Vii - AUDIT OF INTANGIBLE ASSETS

PROBLEM NO. 1 ~— Items considered intangible assets

The following are items that could be inchided in the|intangible Assets]

i. Investment in a subsidiary company P1,500,000

2. Timberland 2,000,000
3. Cost.of engineering activity required to advance the
design of a product to the manufacturing stage 120,000
4. Lease prepayments (6 months’ rent paid in advance) 60,000
5. Cost of equipment obtained under finance lease 700,000
6. Internally generated publishing title 230,000 .
7. Costs incurred in the formation of the corporation 90,000
8. Operating losses incurred in the start-up of the 560,000
business
9. Training costs incurred in start-up pEeratiors 80,000
10. Purchase of a franchise 1,200,000
11. Goodwill internally generated - 300,000
12. Cost of testing in search for product alternatives 65,000
13. Goodwill acquired in the purchase of a business 640,000
- 14. Cost of developing a patent 140,000
15. Cost of purchasing a patent from an inventor 500,000
16. Legal costs incurred in securing a patent 70,000
17. Costs of a successful legal suit to protect the patent 230,000 .
18. Cost of conceptual formulation of possibie product
alternatives 160,000
19. Cost of purchasing a copyright 900,000
20. Research and development costs 340,000
21. Long-term receivables 310,000
22. Cost of developing a trademark ; 61,000
23. Cost of purchasing a trademark 290,000
24. Computer software for a computer-controlled machine
that cannot operate without that specific software ‘130,000
25. Operating system of a computer 10,000
QUESTION:
How much could. be recognized as Intangible Assets?
a. P3,600,000 . c. _ P5,830,000
b. P3,740,000 d. P3,530,000
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- Audit of Intangible Assets

VIII - Audit of Intangible Assets vil of ,

" PROBLEM NO. 2 - Recognition of internally generated intangible asset

Answe _ Alaminos Company has beenjihvolved i j i

«a Sohution: I a project to develop an en:

Suggest that runs on extracts from sugarcane. It commenced the ecitect th

PAS 38 par. 8 defines “Intangible asset” as an identifiable non-monetary

asset without physical substance.

Rems 10, 13, 15, 16, 19 and 23 could be recognized as intangible asset.

The other items will be reported as follows:

Noncurrent asset in the statement of financial position

Item 1 -
(SFP)
Item 2 - Property, plant, and equipment in the SFP
Item 3 - Research and development expense in profit or loss
Item 4 - Current asset (prepaid rent) in the SFP
Item 5 -. Property, plant, and equipment in the SFP
Item 6 - Not recognized. PAS 38 par. 63 states that internally
generated brands, mastheads, publishing titles, customer
lists and other items similar in substance shall not be
recognized as intangible assets. Any costs related to
creating publishing titles incurred internally must be
expensed.
Item 7 - Charge as expense in profit or loss
Item 8 - Operating losses in profit or loss
Item 9 - Charge as expense in profit or loss
Item 11 - Not recognized. PAS 38 par. 48 states that internally
generated goodwill shall not be recognized as an asset.
Any costs incurred related to internally generated
goodwill must be expensed.
Item 12 - Research and development expense in profit or loss
Item 14 - Research and development expense in profit or loss
Item 17 - Charge as expense in profit or ioss
Item 18 - Research and development expense in profit or loss
Item 20 - Research and development expense in-profit or loss
Item 21 - Noncurrent asset in the SFP
Item 22 - Charge as expense in profit or loss
Item 24 - oe plant, and equipment in the SFP (see PAS 38
par, :
Item 25 - Property, plant, and equipment in the SFP (see PAS 35
par. 4)
400

February 2010. Between the commencement date and J

Alaminos spent P3,810,000 on the project. At June 30, : Tobe ‘there

was no identification that the project would be commercially feasible,
although the company had made significant progress and was
sufficiently sure of future success that it was prepared to outlay more
funds on the project.
After spending a further P1,800,000 during July and August, the
company had built a prototype that appeared to be successful. The
prototype was demonstrated to a number of engineering companies
during September, and a number of these companies expressed interest
in the further development of the engine. Convinced that it now had a
product that it would be able to sell, Alaminos spent a further P975,000
during October adjusting for the problems that the engineering firms
had pointed out. On November 1 Alaminos applied for the patent on
the engine, incurring administrative costs of P525,000. The patent had
an expected useful life of five years. ,

Between November and December 2010, Alaminos spent an additional *

“amount of P1,230,000 on engineering and consulting costs to develop

the project such that the engine was at manufacturing stage. These
resulted in changes in the overall design of the engine, and costs of
P75,000 were incurred to add minor changes to the overall design of

the patent authority.

On January 1, 2011, Alaminos invited tenders for the manufacture of

the engine for commercial sale. .

QUESTIONS:

Based on the above: and the result of your audit, determine the
following:

1. Total amount to be charge to expense when incurred

a. P7,185,000 c. P6,585,000
b.- P7,890,000 d. P8,415,000

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VIII - Audit of Intangible Assets

2. Total amount to be recognized as Patent

a. P1,830,000 c. P
b. P1,230,000 d.

T525,000
0

Answers: 1) C; 2) A
Suggested Solution:
Questiort No. 1

Expenditures before meeting all the requirements of

paragraph 57 of PAS 38 6.585.090
An intangible asset arising from development (or from the development
phase of an internal project) shall be recognized if; and only if, an entity

can demonstrate all of the following:

(a) the technical feasibility of completing the intangible asset so that it

will be available for use or sale.

(b) its intention to complete the intangible asset and use or sell it.

(c) its ability to use or seil the intangible asset.

(2) how the intangible asset will generate probable future economic
benefits. Among other things, the entity can demonstrate the
existence of a market for the output of the intangible asset or the
intangible asset itself or, if it is to be used internallu, the usefulness
of the intangible asset.

(e) the availability of adequate tethnical, financial and other resources

to complete the development and te use or sell the intangible asset.

its ability to measure reliably the expenditure attributable to the

intangible asset during its dgvelopment. (PAS 38 par. 57)

Due to the adjustinents required by the engineering firms, the company is

not yet able to measure the cost of the engine reliably before ‘the
P975,000 expenditure. After adjusting for the problems pointed by
engineenng firms the entity can now meet all of the criteria of PAS 38
Par. 57. Therefore, subsequent expenditures may now be capitalized.

Question No, 2

Expenditures aiter méeting all the requirements of

paragraph 57 of PAS 3

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vi - Audit of Intangible Assets

pROBLEM NO. 3 - Recognition and measurement of intangible assets

In connection with your audit of the Cabuyao Corporation, you noted

the following transactions during 2010:"

Jan

Apr.

, May i

July 1

Dec.

1.2

Paid legal fees of P450,000 and stock certificate costs of

P249,000 to complete organization of the corporation.

15 Hired a clown to stand in front of the corporate office for 2

weeks and hound out pamphlets and candy to create

- goodwill for the new entity. Clown cost, P30,000;

pamphlets and candy, P15,000. — .

Patented a newly developed process with costs as follows:

- Legal fees to obtain patent P1,287,000

Patent application and licensing fees 190,500

Total PL477,500

It is estimated that in 6 years other companies will have ~

developed improved processes, making the Cabuyao
Corporation process obsolete. .

Acquired both a license to use a special type of container

and a distinctive trademark to be printed on the container’
in exchange for 18,000' shares of Cabuyao’s no-par .
ordinary shares selling for P50 per share, The license is

wotth twice as much as the trademark, both of which may

be used for 6 years.

Constructed a shed for P3,930,000 to. house prototypes of

experimental models to be developed in future research
projects.
31 Incurred salaries for an engineer and chemist involved in

product development totaling P750,000 in 2010.

It is the company’s policy to take full year amortization in the year of

aitinn
RUS AION.

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Vil - Audit of Intangible Assets
QUESTIONS:

Based on the sbove anfi the result of your audit, determine -the

1. Cost of patent

a.-P1,477,500 c. 1,287,000
b P 190,500 de Po - 0.
‘2. .Cost of licenses
“a. P450;000 c. P600,000
b. . P300,000 - d. P 0
3._ Cost of trademark .
a. -P450,000 c. P600,000
b. .P300,000 a P “o
_.4. Carrying amount of Intangible Assets as of December 31, 2010
a P2,031,250 c. P1,981,250 .
b. P2,026,250 d. P- 0
§.. Total amount resulting from the foregoing transactions that should
be expensed when incurred. - :
a. P2,971,500 c. P5,424,000
b._. P1,494,000 d. P oO
Answers: 1) A; 2}C; 3) B; 4)C, 5)B
The following journal eniries to record the foregoing transactions will be —
useful in computing for the:requirements;
Jan. 2
Organization expenses. - P 699,000 -
Cash’ : ‘P 699,000
Advertising expense P- 45,C00 .
P 45.000

Cash

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vill - Audit of Intangible Assets

/ Apr. 1 -.

’ Paten P1,477,500
ts , :
Cash

P1,477,500

May 1 . .
Licenses (P900,000 x 2/3)
Trademark (P900,000 x 1/3)

Share capital (18,000 x P50)

_ Dec. 31
Research and development expense
Cash

" Question No. 1

-See journal entry for April 1.

- Question Nos. 2 & 3

See journal entry for May 1.

Question No. 4
Cost:
Patent
Licenses
Trademark
Less amortization for 2010:
Patent (P1,;477,500/6)
Licenses 0800/6)
Trademark (P300,000/6)
Carrying amount, 12/31/10

P2,377,500

Pp 699,000
45,000

neaction!

“Qeeestion No. 5
meee (Jan. 2 transaccon

ee eine expenee (Jan. 15 transaction)

R and'D expense (Dec. 31 transaction)
Total

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Vil- Audit of Intangible Assets
PROBLEM HO. 4 - Acquisition of intangible assets

Cavinti Company purchased a customer list and a formula for a total of.

P2,000,000. Cavinti uses the cash flow approach for

estimating the fair value af these two intangibles. The appropriate
interest rate is 8%. The potential future cash flows from the two
iniangibles, and their associated probabilities, are as follows:

Customer List
Outcome 1 - 20% probability of cash flows of P250,000 at the end of
each year for 5 years. oo,
Outcome 2 - 30% probability of cash flows of P150,000 at the end of
each year for4 years. .
Outcome 3 - 50% probability of cash flows of P50,000 at the end of
each year for 3 years.

Formula oO

Outcome I - 10% probability of cash flows of P1,500,000 at the end of

each year for 10 years.

Outcome 2 - 20% probability of cash flows of P500,000 at the end of

each year for 4 years.

Outcome 3 - 70% probability of cash flows of P300,000 at the end: of

each year for 3 years.

QUESTIONS:
1. The estimated fair value of the customer list is
a. P413,110 -c. P106,697
b. P 86,951 d. P541,284
2. The estimated fair value of the forrnula is .
a. P4,164,771 c. P309,687
b. P1,878,915 d. P433,485
3. ‘The cost to be allocated to the customer list is’
a. P360,476 c. P230,037-
b. P438,440 d. P395,042
4. The cost to be allocated to the formula is
a. P1,769,963-- _¢. P1,561,560
b. P1,604,958 -d. P1,639,524

~~ ee ee

VIM - Audit of Intangible Assets

Answers: 1) A; 2)B; 3) a; 4) D

‘Suggested Solution:
Question No. 1
Probability weighted
Qutcome Present value ~ :
i. 998,178 20% 199,636
2 496,319 30% 149,046
3 128,855 -50% 64,428
413,110
Question No. 2
7 Probability weighted
Outcome Presentyalue Probability / present value
“ 10,065,122 10% — 1,006,512
2 - 1,656,063° 20% 331,213
.3 - 773,129" 70% 541,190
: 1.878.215
Question Nos. 3 & 4
. Fair value Fraction Allocation
Customer list) 413,110 | 413,1}0/2,292,025 sae
Formula 1.878.915 ~ 1,878,915/2,292,025 1,639.52

PROBLEM NO. 5 - Patent, franchise, research and development

In connection with. your audit of the Liliw Corporation’s finafcial

statements for the year 2010 you noted the following items relative to

the company’s Intangible assets.

+. -A ‘patent purchased from Pansol Company for P4,000,000 on

‘the patent to be 10 yeare. The patent was carried in Pansol’a:
ace ag. records at a carrying vaiue of 74,000,000 -when vansol
VM - Audit of Intangible Assets

’« During 2010, a franchise was purchased ‘from Makiling Company

for P960,000. In addition, 5% of the revenue from the franchise
rust be paid to Makiling. Revenue from ‘the franchise for 2010 was
PS,000,000. Liliw estimates the useful life of the franchise to be 10
years and takes full year’s amortizatiqn in the year of purchase.

¢ Liliw incurred research and developrnent costs of P866,000 in 2010.

Lilie estimates that these costs will be 1ecouped by December 31,

¢ On January 1, 2010, Liliw,. because of the recent events in the -

industry, estimates that the remaining life of the patent purchased

on January 2, 2009, is only 5 years from’ January 1, 2010.

QUESTIONS:

Based on the above and the result of your audit, determine the
following: . -

1. Amortization of patent for 2010

a. P900,000 — i c. P720,000
b. P800,000 d. P400,000

2. Carrying amount of patent as of December 31, 2010

a. -P2,880,000 c. P2,700,000
b. P2,400,000 d. P3,200,000 .

3.. Carrying amount of intangible assets as of December 31,2010

a. P3,264,000 “c. . P3,564,000

b. P4,610,000 d. P3,744,000
4. Total amount that should be charged against income in 2010
a. P2,112,000 c. P2,012,000 ‘
_b. P1,066,000 © d. P1,932,000

Answers: 1) C; 2) A; 3)D; 4) D

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os

VI - Audit of Intangible Assets

Suggested Solution:
Question No. 1»
Cost of patent . P4,000,000
Less amortization in 2009 (P4,000,000/ 10) 4
Carrying amount, 1/1/10 P3,600,000
Divide by revised remaining useful life 5
Patent amortization for 2010 P_720,000
Question No. 2
| Carrying amount 3,600,000 °
f t, 1/1/10 (see no. 1 P3,600,
Less amortization in 2010 (see no. 1) 720,000
Carrying amount, 12/31/10 P2.880,000
Question No. 3 _
Cost of franchise P 960,00
Less amortization in 2010 (P960,000/ 10) =pooee
Carrying amount of franchise, 12/31/10 SS Don
Carrying amount of patent, 12/31/10 (see no. 2). _2,880,000
Carrying amount of intangible assets, 12/31 /10 P3,744,000
Question No. 4 aa
Patent amortization Cae =! 3 P yee
Franchise amortization (see no. ‘
Periodic franchise fee (PS ,000,000 x 5%} 250,000
R and D expense 866,000
P1.232,000

Total charged against income in 2010

PROBLEM NO..6 — Franchise, patent, and trademark

yelative to the company’s Intangible

You noted the following items of the Paete Corporation’s:

assets in connection. with: your audit

financial statements for the year 2010..

i nt tn onerate AR

1. 2010, Paete signed an agreement nerat

° panehinsis af Clear Copy Service, Inc. for an DE Sa a
P680. 000. Of this amourt, P200,000 was paid when the agreemen'

s signed and the balan

? 120,000 each, beginning Januery 1, 2011.

409
VIII - Audit of Intangible Assets

provides that the down payment is not refundable and no future

services are required of the iranchisor. The implicit rate for luun, of
this type is 14%. The agreement also provides the 5% of the
revenue from the franchise must be paid.to the franchisor annually.
Paete’s revenue from the franchise for 2010 was P8,000,000. Prete
estimates that the useful life of the franchise to be ten years.

e Paete incurred P624,000 of experimental and development costs in

its laboratory to develop a patent which was granted on January 2,
2010. Legal fees and another costs associated with the registration
of the patent totaled P131,200. Paete estimates that the useful life

of the patent will be eight years. h

A trademark was purchased from Teek Company for P320,600 or

July 1, 2007. Expenditures for successful litigation in defense of
the trademark totaling P80,000 were paid on July 1, 2010. Paete
estimates that the trademark’s useful life will be indefinite.

QUESTIONS:

Based on the above and the result of your audit, determine the
following: (Round off present value Sactors to ¢ decimal places)

1. Total expenses related to franchise in 2010

a. P503,914 c. P448,950
b. P535,200 d. P454,964

2. Carrying amount of franchise as of D

a. tesa esa i of December 31, 2010

c. P538,733
b. P494,680 dad: P612,000
3. Carrying amount of patent as of December 31, 2010
a. P131,200 c. P124,640
b- P114,800

d. P123,482

4. Carrying amount of trademark as of December 31, 2010

a. P320,000 c. P304,000
h PIRR_ONN d. P400,000

5. Carrying amount of intangible agsets as of December 31, 2010

a P1,046,800 c. P1,009,480
b. P 984,444 d. P 929,480

410

VIII - Audit of Intangible Assets

Answers: 1) A; 2) B; 3) B; 4) A, 5)D
Suggested Solution:

Question No. 1
Down payment

Add PV of installment payments (P120,000 x 2.9137)

Cost of franchise

Divide by useful life

Amortization of franchise
Periodic franchise fee (P8,000,000 x 5%}
Imputed interest expense (P349,644 x 14%}
Total expenses related to franchise in 2010

Question No. 2:
Cost of franchise (see no. 1)
Less amortization in 2010 (see no. 1)
Carrying amount of franchise, 12/31/10
Question No. 3

Cast. of patent

Less amortization in 2010 (P131,200/8)

Carrying amount of patent, 12/31/10

Question No. 4

Carrying amount of trademark, 12/31/10

Notes: 1) Cost of defending the trademark should be expensed. —

a PAS 38 par. 107 states that an intangible asset with an

indefinite useful life shall not be amortized.

Question No. 5

Franchise (see no. 2)

Patent (see no. 3)
Trademark (see no. 4)

a - a ’
tae on St ~ peerte 12
af intangeree aSseTt>

Oa wy a BS am ont

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VIII - Audit of Intangible Assets
PROBLEM NO. 7 ~ internally generated patent

— Loon ae, lowing information related to the Patents account

yiay ie Corporation in connection with your audit of af
company’s financial statements for the year 2010. le

In 2009, Majayjay developed a new i

UF, Maj Machine that reduces the tj
Tequired to insert the fortunes into its’ fortune cookies. Becauge i

Process is considered very valuable to the fortune “cookie industry

Majayjay patented the machine. Th i

' - mac , e following expenses were j
in developing and patenting the machine: “a _

Research and development laboratory expenses P1,000,000

Metal used in the’construction of the machine 320,000
Blueprints used to Gesign the'thachine 128,000
Legal expenses to obtain patent 480,000

Wages paid for the’employees’ work on the research,

development, and building of the machine (60% of
the time was spent in actually building the

machine) 1,200,000
Expense of drawing required by the patent office to be -

submitted with the patent application 68.000

Fees paid to the government patent office to process

application 100,000

During 2010, Majayjay paid P150,000 in legal fees to successfully

defend the patent against an infringement suit by Cookie Monster
Corporation.

It is the company’s policy to take full year amortization in the year of

acquisition.

QUESTIONS:

Based on the above and the result of your audit, determine the
following:

1. Cost of patent eee ot

Con ook “
& Po48,000 d. P 798,000

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VIII - Audit of Intangible Assets

2. Cost of machine
a P1,236,000
b. P1,648,000

c. P1,040,000
d. P1,168,000

3. Amount that should charged to expense when _incurred

connection with the development of the patented machine

a. P1,480,000 c. P1,608,000
b. P1,000,000 d. P 0
4. ing amount of patent as of December 3:1, 2010
a. P522,000 c. P1,015,200
b. P583,200 d. P 837,900

Answers: 1) B; 2) D; 3) 4; 4)B

Suggested Solution:
Question No. 1
te i P480,000
Legal expenses to obtain patent i
Expense of drawing required by the patent office 68,000
Fees paid to the government patent office 100,000
Cost of patent . P648,000
Question No. 2
i : tion of the machine P 320,000.
Metal used in the constriction sca oe

Blueprints used to design the machine

Wages paid to the employees (P1,200,000 x 60%) 720,000
Cost of machine : P1,168,000

Question No. 3

1,000,000
Research and development laboratory expenses Pl, /
Wages paid to the employees (P1,200,000 x 40%) 480,000

R & D expense PL.480,000

Question No. 4

Cost of patent (set no. 1) were

Less amortization (P648,000 x 2/20)

Carrying amount of patent, 12/31/10 P583,200

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VIII - Audit of Intangible Assets
Notes: 1) Cost of defending the patent should be expensed.

2) Since the useful life is not given, the patent was amortize

using the legal life of 20 years.

PROBLEM HO. 8 — Audit of patent

On January 2; 2002, Nagcarlan Company spent P480,000 to apply for

and obtain a patent on a newly developed product. The patent had an
estimated useful life of 10 years. At the beginning of 2006, the
company spent P144,000 in successfully prosetuting an attempted
patent infringement. At the beginning of 2007, the company purchased
for P280,000 a patent that was expected to prolong the iife of its

original patent by 5 years. On July 1, 2010, a competitor obtained’

nights to a patent that made the company’s patent obsolete.

QUESTIONS:

Based on the above and the result of your audit, determine the
following:
1. Carrying amoynt of patent as of December 31, 2006
a. P360,000 c. P369,600 —
b. P240,000 d. ° P355,200
2. Amortization of patent in 2007 -
a. P64,000 c. P52,000
b. P64,960 d. P63,520
3. Carrying amount df patents as of December 31, 2009
a. P448,000 c. P444,640
b. P454,720 d. P364,000
4. Loss on patent obsolescence in 2010
a. P338,000 c. P448,000
b. P416,000 d. P364,000

Answers: 1) B; 2) C; 3) D; 4)A4

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VI - Audit of Intangible Assets

Question No. 1
Cost of patent . P480,000
Less amortization up to 12/31/06 (P480,000 x 5/10) 240,000
Carrying amount of patent, 12/31/06 P240,000
Question No. 2
Amortization on original patent (P240,000/ 10) P24,000
Amortization on related patent (P280,000/ 10) _28,000
Total amortization in 2007 Pa2.000
Question No. 3
Original patent (P240,000 x 7/10) . P168,000
Related patent (P280,000 x 7/10) _196,000
Carrying amount of patents, 12/31/09 P264,000
Question No. 4
Carrying amount of patents, 12/31/09 P364,000

Less amortization, 1/1/10 to 7/1/10: —

Original patent (P240,000/10 x 6/12) d

Related patent (P280,000/10 x 6/ 12) _14,000 _. 26,000

Loss on patent obsolescence P338,000

PROBLEM NO. 9 — Audit of various intangible assets

cturing Corporation was incorporated on January 3,

Deed. . te cocewatinte financial statements for ite year’s operations
were not examined by a CPA. You have been engaged to examine the
financial statements for the year ended December 31, 2010, and your
examination is substantially completed. The corporations adjusted
trial balance appears as follows:

FAMY MANUFACTURING CORPORATIGN

Adjusted Trial Balance

December 31, 2010

000
Cash P110,

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Vil - Audit of Intangible Assets

VII - Audit of Intangible Assets

Debit Credi
Accounts receivable 685,000 ‘
Allowance for doubtful agcounts P5,000 c. On January 3, 2009, purchased licensing
agreement 1, which
Inventories 385,000 was believed to have a 20-year useful life. The balance in the
Machinery 750,000 licensing agreement 1 account includes its purchase price of
t 290,000 P480,000 and costs of P20,000 related to the acquisition. On
Accumulated depreciation 100,000 January 1, 2010, Famy bought licensing agreement
2, which has a
Patents 1,020,000 life expectancy of 10 years. The balance in the licensing
agreement
Prepaid expenses 105,000. 2 account included the P580,000 purchase price and
P20,000 in
O ization costs 290,000 acquisition costs, but it has been reduced by a credit of
P10,000 for
Goodwill 240,000 the advance collection of 2011 revenue from the agreement. No
Licensing agreement 1 500,000 amortization on agreement 2 has been recorded.
Licensi
hana se on 590,000 hopes In early 2010, an explosion caused a permanent 60 percent
Uneamed revesige 195 00 reduction in the expected revenue-producing value of
licensing
Share capital 8 ‘vo 0 agreement 1. No eatries have been made during 2009 or 2010
Retained ings, 1/1/2010 170.000 170,000 amortization or for the explosion in 2010.
Goat st anode sold 4,540,000 eens @. The balance in the goodwill account includes
(1) P80,000 paid
Gelling anid general expenses i'730/000 December, 30, 2009, for an advertising
program that management
Interest expense , 35-000 believes will assist in increasing Famy's sales over a
period of three
Loaa on typhoon 13 , to five years following the disbursement and (2) legal
expenses of
Totals — 120,000 _____ P160,000. incurred for Famy's incorporation on January 3,
2009.
B1L560,000 P11.560,000 No amortization has ever been recorded on the goodwill.
The following information relates to accounts that i i UESTIONS:
adjustment: : eS Sane e ia

: . th ult of your it, determine th

a. Patents for Famy's manufacturing process were acquired January 2, ajuated « the
ee ‘eit res) as of ok ot 0: e

2010 for P680,000. An additional P340,000 was spent in December

2010 to, improve machinery covered by the patents and was debited 1. Patents

to the patents account. Depreciation on operational assets has . a. P986,000 c.

P969,000

been properly recorded for 2010 in accordance with Famy's b P646. 000 a , 000

practice, which provides a full year’s depreciation for property on - , . P640,

hand as of June 30 and no depreciation otherwise. Famy uses the 2 ization’

straight-line method for all depreciation and amortization. S00 000 Costs ¢.
P217,500
. a b. P174,000 d. P 0

b. The balance in the organization costs included costs incurred

during the organization period. Famy has exercised ite option to 3. ing A t1

amortized orgunizaiion cosis over @ Gve-year period Legiuung a. Pi8Q,000 c.

Pi96,000

January 1, 2009, for income tax purposes and will.amortize these b. P172,800 ad. P
0

costs’ for accounting purposes in the same manner. No

amortization has yet beeu recorded.

416 417
_ VI - Audit of Intangible Assets
4. Licensing Agreement 2

a. P540,000 c. P531,000

b. P522,000 dP 0
5. Goodwill

a. P240;,000 c. P80,000

b. P 76,000 d. P oO.

Answers: 1) B; 2) D; 3) A; 4) A, 5).D
Suggested Solution:

Question No. 1

Unadjusted Patents, 12/31/10

Expenditures chargeable to machinery

Adjusted cost of Patents

Amortization in 2010 (P680,000/20)

Carrying amount of Patents, 12/31/10

Question No. 2

Start-up, pre-opening, and pre-operating cost should be expensed when

incurred. (PAS 38 par. 69a)

Question No. 3

Unadjusted Licensing Agreement No. 1, 12/31/10

Amortization in 2009 (P500,000/20)

Carrying amount, 12/31/09

Casualty Joss (P475,000 x 60%)

Carrying amount, after casualty loss

Amortization in 2010 (P190,000/ 19)

Carrying amount, 12/31/10

Question No. 4

Unadjusted Licensing Agreement No. 2, 12/31/10

Advance collection erroneously deducted
Adjusted cost of Licensing Agreement No. 2
Amortization in 2010 (P600,000/ 10)

Carrying amount, 12/31/10

418

P1,020,000,
(346,000)
680,000
(34,000)
P_646,000

P500,000
(25,000)

475,000
(285,000)

190,000
(10,000)
£180,900

P590,000
10,000
600,000

yi - Audit-of Intangible Assets

Question No. 5:

The expenditures for advertising and legal expenses should be expensed

when incurred.

PROBLEM NO. 10 - Audit of goodwill

Presented below are five unrelated situations. For situation no. 1,

compute for the normal earnings. for the purposes of computing
goodwill. For situations 2 to 5, compute the amount of goodwill.

1. Calauan Corporation’s pretax accounting income for the year 2010

was P1,275,000 and included the following items :

Impairment of goodwill — P 90,000

Amortization of identifiable intangibles 85,500
Depreciation on building 120,000
Loss from fire 66,000
Gain on sale of machinery 225,000
Profit-sharing payments to employees 97,500

Cavinti Corporation is planning to purchase Calauan Corporation.

in attempting to measure Calauan’s normal earnings for 2010,
Cavinti determined that the fair value of the building is triple the ©
carrying amount and that the remaining economic life is double
that used by Calauan. Cavinti would continue the profit-shanng
payments to employees; such payments are based on income before
depreciation and amortization.

a. , P1,056,000 c. P1,146,000

b. P1,206,000 d. P. 966,000

i)

On January 1, 2010, Alaminos Corporation purchased Bay

Company by paying P500,000 cash and issuing a P200,000 note
payable. At January 1, 2010, the statement of financial position of
Bay Company was as follows:

Cash P100,000° Accounts payable = P400,000

Receivables 320,000 _ Bay, capital "470,000
Inventory 200,000 P8&70.000
Land 80,000 ko?
Buildings — net 150,000
Trademark __ 20,000

419
The recorded amounts.all approximate current values except land
(worth P120,000), inventory (worth P250,000), and trademar,
{worthless}.

a. P160,000 -c. P30,000

b.. P230,000 d. P 0

3. The net assets of Famy Company excluding goodwill totaled

P2,400,000 and earnings for the last 5 years totaled P2,670,000.

Included in the latter figure are gain'on sale of equipment
P225,000, ‘typhoon loss of P120,000, and sales commissions of
P45,000. In developing a sales price for the business a 14% return
on the net worth is considered normal for the industry, and the
annual excess earnings are to be capitalized at 20% in arriving at
goodwill.

a. P885,000 c. P 930,000

b. P990,000 d. P1,050,000

Kalayaan Corporation is considering acquiring Luisiana Company

in total. Kalayaan makes the following computations and

conclusions:

¢ The fair value of the identifiable assets of Luisiana Company is

P3,600,000.

® The liabilities of Luisiana Company are P1,900,000.

* A fair estimate of the annual earnings for the indefinite future is

P600,000 per year.

e Considering the risk and potential of Lusiana Company,

Kalayaan feels that it must eam a 25% return on its investment.

a. P175,000 c. P775,000
b. P700,000 d, P600,000

. As the CEO .of Magdalena Corporation, you are considering

purchasing SP Corporation, whose statement of financial position is

summarized below:
Current assets P1,500,000 Current liabilities P1,500,060

Fixed assets, net 3,500,000 Long-term debt 2,500,000

Other assets 1,500,000 Share capital 2,000,u0U
Retained earnings $00,000
P6,500,000 P8,500,000

420

VII - Audit of Intangible Assets

Vil - Audit of Intangible Assets

The fair value~of current assets is P2,750,000 because of the
undervaluation of inventory. The normal rate of return on nct
asséts for the industry ie: P15%. The average expected annual
earnings projected for SP Corporation is P700,000. Excess earnings
will\continue for 5 years. You are considering the present value
method to compute the estimated goodwill. (Round off present value
factors to 4 decimal places)

a. P1,089,465 c. P460,928
b. P1,380,880. d. P712,343
Lad

Answers: 1) C; 2) A; 3) A; 4) B, 5)C

Suggested Solution:
Question No. 1
Pretax accounting income P1,275,000
Add: Impairment of goodwill P90,000
Loss from fire 66,000 10
1,431,000
Less: Gain on sale of machinery 225,000
Additional depreciation based on fair
value and extended life
{(P120,000 x 3.x 1/2) - P120,000] _60,000 _ 285,000
Adjusted normal earnings PL146.000

The amortization of ‘identifiable . intangibles and the profit-sharing

Payments to the employees are not part of the income adjustment

they are recurring expenses.

Question No. 2
Cash PS00,000
Note payable 200,000

Total acquisition cost 700,000

Less fair value of net assets acquired:

Cash P100,900
Receivables . 320,000
Inventory 250,000
Land 120,000

421
VIII - Audit of Intangible Assets

Buildings - net : 150,000

Equipment - net 140,000
Accounts payable {400,000} _540,000
Goodwill —-B1L60,000
Questior: ifo. 3
Total canines x the last 5 years P2,670,000
Gain on of equipment 225,000
Typtioon loss ere
Adjusted total earnings
mee tr 2,565,000
Average earnings 3
. 513,000
Less normal earnings (P2,400,000 x 14%} 336,000
Excess aanual earnings , 177,000
Divide by capitalization rate 20%
Goodwill P885,000
Question No. 4
Annual earnings
on ‘0,00:
Divide by target rate of return 2 Bes
Purchase price a 2,400,000
Less oa, a of identifiable net assets ,
» ,000 - P1,900,000
P3. ) 1,700,000
Question No, 5
Expected average earnings P700,000
Leas normal earnings {P3,750,000* x 15%) 50
Excess earnings . 137,500
PV of ordinary annuity of 1 @15% for 5 periods" __ 3.3522
Goodwill P460,928

* [P2,500,000 + (P2,750,000 - 1,500, 000¥

422

> oe
Vill - Audit of Intangible Assets
PROBLEM NO. 11 — Audit of research and development expenditures
Presented below are five unrelated situations. For each situation
compute the amount that will be classified and expensed as research

and development.

1. Mabitae Company incurred the following costs during 2010:

Quality contral during commercial production,

including routine testing of products P460,000

Laboratory research aimed at discovery of new

knowledge 540,000
Engineering follow-through in an early phase of

commercial production : 120,000

Adaptation of existing capability to a particular

requirement or customer’s need as part of
continuing commercial activity 110,000
Trouble-shooting in connection with breakdowns
during commercial production 230,000
Searching for applications of new research findings 150,000
a. P690,000 c. P1,150,000
b. P540,000 d. P1,610,000

2. Lumban Company incurred the following costs during 2010 in

connection with its research and development activities:

Cost of equipment acauired that will have

alternative uses in future research and

development projects over the next 5 years P1,400,000

Materials consumed in research and development
projects 295,000
Consuiting fees paid to outsiders for research and
development projects 500,000
Personnel costs of persons involved in research and
development projects 640,000
Indirect costs reasonably allocable to research and .
development projects 250,000
Materials purchased for future research and
development 170,000
a. P1,685,000 c. P1,465,000

b. P2,135.000 d. P1,965,000

423
VII - Audit of Intangible Assets

3. During 2010, Pangil Company incurred the foilowing costs:

Research and development services performed by

Talim Company for Pangil

Testing for evaluation of new products

Laboratory research aimed at discovery of new -

knowledge
a. P1,450,000 c. P2,150,000
b. P 850,000 d. P1,350,000

P700,000
600,000

-850,000 °

4. Rizal Company incurred the following costs during the year ended

December 31, 2010:

Design, construction, and testing of preproduction

prototypes and models

Routine, on-going efforts to refine, enrich, or

otherwise improve upon the qualities of an
existing product

Quality control during commercial production

including routine testing of products

Laboratory research aimed at discovery of new

knowledge
.8. P 630,000 c. P1,440,000
b. P1,065,000 d. P1,005,000

P435,@00

375,000
450,000

630,000

5. Victoria, Inc. incutred the foliowing custs during the year enced

December 31, 2010:

Laboratory research aimed at discovery of new

knowledge

Radical modification to the formulation of a

chemical product

Research and development costs reimbursable

under a contract to perform research and
development for Court Corporation

Testing for evaluation of new products

a. FP 855,000 c. P300,000
b. P1,380,000 d. P637,500

424

P300,000

217,500

525,000

337,500

ne
w

VII - Audit of Intangible Assets

Answers: 1) A; 2)B; 3)C; 4)B, 5)A

Suggested Solution:

To assess whether an internally generated intangible asset meets the

eniteria for recognition, entity classifies the generation of the asset into -
(a) research phase; and (b) development phase.

PAS 38 par., 54 states that no intangible asset arising from research (or
from the research: phase of an internal project) shall be recognize d.
Expenditure on research (or on the research phase of an internal project}
shail be recognized as an expense when it is incurred.

Examples of research activities are:

« Activities aimed at obtaining new knowledge

e The search for, evaluation and final selection of, applications of

-reséarch findings or other knowledge

e The search for alternatives for materials, devices, producis,

processes, systems or services

e The_formulation, design, evaluation and final selection of possible

alternatives for new or improved materials, devices, products,
processes, systems or services.

PAS 38 par, 57 states that an intangible asset arising from development

(or from development phase of an internal project) shall be recognized 1f,

and only if, an entity can demonstrate all of the following:

a) the technical feasibility of completing the intangible asset so that it

will be availubie for'use or sale.
) its intention to. complete the intangible asset and use or sell it

c) its ability to use or sell the intangible asset. 4

a) how the intangible asset will generate probable future economic

benefits. Among other things, the entity can demonstrate the
existence of a market for the output of the intangible asset or the
intangible asset itself or, if it is to be used internally, the usefulness
of the intangible asset. ;

e) the avatlabiity of adequate technical, financial and other resources to

complete the development and to use or sell the intangible usset.

f) its ability to measure reliably the expenditure attributable io the

: : a ton OD vat
intangible asset diving fs devmtupereest.

425
VIII - Audit of Intangible Assets

sig > of development activities are:

the design, construction and testing of pre- production or pre-use
prototypes and models

e the design of tools, jigs, moulds and dies involving new technology

e the design, construction and operation of a pilot plant that is not of a

scale economically feasible for commercial production

* the design, construction and testing of a.chosen alternative for new or

improved materials, devices, products, processes, systems or services

If an erttity cannot distinguish the research phase from development

phase of an internal project to create an intangible asset, the entity treats

the expenditure on that project as if it were incurred in the research

Phase only.

Because of the very strict requirements of PAS 38, all developme

expenditures in the pr problem were expensed since there are no indications

that all of the conditions were met.

Research and development activities normally occur prior to commercial

production and distribution of a product or process. Therefore, the
following activities that relate to commercial production are not
considered research and development activities:

¢ Engineering follow through in an early phase of commercial

production

Quality control during commercial production including routine testing

Trouble-shooting in connection with breakdowns during commercial

production

Routine on-going effort to refine, enrich or improve quality of an

existing product

Adaptation of an existing capability to a particular requirement or

customer need

* Periodic design changes to existing products

« Routine design of tools, jigs, molds and dies

¢ Activity, including design and construction of engineering related to

construction, relocation, rearrangernent or start-up of facilities and

equipment

Question Ho. i

Laboratory research aimed at discovery of new knowledge

P540,000
Searching for applications of new research findings 150.000
Total P690,000

426

nl
yl ; Audit of Intangible Assets

Question No. 2

Depreciation of equipment used in R & D projects

(P1,400,000/5) P 280,000
Materials consumed in R & D projects 295,000
Consulting fees paid to outsiders for R & D-projects 500,000
Personnel costs of persons involved in R & D projects 640,000
Indirect costs reasonably allocable to R & D projects ___ 250,000
Total Pi,265,000

Question No. 3

R & © services performed by Talim Company for Pangil =P 700,000

Testing for evaluation of new products 600,000

Laboratory research aimed at discovery of new

knowledge 850,000
Total P2,130,000

Question No. 4
Design, construction, and testing of preproduction

prototypes and modeis ' P 435,000

Laboratory research aimed at discovery of new
knowledge ___ 630,000
Total P1.065,000
Question No. 5
Laboratory research aimed at discovery of new poke
knowledge . . ,
Radical modification to the formulation of a chemical sine
product 7
Testing for evaluation of new products 337,500
Totai P855,000

PROBLEM NO. 12 ~ Software development expendilures

a $y Comper KISS
Lumben Softwarc Company i A% established

. ¢ i coets in the
company. In 2009, the firm incurred the following process

of designing developing and prodt

certain technology to access the Internet:

427
Vill - Audit of Intangible Assets

Dealgicg and planning P1,800,000

Code development 2,700,000
Testing 900,000
Production of product master 4,500,000

In 2010, Lumban incurred P1,800,000 in costs to produce the software

program for sale in 2010. The costs of designing and planning, code
development and testing were all incurred before the technological
feasibility of the product was established. Lumban-began marketing
the software program in 2010 and earned revenues of P4,320,000 in
2010. Lumban estimates that total revenues over the 4-year-life of the
Product will be P21,600,000. At the end of 2010, Lumban was offered
P7,200,000 for the rights to distribute the software.

QUESTIONS:
Based on the above and the result of your audit, answer the following:

1. How : i
mae of the R and D and production cost will be expensed in

. Spee c. P6,300,000
- 20, d. P5,400,000

2. How i ion
al of the R arid D and production costs will be expensed in

a
. rheaee ec. P1,575,000
29258, d. P1,260,000

Answers: 1) D; 2) A

Suggested Solutiun:

Question No. 1 .
Designing and planning P1,800,000
oo develupment 2,700,000
Feo et —— meneame & ‘Be: 2 —
MES! amount te be expenacd inf anng PS 400. on0

Pe tES Sf

428

Vill - Audit of Intangible Assets

Question No. 2
Software production cost . P1,800,000
Amortization of software development cost
(P4,500,000 x 4.32/21.6) ___ 900,000
Total amount to be expensed in 2010 P2.700,000

The amortization method used shall reflect the pattern in which the
asset's future economic benefits are expected to be consumed by the
entity. If that pattern cannot be determined reliably, the straight-line
method shall be used. The umortization charge for each period shall be
recognized in profit or loss unless permitted or required to be included
the carrying amount of another asset.

PROBLEM MO. 13 — Software development expenditures

Pagsanjan Softbytes Corporation is engaged in developing computer

software for the small business at home computer market. Most of the
computer programmers are involved in developmental work designed to
produce software that will perform fairly specific tasks in a user
friendly manner. Extensive testing of the working model is performed
before it is released to production for preparation of masters and
further testing. As a result of -careful preparation, Pagsanjan has
produced several products that have been very successful in the market
place. The following costs were incurred during 2010:

Salaries and wages of programmers doing research P940,000

Expenses related to projects prior to establishment of :
technological feasibility 313,600

Expenses related to projects after technological

feasibility has been established but before software

is available for production 198,006

Amortization of capitalized software development-cost

from current and‘prior years 107,000

Costs of produce and prepare software for sale 225,200
Additional data for 2010: .
Sales of products for the year P2,060,000
Beginning inventory 568,000
Portion of goods available for sale sold-during the year 60%

429
VIII - Audit of Intangible Assets
QUESTIONS:

Based on the above and the result of your audit, determine the
following:

1. Amount to be capitalizéd as software development cost subject to

a. P1,451,600 c. P736,800 .
b. P 198,000 d. P 0

2. Cost of ending inventory

a P270,000 c. P439;280.
b. P317,280 d. P360,080

3. Total amount related to the development of computer software

: th

should be expensed when incurred _— "

a. P1,253,600 c. P1,451,600
b. P 940,000 a PO

Answers: 1) B; 2) D;. 3) A
Suggested Solution:
Question No. 1
Amount to be capitalized as software development cost P198.000

Expenses incurred after technological feasibility has been established but

before software is available for production would be capitalized and its
amortization included in the cost of inventories.

Question No. 2
Beginning inventory P568,000
Costs of produce and prepare software for sale 225,200
Amortization of software development cost 107,000
Total cost'of goods available for sale 900,200
Percentage of ending inventory (100%-60%) 40%
Ending inventory £300,060

430

~~

vill - Audit of Intangible Assets

Question No. 3

Salaries and wages of programmers doing research P 940,000

Expenses related to projects prior to establishment

of technological feasibility ___ 313,600

Total PL.293,.600

PROBLEM NO, 14 - Impairment of intangible assets

On December 31, 2009, Siniloan Corporation acquired the following

three intangible assets:

> <A trademark for P450,000. The trademark has 7 years remaining
legal life. It is anticipated that the trademark will be renewed in the
future, indefinitely, without problem.

« Goodwill for P2,250,000. The goodwill is associated with Siniloan’s

Laguna Manufacturing reporting unit.

2 A customer list for P330,000. By contract, Siniloan has exclusive

use of the list for 5 years. Because of market conditions, it 1s
expected that the list will have economic value for just 3 years.

On December 31, 2010, before any adjusting entries for the year were
made, the following information was assembled about each of the
intangible assets:

a) Because of a decline in the economy, the trademark is now expected

to generate cash flows of just P15,000 per year. The useful life of
trademark still extends beyond the foreseeable horizon.

b) The cash flows expected to be generated by the Laguna

Manufacturing reporting unit is P375,000 per year for the next 22
years. Carrying amounts and fair values of the assets and liabilities
of the Laguna Manufacturing reporting unit are as follows:

i t Fair values
Identifiabie assets P4,050,000 4,500,000

soodwi 2,250,000 ?
ees 2700000 2, /UU, 000

c) The éash flows expected to be generated by the customer list are

P180,000 in 20 000 in 2012.

=
8

fu
0
oe
to
&

431
VII - Audit of Intangible Assets

QUESTIONS.

Based on the above and the result of your audit, determine the
following: (Assume that the appropriate discount rate for all items is 6%,

Round off present value factors to 4 decimal places):

1. Total amortization for the-year 2010

a. P110,000 c. . P212,273
b. P174,285 d. P130,285
2. Impairment loss for the year 2010
a. P135,714 . c. P200,000
b. P269,376 d. P 0
3. Carrying amount of Trademark as of Detember 31, 2010
a. P450,000 c. P385,715
b. P250,000 d. P180,624
4. Carrying amount of Goodwill as of December 31, 2010
a. P2,250,000 c. P2,147,727
b. P2,137,500 d. P2,193,750
5. .Carrying amount of Customet list as of December 31, 2010
a. P330,000 c. P220,000
b. P264,000 d. P 0

Answers: 1) A; 2)C; 3) B;,4) 4, 5)C

Suggested Solution:
Question No. 1

Amortization of customer list (P330,000/ 3) P110,000

PAS 38 par. 107 states that an intangible asset with an indefiriite useful
life shall not be amortized. Therefore, the trademark and goodurll were

23 socccte-d
MS amorasoe.

432

Vil - Audit of Intangible Assets

Question No. 2

Trademark: 50.000
Carrying amount P450,
Recoverable amount (P15,000/0.06) 250,000 200,000
Goodwill:
Carrying amount of Laguna
Manufacturing unit
(P4,050,000+P2,250,000-P2,700,000) 3,600,000
Recoverable amount (P375,000x12.0416) 4,5 15,600
Customer list:

Carrying amount (P330,000 - P1 10,000) 220,000

Recoverable amount [(P180,000 x 0.9434) -
+ (P120,000 x 0.8900)} 276,6 senae
Total impairment loss 90,00:

PAS 36 par, 8 states that an asset is impai ired , us eee a nih

exceeds i able amount. Carrying amount

eat i s eoognized after deducting any accumulated depreciation

(amortization) ad accumulated impairment losses thereon. Recoverab e
cunt of re asset or a cash-generating unit is the higher of its fair value
less costs to’ sell and its value in use.

; PAS 36 par.
ide the fair value less costs to sell.
vid te ey determine fair value less costs to sell

btainable from the sale of a na

potest ioenmedpantle a uslling pares = ee may Fe
asset’ in use as yecoverable amou ‘alue in use

eracont yakaa of the future cash flows expected to be derived from an

asset or cash generating unit.

vice F determined.. Therefore, the recoverable

ndividual asset cannot be ; ; vhich goodwill
aaiwint ie determined for the cash gene g unit to
belongs.
Quester: No. 2 450,000

Cost of ia _ 200,000

ess i irment loss

Less ea ematst of trademark, 12/31/10 P250,000
433
~~ ee.

VII - Audit of Intangible Assets VIII - Audit of Intangible Assets

Ques 3. How much will be recogni ‘

tom Ne. 4 aGLOe | gnized as revaluation sirphis on January 1,

Since goodwill is not amortized and is not impaired as of 12/31/10, a. P270,000 c.

P495,000
the carrying amount is P2,250,000. b. P180,000 6 P315,000
Question No. §
. Answers: 1) A; 2) B; 3) D

Cost of customer list P330,000 ,

Less amortization in 2010 110,000 Suggested Solution:

Carrying amount of customer list 12/31/10 P220.000 :

vuestion No. 1
PROBLEM NO. 15 — Impai t and revaluation of li Z Carrying amount, 1/1/08 (P450,000
x 4.5/5) P405,000
Recoverable amount _135.000
A license is acquired July 1, 2007, for P450,000; while it has a legal life
Impairment loss P270.900
of 1S years, due to rapidly changing environment, management ;
estimates a useful life of only 5 years. Straight-line amortization will be ast es
3B
used. At January 1, 2008, management estimated that the recoverable Carrying amount
without impairment, 1/1/16
amount of the license is only P135,000. Amortization will be taken over (P450,000 x
2.5/5) Palas SOO
3 years from that point. Carrying amount, 1/1/10 (P135,000 x 1/3) (_ 45.090)
Gain on impairment recovery 180,000

On January 1, 2010, due to the change in general economic situations 1 i i

the license now has a fair value of P540,000. The entity adopted the An. impairment
loss recognized in prior periods for an asset other than
revaluation model to measure the license starting January 1, 2010. The goodwill
shall be, reversed if, and only if, there has been a change in the
estimated remaining useful life is now believed to be 5 years. ‘ estimates used to
determine the asset’s recoverable amount since the

last impairment loss was recognized. If this is the case, the carrying
amount of the asset shall be increased te its recoverable amount. Thai
increase is a reversal of an impairment loss. (PAS 36 par. 114)

QUESTIONS:

Based on the above and the result of your audit, determine the

- ing: ' The increased carrying amount of an asset other than goodwill
attributable to a reversal of an impairment loss shall not exceed the
:. Hew much is the loss on impairment on J » 1 2008? carrying amount that would
have been determined (net of amortization or
a. P270,000 c. P225,000 , | depreciation) had no impairment loss been recognized
for the asset in
b. P300,000 d. P 0 prior years. (PAS 36 par. 117)
2. How much can be recognized as gain on impairment recovery in Question No. 3
2010? : P540,000
a. P270,000 Fair value, 1/1/10 PS40,0¢
%. Pi80,000 c. P495,000 Carrying amount, 1/1/15 (F19035,000 x 1/3) {_45,000)
b. P180,000 d. P315,000 Increase in value 495,000
Gain on impairment recovery (see no. 2) {180,000}
Revaluation surplus . Bei

435
434
VI - Audit of Intangible Assets

If an intangible asset’s carrying amount 1s increased as a result of q

revaluation, the increase shall be recognized in other comprehensive
income. and accumulated in equity under. the heading of revaluation
surplus. However, the increase shall be recognized in profit or loss to the
extent that it reverses a revaluation decrease of the same asset

previously recognized in profit or loss.

PROBLEM NO. 16 — Substantive audit procedures for intangible assets

Select the best answer for each of the following:

1. An auditor has set an audit objective of determining whether

research and development projects were properly authorized.
Which of the following audit techniques will best meet this
objective? ‘

a. Inquiry

b. Observation

c, Analytical review

d. Inspection of documents

2. An entity developed a new secret formula which is of great value

because it resulted in a virtual monopoly. The entity has capitalized
all research and development costs associated with this formula.
The CPA who is examining this account, will probably
a. Confirm that the secret formula is registered and on file with the
county clerk’s office

b. Confer with management regarding a change in the title of the

account to “goodwill.”

c. Confer with management regarding transfer of the amount from

the statement of financial position to the income statement.

d. Confer’ with management regarding ownership of the secret

formula.

The most effective means for the auditor to determine whether a

recorded intangible agcset possesses the characteristics of an asset

is to
a. Evaluate the future revenne-oroducing capacity of the intangible

asset.
b. Analyze research and development expenditures fo determine
that only those expenditures possessing future economic benefit

have been capitalized.

436

\
VIII - Audit of Intangible Assets

c. Vouch the purchase by reference to underlyi i

, ¢ lying documentation.
d. Inquire as to the status of patent applications

4. The auditee has just acquired another company by purchasing all

its assets. As a result of the purchase, “goodwill” has been recorded
on the auditee's books. Which of the following comparisons would
be the most appropriate audit test for the amount of recorded
goodwill?

a. The purchase price and the book value of assets purchased.

b. The figure for goodwill specified in the contract for purchase.

c. Earnings in excess of 15% of net assets for the past five years.

d. The purchase price and the fair market value of assets

purchased.

5. In verifying the amount of goodwill recorded by a client, the most

convincing evidence which an auditor can obtain is by comparing
the recorded value of aésets acquired with the
a. Assessed value as evidence by tax bills.

b. Appraised value as evidenced by independent appraisals.

c. Seller’s book value as evidenced by financial statements
d. Insured value as evidence by insurance companies

6 In auditing intangible assets, an auditor most lixely would review or

recompute amortization and determine whether the amortization
period is reasonable in support of management’s financial
statement assertion of
a. Completeness
b. Valuation and allocation
c. Existence or occurrence
d. Rights and obligations

7. There is goodwill involved in the acquisition of a business if the

purchase price paid is in excess of the proprietorship of the
business acquired.

Goodwill might be viewed as the enjoyment of a profit by a company

in‘excess of the normal or usual return for the industry as a whole

but such goodwill is not recorded if it has not been purchased or

paid fur. .
a. False; True c. False; False
b. True; False d. Truc; True

437