DE LA SALLE UNIVERSITY MANILA

RVR – COB DEPARTMENT OF ACCOUNTANCY

ACYAUDI Term 3 AY 2023 - 2024

AP Module 5 Prof. Francis H. Villamin

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AUDIT OF INTANGIBLE ASSETS

EXISTENCE - to determine that the intangible asset exists and are represented by contractual rights,
privileges or earning power owned by the company.
goodwill → total acquisition
Audit Procedure:
a. Obtain an analysis of ledger accounts for intangible assets
b. Examine documentation supporting intangibles

related assertion RIGHTS AND OBLIGATIONS - to determine whether the intangible assets are owned by the company.

Audit Procedure:
a. Perform analytical review procedures

COMPLETENESS - to determine whether all transactions related to intangibles have been properly
recorded.

Audit Procedure:
a. Vouch additions or acquisitions during the year.
b. Evaluate dispositions and write offs during the year

VALUATION AND ALLOCATION - to determine whether intangibles are stated at cost less amortization

Audit Procedure:
a. Evaluate amortization policy and verify computation of amortization

PRESENTATION AND DISCLOSURE - to determine whether intangible assets are properly presented
and classified in the financial statements in accordance with PAS/PFRS.

Audit Procedure:
a. Evaluate financial statement presentation and disclosure for intangible assets.

DEFINITION:
Per PAS 38 an “Intangible asset is an identifiable non monetary asset without physical substance.

RECOGNITION:
An intangible asset shall be recognized if:
1. it is probable future economic benefits that are attributable to the asset will flow to the enterprise.
2. the cost of the asset can be measured reliably

MEASUREMENT:
a. Initial measurement – an intangible asset should be measured initially at cost. Measurement
depends on the specific manner of acquiring the intangible asset as follows:
1. Separate Acquisition
Cost of the asset includes the purchase price plus other costs directly attributable in
preparing the asset for its intended use.

When an intangible asset is separately acquired by issuance of the company’s own shares of
stock, the cost of the asset is the fair value of the shares issued or the fair market value of
the intangible asset acquired whichever is clearly determinable.

If an intangible asset is acquired on a deferred payment basis, its cost is the cash price
equivalent. The difference between this amount and the total payments is recognized as an
interest expense over the credit period.
AP Module 5 Audit of Intangible Assets 2

2. Acquisition in Business Combination

If an intangible asset is acquired in a “purchase” business combination, the cost of the
intangible asset is based on its fair value on the date of acquisition.

3. Acquisition by way of government grant

Definition - a government grant is assistance by government in the form of transfers of
resources to an entity both monetary and non monetary, in return for past or future
compliance with certain conditions relating to the operating activities of the entity.

4. Acquisition by exchanges of assets

Cost of the intangible asset is measured at fair market value unless the exchange transaction
lacks commercial substance.

5. Internally generated assets part of R&D expense

Cost includes all directly attributable costs necessary to create, produce and prepare the
asset to be capable of operating it in the manner intended by management.

PAS 38 specifically provides that “internally generated brands, mastheads, publishing

titles, customer lists and items similar in substance shall not be recognized as
intangible assets.

b. Subsequent measurement
An entity shall choose either the cost model or revaluation model as its accounting policy.

COST MODEL
An intangible asset shall be carried at cost less any accumulated amortization and less
accumulated impairment loss.

REVALUATION MODEL
An intangible asset shall be carried at revalued amount, less any subsequent amortization
and any subsequent accumulated impairment loss. The revalued amount is the fair value at
the date of revaluation and is determined by reference to an active market.

Amortization:
This is the systematic allocation of the cost or revalued amount of intangible assets, less any
residual value as an expense over the asset’s useful life.

1. Intangible assets with Finite useful lives

Depreciable cost shall be allocated on a systematic basis over its useful life.

2. Intangible assets with indefinite useful lives

Such asset shall not be amortized but are tested for impairment at least annually whenever
there is an indication that the intangible asset may be impaired. It shall be reviewed each
period to determine whether events and circumstances continue to support an indefinite
useful life assessment for that asset.

Subsequent expenditure - shall be recognized as an expense since they are likely to maintain
only the expected future economic benefits embodied in the intangible asset, and may only be
capitalized or added to the cost of the intangible asset if the following criteria are met:
1. It is probable that future economic benefits that are attributable to the subsequent
expenditure will flow to the entity.
2. The subsequent expenditure can be measured reliably.

IMPAIRMENT
An impairment loss on an intangible asset is recognized if its recoverable amount is less than the carrying
amount.

DERECOGNITION OF AN INTANGIBLE ASSET

An intangible asset shall be derecognized on disposal or when no future economic benefits are expected
from its use and disposal. Gain or loss arising from derecognition of an intangible asset shall be
determined as the difference between the net disposal proceeds, if any and the carrying amount of the
asset. This amount is recognized in profit or loss in the period when the asset is derecognized and
accounted for as Other Income.

EXAMPLES OF INTANGIBLE ASSETS:

1. Patents 20 years (legal life) or economic life, whichever is shorter
It is an exclusive legal right granted by the government for an invention to enable its holder to
manufacture, sell and control an item or process for a specified period of time.
2. Copyright life of author + 50 years after death
A copyright is an exclusive right granted by the government to the author, composer or artist,
enabling him to publish, sell or otherwise benefit from his literary, musical or artistic work.
AP Module 5 Audit of Intangible Assets 3

3. FRANCHISE
An exclusive right or privilege received by a business or individual called franchisor to another
party called the franchisee to perform certain functions or sell certain products or services.

4. TRADEMARK 10 years
An exclusive right granted by a national government that permits the use of distinctive symbols,
labels and designs. This may be protected legally with registration in Philippine Patent Office.

5. GOODWILL
Goodwill is an intangible asset which arises when earnings exceed normal earnings by reason of
good relationship between a business and its customers.
6. COMPUTER SOFTWARE
Computer software which is not an integral part of the related hardware is considered an
intangible asset, otherwise if it is an integral part of a computer controlled machine that cannot
operate without the specific software, it is classified as PPE.

7. LEASEHOLD
Leasehold is the right acquired by the lessee by virtue of contract of lease to use the specific
property owned by the lessor for a definite period of time in consideration for a certain sum of
money.

RESEARCH AND DEVELOPMENT COSTS

Per PAS 38, to assess whether an internally generated intangible asset meets the criteria for recognition,
an entity classifies the generation of the asset into a research phase and a development phase.

Research is original and planned investigation undertaken with the prospect of gaining new scientific or
technical knowledge and understanding. All expenditures incurred on research or in the research
phase of an internal project shall be recognized as expense when incurred.

Examples of research activities:

a) Laboratory research aimed at obtaining or discovering new knowledge.
b) Searching for application of research finding and other knowledge.
c) Conceptual formulation and design of possible product or process alternative.

Development is the application of research findings or other knowledge to a plan or design for the
production of new or substantially improved materials, devices, products, processes, systems or services
before the start of commercial production or use.

Examples of development activities:

a) Design, construction and testing of preproduction prototype and model.
b) Design of tools, jigs, molds and dies involving new technology.
c) Design, construction and operation of a pilot plant that is not of a scale economically feasible to the
enterprise for commercial production.
d) Design, construction and testing of a chosen alternative for new or improved product or process.

Note: Property, plant and equipment or intangible assets acquired for research and development that do
not have alternative future use should be charged o research and development expense. If the property,
plant and equipment or intangibles have an alternative future use; the depreciation or amortization shall
be charged to research and development expense.

Unable to distinguish research phase from development phase

If an entity cannot distinguish the research phase of an internal project to create an intangible asset from
the development phase, the entity treats the expenditure for that project as if it were incurred in the
research phase only.

Activities that are not considered research and development

Research and development activities typically occur prior to the beginning of commercial production and
distribution of a product or process.

The following examples relate to commercial production thus are not research and development costs:
1) Engineering follow through in an early phase of commercial production.
2) Quality control during commercial production including routine testing.
3) Trouble shooting breakdown during production.
4) Routine on-going effort to refine, enrich or improve quality of an existing product.
5) Adaptation of an existing capability to a particular requirement or customer need.
6) Periodic design changes to existing products.
7) Routine design of tools, jigs, molds and dies.
8) Activity, including design and construction engineering related to construction, relocation,
rearrangement or start-up of facilities and equipment.
AP Module 5 Audit of Intangible Assets 4

Multiple Choice – Theory

1. The cost of an intangible asset includes all of the following except

a. purchase price.
b. legal fees.
c. other incidental expenses.
d. all of these are included.

2. Factors considered in determining an intangible asset’s useful life include all of the following
except
a. the expected use of the asset.
b. any legal or contractual provisions that may limit the useful life.
c. any provisions for renewal or extension of the asset’s legal life.
d. the amortization method used.

3. Under current accounting practice, intangible assets are classified as

a. amortizable or unamortizable.
b. limited-life or indefinite-life.
c. specifically identifiable or goodwill-type.
d. legally restricted or goodwill-type.

4. Companies should evaluate indefinite life intangible assets at least annually for:
a. recoverability.
b. amortization.
c. impairment.
d. estimated useful life.

5. One factor that is not considered in determining the useful life of an intangible asset is
a. salvage value.
b. provisions for renewal or extension.
c. legal life.
d. expected actions of competitors.

6. Which intangible assets are amortized?

Limited-Life Indefinite-Life
a. Yes Yes
b. Yes No
c. No Yes
d. No No

7. The cost of purchasing patent rights for a product that might otherwise have seriously competed
with one of the purchaser's patented products should be
a. charged off in the current period.
b. amortized over the legal life of the purchased patent.
c. added to factory overhead and allocated to production of the purchaser's product.
d. amortized over the remaining estimated life of the original patent covering the product whose
market would have been impaired by competition from the newly patented product.

8. Intangible assets are reported on the statement of financial position

a. with an accumulated depreciation account.
b. in the property, plant, and equipment section.
c. as a separate item.
d. None of these choices are correct.

9. Wriglee, Inc. went to court this year and successfully defended its patent from infringement by a
competitor. The cost of this defense should be charged to
a. patents and amortized over the legal life of the patent. legal expense in defending
b. legal fees and amortized over 5 years or less. the patent → expensed
c. expenses of the period.
d. patents and amortized over the remaining useful life of the patent.

10. Which of the following is not an intangible asset?

a. Trade name
b. Research and development costs
c. Franchise
d. Copyrights

11. Which of the following intangible assets should not be amortized?

a. Copyrights
b. Customer lists
c. Perpetual franchises
d. All of these intangible assets should be amortized.
AP Module 5 Audit of Intangible Assets 5

12. When a patent is amortized, the credit is usually made to

a. the Patent account.
b. an Accumulated Amortization account.
c. an Accumulated Depreciation account.
d. an expense account.

13. When a company develops a trademark the costs directly related to securing it should generally
be capitalized. Which of the following costs associated with a trademark would not be allowed to
be capitalized?
a. Attorney fees.
b. Consulting fees.
c. Research and development fees.
d. Design costs.

14. In a business combination, the excess of the cost of the purchase over the fair value of the
identifiable net assets purchased is:
a. other assets.
b. indirect costs.
c. goodwill. whether positive or negative
d. a bargain purchase.

15. Goodwill may be recorded when:

a. it is identified within a company.
b. one company acquires another in a business combination.
c. the fair value of a company’s assets exceeds their cost.
d. a company has exceptional customer relations.

16. When a new company is acquired, which of these intangible assets, unrecorded on the acquired
company’s books, might be recorded in addition to goodwill?
a. A trade name.
b. A patent.
c. A customer list.
d. All of the above.

17. Which of the following intangible assets could not be sold by a business to raise needed cash for
a capital project?
a. Patent.
b. Copyright.
c. Goodwill.
d. Trade name.

18. The reason goodwill is sometimes referred to as a master valuation account is because
a. it represents the purchase price of a business that is about to be sold.
b. it is the difference between the fair value of the net identifiable assets as compared with the
purchase price of the acquired business.
c. the value of a business is computed without consideration of goodwill and then goodwill is
added to arrive at a master valuation.
d. it is the only account in the financial statements that is based on value, all other accounts are
recorded at an amount other than their value.

19. Purchased goodwill should

a. be written off as soon as possible against retained earnings.
b. be written off as soon as possible as an other expense item.
c. be written off by systematic charges as a regular operating expense over the period
benefited.
d. not be amortized.

20. The intangible asset goodwill may be

a. capitalized only when purchased.
b. capitalized either when purchased or created internally.
c. capitalized only when created internally.
d. written off directly to retained earnings.

21. A loss on impairment of an intangible asset is the difference between the asset’s
a. carrying amount and the expected future net cash flows.
b. carrying amount and its recoverable amount.
c. recoverable amount and the expected future net cash flows.
d. book value and its fair value.

22. Recovery of impairment is recognized for all the following except

a. Patent held for sale.
b. Patent held for use.
c. Trademark.
d. Goodwill.
AP Module 5 Audit of Intangible Assets 6

23. All of the following are true regarding recovery of impairments for intangible assets except:
a. After a recovery of impairment has been recognized, the carrying value of the asset reported
on the statement of financial position will be the higher of the fair value less cost to sell or the
value-in-use. lower
b. No recovery of impairment is allowed for Goodwill.
c. A recovery of impairment will be reported in the "Other income and expense" section of the
income statement.
d. The amount of the recovery is limited to the carrying value of the asset that would have been
reported had no impairment occurred.

24. Which of the following is not a criteria which must be met before development costs can be
capitalized?
a. The company has sufficient financial resources to complete the project.
b. The company intends to complete the project and either use or sell the intangible asset.
c. The company can reliably identify the research costs incurred to bring the project to
economic feasibility.
d. The project has achieved technical feasibility.

25. Which of the following research and development related costs should be capitalized and
depreciated over current and future periods?
a. Research and development general laboratory building which can be put to alternative uses
in the future
b. Inventory used for a specific research project
c. Administrative salaries allocated to research and development
d. Research findings purchased from another company to aid a particular research project
currently in process

26, 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

27. 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.

28. The most effective means for the auditor to determine whether a recorded intangible asset
possesses the characteristics of an asset is to
a. Evaluate the future revenue-producing capacity of the intangible asset.
b. Analyze research and development expenditures to determine that only those expenditures
possessing future economic benefit have been capitalized.
c. Vouch the purchase by reference to underlying documentation.
d. Inquire as to the status of patent applications.

29. 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 assets 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

30. In auditing intangible assets, an auditor most likely 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
 AP Module 5 Audit of Intangible Assets 7

Problem 1 Audit of Various Intangible Assets

The following costs are generally incurred by a newly established entity:

organization expense Pre-opening of a business facility 250,000
technology Purchased recipes and secret formulas 150,000
organization expense Training, customer loyalty and market share 140,000
Licensing, royalty and stand-still agreement 300,000
Operating and broadcasting rights 112,000
Goodwill purchased in a business combination separate item in the SFP 500,000
A license to manufacture a steroid by means of a government grant 150,000
research expense Cost of courses taken by management in quality engineering management 450,000
advertising expense A television advertisement that will stimulate the sales in technology industry 100,000
Investment in associate 500,000
6 month lease payment in advance 300,000
PPE Cost of equipment acquired through a finance lease 100,500
Internally developed customer list 120,500
deduction Cost incurred in the corporation's formation and organization 230,000
organization expense Operating losses incurred in the start-up of the business 130,000
Initial franchise fees paid 175,000
Continuing franchise fees 50,000
Internally generated goodwill 800,000
Cost of testing in search for a product alternative 125,000
Cost of purchasing a patent from an inventor 137,000
Legal cost in securing a patent 70,000
Legal cost incurred in successfully defending a patent 55,500
Cost of developing brands, mastheads and publishing title 200,000
Cost of purchasing a trademark 250,000
PPE Computer software for a computer-controlled machine that cannot operate without
that specific software 325,500
An operating system of a computer 125,000
Amount paid to a lessor for the exclusive right to rent a facility under an operating
lease agreement for a period of 10 years 100,000
Cost of improvements on a leased facility 250,000

How much from the above items can be recognized as intangible assets?

Purchased recipes and secret formulas 150,000

Licensing, royalty and stand-still agreement 300,000
Operating and broadcasting rights 112,000
Goodwill purchased in a business combination 500,000
A license to manufacture a steroid by means of a government grant 150,000
Initial franchise fees paid 175,000
Cost of purchasing a patent from an inventor 137,000
Legal cost in securing a patent 70,000
Cost of purchasing a trademark 250,000
Amount paid to a lessor for the exclusive right to rent a facility under an operating
lease agreement for a period of 10 years 100,000
Intangible Assets 1,944,000

Problem 2 – Recognition and measurement of intangible assets

In connection with your audit of the Apollo Corporation, you noted the following transactions during 2024:

Jan. 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.

Apr. 1 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 P1,477,500

It is estimated that in 6 years other companies will have

developed improved processes, making the Apollo Corporation
AP Module 5 Audit of Intangible Assets 8

process obsolete.

May 1 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 Apollo’s no-par ordinary shares selling for
P50 per share. The license is worth twice as much as the
trademark, both of which may be used for 6 years.

July 1 Constructed a shed for P3,930,000 to house prototypes of

experimental models to be developed in future research projects.

Dec. 31 Incurred salaries for an engineer and chemist involved in product

development totaling P750,000 in 2024.

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
a. P1,477,500 c. P1,287,000
b. P 190,500 d. P 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 d. P 0

4. Carrying amount of Intangible Assets as of December 31, 2024

a. P2,031,250 c. P1,981,250
b. P2,026,250 d. P 0

5. 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 0

The following journal entries to record the foregoing transactions will be useful in computing for
the requirements:

Jan. 2
Organization expenses P 699,000
Cash P 699,000

Jan. 15
Advertising expense P 45,000
Cash P 45,000

Apr. 1
Patents P1,477,500
Cash P1,477,500

May 1
Licenses (P900,000 x 2/3) P 600,000
Trademark (P900,000 x 1/3) 300,000
Share capital (18,000 x P50) P 900,000

Jul. 1
Building P3,930,000
Cash P3,930,000

Dec. 31
Research and development expense P 750,000
Cash P 750,000

Question No. 1

See journal entry for April 1.

AP Module 5 Audit of Intangible Assets 9

Question Nos. 2 & 3

See journal entry for May 1.

Question No. 4

Cost:
Patent P1,477,500
Licenses 600,000
Trademark 300,000 P2,377,500
Less amortization for 2022:
Patent (P1,477,500/6) 246,250
Licenses (P600,000/6) 100,000
Trademark (P300,000/6) 50,000 396,250
Carrying amount, 12/31/24 P1,981,250

Question No. 5

Organization expenses (Jan. 2 transaction) P 699,000

Advertising expense (Jan. 15 transaction) 45,000
R and D expense (Dec. 31 transaction) 750,000
Total P1,494,000

Problem 3 – Patent, franchise, research and development

In connection with your audit of the Explorer Corporation’s financial statements for the year
2024 you noted the following items relative to the company’s Intangible assets.

• A patent was purchased from Rover Company for P4,000,000 on January 2, 2023.
Explorer estimated that the remaining useful life of the patent to be 10 years. The patent
was carried in Rover’s accounting records at a carrying value of P4,000,000 when Rover
sold it to Explorer.

• During 2024, a franchise was purchased from Echo Company for P960,000. In addition,
5% of the revenue from the franchise must be paid to Echo. Revenue from the franchise
for 2024 was P5,000,000. Explorer estimates the useful life of the franchise to be 10 years
and takes full year’s amortization in the year of purchase.

• Explorer incurred research and development costs of P866,000 in 2024. Explorer

estimates that these costs will be recouped by December 31, 2027.

• On January 1, 2024, Explorer, because of the recent events in the industry, estimates that
the remaining life of the patent purchased on January 2, 2023, is only 5 years from
January 1, 2024.

QUESTIONS:

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

1. Amortization of patent for 2024

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

2. Carrying amount of patent as of December 31, 2024

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, 2024

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 2024

a. P2,112,000 c. P2,012,000
b. P1,066,000 d. P1,932,000
AP Module 5 Audit of Intangible Assets 10

Suggested Solution:

Question No. 1

Cost of patent P4,000,000

Less amortization in 2023 (P4,000,000/10) 400,000
Carrying amount, 1/1/24 P3,600,000
Divide by revised remaining useful life 5
Patent amortization for 2024 P 720,000

Question No. 2

Carrying amount, 1/1/24 (see no. 1) P3,600,000

Less amortization in 2024 (see no. 1) 720,000
Carrying amount, 12/31/24 P2,880,000

Question No. 3

Cost of franchise P 960,000

Less amortization in 2024 (P960,000/10) 96,000
Carrying amount of franchise, 12/31/24 864,000
Carrying amount of patent, 12/31/24 (see no. 2) 2,880,000
Carrying amount of intangible assets, 12/31/24 P3,744,000

Question No. 4

Patent amortization (see no. 1) P 720,000

Franchise amortization (see no. 3) 96,000
Periodic franchise fee (P5,000,000 x 5%) 250,000
R and D expense 866,000
Total charged against income in 2024 P1,932,000

Problem 4

The following information reflects the different modes of acquiring an intangible asset. For each of the
following independent scenarios, answer the requirements that follow:

Case 1 - On January 2, 2024, ABC Inc. acquired copyrights to the original recordings of a famous singer.
The agreement with the singer allows the company to record and rerecord the songs of the singer for a
period of five years. During the initial six-month period of the agreement, the singer was very sick and
consequently cannot record. The studio time that was blocked by the company had to be paid even
during the period the singer could not sing. The following costs were incurred by the company:

Legal cost of acquiring the copyrights P10,000,000

Documentation expenses related to the copyright acquisition 1,000,000
Operational loss (studio time lost, etc.) 2,000,000
Massive advertising campaign to launch the artist 1,000,000

Required:
1. How much should the copyright be initially recognized?
2. What is the carrying value of the copyright as of December 31, 2024?
3. What is the carrying value of the copyright as of December 31, 2024, assuming that the company
expects to generate P50M in revenue from sales of the artist’s work and that the company’s revenue
as of December 31, 2024 from the artist’s work is at P15M?

Solution:
Legal cost of acquiring the copyrights 10,000,000
Documentation expenses related to the copyright acquisition 1,000,000
Copyright, 1/2 11,000,000 1
Amortization (11M/5 years) (2,200,000)
Copyright, 12/31 8,800,000 2

Copyright, 1/2 11,000,000

15M/50M = 30%-100% 70%
Copyright, 12/31 7,700,000 3
 AP Module 5 Audit of Intangible Assets 11

Case 2 - Papa Inc. acquired the net assets of DEF Inc. on June 30, 2024 in a business combination. The
cost of acquisition is P2,000,000 more than the total fair market value of the company’s identifiable net
assets. Among the identifiable assets are the following intangibles:

Book value Fair market value Estimated

remaining life
Trademark 250,000 400,000 4 (400,000 / 4) x 6/12 = Php 50,000
Customer lists 500,000 750,000 3 (750,000 / 3) x 6/12 = Php 125,000
Franchise 200,000 350,000 5 (350,000 / 5) x 6/12 = Php 35,000

Required:
1. How much is the total intangibles including goodwill to be initially recognized?
2. What is the total carrying value of the various intangibles including goodwill on December 31, 2024?

CA, 6/30 Amortization CA,12/31

Goodwill 2,000,000 2,000,000
Trademark 400,000 50,000 350,000
Customer lists 750,000 125,000 625,000
Franchise 350,000 35,000 315,000
Total intangibles 3,500,000 3,290,000
1 2

Case 3 - On December 30, 2023, GHI. was granted by the government licenses to operate radio and
television stations over a 10-year period. The fair market value of similar licenses is at P1,500,000. The
company paid professional and other processing fees totaling P50,000.

Required:
1. How much should the license be initially recognized?
2. What is the carrying value of the license on December 31, 2024?

Fair market value 1,500,000

Professional and other processing fees 50,000
License, 1/1 1,550,000 1
Amortization (1,550,000/10 years) (155,000)
License, 12/31 1,395,000 2

Case 4 - On December 30, 2023, JKL Co. obtained a franchise from XYZ Corp . to sell for 20 years
mango products. The initial franchise fee as agreed upon shall be P10,000,000 and shall be payable in
cash, P1,000,000, when the contract is signed and the balance in five equal annual instalments every
December 31 thereafter, as evidenced by a noninterest bearing note. The agreement provides the
franchisor shall provide the necessary initial services required under a franchise contract. By the end of
the year, the company has performed all the initial services which cost XYZ Corp. P1,497,728.
Required:
Assuming that the franchisee could borrow money at 12%, determine the following:
1. How much should the franchise be initially recognized?
2. What is the carrying value of the franchise on December 31, 2024?

Down Payment 1,000,000

Notes payable 1,800,000 3.6048 6,488,640
Franchise,1/1 7,488,640 1
Amortization (7,488,640/ 20 years) (374,432)
Franchise,12/31 7,114,208 2
AP Module 5 Audit of Intangible Assets 12

Problem 5

Net income and net asset balances for a five-year period for Stallion, Inc. are shown in the table below:

Year Earnings before Income Taxes Net Assets at end of year

2024 P35,000 P400,000
2023 50,000 420,000
2022 65,000 450,000
2021 100,000 500,000
2020 150,000 630,000
400,000 2,400,000
Camelot agrees to purchase the net assets at the beginning of 2025 and pay cash for the properties on
the following basis:
1) 10% is considered a normal return of Stallion investments.
2) Payment for goodwill is to be calculated by capitalizing at 20% of the average pre-tax earnings in
excess of 10% of average year-end net assets.

If both parties agree that the net assets reported are accepted values, compute the amount of goodwill
to be recognized.

Calculation of Goodwill

Average year-end net assets:

(P2,400,000  5) P 480,000

Average annual earnings

(P400,000  5) P 80,000
Less: Normal return on average year-end assets
(10% x P480,000) 48,000
Excess annual earnings P 32,000

Excess annual earnings capitalized at 20% or Goodwill

P32,000  20% = P160,000