting frameworks, there may be provisions for the revaluation of goodwill in certain situations, such as a subsequent sale or disposal of a reporting unit. These circumstances are typically governed by specific regulations or accounting standards applicable to those jurisdictions or frameworks.
What Is the Accounting Treatment for the Impairment of Goodwill?
The accounting treatment for the impairment of goodwill involves recognizing and measuring an impairment loss. When the carrying amount of goodwill exceeds its implied fair value, indicating that the goodwill has been impaired, the following steps are typically followed:
- Determine the reporting units: Goodwill is assigned to reporting units, which are components of an entity or groups of components that are expected to generate cash flows independently. The impairment testing is performed at the reporting unit level.
- Compare the carrying amount to the implied fair value: The carrying amount of the reporting unit, including goodwill, is compared to its implied fair value. The implied fair value is determined by allocating the fair value of the reporting unit to all of its assets and liabilities, including any unrecognized intangible assets, in a hypothetical allocation of purchase price.
- Recognize the impairment loss: If the carrying amount of the reporting unit exceeds its implied fair value, an impairment loss is recognized. The impairment loss is calculated as the difference between the carrying amount of the reporting unit’s goodwill and its implied fair value.
- Record the impairment loss: The impairment loss is typically recognized as a separate line item in the income statement. It reduces the carrying amount of the goodwill and is reported as an expense.
- Adjust the carrying amount: After recognizing the impairment loss, the carrying amount of goodwill is reduced to its implied fair value. The reduced carrying amount becomes the new basis for subsequent accounting and future impairment tests.
How Should Costs Related to Internal-Use Software Be Capitalized Under ASC 350?
Under ASC 350, costs related to internal-use software are generally capitalized if they meet specific criteria. The criteria for capitalizing costs related to internal-use software are as follows:
Costs incurred during the preliminary project stage should be expensed as incurred. This stage includes activities such as the conceptual formulation of the software project or the evaluation of different software alternatives.
Costs incurred during the application development stage that meet certain criteria should be capitalized. This stage includes activities such as design, coding, installation, and testing of the software. The criteria for capitalization are:
- The costs incurred are directly attributable to the development or acquisition of the software.
- The costs enable the software to be used in its intended manner, ready for its intended use.
Costs incurred after the software is ready for its intended use, such as training and maintenance costs, are generally expensed as incurred.
What Is the Impairment Testing Process for Capitalized Internal-Use Software Assets?
The impairment testing process for capitalized internal-use software assets is conducted in accordance with ASC 350 (Accounting Standards Codification) to assess whether the carrying amount of the software asset exceeds its recoverable amount. The impairment testing process involves the following steps:
- Identify the appropriate level of testing: Internal-use software assets are typically evaluated for impairment at the individual asset level, which means each software asset is tested separately unless there are compelling reasons to test them at a higher level, such as a group of assets.
- Determine the recoverable amount: The recoverable amount is the higher of the software asset’s fair value less costs to sell (if determinable) or its value in use. The fair value less costs to sell refers to the amount that could be obtained from selling the asset in an orderly transaction, less the direct costs associated with the sale. The value in use represents the present value of the estimated future cash flows expected to be generated by the software asset.
- Compare the carrying amount to the recoverable amount: Compare the carrying amount of the software asset (its book value) to the determined recoverable amount. If the carrying amount exceeds the recoverable amount, an impairment loss is recognized.
- Recognize and measure the impairment loss: If the carrying amount exceeds the recoverable amount, the software asset is considered impaired. The impairment loss is calculated as the difference between the carrying amount and the recoverable amount. The impairment loss is recognized as an expense in the income statement.
- Adjust the carrying amount: After recognizing an impairment loss, the carrying amount of the software asset is reduced to its recoverable amount. The reduced carrying amount becomes the new basis for subsequent accounting and depreciation or amortization.
How Should Costs Incurred for Website Development Be Accounted for Under ASC 350?
Under ASC 350 (Intangibles – Goodwill and Other), the accounting treatment for costs incurred for website development depends on the nature and stage of the development activities. Here are the general guidelines for accounting for website development costs:
Costs incurred in the preliminary stage of website development, such as conceptual formulation and design, are generally expensed as incurred. These costs are considered research and development expenses and are not capitalized. Once the website development project has reached the application development stage, certain costs may be eligible for capitalization.
To be capitalized, the costs must meet specific criteria:
- Costs directly attributable to the application development stage: Only costs directly related to the application development activities, such as coding, testing, and customization, can be capitalized. Costs that are not directly attributable to the development activities, such as training, general overhead, or maintenance costs, should be expensed as incurred.
- Technological feasibility: Capitalization is appropriate when the entity has determined that the website’s technological feasibility has been achieved. This means that the entity has completed the planning, design, coding, and testing necessary to establish that the website will function as intended.
- Future economic benefits: Capitalization is justified if the website is expected to generate future economic benefits, such as increased revenue, cost savings, or improved customer experience.
Once the website is in operation, ongoing costs related to website hosting, maintenance, and upgrades are typically expensed as incurred. These costs are considered maintenance and are not capitalized.
Where to start if you think ASC 350 Advisory can help
ASC 350 serves as a comprehensive guide for accounting and reporting of intangible assets, playing a crucial role in accurately reflecting their value on financial statements. By understanding the scope, definitions, capitalization, impairment testing, and disclosure requirements outlined in ASC 350, entities can navigate the accounting landscape with confidence, providing transparency and reliability to users of financial information.
Our team of experts have deep technical knowledge and experience in the accounting treatment of intangible assets. We have conducted thousands of engagements testing the impairment of intangible assets, as well as conducting the valuation of intangible assets and goodwill.
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