Flashcards in FAR 21 - Intangible Assets - Goodwill and Other Deck (32):
Wind Co. incurred organization costs of $6,000 at the beginning of its first year of operations. How should Wind treat the organization costs in its financial statements in accordance with GAAP?
A. Never amortized.
B. Amortized over 60 months.
C. Amortized over 40 years.
D. Expensed immediately.
D. In the past, firms capitalized and amortized organization costs. However, now, organization costs are expensed immediately. Such costs are internally generated. Typically, only costs paid to outside entities are capitalized to intangible assets, and only those intangibles with definite lives are amortized.
In 2000, Chain, Inc. purchased a $1,000,000 life insurance policy on its president, of which Chain is the beneficiary. Information regarding the policy for the year ended December 31, 2005, follows:
Cash surrender value, 1/1/05
Cash surrender value, 12/31/05
Annual advance premium paid 1/1/05
During 2005, dividends of $6,000 were applied to increase the cash surrender value of the policy. What amount should Chain report as life insurance expense for 2005?
$19,000. In computing life insurance expense, the increase in cash surrender value is subtracted from the annual premium because the net cost to the firm is the premium less the increase in that investment. The investment is property of the insured firm.
The cash surrender value (an investment account) increased $21,000 during 2005 ($108,000-$87,000). This increase is treated as a direct reduction in the current year's insurance premium. Therefore, insurance expense is $19,000 ($40,000-$21,000) for 2005.
What makes this question difficult is realizing that the dividends are not treated as a separate revenue; rather, they are treated as an offset against insurance expense. The reason is that the dividends are directly related to the policy. The investment aspect of whole life insurance is an integral part of the life insurance policy.
Grayson Co. incurred significant costs in defending its patent rights. Which of the following is the appropriate treatment of the related litigation costs?
A. Litigation costs would be capitalized regardless of the outcome of the litigation.
B. Litigation costs would be expensed regardless of the outcome of the litigation.
C. Litigation costs would be capitalized if the patent right is successfully defended.
D. Litigation costs would be capitalized only if the patent was purchased rather than internally developed.
C. Litigation costs can be capitalized only if the defense of the patent was successful.
Which of the following statements is correct concerning start-up costs?
A. Costs of start-up activities, including organization costs, should be expensed as incurred.
B. Costs of start-up activities, including organization costs, should be capitalized and expensed only if an impairment exists.
C. Costs of start-up activities, including organization costs, should be capitalized and amortized on a straight-line basis over the lesser of the estimated economic life of the company, or 60 months.
D. Costs of start-up activities should be capitalized and amortized on a straight-line basis over the lesser of the estimated economic life of the company, or 60 months, while organization cost should be expensed as incurred.
A. Start-up costs are expensed as incurred.
On January 1, 2004, Bay Co. acquired a land lease for a 21-year period with no option to renew.
The lease required Bay to construct a building in lieu of rent. The building, completed on January 1, 2005, at a cost of $840,000, will be depreciated using the straight-line method. At the end of the lease, the building's estimated market value will be $420,000.
What is the building's carrying amount in Bay's December 31, 2005 Balance Sheet?
The building is a leasehold improvement because it reverts to the lessor at the end of the lease. The residual value belongs to the lessor and is not relevant to the lessee. The building was completed at the beginning of the second year of the lease. Therefore, the total cost to the lessee of $840,000 is amortized over 20 years, not 21.
The carrying value of the leasehold improvement at the end of 2005, the first year of the building's life but the second year of the lease, is $798,000 = $840,000(19/20).
ABC Co. was organized on July 15, 2004, and earned no significant revenues until the first quarter of 2007. During the period 2004-2006, ABC acquired plant and equipment, raised capital, obtained financing, trained employees, and developed markets.
In its financial statements as of December 31, 2006, ABC should defer all costs incurred during 2004-06,
A. Net of revenues earned, which are recoverable in future periods.
B. Net of revenues earned.
C. Which are recoverable in future periods.
D. Without regard to net revenues earned or recoverability in future periods.
C. ABC is a development stage enterprise. Such enterprises are subject to the same accounting principles governing capitalization of costs as enterprises that have established themselves as on-going enterprises. Therefore, the amount of cost to be capitalized or deferred is the amount of cost that is recoverable in future periods.
Tech Co. bought a trademark on January 2, two years ago. Tech accounted for the trademark as instructed under the provisions of GAAP during the current year. The intangible was being amortized over 40 years. The carrying value at the beginning of the year was $38,000. It was determined that the cash flow will be generated indefinitely at the current level for the trademark.
What amount should Tech report as amortization expense for the current year?
This intangible has an indefinite life because it can be renewed and because management believes its cash flow will be generated indefinitely. Under GAAP, indefinite life intangibles are not subject to amortization. All intangibles are subject to impairment, however.
After an impairment loss is recognized, the adjusted carrying amount of the intangible asset shall be its new accounting basis. Which of the following statements about subsequent reversal of a previously recognized impairment loss is correct?
A. It is prohibited.
B. It is required when the reversal is considered permanent.
C. It must be disclosed in the notes to the financial statements.
D. It is encouraged, but not required.
A. All intangibles are subject to impairment, but the resulting impairment losses cannot be reversed. Although impairment losses on plant assets held for disposal can be reversed to the extent of previous losses, this is not the case for intangibles.
Which, if any, of the following would be amortized?
An intangible asset
The intangible asset has a definite life and is amortized. Goodwill has an indefinite life, and is not amortized but is tested for impairment.
T/F: A definite life intangible has a book value of $14,000 and recoverable cost of $12,400. The fair value of the asset is $9,000. Therefore, an impairment loss of $5,000 is recognized.
T/F: Intangibles are plant assets without physical substance.
Intangible assets are defined as LT operational assets that lack physical substance or presence, but are currently used in the operation of a business and have a useful life extending more than one year from the BS date.
T/F: A patent is purchased from an outside party for $50,000 at the beginning of 1997. It has an estimated useful life of 10 years. During 1999, the firm realizes that the patent is impaired, writes it down to its fair value of $20,000 at year-end, and changes the total estimated useful life to 5 years. The sum of amortization expense and impairment loss for 1999 is $20,000.
T/F: The cost to acquire a patent from another party is expensed immediately as a research and development expense.
The cost to acquire a patent from another party is capitalized.
T/F: A copyright is most likely a definite life intangible.
T/F: The determination and computation of impairment losses for definite life intangibles is the same as for plant assets held for use.
T/F: The cost to acquire an intangible from another party is generally capitalized.
Goodwill should be tested for value impairment at which of the following levels?
A. Each identifiable long-term asset.
B. Each reporting unit
C. Each acquisition unit
D. The entire business as a whole
B. Goodwill is included in an asset group when the group is a reporting unit. A reporting unit is an operating segment or one level below.
A company reported $6 million of goodwill in last year's statement of financial position. How should the company account for the reported goodwill in the current year?
A. Determine the current year's amortizable amount and report the current-year's amortization expense.
B. Determine whether the fair value of the reporting unit is greater than the carrying amount and report a gain on goodwill in the income statement.
C. Perform a qualitative assessment to determine if it is more likely than not that the fair value of the reporting unit is less than its carrying value.
D. Determine whether the fair value of the reporting unit is greater than the carrying amount and report the recovery of any previous impairment in the income statement.
C. Goodwill impairment testing permits a qualitative "pre-step" test to determine if it is more likely than not that the goodwill is impaired. This pre-step can result in considerable savings to companies who do not have to complete the quantitative tests associated with testing and measuring goodwill impairment.
Large purchased all of Small's voting stock for $11 million when Small's total owners' equity was $4 million. The book value and market value of Small's liabilities equal $3 million. However, the market value of Small's total assets equals $9 million. What amount of goodwill is recorded by Large (in millions)?
$5. The market value of Small's net assets is $6 ($9 - $3). Goodwill ($5) is the difference between the purchase price of $11 and the market value of Small's net assets of $6. Goodwill is the portion of the purchase price not attributable to identifiable assets.
Firm A purchased Firm B for $4,000 when B's total owners' equity was $2,000. Firm A completed the qualitative test for goodwill impairment and determined that it is more likely than not that goodwill may be impaired. B had one asset worth $500 more than the book value. One year after the purchase, Firm B's total market value had dropped to $3,200 and the market value of its net identifiable assets was $2,000. What amount of goodwill impairment loss is recorded?
D. In general, goodwill is impaired when factors and circumstances indicate that the fair value is less than the current recorded value. This generally occurs when the market value of the unit previously purchased has declined because of economic factors and events. In this question, the market value of B has declined significantly in one year. Goodwill is re-estimated the same way that it was when B was purchased, as the difference between unit market value and the market value of net identifiable assets. The new value for estimated goodwill is $1,200 (= $3,200 - $2,000). The goodwill originally recorded is $1,500 (= $4,000 - $2,000 - $500). The impairment loss is the decline in goodwill, or $300 (= $1,500 - $1,200).
T/F: Goodwill is the only unidentifiable asset that can be capitalized.
T/F: The qualitative "pretest" for goodwill impairment testing is optional, not required.
T/F: The cost to maintain purchased goodwill is capitalized.
The cost to maintain good will is expensed.
T/F: Purchased goodwill equals the purchase price of a firm less its owners' equity.
Goodwill is the result of a business combination that is measured as the difference between the fair market value of the acquired company as a whole and the fair market value of the identifiable net assets.
T/F: Goodwill is based on the expectation that the purchased firm will have higher earnings than would otherwise be expected of a firm with its assets and capital structure.
Under IFRS, which of the following is a criterion, other than goodwill, that must be met in order for an item to be recognized as an intangible asset?
A. The item's fair value can be measured reliably.
B. The item is part of the entity's activities aimed at gaining new scientific or technical knowledge.
C. The item is expected to be used in the production or supply of goods or services.
D. The item is identifiable and lacks physical substance.
D. IAS 38 defines an intangible asset as a nonmonetary asset without physical substance that is identifiable. Identifiable means that the asset is 1) separable or capable of being separated or divided from the entity and can be sold or transferred and 2) arises from contractual or other legal rights, regardless of whether those rights are transferable or separable from the entity. This definition is essentially the same as under U.S. GAAP.
Under IFRS, the test for asset impairment is to compare the carrying value of the intangible asset to its recoverable amount. Which of the following is the recoverable amount according to IFRS?
A. The greater of future undiscounted cash flows or future discounted cash flows.
B. The greater of future discounted cash flows or fair value.
C. The greater of fair value less cost to sell or value in use.
D. The greater of fair value or value in use.
C. The greater of fair value less cost to sell or value in use is the recoverable amount according to IFRS.
Under IFRS, an entity that acquires an intangible asset may use the revaluation model for subsequent measurement only if:
A. The useful life of the intangible asset can be reliably determined.
B. An active market exists for the intangible asset.
C. The cost of the intangible asset can be measured reliably.
D. The intangible asset is a monetary asset.
B. An active market will provide a relevant and reliable reference to the assets value. Therefore, just like with PPE, revaluation to fair value is permitted. IAS 38 defines an active market as one that the items traded in the market are homogeneous, there are willing buyers and sellers, and prices are available to the public.
After an impairment loss is recognized, the adjusted carrying amount of the intangible asset shall be its new accounting basis. Under IFRS, which of the following statements about subsequent reversal of a previously recognized impairment loss is correct?
A. It is prohibited.
B. It is allowed when events and circumstances change.
C. It is allowed only if the intangible asset is recorded at fair value.
D. The recovery amount can exceed the carrying value at the time of the initial impairment.
B. Under IFRS impairment losses associated with identifiable intangibles are recoverable. Impairment losses associated with goodwill are NOT recoverable.
T/F: Under IFRS, intangibles can be revalued to fair market value on an asset by asset basis, not the entire class of intangible assets.
The entire class of intangible assets must be valued this way, not just select individual intangible assets.
US GAAP doesn't allow.
T/F: IFRS allows intangible assets other than goodwill to be revalued to fair market value.