Revise lecture 9

1. Revise lecture 9

2. Alternative to historical cost accounting The alternative to historical cost accounting is a form of current value accounting, either: • Constant purchasing power (CPP) or • Current cost accounting (CCA)

3. Alternative to historical cost accounting Constant purchasing power accounting • Accounts figures are adjusted to show all figures in terms of money with the same purchasing power • A general price index is used for this • Figures in the IS and SFP are adjusted by the CPP factor • CPP factor = Index at the reporting date / Index at the date of entry in accounts

4. Alternative to historical cost accounting Advantages of CPP accounting • CPP accounting is both simple and objective. It relies on the standard index • It adjusts for changes in the unit of measurement and therefore is a true system of inflation accounting • It measures the impact on the company in terms of shareholders purchasing power

5. Alternative to historical cost accounting Disadvantages of CPP • Its fails to capture economic substance when specific and general price movements diverge • The unfamiliarity of information stated in terms of current purchasing power units • CPP does not show the current values (value to the business) of assets and liabilities • The general price index used is not necessarily appropriate for all assets in all businesses

6. Alternative to historical cost accounting Current cost accounting (CCA) • It is based on deprival values or value to the business • Stock and non-current assets are valued at deprival value • Monetary assets (cash, receivables, payables, loans) are not adjusted • Assets are stated at their value to the business • Holding gains are eliminated from profit • Users will be able to assess the current state or recent performance of the business

7. Alternative to historical cost accounting Disadvantages of CCA • Possibility greater subjectivity and lower reliability than historical cost • Lack of familiarity • Complexity • CCA only adjust values for non-monetary asset not all assets and liabilities

8. Fair presentation Q: When do financial statements show fair presentation?

9. Solution • Financial statements will generally show a fair presentation when: • They conform with accounting standards • They conform with the any relevant legal requirements • They have applied the qualitative characteristics from the framework

10. Intangible assets

11. Intangible assets • The objective of IAS 38 is to prescribe the specific criteria that must be met before an intangible asset can be recognised in the accounts

12. Intangible assets Definition • An intangible asset is an identifiable non-monetary asset without physical substance. • To meet the definition the asset must be identifiable, i.e. separable from the rest of the business or arising from legal rights.

13. Intangible assets It must also meet the normal definition of an asset: • Controlled by the entity as a result of past events (normally by enforceable legal rights) • A resource from which future economic benefits are expected to flow (either from revenue or cost saving)

14. Intangible assets Recognition To be recognised in the financial statements an intangible asset must • Meet the definition of an intangible asset, and • Meet the recognition criteria of the framework: • It is probable that future economic benefits attributable to the asset will flow to the entity. • The cost of the asset can be measured reliably.

15. Internally-generated intangibles The following internally-generated items may never be recognised: • Goodwill • Brands • Mastheads • Publishing titles • Customer lists

16. Intangibles • Purchased and internally-generated intangibles

17. Purchased intangibles • If an intangible asset is acquired in a business combination, the fair value of that asset at the date of acquisition is taken. • The determination of that fair value is easy if an active market exists, otherwise it may be necessary to take the price the entity would have paid in an arm’s length transaction. • Any intangible which cannot be measured reliably in an acquisition has to be included in goodwill.

18. Internally-generated intangibles • It is impossible to separate the costs of internally-generated intangibles from the normal costs of running and developing a business, so these intangibles cannot be measured reliably.

19. Brands

20. Internally-generated intangibles Brands: • The accounting treatment of brands has been a matter of controversy for some years. 2. IAS 38 intangible assets has now ended the controversy by stating that internally-generated brands and similar assets may never be recognised

21. Internally-generated intangibles 3. Expenditure in internally-generated brands cannot be distinguished from the cost of developing the business as a whole, so should be written off as incurred. 4. Where a brand name is separately acquired and can be measured reliably, then it should be separately recognised as an intangible non-current asset and accounted for in accordance with the general rules of IAS 38.

22. Example – Intangible classification Q: How should the following intangible assets be treated in the financial statements? • A publishing title acquired as part of a subsidiary company • A licence purchased in order to market a new product

23. Example – Intangible classification • A publishing title acquired as part of a subsidiary company Answer: The answer depends on whether the asset can be valued reliably. If this is possible, the title will be recognised at its fair value, otherwise it will be treated as part of goodwill on acquistion of the subsidiary

24. Example – Intangible classification • A licence purchased in order to market a new product Answer: • As the licence has been purchased separately from a business, it should be capitalised at cost

25. Measurement of intangible assets Measurement after initial recognition There is a choice between • The cost model • The revaluation model

26. Measurement of intangible assets The cost model • The intangible asset should be carried at cost less amortisation and any impairment losses • This model is more commonly used in practice

27. Measurement of intangible assets The revaluation model • The intangible asset may be revalued to a carrying value of fair value less subsequent amortisation and impairment losses. • Fair value should be determined by reference to an active market.

28. Measurement of intangible assets Features of an active market are that • The items traded within the market are homogeneous • Willing buyers and sellers can normally be found at any time • Prices are available to the public • In practice such markets are rare