IAS38 - Intangible Assets

The new International Accounting Standard (IAS) 38 was issued in March 2004 and applied to the accounting for intangible assets from 31 March 2004.

An intangible asset is an asset that is not physical in nature.

Examples would include brand names or goodwill. Prior to the release of this new Accounting Standard, all intangible assets (including brand names) were listed as an asset on the balance sheet regardless of whether they were generated internally – made valuable by the business itself through effective marketing and market share (e.g. Coke brand) or a brand that had been bought by the business from another business.

Under the new standard IAS 38 an intangible asset will be initially recognised at cost if the following 3 conditions are met:

  1. The asset meets the definition of an intangible asset - identified and controlled by the business.
  2. It is probable that future economic benefits will flow to the business and
  3. The cost of the asset can be measured reliably.

If an intangible asset does not meet these three conditions then it cannot be recognised as an asset on the balance sheet of the financial statements. This will be significant for companies that have a lot of balance sheet value in their intangible assets – such as those whose brand names are very valuable.

It is currently possible to inflate the value of an intangible asset which would give a business a higher net worth than what is really there. This would mean that potential investors would look at the financial statements and the company would show a better financial position than what is actually true.

However, the new standard disadvantages companies who have spent a lot of time building very valuable brand names which form a substantial part of their assets. They could end up wiping a lot of value off their books which would mean that their net worth will decrease, even though the business could be very successful.

An example of this is a brewery that has many different beer brands, some internally generated and others which they have bought. Having to write off the value of the internally generated brands will affect their financial position and the financial statements. This will make it tricky for the average investor to understand why earnings have changed so much between financial years and could affect their investment decisions.

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