Intangible assets: finite vs indefinite lives

What counts as an intangible asset?

Intangible assets are identifiable, non-monetary assets with no physical substance. “Identifiable” is the test: the asset can be separated from the company and sold, or it arises from contractual or legal rights.

An identifiable intangible includes patents, licenses, trademarks, franchise rights, copyrights, customer lists and software. The main intangible that is not identifiable is goodwill, which only appears when one company buys another (next lesson).

Two measurement models exist after purchase. The cost model carries the asset at cost less amortization and impairment. The revaluation model carries it at fair value, and IFRS allows it only where an active market exists. US GAAP allows the cost model only.

Are intangible assets amortized?

It depends on the life. A finite useful life means the asset is used up over a limited period, so it is amortized. An indefinite useful life means there is no foreseeable limit, so it is not amortized and is tested for impairment at least annually.

Memorize

Intangible assetsnon-monetary, no physical substance

• Identifiable Memorize separable, or from contractual or legal rights
  • Finite life Memorize amortize; test when there are indicators
  • Indefinite life Memorize no amortization; test at least annually
• Not identifiable: goodwill Memorize arises only in an acquisition; tested annually

Useful life	Amortization	Impairment test	Example
Finite	Yes, systematically over the best estimate of the life; method and life reviewed at least annually	When there are indicators	A patent with 9 years left
Indefinite	No	At least annually, plus a review of the “indefinite” assumption	A renewable broadcast license, a long-established trademark

Amortization is straight-line unless the pattern of use is different, and intangibles are normally assumed to have no residual value.

$$A = \frac{C}{L}, \qquad K_t = C - A \times t$$

Questions come at this formula from several sides: the cost, the life, the years elapsed or the carrying amount can be the unknown.

Go deeper Impairment of finite-life intangibles, and reversals

A finite-life intangible is tested when there is an indicator that its value has fallen, such as a lost patent case or a collapse in the product it supports. The principles are the same as for property, plant and equipment, which the long-term assets module covers. One difference worth knowing: IFRS allows an impairment loss on a finite-life asset to be reversed later (up to what the carrying amount would have been), while US GAAP does not. Impairment of goodwill can never be reversed under either framework.

What about intangibles a company builds itself?

Mostly they are expensed, so they never reach the balance sheet. Purchased intangibles are capitalized at cost; internally generated ones are capitalized only in narrow cases.

Use it

How did the company get the intangible?

• Purchased or acquired Memorize capitalized at cost
• Built internally Memorize mostly expensed
  • Research phase expensed under IFRS and US GAAP
  • Development phase IFRS: capitalize if criteria met; US GAAP: expense
  • Brands, customer lists, training, start-up expensed under both

Under IFRS the company splits an internal project into two phases. The research phase (looking for new knowledge) is expensed. The development phase (designing and testing a prototype, say) is capitalized once the company can show technical feasibility, the intention and ability to complete and use or sell the asset, probable future economic benefits and a reliable measure of the cost. US GAAP expenses almost all research and development costs.

Under both frameworks, internally generated brands, customer lists, start-up costs, training, advertising and relocation costs are expensed.

Exam tip Bought means on the balance sheet. Built means expensed, with IFRS development costs as the one real exception.

What should an analyst do with intangibles?

Start with the notes, then judge each asset on its own merits. The notes tell you what kinds of intangibles the company holds, how long it expects them to last, how it amortizes them and what it has written off.

Because internally built brands and know-how are mostly invisible, an asset-light company can show a high return on assets that its economics do not quite justify. A cautious analyst may look at tangible book value (equity minus intangibles) as well. Even so, a blanket rule that every intangible is worthless throws away information: a broadcast license or a key patent can be the most valuable thing the company owns.

Go deeper Why the revaluation model is rare for intangibles

Revaluation needs fair values from an active market: homogeneous items, willing buyers and sellers at any time, and public prices. Patents and brands are unique, so such markets almost never exist. Some items, such as certain taxi licenses or fishing quotas, do trade in active markets. In practice almost every IFRS reporter uses the cost model for intangibles.