CHARTERED ACCOUNTANTS ACADEMY

FINANCIAL ACCOUNTING & REPORTING DEPARTMENT

CERTIFICATE OF THEORY IN ACCOUNTING

IAS 38- INTANGIBLE ASSETS

Contents
QUESTIONS........................................................................................................................................... 2
XLAP LIMITED ................................................................................................................................... 2
PORZINGIS LIMITED........................................................................................................................ 54
QUESTIONS

Question 1

(a) In accordance with IAS 38 Intangible assets, briefly discuss whether intangible assets
should be recognised, and if so how they should be initially recorded and subsequently
amortised in the following circumstances:
(i) When they are purchased separately from other assets
(ii) When they are obtained as part of acquiring the whole of a business
(iii) When they are developed internally (5 marks)

Your answer should consider goodwill separately from other intangibles.

(b) Product development costs are a material cost for many companies. They are either
written off as an expense or capitalised as an asset.

Required
Discuss the conceptual issues involved and the definition of an asset that may be applied in
determining whether development expenditure should be treated as an expense or an
asset. (4 marks)

(c) Ruby has had a policy of writing off development expenditure to profit or loss as it was
incurred. In preparing its financial statements for the year ended 30 September 2007 it has
become aware that, under IFRS rules, qualifying development expenditure should be
treated as an intangible asset. Below is the qualifying development expenditure for
Emerald:
$'000
Year ended 30 September 2004 300
Year ended 30 September 2005 240

Year ended 30 September 2006 800

Year ended 30 September 2007 400
All capitalised development expenditure is deemed to have a four-year life. Assume
amortisation commences at the beginning of the accounting period following capitalisation.
Emerald had no development expenditure before that for the year ended 30 September
2004.
Required
Treating the above as the correction of an error in applying an accounting policy, calculate
the amounts which should appear in the statement of profit or loss and statement of
financial position (including comparative figures), and statement of changes in equity of
Emerald in respect of the development expenditure for the year ended 30 September
2007.

Ignore taxation. (6
marks)
(Total = 15
marks)
Suggested Solution

Top tips. There were two aspects to this question – the treatment of intangible assets and
development costs and accounting for prior period adjustments. It was important to set
out a proper working for the calculation part of the question so that you could see what
you were doing.
Examiner's comments. Answers to this question were generally quite poor. Many
candidates did not apply the definition of an asset to the development expenditure. In
part (b) some candidates assumed that amortisation commenced in the year of
capitalisation, rather than the following year. The prior period adjustment was rarely
mentioned.

(a) Recognition and amortisation

Goodwill
Only goodwill arising from a business combination is recognised. Under IFRS 3 goodwill is
the excess of the cost of a business combination over the acquirer's interest in the net fair
value of the assets, liabilities and contingent liabilities of the business acquired. Once
recognised goodwill is held indefinitely, without amortisation but is subject to impairment
reviews.
One of the key aspects of goodwill is that it cannot be separated from the business that it
belongs to. Therefore goodwill cannot be purchased separately from other assets. In
addition, IAS 38 states that internally generated goodwill must not be capitalised.

Other intangible assets

Other intangibles can be recognised if they can be distinguished from goodwill; typically
this means that they can be separated from the rest of the business, or that they arise
from a legal or contractual right. Intangibles acquired as part of a business combination
are recognised at fair value provided that they can be valued separately from goodwill.
The acquirer will recognise an intangible even if the asset had not been recognised
previously. If an intangible cannot be valued, then it will be subsumed into goodwill.
Internally generated intangibles can be recognised if they are acquired as part of a
business combination. For example, a brand name acquired in a business combination is
capitalised whereas an internally generated brand isn't. Expenditure on research cannot
be capitalised. Development expenditure is capitalised
if it meets the IAS 38 criteria. It is then amortised over the life-cycle of the product.
Goodwill and intangibles with an indefinite useful life are not amortised but tested
annually for impairment.

(b) The IASB Conceptual Framework defines an asset as a present economic resource
controlled by the entity as a result of past events. An economic resource is a right that
has the potential to produce economic benefits. Recognition is appropriate if it results in
both relevant information about assets, liabilities, equity, income and expenses and a
faithful representation of those items, because the aim is to provide information that is
useful to investors, lenders and other creditors.

In the case of development expenditure it is not always possible to determine whether or

not it will produce economic benefits. IAS 38 deals with this issue by laying down the
criteria for recognition of an intangible asset arising from development expenditure. An
entity must be able to demonstrate that it is able to
• complete and use or sell the asset and has the intention to do so,
• that the asset will generate probable future economic benefits
• and that the expenditure attributable to the asset can be reliably measured.

If these criteria are met, the asset is recognised and will be amortised from the date when
it is available for use.

(c) 20X7 20X6

$'000 $'000

Statement of profit or loss

Amortisation of development expenditure (W) 335 135

Statement of financial position

Intangible asset: development expenditure (W) 1,195 1,130

Statement of changes in equity

Prior period adjustment

Added to retained earnings balance at 1.10.X5 (W) 465

Working

\
Expenditure Amortisation Carrying
amount
$'000 $'000 $'000
2004 300 300
2005 240 (75)* 165
Balance 2005 540 (75) 465
2006 800 (135)** 665
Balance 2006 1340 (210) 1130
2007 400 (335)*** 65
1740 (545) 1195

*300 x 25%
**540 x 25%
***1,340 x 25%
 Question 2

QUESTION 2

YOU ARE TO IGNORE ALL FORMS OF TAXATION IN ANSWERING ALL PARTS OF THIS
QUESTION

PART A - KONDI LTD

Mr Bright Spark, the newly appointed financial manager of Kondi Ltd, wants to present an
improved statement of financial position to the users of its financial statements. Kondi Ltd
is listed on the ZSE Limited.

Changes effected by Mr Spark during 20.15 include:

Raising the Jomo brand

Kondi Ltd developed the Jomo brand of washing powder about 20 years ago. The brand
was legally registered upon development and has gained increasing popularity in
Zimbabwe. Kondi Ltd launched the Jomo washing powder throughout Africa during 20.15
and the success of the brand has exceeded the company’s wildest expectations.

In order to establish a fair value for the Jomo brand Mr Spark employed the expertise of
Bestguess
(Pvt) Ltd the internationally renowned London-based intangible asset valuators. Bestguess
(Pvt) Ltd valued the Jomo brand at $20 million.

Mr Spark included the Jomo brand at $20 million in Kondi Ltd’s statement of financial
position at
31 December 20.15, with a corresponding ($20 million) increase in profits from operations
for the year ended 31 December 20.15.

REQUIRED
Discuss whether or not the accounting treatments adopted by Kondi Ltd are in accordance
with International Financial Reporting Standards. (10)

PART B - ZONDI (PVT) LTD

Ms Lucky Zondi is the majority shareholder and financial director of Zondi (Pvt) Ltd. Zondi
(Pvt) Ltd successfully tendered for a 25-year non-renewable casino licence at a cost price of
$15 million. As the purchase price is nominal compared to the actual value of the licence,
it should be assumed that a government grant in the form of a casino licence has been
received by Zondi (Pvt) Ltd. The casino licence period commenced on 2 January 20.15.
Zondi (Pvt) Ltd was awarded the licence on 2 January 20.15, and began its commercial
casino operation on 1 April 20.15 The Gambling Board announced that the licence had not
been awarded to the highest bidder ($50 million was bid by
Bigbusiness Ltd) as Bigbusiness Ltd (and several other bidders of slightly lesser amounts) do
not fulfill the job creation and Indeginisation and economic empowerment conditions as
well as Zondi (Pvt) Ltd does.

Zondi (Pvt) Ltd intends operating the casino for the 20 year period. As Ms Zondi expects
that the selling price of the casino licence is at least $50 million, Zondi (Pvt) Ltd has not
amortised the casino licence.

On 31 December 20.15, Zondi (Pvt) Ltd revalued the casino licence upward to $50 million,
recording a $48.5 million fair value adjustment in the company’s operating profit for the
year ended 31 December 20.15.

REQUIRED
Discuss whether or not Zondi (Pvt) Ltd’s accounting treatment of the casino licence is in
compliance with International Financial Reporting Standards. (25)

PART C - BUSTANDBOOM LTD

On 31 December 20.13 (year-end), as a result of the Zimbabwe Government imposing a ban
on tobacco product advertisements in Zimbabwe, Bustandboom Ltd impaired its tobacco
cash generating unit down to its recoverable amount of $1 million.

During 20.15, as a result of an aggressive advertising campaign in China, the profitability of

Bustandboom Ltd’s tobacco cash generating unit was fully restored. On 31 December 20.15,
the recoverable amount of the tobacco cash generating unit was reliably determined at $5
million.

Details of the assets of Bustandboom Ltd’s tobacco cash generating unit, all of which arose
from the
acquisition, on 1 January 20.11, of a competitor’s net assets, are as follows:

Remaining Cost FVLCS

useful life 1 January 31 December 31
December
1 January
20.11 20.11 20.13 20.15
Years $ $ $

Plant 10 2 000 000 1 000 000 1 000 000

Patents 10 2 000 000 ? ?
Goodwill 10 571 429 ? ?

Bustandboom Ltd revalued all of its plant on 1 January 20.12. As a result, the tobacco cash
generating unit’s plant was revalued upward by $1 000 000 on that date. The revaluation
surplus is regarded as being realised as the relevant assets are used.
The carrying amount of the tobacco cash generating unit’s plant was not adjusted on 1
January 20.14, as the carrying amount before the valuation was not materially different to
its fair value on that date.

REQUIRED
Compute for EACH of the assets of Bustandboom Ltd’s tobacco cash generating unit:
• The impairment loss charged against profit for the year ended 31 December 20.13. (17)
• The carrying amount at 31 December 20.15. (8)
(University of Natal -
adapted)
QUESTION H.1 - Suggested solution

PART A - KONDI LTD

Jomo brand
In order to raise the brand as an intangible asset in the statement of financial position, the
brand would need to satisfy the definition and recognition criteria for an intangible asset.

The definition of an intangible asset and an application of the facts of the case study to the
definition, is as follows:

• an identifiable non-monetary asset (the brand is (a) identifiable: Jomo; and is (b) non-
monetary: is not receivable in a fixed or determinable amount of money; and is (c) an asset:
resource under the control of the enterprise (other enterprises cannot make use of the
brand name and Kondi Ltd could sell or further develop the brand) as a result of past events
(development and registration of the brand) and is expected to result in the inflow of future
economic benefits (super-profits from the sale of branded goods) (IAS 38.11 - .17); (3)
• without physical substance (cannot touch the Jomo brand); (1)

In addition to satisfying the definition of an intangible asset, the recognition criteria for
intangible assets must be satisfied in order for the brand to be raised in the financial
statements. The recognition criteria are as follows:
• it is probable that future economic benefits attributable to the asset will flow to the
enterprise
(the fact that the brand was independently valued at $20 million supports the probable
benefit requirement) (IAS 38.18); (1)
• the asset has a cost that can be measured reliably (the cost of developing the brand
internally cannot be determined reliably as these costs cannot be distinguished from the
cost of developing the business as a whole) (IAS 38.18). (1)

Because internally generated brands fail the recognition criteria they cannot be raised in
the company’s statement of financial position. IAS 38.63 accordingly expressly prohibits the
raising (as an asset) of internally generated brands. (1)

Kondi Ltd has applied fair value accounting to its brand. This is not allowed in terms of IAS
38.76(b). However, IAS 38.75 permits the revaluation of intangible assets, using the
revaluation model, only where there is an active market for that item. An active market
cannot exist for brands as they are unique, neither homogenous nor traded in a public
forum. Furthermore IAS 38.76(a) expressly prohibits the revaluation of intangible assets
that have not previously been recognised as assets. (The Jomo brand was not previously
recognised - see the discussions above.) (3)

Kondi Ltd must reverse the journal entry Mr Bright Spark processed in respect of the brand
during the current reporting period. (1)
It is not appropriate to discuss amortisation as there is no amount to amortise

11
Maximum 10
PART B - ZONDI (PVT) LTD
Initial recognition
In accordance with IAS 38.24, Zondi (Pvt) Ltd correctly recorded the casino licence
(intangible asset) initially at cost. The casino licence meets both the definition and
recognition criteria of an intangible asset (See Kondi Ltd - Jomo brand above, but note that
the cost of the casino licence is known to be $15 million, i.e. the second recognition criteria
is satisfied). (2)

As the government grant took the form of a non-monetary asset (i.e. casino licence
intangible asset),
Zondi (Pvt) Ltd also has the alternative to initially account for both the asset and the grant
at fair value. The casino licence could thus be recognised initially as an intangible asset for
$50 million with deferred income being raised for $48.5 million ($50 million fair value – $15
million paid). (2)

Applying the provisions of IAS 20.24, Zondi (Pvt) Ltd has the choice (accounting policy to be
selected) to present the grant of $48.5 million (deferred income) in the statement of
financial position by:

- Alternative A: Accounting for the grant as deferred income which will be recognised in
profit or loss over the same useful life and using the same amortisation method applicable
to the intangible asset. (1)

- Alternative B: Deducting the grant from the carrying amount of the asset which would
result in the intangible asset being effectively recognised at the nominal amount of $15
million ($50 million less $48.5 million).
(1)

Assuming a residual value of zero (see discussion under amortisation), the depreciable
amount of the casino licence would be $50.0 million under alternative A and $15 million
under alternative B. (1)

Although Zondi (Pvt) Ltd’s initial recording of the casino licence at a nominal amount of $15
million results in the same carrying amount as alternative B, disclosure of the government
grant in terms of
IAS 20 must still be adhered to. (1)

Amortisation
IAS 38.88 requires Zondi (Pvt) Ltd to assess whether the casino licence (intangible asset) has
a finite or indefinite useful life for the purpose of determining whether the asset is subject
to amortisation or not. The casino licence does have a finite useful life because it was
awarded to Zondi (Pvt) Ltd for a non renewal period of 25 years and should therefore be
amortised over this useful life. As a result, Zondi (Pvt) Ltd’s policy not to amortise the casino
licence, despite it having a finite useful life, is in contravention of IAS 38.89.
(3)
Although the amortisation charge for an intangible asset can be zero where the asset’s
residual value increases to an amount equal or greater than its carrying amount (IAS
38.103), the residual value of Zondi (Pvt) Ltd’s casino licence is required to be assumed as
zero as the (1)
exceptions provided in IAS 38.100 are not applicable. There is neither:
• an active market (as defined by IAS 38) for casino licences in South Africa, nor (1)
• has Zondi (Pvt) Ltd secured a commitment from a third party (will sell to the highest
bidder) for the purchase of the casino licence at the end of its useful life (i.e. the period over
which Zondi (Pvt) Ltd expects to receive benefits from the licence).
(1)

With the residual value of the casino licence being assumed to be zero, Zondi (Pvt) Ltd
cannot argue that no amortisation must take place because the selling price of the casino
licence is in excess of its nominal cost.
(1)

As the casino licence is for a 25 year period it should be amortised over 25 years,
commencing 2 January 20.15. The fact that it was brought into use only three months after
acquisition (1 April 20.15) is not relevant, as amortisation should commence when an
intangible asset is available for its intended use. (1)

The amortisation method should reflect the pattern in which the asset’s future economic
benefits are expected to be consumed by Zondi (Pvt) Ltd. If that pattern cannot be
determined reliably, the straight-line method should be used.
(1)

The residual value, amortisation period and amortisation method of the casino licence
should be reviewed at least at each financial year-end, with any changes thereto to be
accounted for as a change in accounting estimate in accordance with IAS 8.
(1)

Impairment
Zondi (Pvt) Ltd should assess at each reporting date whether there is an indication that the
casino licence may be impaired (IAS 36.09). Only if such an indication exists, should the
recoverable amount of the casino licence be estimated with the carrying amount of the
asset written down to its recoverable. The write down should be recognised as an
impairment loss. (2)

Revaluation
Ms Zondi’s accounting for the revaluation (taking the increase in value to profit) amounts
to fair value accounting. Fair value accounting is not permitted in respect of intangible
assets. Revaluations of intangible assets is an allowed alternative accounting treatment of
IAS 38.75 but may only be applied where there is an active market for the intangible asset.
South African casino licences are neither homogenous nor traded in an open forum,
accordingly they do not meet the IAS 38 active market requirements, and hence cannot be
revalued, after initial recognition. (3)
The casino licence must therefore be accounted for, after initial recognition, by applying the
cost model.(1)
The $48.5 million taken to income during the current year must be reversed.
(1)

25
PART C - BUSTANDBOOM LTD
1 Jan 31 Dec Revaluatio 1 Jan 31 Dec Impairment 31 Dec
n /
20.11 20.11 20.12 20.13 20.13
Devaluation
$ $ $ $ $
$ $

Plant 2 000 000 1 800 000 1 000 000 a 2 800 000 2 177 777 b (1 569 081) f 608 696 (7)
800 000
Patents 2 000 000 - 1 800 000 (1 008 696) 391 304 (3)
1 400 000 c
514 286 g
Goodwill 571 - 514 286 (3)
400 000 d -
429
(400 000) e
3 977 777 1 000
i
(2 977 777) 000

Expense (impairment loss) recognised in profit or loss – 20.13:

- Plant ($1 569 081 above - $777 777 h reversal of revaluation) $791 304 (2)
- Patents $1 008 696 (1)
- Goodwill $400 000 (1)
$2 200 000

17
CALCULATIONS
a Given
b 2 800 000 on 1 January 20.8 x 7/9 years = 2 177 777
c 2 000 000 x 7/10 years = 1 400 000
d 571 429 x 7/10 years = 400 000
e First allocate a portion of impairment loss against goodwill
f 2 177 777/ (3 977 777 - 400 000 goodwill) x (2 977 777 - 400 000 allocated to goodwill) =
1 569 081
g 1 400 000/(3 977 777 - 400 000 goodwill) x (2 977 777 - 400 000 allocated to goodwill) =
1 008 696
h $1 000 000 x 7/9 years = 777 777
i $3 977 777 - 1 000 000 = 2 977 777
b) Carrying amount: 31 December 20.13
Carrying amount Carrying Reversal of Carrying
at
amount at impairment amount
31 Dec 20.13 /
31 Dec 20.13 after
assuming no Devaluatio
Before reversal
n
impairment in reversal
previous years
$
$
$
$

Plant 1 555 556 a 434 783 d 1 120 773 f 1 555 (4)

556
Patents (2)
1 000 000 b 279 503 e 720 497 g
1 000
Goodwill (2)
- c - - 000

2 555 556 714 286 1 841 270 -

2 555
556

CALCULATIONS
a 2,8 million x 5/9 years = 1 555 556
b 2 million x 5/10 years = 1 000 000
c The carrying amount of goodwill on 31 December 20.13 was zero
d 608 696 x 5/7 years = 434 783
e 391 304 x 5/7 years = 279 503
f 434 783/714 286 x (5 000 000 - 714 286) but limited to 1 120 773
g 279 503/714 286 x (5 000 000 - 714 286) but limited to 720 497
The impairment of goodwill is not reversed as it is prohibited in terms of IAS 36
QUESTION H.2
(37 marks)
Newtec Ltd, a company listed on the ZSE Limited, is continuously engaged with research,
development, production and marketing of new products for the African market.

The projects Newtec Ltd are currently engaged in are as follows:

a) Newtec Ltd is constantly busy identifying possible new projects for research and
development. Only 3% of these possibilities are submitted annually for further research.
During 20.13 the cost associated with these investigations amounted to $18 000.
b) Project Ampada is in the final stage of the research process. The project manager is very
optimistic that a breakthrough will soon be made and is convinced that the project will
be developed up to the production stage. The cost of the project amounted to $17 700
for 20.13. The cumulative costs to date for this project amount to $26 400.
c) Two projects, Newa and Neartha, are currently under development. Newa is in an early
stage of development and the economical viability is still unsure. Neartha is in an
advanced stage of development and according to the project manager Neartha satisfies
all the criteria for asset recognition. The development costs incurred for Newa and
Neartha for 20.13 amounted to $9 000 and $14 400 respectively. The necessary
calculations for impairment have been performed and no impairment losses were
evident. Impairment tests were performed on 31 December 20.13 and there were no
indications of impairment.
d) Project Klada is in its final stage of development. Newtec Ltd plans to start with the
production of Klada no later than 15 January 20.14. The official launch of the product is
scheduled for 10 February 20.14. A huge marketing campaign (with an estimated total
cost of R30 000), to promote the Klada product, was launched on 1 December 20.13. At
31 December 20.13 $18 500 had been expended on the above-mentioned campaign,
while most of the benefits to be derived from it will only be realised in 20.14.

The development costs incurred during 20.13 in respect of Klada, excluding the above
mentioned expenses, amounted to $11 000. Capitalised development costs on Klada in
the years prior to 20.13 amounted to $14 000. Impairment tests performed at the end
of the current and previous years reflected no indications of impairment.

e) The production and marketing of product Omega commenced on 1 January 20.13. The
gross profit of Omega amounted to $57 000 for the year ended 31 December 20.13.
This profit was unchanged per unit.

At 31 December 20.11 development on Omega was completed and the maximum

amount of $300 000 was capitalised as an asset. The initial estimate indicated that 500
000 units could be sold evenly over a period of five years before the product became
obsolete. The actual units sold were 100 000 during 20.12 and 95 000 during 20.13. On
31 December 20.13 it was estimated that only 90 000 units per annum could be sold for
another three years. The accountant of Newtec Ltd estimated that the present value of
the net cash inflows associated exclusively with the capitalised development costs,
amounted to $162 000. The development costs cannot be sold on its own. According
 to the accounting policy of the company the change of estimate will only be effective
from 2014.

f) Newtec has Machine Alfa which is utilised mainly for production and tests in the
research and development department. The cost of Alfa amounted to $35 000 in
December 20.9. Accumulated depreciation on 31 December 20.12 amounted to $14 000
and depreciation for 20.13 amounted to $7 000, allocated as follows:
$
Ampada 2 500
Newa 700
Neartha 1 300
Klada 1 400
General production 1 100
7 000

The above-mentioned depreciation is not included in the costs and expenses for the
current year as stated in (a) to (e) above.

Machine Beta is utilised in the commercial production department of Newtec Ltd.

Beta was available for use on 1 January 20.10 and had a cost of $55 000. Newtec Ltd
depreciates machinery at 20% per annum on a straight-line basis.

The profit before tax for 20.13 of Newtec Ltd, before taking any of the
abovementioned items into account, amounted to $250 000.

All costs related to research and development activities that are recognised in profit
or loss are included in the statement of profit or loss and other comprehensive income
under the line item other expenses.

Ignore taxation and comparative amounts.

Assume that intangible assets recognised are accounted for using the cost model and
that they have finite useful lives.

You may also assume that all amounts are in material.

REQUIRED
(a) Disclose the above-mentioned information in the following notes to the financial
statements of Newtec Ltd for the year ended 31 December 20.12:
- Accounting policy;
- Profit before tax;
- Property, plant and equipment (ignore disclosure according IAS 16.77);
- Internally generated intangible assets.
31
(b) Calculate the profit before tax as it would be disclosed in the statement of profit or loss
and other comprehensive income of Newtec Ltd for the year ended 31 December 20.12.
6
Please note:
• Your answer must comply with the International Financial Reporting Standards (IFRS).
QUESTION H.2 - Suggested solution
(a) NEWTEC LTD
NOTES FOR THE YEAR ENDED 31 DECEMBER 20.13

1. Accounting policy
1.1 Research costs
Research costs are recognised as an expense in the period in which it is incurred.(1)

1.2 Internally generated intangible assets - Development costs

Development costs are written off immediately. However, when the criteria for asset
recognition are met, it is capitalised and thereafter accounted for by applying the cost
model. The latest estimated number of saleable units are used as a basis for the
amortisation of development costs as soon as the asset is available for use. (3)

Amortisation rate of Omega - 465 000*estimated saleable units. (1)

*(100 000 + 95 000 + (90 000 x 3)) = 465 000.

1.3 Property, plant and equipment

Machinery is accounted for in terms of the cost model. Machinery is written off on a
straight-line basis over the estimated useful lives. (1)

Depreciation rate of machinery - 20% per annum (1)

The residual value and useful lives of all items of property, plant and equipment are
reviewed, and adjusted if necessary, at each reporting date. (1)
Depreciation is charged to profit or loss, and in certain circumstances forms part of the
cost of other assets. (1)

1.4 Impairment of assets

At each reporting date the company assesses whether there is an indication that an
asset may be impaired or that a previous impairment loss may have reversed. If any
such indication exists the recoverable amount of the asset is estimated. Impairment
losses are taken directly to the statement of profit or loss and reversals are recouped
through the statement of profit or loss. (3)

2. Profit before tax

The following items are included in profit or loss:
Expenses $
Research costs expensed
(18 000 (general) + 17 700 (Ampada) + 2 500 (Ampada dep)) 38 200
(2)
Development costs expensed 87 700
Amortisation on intangible assets [C1] 57 000 (1)
(1)
Impairment loss that are not individually material [C1] 21 000
(1)
Written off [C2] 9 700

Depreciation on property, plant and equipment 12 100

18 000 (1)
(1)
(3 200)
(1)
(2 700)
Provision for the year (7 000 + (55 000 x 20%))
Less: Allocated to research and development costs expensed*
(2 500 + 700)
Less: Capitalised to development costs * (1 300 + 1 400)

The amortisation and impairment loss of development costs are included in the statement
of profit or loss under the line item other expenses (IAS 38.118(d) and IAS 36.126(a)). (1)
*Not required, but good disclosure practice.

3. Property, plant and equipment

Machinery
$
Carrying amount at 1 January 20.13 43 000
Gross carrying amount or cost (55 000 (Beta) + 35 000 (Alfa)) 90 000 (1)
Accumulated depreciation (14 000 + (55 000 x 20% x 3)) (47 000) (1)

Depreciation for the year (See P/L note) (18 000)

Carrying amount at 31 December 20.13 25 000
(1)
Gross carrying amount or cost 90 000 (1)
Accumulated depreciation (47 000 + 18 000) (65 000)

4. Internally generated intangible assets

Development
Costs
$
Carrying amount at beginning of the year 254 000
Gross carrying amount or cost (300 000 (Omega) + 14 000 (Klada)) 314 000 (1)
Accumulated amortisation [C1] (Omega) (1)
(60 000)

Additions – internally developed [C3] 28 100

(2)
Less: Impairment loss through profit or loss [C1] (21 000)
(½)
Amortisation for the year [C1] (57 000)
(½)
Carrying amount at end of the year 204 100
Gross carrying amount or cost (314 000 + 28 100) 342 100 (½)
Accumulated amortisation and impairment loss (138 000) (½)
(60 000 + 21 000 + 57 000)

Impairment loss*
The carrying amount of development costs associated with product Omega, exceeds the
amount that would be recovered through usage thereof, as a result of the fact that future
sales expectations were drastically reduced. (See section (e) in question.)
The recoverable amount of development costs was determined using value in use and the
discount rate used to calculate value in use was x% (question does not provide sufficient
information).
*Please note: This information can also be disclosed in the profit before tax note
Total
(31)

(b) Profit before tax $

Profit provided: General 250 000 (½)
Omega (not previously taken into account) 57 000 (½)
307 000
Less: Expenses 156 500
Research costs 18 000 (½)
General (see (a) – section of question) 17 700 (½)
Ampada (see (b) – section of question)
(½)
Development costs 9 000 (1)
Newa [C2 18 500
Marketing expenses of Klada
Development costs 21 000 (1)
57 000 (½)
Impairment (Omega)
15 300 (1)
Amortisation [C1]
Depreciation ((55 000 x 20%) + 7 000 - 1 300 - 1 400)
Profit before tax 150 500
Total (6)

Note: Although the benefit from marketing expenses will only be derived in 20.14, the
amount of marketing costs incurred, is recognised as an expense immediately. The reason
being that IAS 38.68 indicates that expenditure on an intangible item shall be recognised as
an expense when it is incurred, unless IAS 38.68 (a) or (b) is relevant.

CALCULATIONS
C1. Amortisation and impairment of development costs of Omega
Original:
Amortisation per unit: R300 000 ÷ 500 000 units = 0,6
Amortisation for:
20.11 $100 000 x 0,6 = $60 000 [1]
20.12 $ 95 000 x 0,6 = $57 000 [1]

Note :Amortisation is only changed with effect from 1 January 20.13 to account
prospectively for the change in estimate.
Impairment:
20.12 $300 000 - $60 000 - $57 000 = $183 000
(carrying amount on 31 December 20.12)
Impairment loss: CA > value in use
$183 000 - $162 000 (given) = $21 000 [½]
[2½]

Note: The fact that the number of units to be produced would decrease, is an indication of
impairment and consequently an impairment test per IAS 36 should be performed. Since
there is no fair value less costs to sell available in respect of this asset, only value in use is
utilised in the calculation of recoverable amount. Refer to IAS 36.20. Depreciation will
change in 20.13 and will be accounted for as a change in accounting estimate in 20.13.

C2. Development costs written off

Newa - cost 9 000 [½]
Depreciation (see (f) in question) 700 [½]
9 700 [1]

C3. Development costs capitalised in 20.12

Neartha – cost 14 400 [½]
depreciation on Alfa (see (f) in question) 1 300 [½]
Klada - cost 11 000 [½]
depreciation on Alfa (see (f) in question) 1 400 [½]
28 100 [2]
QUESTION H.3
Alpha Ltd is a large listed company selling Betabs. The sales figures of the company has been
dwindling for the past few years and during a “bosberaad” management came up with the
idea of developing a web site to advertise the company’s products. Since the company has
never operated a website in the past, it was decided to first undertake a feasibility study
and if successful, define hardware and software specifications, evaluate alternative
products and suppliers and then select preferences. These steps were executed and
eventually expenses to the amount of $50 000 were incurred in this regard.

In the next stage of the project, hardware was purchased, a domain name was obtained and
operating software was developed. The developed applications were installed on the web
server and the total cost incurred with this stage amounted to $200 000, of which the
hardware comprised $80 000.

Once the above had been completed, the appearances of the web pages were designed to
ensure that they catch the eye immediately when logging on and would promote the brand
image of the company. A graphic designer rendered an account of $15 000 and this was
paid in cash immediately.

The content of the web site was then developed and this dealt with products offered for
sale and other information in respect of the company that the users of the web site could
access. The cost involved in this development amounted to $20 000 and this amount is still
outstanding, although management was completely satisfied with the work done by the
consultant.

The web site was launched on 1 July 20.15 (year-end 31 December 20.15) and during the 6
months following it being commissioned, graphics were updated, the web site was
registered with a few new search engines and the usage of the web site was analysed to
establish the effectiveness thereof as a marketing tool. These costs amounted to $14 000.

REQUIRED
Calculate the split between the total amount that should be expensed and capitalised for
the year ending 31 December 20.15 based on the above information and your knowledge
of SIC 32. You do not need to provide for depreciation or amortisation.
UNISA
ADAPTED

QUESTION H.4
Beta Ltd is a large listed company selling Cetabs. The sales figures of the company has been
dwindling for the past few years and during a “bosberaad”, management came up with the
idea of developing a web site that would enable customers to order the company’s products
online, instead of having to place an order telephonically or by mail.

Since the company has never operated a website in the past, it was decided to first
undertake a feasibility study and if successful, define hardware and software specifications,
evaluate alternative products and suppliers and then select preferences. These steps were
executed and eventually expenses to the amount of $60 000 were incurred in this regard.
The directors are completely committed to the project, the company has sufficient
resources to fund the roll out of the web site, adequate technical and other resources are
at their disposal and the expenditure attributable to the web site can be measured reliably.

During the feasibility study it also came to light that the customers were very much in favour
of the web site and that sales were expected to increase by 15% as a result of the
introduction of the web site.

In the next stage of the project, hardware was purchased, a domain name was obtained and
operating software was developed. These developed applications were installed on the web
server and the total cost incurred with this stage amounted to $220 000, of which the
hardware comprised $80 000, the software $100 000 and the remainder was spent on
obtaining the domain name.

Once the above had been completed, the appearance of the web pages was designed to
ensure that it catches the eye immediately when logging on and that customers would find
the layout very conducive to ordering the products of the company. A graphic designer
rendered an account of $18 000 and this was paid in cash immediately.

The content of the web site was then developed and this dealt with products offered for
sale and other information in respect of the company that the users of the web site could
access. The cost involved in this development amounted to $25 000 and this amount is still
outstanding, although management was completely satisfied with the work done by the
consultant.
The web site was taken into use on 1 July 20.15 (year-end 31 December 20.15) and during
the 6 months following it being commissioned, graphics were updated, the web site was
registered with a few new search engines and the usage of the web site was analysed to
establish the effectiveness thereof as a marketing tool. The costs amounted to $20 000

REQUIRED
Calculate the split between the total amount that should be expensed and capitalised based
on the above information and your knowledge of SIC 32. You do not need to provide for
depreciation or amortisation at this stage.
UNISA
ADAPTED
Question H.3 - Suggested solution
Split of the costs incurred between capital and expenses will be the following:
Capitalised Expensed
$ $
Planning stage - 50 000
Application and infrastructure development stage 80 000 120 000
Graphical design development stage - 15 000
Content development stage - 20 000
Operating stage - 14 000
Totals 80 000 219 000
Note: The important issue here, is the fact that the web site will be used solely for
promotional and advertising activities. Since this is the case, all expenses incurred in respect
of the web site, except for the hardware, will be expensed. (Refer SIC 32.8.) The hardware
purchased will be capitalised and accounted for in terms of IAS 16 on PPE.

Question H.4 - Suggested solution

Contrary to the previous example, the web site will be not be used for promotional and
advertising activities, but will be used by customers for ordering items from the company.
Since this is the case, not all expenses incurred in respect of the web site will be expensed
and the matter needs to be looked at in depth. The hardware will still be capitalised and
accounted for in terms of IAS 16 on PPE.

Consequently the split of the costs incurred will be the following:

Capitalised Expensed
$ $
Planning stage - 60 000
Application and infrastructure development stage
- Hardware per IAS 16 80 000 -
- Software and domain per IAS 38 140 000 -
Graphical design development stage 18 000 -
Content development stage 25 000 -
Operating stage - 20 000
Totals 263 000 80 000

Question 3

Part 1
Lick and Eat Limited is a diversified company involved in a wide range of activities in the
food industry. The following independent transactions relate to the company’s activities
both during the current year and during prior years(listed overleaf).

a) The company purchased a brand on 2 January 2000 for $2 000 000. At acquisition, the
estimated useful life of the brand was twenty years and this has remained unchanged.
There is no commitment from a third party to acquire the brand at the end of its useful
life. At 31 December 2003, the directors believe that the brand is now worth $5 000
000.
b) In the past, the company began a research and development programme (known as
the super canned project) for a new vacuum sealed can that extends the shelf life of
canned food. During the current year, $300 000 was incurred on research costs from 1
January 2003 to 31 March 2003. On 1 April 2003, the R&D director announced that all
the development phase recognition criteria were met. A further $1 500 000 was
incurred on development costs from 1 April 2003 to 31 December 2003. At this stage
 the directors believed that the super can project will have an indefinite useful life. The
recoverable amount of the super can project at 31 December 2003 is estimated at $2
000 000.
c) On 1 February 2003, the company purchased a fishing quota to catch 500 tonnes of
fish at a total cost of $1 000 000. 50 tonnes of fish were caught from 1 February 2003
to 31 December 2003. There is an active market for fishing quotas and the fair value of
the quota at 31 December 2003 amounted to $1 350 000.
d) A large advertising promotion was carried out during the second half of the 2003 year
at a cost of $220 000. The costs related to the creation of advertising brochures and
the recording of a radio advert. The directors believe that the main benefits of this
programme will occur during the 2004 year. In addition, an amount of $25 000 was
paid in advance to the BBC to air the adverts during 2004.
e) The company publishes its own customer magazine and has incurred costs of $270 000
in previous years in promoting the magazine and its masthead ‘Food Matters’. A
further $30 000 was incurred in the current year. The directors believe that the
masthead is very valuable and can be sold for at least $1 300 000.
The accounting policy of Lick and Eat Limited is to measure intangible assets using the cost
model, except for intangible assets for which there is an active market which are
measured using the revaluation model.

Required:
Explain, giving reasons, how each of the above transactions should be dealt with in the
financial statements of Lick and Eat Limited for the year ended 31 December 2003, in
accordance with International Financial Reporting Standards.

Your answer should include all relevant recognition and measurement issues (ignore
definition and disclose issues).
Part 2
The following scenarios are unrelated.
Part A

Xtel Limited is a successful engineering business. Over the past few years, the company
has achieved a market share for its products of 30%. At a recent board meeting, the
directors suggested recognising an intangible asset for this market share.
Required:

Briefly discuss whether the market share can be recognized as an intangible asset in terms
of IAS 38 Intangible Assets.
A discussion of the recognition criteria is not required.
Part B
Tanram Limited is a company in the IT industry. The success of the company is built
around software which it has developed internally and for which a patent is registered as
well as the skills of the staff that operate the software. Staff members are required to give
one month’s notice of their resignation.
Required:
Briefly discuss whether the patent and the staff skills can be recognized as intangible
assets in terms of IAS 38 Intangible Assets.
A discussion of the identifiability criteria is not required.
Part C
Roads ‘R’ Us Limited manages and operates toll roads on major national routes
throughout the country. The company purchased a licence to operate a toll road in the
Midlands seventeen years ago for an amount of $10 000 000, this right being correctly
recognised as an intangible asset on the date of purchase.
It was excepted that the toll road would be in use for twenty years and economic benefits
will flow to the entity evenly over this period.

The estimated toll road usage is 1 000 000 cars per year. At the time, there were no plans
to construct alternative routes in the area. There is no active market for toll road licences.
During the current year, the government announced plans, and construction began on a
bridge in the area, that would significantly reduce usage of the toll road.

The directors estimated that the economic benefits flowing to the entity would decrease
each year over the remaining three years. The estimated toll road usage is expected to
drop to 800 000 cars, 600 000 cars and 400 000 cars, respectively, over the remaining
three years of the licence.

The right to operate the toll road was correctly recognized as an intangible asset upon
purchase seventeen years ago.
Required:
To discuss the accounting issues relating to the measurement of the licence for the toll
road over its economic life.

Part 3
Milk-yo has, for many year, manufactured a yoghurt drink called ‘Milk-Nog’. This brand
name was originally acquired 10 years ago from a competitor company. The cost of this
acquisition amounted to $800 000, which was duly capitalised. No amortisation had been
processed against this brand name since the brand was already 25 years old at the time of
acquisition and, at that time, there was no indication that demand for this drink was
diminishing.
Sales of Milk-Nog have, in recent times, been falling. The marketing department, after
much research into the related consumer behaviour, suggested that the fall in sales was
related to the outdated brand name and packaging of the drink. The suggestion was
accepted and the drink was re-launched as ‘Milki-Yippi’ with more modern and eco-
friendly packaging during late December 2009. The cost of re-launching the drink
amounted to $450 000 and was capitalised as a Milki-Yippi brand name since it was
expected that sales would now improve.
The previous brand name, ‘Milk-Nog’, with a carrying amount of $800 000, was expensed
in full in the current year ended 31 December 2009.
Required:

Critically analyse the above issue, explaining whether the treatment is correct or incorrect
and justifying your advice with reference to International Financial Reporting Standards.

Suggested Solution
PART 1

a) Purchased brand

• An intangible asset is defined as an identifiable, non-monetary asset, without physical

substance.
• The fact that the brand is purchased, makes it identifiable.
• The brand is controlled by Lick and Eat Limited through legal ownership.
• Recognition criteria (probable inflow of future economic benefits and cost measured
reliably) are assumed to be satisfied. The price an entity pays to acquire separately an
intangible asset normally reflects its expectations about the probability that the expected
future economic benefits associated with the intangible asset will flow to the entity: -
probability criterion is always considered to be satisfied for separately acquired intangible
assets (Lick and Eat Limited is unlikely to have purchased the brand if it wouldn’t receive
future economic benefits from it). See IAS 38.25 - cost can be reliably measured at the $2
000 000 paid for it.
• Residual value is assumed to be zero, because there is neither: - a commitment by a third
party to purchase the brand at the end of its useful life, nor - an active market for the
brand. See IAS 38.100 & .78
• Amortise over estimated useful life of 20 years ($2 000 000/ 20yrs = $100 000 expense for
current year).
• Carrying amount on statement of financial position at 31/12/2003 is its cost less
accumulated amortisation and accumulated impairment losses - being $1 600 000 [$2 000
000 – $C100 000 X 4yrs)].
• The brand must be measured under the cost model. This is because: - When using the
revaluation model, the fair value must be determined with reference to an active market,
See IAS 38.75 - IAS 38 clarifies that it would not be possible for a brand to have an ‘active
market’ as defined, See IAS 38.78 - Since the revaluation model requires that the fair value
be determined in accordance with an active market, and since the brand does not have an
 active market, it is not possible to use the revaluation model for the brand, with the result
that the only other option is to use the cost model.

b) R&D programme

• ‘Research’ is original and planned investigation undertaken with the prospect of gaining
new scientific knowledge and understanding. There is a low level of certainty that future
benefits will flow to the entity from a research project.
• Research costs of $300 000 must therefore be expensed in the current year - Expenditure
on research shall be recognised as an expense when it is incurred. IAS 38.54
• ‘Development’ is the application of research findings or other knowledge to a plan or
design for the production of new or substantially improved items prior to commencement
of commercial production. Since development is the second, and thus more advanced
stage of creation, it may be possible to anticipate the generation of future economic
benefits.
• Development costs are recognised as an asset if six specific criteria are all met.
• Development costs of $1 500 000 must be recognised as an intangible asset - All six
criteria for capitalisation of development costs were satisfied on 1 April 2003, thus - the
development costs must be capitalised as an intangible asset from this date.
• There will be no amortisation of the development costs during the 2003 year as the super
tin project has an indefinite useful life.
• As the development cost intangible asset has an indefinite useful life, it must be tested for
impairment annually, and whenever there is an indication of impairment: When testing
this asset for impairment at 31/12/20X3, we find that it is not impaired because its
recoverable amount ($2 000 000) exceeds its carrying amount ($1 500 000).
• Thus, the carrying amount of the ‘development asset’ that will be presented on the
statement of financial position at 31/12/20X3 is C1 500 000 (Cost: 1 500 000 – Acc
amortisation: 0 – Acc impairments: 0 = 1 500 000).

c) Fishing quota

• An intangible asset is an identifiable, non-monetary asset, without physical substance.

• The fishing quota is without physical substance as it is the ability to fish that is more
significant than the physical licence.
• The cost of the fishing quota must be recognised as an intangible asset. This is because
both the recognition criteria are met: - The probability criterion is always considered to be
satisfied for separately acquired intangible assets (Eat Limited is unlikely to have
purchased the quota if it didn’t expect to receive future economic benefit from it). IAS
38.25 - The cost can be reliably measured at the $1 000 000 paid for it.
• Amortisation of the portion used in the current period ($1 000 000 x 50/ 500 = $100 000) -
The amortisation method shall reflect the pattern that best reflects the usage of the asset.
- Since the asset is a ‘fishing quota’ in tonnes, the tonnes fished during the period/ total
tonnes allowed to be fished in terms of the quota best reflects the usage of the quota.
 • As there is an active market for fishing quotas, the revaluation model can be used. - The
quota is revalued, in accordance with the entity’s accounting policy, to its fair value of 1
350 000 - The carrying amount (CA) on 31/12/20X3, before the revaluation, is $900 000
(Cost: 1 000 000 – Amortisation: 100 000) - The revaluation on 31/12/20X3 entails
increasing the asset’s carrying amount by $450 000 (FV: 1 350 000 – CA: 900 000) and
crediting $450 000 to the revaluation surplus account.
• The carrying amount presented on the statement of financial position at 31/12/20X3 will
be its fair value of $1 350 000.

d) Advertising promotion

• The costs of the advertising of $220 000 must be recognised as an expense during the
current year.
• IAS 38 prohibits the recognition of advertising costs as an asset See IAS 38.68 & .69
This is because costs incurred on advertising, and the future economic benefits that
may flow from these costs, cannot be reliably distinguished from the costs of
developing the business as a whole.
• Although the advertising costs may not be recognised as an intangible asset, and are
thus expensed, the prepaid advertising expense of $25 000 is recognised as a current
asset at 31/12/X3. This is because a prepayment meets the definition of an asset: it is
a resource controlled by the entity (the slot on BBC radio), from a past event (paid in
cash). This fact is confirmed in IAS 38.70.

e) Masthead

• This is an internally generated masthead Mastheads may never be recognised as

intangible assets (IAS 38.63 states that internally generated brands, mastheads,
publishing titles, customer lists and items similar in substance shall not be recognised
as intangible assets). This is because costs incurred on the masthead cannot be
distinguished from the costs of developing the business a whole.
• The $270 000 incurred in previous years and the $30 000 incurred in the current year
must be expensed.
• As the masthead is not recognised as an asset, it cannot be revalued.

PART 2

Part A

An intangible asset is defined as:

• an identifiable,
• non-monetary asset,
• without physical substance.
An asset is defined as:

An economic resource controlled by the entity as a result of a past event. An economic resource is
a right that has potential to generate economic benefits.

The market is an economic resource in that it generates sales for the company. The past event
was the creation of the customer loyalty that constitutes the market share (perhaps through
entertainment, advertising etc). This event is a past event if the creation occurred before year-
end.

Future economic benefits can be expected from the market through sales made to customers that
form part of the market, thus the market has potential to produce economic benefits.

There is, however, little or no control over the market since a company’s market can be easily
taken over by another company offering better products, services, advertising etc.

Therefore, the market does not meet the definition of an asset.

Further, although the market share does not have physical substance and is non-monetary, the
market share fails the definition of an intangible asset because it is not identifiable. The reasoning
for this is explained below.

An asset meets the identifiability criterion in the definition of an intangible asset when it:

• is separable, or arises from contractual or other legal rights. IAS 38.12

An asset is separable if it ‘is capable of being separated or divided from the entity and sold,
transferred, licensed, rented or exchanged, either individually or together with a related contract,
identifiable asset or liability, regardless of whether the entity intends to do so’. IAS 38.12

Thus, the market share is clearly not separable from the business as a whole. Furthermore, the
market share does not arise from contractual or other legal rights.

Therefore, the market share does not meet the definition of an asset or an intangible asset and
must thus be expensed (not controllable and not identifiable).
An intangible asset is:

• an identifiable
• non-monetary
• asset
• without physical substance.

An asset is:

• an economic resource, controlled by the entity, as a result of a past event,

• an economic resource is a right that has potential to produce economic benefits.

The patent and the staff skills are identifiable as they are separable from the business as a whole.
IAS 38.12 Further, the patent and staff skills are non-monetary and do not have physical
substance.

The issue, however, is whether or not the entity has a right to control an asset that has potential
to produce economic benefits as a result of a past event. (i.e. whether or not they meet the
definition of an asset).

The patent and staff skills are a right established by contract which is the patent in this case that
they can be used to generate sales of software and services provided by their staff.

The entity has potential to produce economic benefits through sales of the software.

An entity controls an asset (and therefore, an intangible asset) if it:

• has the power to obtain future economic benefits from the item; and
• is able to restrict the access of others to those benefits. IAS 38.13

The company controls the future benefits from the patented software and the knowledge is
protected by the legal rights of the patent.

However, although the company will obtain future benefits from the work performed by the staff,
the company does not have control over their skills as the staff can resign at any time by giving
one month’s notice. IAS 38.15

Therefore, the patent must be recognised as an intangible asset, but the staff skills may not be
recognised as an intangible asset (because the staff skills cannot be controlled).
Part C

Intangible assets are initially measured at their cost. IAS 38.24

Subsequent measurement of an intangible asset involves using either the cost model or the
revaluation model together with:

• amortisation; and
• impairment testing.

When measuring an intangible asset’s fair value under the revaluation model per IAS 38 Intangible
assets, the fair value must be determined in accordance with an active market. Since there is no
active market for the toll road licences, the revaluation model may not be used and thus the
licence will be measured under the cost model (cost less accumulated amortisation and
impairment losses). IAS 38.74 - .75

The licence to operate the toll road is an intangible asset with a finite useful life and must thus be
amortised. Amortisation must be measured on a systematic basis over its estimated useful life in
line with the pattern in which the asset’s future economic benefits are expected to be consumed
by the entity. IAS 38.97 ‘The residual value of an intangible asset with a finite useful life is
assumed to be zero unless:

(a) there is a commitment by a third party to purchase the asset at the end of its useful life; or

(b) there is an active market (as defined in IFRS 13) for the asset and:

(i) residual value can be determined by reference to that market; and

(ii) it is probable that such a market will exist at the end of the asset’s useful life’. IAS 38.100

The useful life was originally expected to be 20 years and it was expected that the inflow of
economic benefits would be evenly earned over this period. This suggests that the straightline
method should have been used to amortise this asset over the 20-year period. Since there is no
active market for licenses and there is no evidence to suggest that there is a commitment by a
third party to purchase the licence at the end of its useful life, the residual value must be zero.

The amortisation period and the amortisation method for an intangible asset with a finite useful
life shall be reviewed at least at each financial year-end. IAS 38.104

During the eighteenth year, it was estimated that the usage of the licence would change from an
even usage of 1 000 000 cars per year over the remaining 3 years (where the straight-line method
was thus appropriate) to 800 000 cars in year 18, 600 000 cars in year 19 and then finally 400 000
cars in year 20. This means that the straight-line method over the remaining 3 years of the license
would no longer be appropriate. A more appropriate method of amortisation would be to use the
number of cars using the road instead. This change is accounted for as a change in accounting
estimate in terms of IAS 8.

The carrying amount at the beginning of year 18 is $1 500 000

 • [$10 000 000 – ($10 000 000 – 0)/ 20 x 17 years)].

This carrying amount is then amortised over 1 800 000 cars (800 000 + 600 000 + 400 000). The
amortisation will be calculated as follows:

• Year 18: $666 667 [($1 500 000 – 0) / 1 800 000 x 800 000 cars]
• Year 19: $500 000 [($1 500 000 – 0) / 1 800 000 x 600 000 cars]
• Year 20: $333 333 [($1 500 000 – 0) / 1 800 000 x 400 000 cars].

Intangible assets must be tested for impairment at the end of every reporting period in terms of
IAS 36 Impairment of assets. IAS 38.111 IAS 36 requires that the recoverable amount be calculated
at the end of the reporting period if there is any indication of impairment.

The fact that there are plans to construct alternate roads in the area, with the result that
management has forecast a reduction in the number of cars using the toll road over the remaining
3 years is an indication that the intangible asset may be impaired. Since there is an indication that
the asset may be impaired, the recoverable amount of the toll road licence must be calculated. If
the recoverable amount is less than the carrying amount, the licence is impaired and the carrying
amount will need to be reduced to the recoverable amount by recognising an impairment loss in
profit or loss.

PART 3

Recognition and initial measurement

The capitalisation of the cost of the original purchased brand ‘Milk-Nog’ was correct:

• it is a purchased brand and is therefore reliably measurable ($800 000); and

• being a purchased brand, the future economic benefits are assumed to be probable (per
IAS 38.25).

However, it was incorrect to capitalise the ‘Milki-Yippi’ brand name because IAS 38 specifically
disallows the capitalisation of internally generated brands on the grounds that, when dealing with
internally generated brands, it is considered too difficult to prove that the recognition criteria have
been met (i.e. reliable estimates of the costs of creation are almost impossible, since the costs
incurred will be difficult to separate from the general costs of running the business). The costs to
launch the new ‘Milki-Yippi’ brand should thus have been expensed as marketing costs.

Subsequent measurement

It was correct not to amortise the ‘Milk-Nog’ brand because IAS 38 states that an asset that is
considered to have an indefinite useful life may not be amortised.

The classification as an intangible asset with an ‘indefinite useful life’ should, however, have been
reviewed annually: as soon as there was an indication that the brand had a finite useful life,
amortisation should have begun and been processed as a change in accounting estimate.
Similarly, since the brand was an asset with an ‘indefinite useful life’, the recoverable amount of
the brand would have had to be calculated at the end of each and every year, irrespective of the
results of an indicator review. The recent drop in sales of ‘Milk-Nog’ would probably have been
reflected in a recoverable amount that was less than the carrying amount, requiring an
impairment loss expense to be recognised. This appears not to have been done.

As the ‘Milki-Yippi’ brand should be expensed, there are no subsequent measurement issues
relating to it.

Derecognition

It was correct to derecognise the ‘Milk-Nog’ brand when it was abandoned and the ‘MilkiYippi’
brand was launched in its place since there would have been no further economic benefits
expected from its use or disposal from that date.

Conclusion and advice

Corrections need to be processed to correct the following errors: the apparent failure to impair
the ‘Milk-Nog’ brand in each of the years during which the recoverable amount was less than its
carrying amount; and

• the incorrect capitalisation as an intangible asset of the new ‘Milki-Yippi’ brand.

Some of these are prior period errors which, if material, would need to be corrected
retrospectively (these corrections would be accounted for retrospectively in terms of IAS 8
Accounting policies, changes in accounting estimates and errors). If the corrections are not
material, these corrections would be processed prospectively.
 Question 4

Part 1

You are an IFRS consultant and have received an email from a long-standing client, Rihanna, an
extract of which is as follows:

The IT manger has recently approached me regarding the feasibility of taking

our company’s operations online. He thinks that it would be a means of
boosting profits, as everything seems to be done online these days.

While it sounds like a good business idea, I’m a bit worried as I don’t
know how to account for costs spent on creating a website. I qualified many
years ago, before things like online shopping was done, and I haven’t
bothered to keep up with all these technological advances either, as I’m
now nearing retirement.

I would appreciate if you could explain to me how these website costs that
will be incurred should be treated in the books of GB.

Required:

Respond to Rihanna’s email, explaining to him how to recognise and measure the website costs,
making specific reference to IAS 38 Intangible Assets and SIC 32 Website cost. Your email should
include a discussion of all website costs.

Part 2

The Trader is an online business selling a wide range of kitchen products. Its website is hosted on
its own sever, which is situated on their property in a building used to store inventory that is ready
for despatching to computers.

The Trader operates two main divisions:

• a marketing division that purely markets the business and its product lines and

• a sale division that manages the delivery of products to customers and debt collection.

Trader’s website is divided along similar lines into:

• an area that showcases the various products (marketing); and

• an area that deals with receiving orders (sales).

After experiencing heavy rain on 31 March 2006, the premises of The Trader was. When Sally,
from IT, tried assessing the company’s website, she found it to be completely corrupted and was
unable to recover any information off the website.

A new website had to be urgently created. This took place between 1 April and 30 June 2006. The
cost incurred during this period (all paid in cash) amounted to $414 000 and included 5 separate
payments, details of which are as follows:

• Payment for the feasibility study (is online business still feasible): $69 000
The allocation of this cost to the two areas of the website is as follows:

- Sales: $46 000

- Marketing: $23 000

• Payment for the customer preference study (what would customers prefer to see and use on a
website): $80 500

The allocation of this cost to the two areas of the website is as follows:

- Sales: $34 500

- Marketing: $46 000

• Payment for the new licences (to operate on the website): $23 000

The allocation of this cost to the two areas of the website is as follows:

- Sales: $115 000

- Marketing: $11 500

• Payment of computer specialists’ fees for designing the websites: $218 500

The allocation of this cost to the two areas of the website is as follows:

- Sales: $11 500

- Marketing: $103 500

• Payment for the upgrade fees (this occurred on 31 December 2006 and will be necessary every
6 months thereafter): $23 000

The allocation of this cost to the two areas of the website is as follows:

- Sales: $11 500

- Marketing: $11 500

The new web design will not be able to be sold due to its unique nature. The cost of the new
website is considered to be material.

This new and improved website was available for use from 1 July 2006. Management estimates
that it will need to be entirely redesigned after 5 years.

The previous website:

• was amortised over a total useful life of 3 years to a nil residual value; and

• had a carrying amount of $115 000 at the beginning of the year at which point it had a 2 year
remaining useful life.

Required:

a) Show all journals that would have been processed for the year ended 31 December 2006.

b) Disclose the accounting policy note and the intangible assets note at 31 December 2006, in
accordance with International Financial Reporting Standards.