Intangible Assets

Intangible assets include a wide array of assets ranging from patents and trademarks to goodwill. The accounting standards vary across intangible assets.

1. Patents and Trademarks

Patents and trademarks are valued differently depending on whether they are generated internally or acquired. When patents and trademarks are generated from internal sources, such as research, the costs incurred in developing the asset are expensed in that period even though the asset might have a life of several accounting periods. Thus, the intangible asset is not usually valued in the balance sheet of the firm. In contrast, when an intangible asset is acquired from an external party, it is treated as an asset.

Intangible assets have to be amortized over their expected lives, with a maximum amortization period of 40 years. The standard practice is to use straight-line amortization. For tax purposes, however, firms are not allowed to amortize goodwill or other intangible assets with no specific lifetime.

2. Goodwill

Intangible assets are sometimes the by-products of acquisitions. When a firm acquires another firm, the purchase price is first allocated to tangible assets and then allocated to any intangible assets such as patents or trade names. Any residual becomes

1 Firms have evaded the requirements of consolidation by keeping their share of ownership in other firms below 50%.

goodwill. While accounting principles suggest that goodwill captures the value of any intangibles that are not specifically identifiable, it is really a reflection of the difference between the market value of the firm owning the assets and the book value of assets. This approach is called purchase accounting and it creates an intangible asset (goodwill) which has to be amortized over 40 years. Firms, which do not want to see this charge against their earnings, often use an alternative approach called pooling accounting, in which the purchase price never shows up in the balance sheet. Instead, the book values of the two companies involved in the merger are aggregated to create the consolidated balance of the combined firm.2

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