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Lecture 5

AYB311 - Lecture 5 Notes

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Queensland University of Technology

LECTURE 5 – THE MEASUREMENT OF ASSETS  Please be aware of the Discussion Forum for the assignment – it available on Blackboard.  Use this instead of emails to Janet as this way all students have access to the same information  There are no lectures or tutorials next week (week 6) to give time to work on the assignment  The assignment is due on 1 September What are assets?  Definition o An asset is a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity (AASB Framework, para. 49 (a))  Characteristics o Future economic benefits expected to flow to the entity o Benefits are controlled by the entity o Control over benefits arises from past events Future Economic Benefits  Potential to contribute directly or indirectly to cash flows o Anything associated with the cash flow of the business ie BPH = drilling business but none of this happens unless there are people in administrative roles. Administrative roles contributes indirectly as well as the assets they use (computers, building) are indirect contribution  Provide a means for entities to achieve their objectives o Maximise value in profit-seeking entities o Provide services to beneficiaries in not-for-profit entities Control by the Entity  Represents the capacity of the entity to benefit from the asset in the pursuit of the entity’s objectives and to deny or regulate the access of others to that benefit o Control normally synonymous with ownership but not essential  Ie finance leases o Not controlled if cannot deny or regulate access  Not ownership but control over the use of an asset o Economic substance over legal form Occurrence of Past Transaction or Event  Types of transactions / events o exchange transactions o non-reciprocal transfers o accretion or discovery  Distinguish between present and future assets o More than mere intention to acquire asset o Depends on “firmness” of the contract Recognition Criteria  This is more important than the definition  This is where measurement and reliability come into play  Cannot put an item into the statement until it meets this – even if it meets the definition o This is crucial when looking at intangible assets o Companies (ie. Woolworths) claim that people are an asset to the company. But people cannot be recognised on the balance sheet  Control depends on the industry you are looking at  It is difficult to measure someone’s value to an entity  An item that meets the definition of an element should be recognised if: (a) it is probable that any future economic benefit associated with the item will flow to or from the entity; (b) the item has a cost or value that can be measured with reliability. (AASB Framework, para. 83)  “probable” o more likely rather than less likely  “measured reliably” (as per AASB Framework paras. 31 to 38) o faithfully represents the cost or other value Measurement – why is it important?  Objective of financial reporting -Decision-useful information for investors and creditors in capacity as capital providers  There are multiple measurement bases that can be used to recognise assets on the balance sheet  They all require judgement  Potential to manage the appearance of the balance sheet – and the income statement Accounting for Non-Current Assets Major Accounting Issues  Measurement bases at acquisition  Revaluation  Impairment Measurement bases at and after acquisition Property Plant and Equipment  Property, plant and equipment are tangible items that: (a) are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes; (b) are expected to be used during more than one period.  An item of property, plant and equipment that qualifies for recognition as an asset shall be measured at its cost. o Though the framework does not provide a definitive decision based on measurement, this measurement basis is provided in the standard  Elements of cost o its purchase price o any costs directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating in the manner intended by management o the initial estimate of the costs of dismantling and removing the item and restoring the site on which it is located  ie mining companies must clean up the area and oil rigs can no longer be left in the middle of the ocean – they must be removed when oil drilling is complete Intangible Assets  Identifiable non-monetary asset without physical substance, e.g. o Computer software o Patents o Copyrights o Motion picture films o Customer lists o Taxi licenses  Cash, cheques and monetary assets do not qualify  Some people argue that there should not be a distinction between tangible and intangible as they are all assets required by the firm. The accounting standards do however require this and thus we do it. Purchased/internally generated distinction  Purchased Intangibles o Usually recognized because have a cost that can be reliably measured  Ie the purchase of a taxi license – you went and purchased and you know what it cost / you have proof of this  Internally Generated Intangibles o Recognition problematic because in many cases cost/value cannot be reliably measured  You may be able to put a value on it but you cannot define the cost. You may not be able to find every cost to attribute to the value of some internally developed software.  This is an issue for many companies because they develop this kind of asset which will deliver future economic benefits but which have no costs. Thus, they are left off balance sheets which cause some problems. Characteristics of an intangible asset (AASB 138)  IA is identifiable  Entity controls IA  Future economic benefits will flow from IA o Consistent with AASB Framework definition of asset?  Control is consistent with framework  Future economic benefits is consistent with framework  No past event is required for asset to exist – this is in recognition of the fact that an ‘event’ may occur but no particular date is known. That is why identifiability is used instead.  Identifiablity = separable (ie it can be sold away from the entity and the entity can still exist) The Identifiable/Unidentifiable Distinction  Identifiable o Separable  Capable of being separated from the entity and sold, transferred, licensed, rented etc, individually or with a related contract, asset or liability  Arises from contractual or other legal rights (AASB 138.12)  Unidentifiable o Assets which are not capable of being both individually identified and separately recognized o Collectively classified as Goodwill  This cannot be taken away and sold separately from the entity Initial Recognition  Purchased intangibles o Measured and recognised at cost (AASB 138.24)  Internally generated intangibles o Recognised only in development phase (not research phase) and meet certain conditions (see R&D) Internally Generated Assets are not recognised  Expenditure on items that cannot be distinguished from the cost of developing the business as a whole, including o Brands o Mastheads o Publishing titles o Customer lists o Internally generated goodwill cannot be recognised  Standard is not denying they are assets – rather they are saying that they cannot be recognised. The reason for this is due to the difficult of measuring reliably the cost or value of these internally generated assets.  When this change occurred, many companies were very upset. Ie media companies – their mastheads are recognisable and are worth a lot of money. They have value. Goodwill  Unidentifiable intangible asset  Nature of goodwill o Market penetration, effective advertising, good labor relations and a superior operating team  On this basis that Woolworths can claim that their people are their best asset  Ie they can create goodwill to the company. It doesn’t matter how good the tone at the top is, it is about how well priced their items are and how well their customers are served. The profit margins at supermarkets are quite low – to survive supermarkets must build up goodwill so people make the choice to go there and spend their money  Only purchased goodwill recognised  Measured as the excess of cost of acquisition over the fair value of identifiable net assets acquired o Example  Cost of acquisition $500,000  Fair value of identifiable net assets 450,000  Goodwill 50,000  $50,000 recorded as an asset at purchase date Measuring purchased goodwill subsequent to acquisition  NOT amortised  Subject to impairment test o as per AASB 136  Measured at cost less accumulated impairment losses Research and Development (R&D)  Internally generated intangible assets  Components of R&D costs o Research  Pursuit of new ideas/knowledge o Development  Commercial application of research findings prior to production AASB 138 Requirements  Research o Must be expensed in the period it is incurred  Development o May be recognized as an asset if meets certain conditions Conditions for Recognising Development Costs  Able to demonstrate o Technically feasible to complete IA for use or sale o Intention complete IA o Ability to use or sell IA o How the IA will generate future economic benefits o Resources needed to complete IA are available o Able to reliably measure expenditure on IA Costs of Developing Internally Generated Intangible Assets  Includes directly attributable costs, e.g o materials/services o salaries of people working on them o Fees to register legal right o amortization of patents/licenses  Excludes costs associated with o Selling, admin and other overheads not directly attributable to the IA o Training staff to operate asset especially if it is something which is internally developed o Losses and inefficiencies  Crucial to note these are costs – they do not add value R&D – Differences between AASB1001 and AASB138  Significant issues which have caused consternation  AASB1001 was the pre-IFRS standard. This allowed for capitalisation of research and some development costs  Capitalisation of research costs o AASB 1011 allowed some types of research costs to be capitalised  Recognition criteria for capitalising development costs o AASB 138  “probable”  Specific conditions to be met before development costs recognised o AASB 1011  “beyond reasonable doubt” Economic Consequences of R&D Standards  Since 1974 US firms not permitted to capitalize R&D expenditure  Research indicates reduction in R&D expenditure by certain firms after capitalization banned o mainly small, high-tech firms o Suggests that R&D expensing had a negative impact on contracts in place  Will AAB 138 cause Australian firms to change R&D expenditure? Will the economy move forward? Does this
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