Long-lived assets are resources a company owns and uses in its operations for more than one year. They are expected to provide economic benefits over an extended period. While a company may have many valuable resources, accounting standards are specific about which ones can be formally recognized as assets on the balance sheet.
Intangible assets are identifiable, non-monetary assets that do not have a physical form. Common examples include patents, copyrights, trademarks, and franchise rights.
IFRS Recognition Criteria for Intangible Assets
Under IFRS, for an identifiable intangible asset to be recognized on the balance sheet, it must meet several criteria:
- Identifiable: The asset can be separated from the company or arises from contractual or legal rights.
- Control: The company must have control over the asset.
- Future Economic Benefits: It is expected to generate future economic benefits such as revenue or cost savings for the company. This must be probable.
- Reliable Measurement: The cost of the asset can be measured reliably.
Methods of Acquiring Intangible Assets
The accounting treatment for an intangible asset depends on how it was acquired.
A. Assets Acquired Outside of a Business Combination
This refers to purchasing an intangible asset directly, not as part of acquiring an entire company.
- The asset is initially recorded at its fair value at the time of acquisition, which is typically its purchase price.
- The cost is classified as an investing cash outflow on the cash flow statement.
- If multiple assets are bought together in a lump-sum purchase, the total purchase price is allocated to each individual asset based on their relative fair market values.
B. Internally Developed Intangible Assets
This covers assets a company creates for itself, such as a new patent from its research efforts. The accounting rules differ significantly between IFRS and U.S. GAAP.
| Standard |
Treatment of Research & Development (R&D) Costs |
| IFRS |
IFRS splits R&D into two phases:
1. Research Phase: All costs in this phase are expensed as incurred.
2. Development Phase: Costs in this phase can be capitalized (recorded as an asset) if specific criteria are met, demonstrating the project's technical and commercial viability.
|
| U.S. GAAP |
Generally, all R&D costs for internally created intangibles are expensed.
A major exception exists for certain software development costs, which can be capitalized after technological feasibility has been established.
|
C. Assets Acquired in a Business Combination
When one company acquires another, the intangible assets of the acquired company are recorded using the acquisition method.
- The total purchase price is allocated to each identifiable asset and liability of the acquired company based on their fair values.
- Goodwill is created when the acquisition price is greater than the fair value of the net identifiable assets (tangible assets + identifiable intangible assets - liabilities).
IFRS vs. U.S. GAAP Separation Rules:
- IFRS: Any unidentifiable assets are simply recognized as part of goodwill.
- U.S. GAAP: An acquired intangible asset must be reported separately from goodwill if it meets specific contractual/legal or separability criteria.
Impairment occurs when an asset's carrying value on the balance sheet exceeds its recoverable amount. Derecognition is the removal of an asset from the financial statements.
Impairment of Property, Plant & Equipment (PP&E)
- PP&E is not tested for impairment on a regular schedule.
- Instead, a company must assess for impairment when there are indicators of impairment (triggering events).
- Financial Statement Impact: Reduces asset carrying amount, decreases net income, increases leverage ratios, but has no direct impact on operating cash flow (non-cash expense).
Impairment Recognition: IFRS vs. U.S. GAAP
IFRS: One-Step Approach
Under IFRS, an asset is impaired if its Carrying Amount > Recoverable Amount.
- Carrying Amount: The asset's value on the balance sheet (historical cost less accumulated depreciation).
- Recoverable Amount: The higher of:
- 1. Fair Value less Costs to Sell
- 2. Value in Use (present value of future cash flows from continued use)
- Impairment Loss = Carrying Amount - Recoverable Amount
Example (IFRS)
A machine has a carrying amount of $100,000. Its fair value less costs to sell is $75,000, and its value in use is $80,000.
- Determine Recoverable Amount: Higher of $75,000 and $80,000 = $80,000
- Test for Impairment: $100,000 > $80,000, so the asset is impaired
- Calculate Loss: $100,000 - $80,000 = $20,000 impairment loss
U.S. GAAP: Two-Step Approach
- Step 1: Recoverability Test. Asset is tested for impairment only if Carrying Amount > Undiscounted Future Cash Flows.
- Step 2: Loss Measurement. If failed, impairment loss = Carrying Amount - Fair Value.
Example (U.S. GAAP)
A machine has carrying amount of $100,000, undiscounted cash flows of $90,000, fair value of $75,000.
- Step 1: $100,000 > $90,000, asset fails recoverability test
- Step 2: Impairment loss = $100,000 - $75,000 = $25,000
Reversals of Impairment Losses
| Standard |
Reversal Policy |
| IFRS |
Allows reversal of impairment losses for both assets held for use and held for sale, up to previous carrying amount before impairment. |
| U.S. GAAP |
Prohibits reversal for assets held for use. Reversals allowed only for assets held for sale. |
Both IFRS and U.S. GAAP require detailed disclosures about long-lived assets to help analysts understand a company's financial position.
Common Disclosures for PP&E (Both Standards)
- Depreciation methods used
- Gross carrying amount and accumulated depreciation
- Depreciation expense for the period
Impairment Loss Disclosures
| IFRS Disclosures |
U.S. GAAP Disclosures |
- Total amount of impairment losses and reversals by asset class
- Main events and circumstances causing impairments
|
- Description of impaired asset
- Factors leading to impairment
- Fair value determination method
- Amount and location of impairment loss
|
The detailed disclosures about long-lived assets can be used to calculate several important analytical ratios.
Fixed Asset Turnover Ratio
Fixed Asset Turnover = Total Revenue / Average Net Fixed Assets
What it means: Measures how efficiently a company uses its fixed assets to generate sales. Higher ratio suggests better asset utilization.
Example
Company reports revenue of $500,000. Net fixed assets: beginning $180,000, ending $220,000.
- Average Net Fixed Assets = ($180,000 + $220,000) ÷ 2 = $200,000
- Turnover Ratio = $500,000 ÷ $200,000 = 2.5
- Company generates $2.5 in revenue for every $1 of fixed assets
Asset Age Ratios
These ratios help estimate the age and remaining life of a company's asset base.
Average Asset Age
Average Age = Accumulated Depreciation / Depreciation Expense
Remaining Useful Life
Remaining Useful Life = Net PPE / Depreciation Expense
Example (Asset Age Analysis)
Company data: Accumulated Depreciation = $60,000; Annual Depreciation = $10,000; Net PPE = $40,000
- Average Age: $60,000 ÷ $10,000 = 6 years
- Remaining Life: $40,000 ÷ $10,000 = 4 years
Straight-Line Depreciation Analysis
Annual Depreciation Expense
Annual Depreciation = (Total Historical Cost - Salvage Value) / Estimated Useful Life
Estimated Total Useful Life
Estimated Life = (Total Historical Cost - Salvage Value) / Annual Depreciation
Example (Depreciation Analysis)
Equipment cost: $120,000; Salvage value: $20,000; Useful life: 10 years
- Annual Depreciation: ($120,000 - $20,000) ÷ 10 = $10,000/year
- Verification: ($120,000 - $20,000) ÷ $10,000 = 10 years ✓
1. Investment Property Fair Value Model
Under IAS 40, companies can choose Cost Model or Fair Value Model.
In the example, it says:
"The company does not use the cost model for investment properties."
That means the Fair Value Model is used.
Fair Value Model rule:
- Re-measure at fair value every year.
- Gains/losses go to Profit or Loss affects net income.
2. Plant Revaluation Model
Plant is Property, Plant & Equipment, so IAS 16 applies.
IAS 16 allows Cost Model or Revaluation Model.
In the example, it says:
"The company does not use the cost model for PPE."
That means the Revaluation Model is used.
Revaluation Model rule:
- Re-measure at fair value.
- Gains go to OCI (Revaluation Surplus) NOT net income.
Why Plant Gain Doesn't Hit Net Income
Because IAS 16 sends revaluation gains to equity (OCI), not the income statement.
Shortcut to remember:
- IAS 40 Fair Value Model Profit or Loss
- IAS 16 Revaluation Model OCI
Key Exam Areas
Long-term assets analysis is high-yield material. Master these areas:
- Depreciation methods (straight-line vs. accelerated)
- Impairment testing - IFRS one-step vs. US GAAP two-step
- Capitalization vs. expensing and financial statement impacts
- Revaluation model (IFRS only)
- Asset age and turnover ratios
ESSENTIAL FORMULAS
Straight-Line Depreciation:
Annual Depreciation = (Cost Salvage Value) / Useful Life
Double-Declining Balance:
DDB Rate = 2 / Useful Life
Annual Depreciation = Book Value at Beginning × DDB Rate
Fixed Asset Turnover:
Fixed Asset Turnover = Revenue / Average Net Fixed Assets
Average Asset Age:
Average Age = Accumulated Depreciation / Annual Depreciation Expense
Estimated Remaining Life:
Remaining Life = Net PPE / Annual Depreciation Expense
Capitalized Interest:
Capitalized Interest = Average Expenditure × Interest Rate
Impairment Loss (IFRS)
Impairment = Carrying Amount Recoverable Amount
where:
Recoverable Amount = max(Fair Value Costs to Sell, Value in Use)
COMMON PITFALLS
IFRS vs. US GAAP Impairment: IFRS uses a one-step test comparing carrying amount to recoverable amount. US GAAP uses a two-step test: first compare to undiscounted cash flows (recoverability), then measure loss using fair value.
Salvage Value in Depreciation: Straight-line subtracts salvage value before dividing by life. For DDB, salvage value is NOT used in the formula but acts as a floor—you cannot depreciate below salvage value.
Impairment Reversals: IFRS allows reversal of impairment (except goodwill). US GAAP prohibits reversals for assets held for use. This is a frequent exam trap.
Net vs. Gross PPE: Use Net PPE (after accumulated depreciation) for remaining life calculations and turnover ratios, not gross PPE.
Research vs. Development Costs: Research costs are ALWAYS expensed under both standards. IFRS allows capitalization of development costs if criteria are met. US GAAP expenses R&D except software after technological feasibility.