TOPIC – 8
ACCOUNTING STANDARD - 26
INTANGIBLE ASSETS
TOTAL NO. OF QUESTIONS - 15
[Link].01:
ABC Ltd. developed know-how by incurring expenditure of Rs. 20 lacs. The know-how was used
by the company from 1.04.20X1. The useful life of the intangible is 10 years from the year of
commencement of its use. The company has not amortised the asset till 31.03.20X8. Pass
journal entry to give effect the value of know-how as per AS 26 for the year ending 31.03.20X8.
[Link].02: (MTP May20 & Nov21)
During 20X1-X2, an enterprise incurred costs to develop and produce a routine low risk
computer software product, as follows:
Particular Rs.
Completion of detailed program and design (Phase 1) 50,000
Coding and Testing (Phase 2) 40,000
Other coding costs (Phase 3&4) 63,000
Testing costs (Phase 3&4) 18,000
Product masters for training materials (Phase 5) 19,500
Packing the products (1,500 units) (Phase 6) 16,500
After completion of phase 2, it was established that the product is technically feasible for the market.
You are required to state how the above referred cost to be recognized in the books of accounts.
[Link].03: (Exam Jan21)
A Company acquired for its internal use a software on 01.03.2020 from U.K. for £ 1,50,000. The
exchange rate on the date was as Rs. 100 per £. The seller allowed trade discount @ 2.5%.
The other expenditures were:
i) Import Duty 10%
ii) Additional Import Duty 5%
iii) Entry Tax 2% (Recoverable later from tax department).
iv) Installation expenses Rs. 1,50,000.
v) Professional fees for clearance from customs Rs. 50,000.
Compute the cost of software to be Capitalized as per relevant AS.
8.1
[Link].04: (RTP May20; EXAM Nov20)
A company acquired patent right for Rs 1200 lakhs. The product life cycle has been estimated to be 5
years and the amortization was decided in the ratio of estimated future cash flows which are as under:
Year 1 2 3 4 5
Estimated future cash flows (Rs. in lakhs) 600 600 600 300 300
After 3rd year, it was ascertained that the patent would have an estimated balance future life of 3 years
and the estimated cash flow after 5th year is expected to be Rs 150 lakhs. You are required to determine
the amortization pattern under Accounting Standard 26.
[Link].05: (RTP Nov20)
X Ltd. carried on business of manufacturing of Bakery products. The company has two
trademarks "Sun" and "Surya''. One month before, the company comes to know through one
of the marketing managers that both trademarks have allegedly been infringed by other
competitors engaged in the same field. After investigation, legal department of the company
informed that it had weak case on trademark “Sun” and strong case in regard to trademark
“Surya”'. X Ltd. incurred additional legal fees to stop infringement on both trademarks. Both trademarks
have a remaining legal life of 10 years. How should X Ltd. account for these legal costs incurred relating
to the two trademarks?
[Link].06: (RTP May18 & Nov18, MTP May22)
A company acquired a patent at a cost of Rs 160 lakhs for a period of 5 years and the product life cycle
is also 5 years. The company capitalized the cost and started amortising the asset at Rs. 16 lakhs per
year based on the economic benefits derived from the product manufactured under the patent. After 2
years it was found that the product life cycle may continue for another 5 years from then (the patent is
renewable and the company can get it renewed after 5 years). The net cash flows from the product during
these 5 years were expected to be Rs. 50 lakhs, Rs. 30 lakhs, Rs. 60 lakhs, Rs. 70 lakhs and Rs. 40 lakhs.
Find out the amortization cost of the patent for each of the years.
[Link].07: (Old Course)
Vishnu Ltd. is engaged in research on a new process design for its product- It had incurred an
expenditure of Rs. 265.37 lakhs on research upto 31stMarch, 2003. The development of the
process began on 1st April, 2003 and the Development Phase Expenditure was Rs. 180 lakhs
upto 31stMarch, 2004. From 1stApril, 2004 the Company will implement the new process design
which will result in a after-tax cost saving of Rs. 40 lakhs per annum for the next five years.
The Company's Cost of Capital is 10%. At what cost should the asset be recorded and what is its
amortisation amount?
[Link].08: (MTP Nov22) (EXAM Nov20)
Honey Ltd. is in the process of developing a new production method. During the financial year ended 31st
March, 2021, total expenditure incurred on development of this production method was Rs. 98,00,000. On
1st Jan, 2021, the production method met the criteria as an intangible asset and expenditure incurred till
8.2
this date was Rs. 68,00,000. Further expenditure incurred on the new method was Rs. 72,00,000 for the
year ended 31st March, 2022 and recoverable amount of the know how embodied in the new method for
this financial year is Rs. 52,00,000.
You are required to calculate:
(1) The carrying amount of the Intangible asset on 31stMarch, 2021.
(2) The expenditure to be shown in Statement of Profit and Loss for the year ended 31st March, 2022.
(3) The carrying amount of the Intangible asset on 31st March, 2022.
[Link].09: (RTP May21)
Naresh Ltd. had the following transactions during the financial year 2019 -2020:
(i) Naresh Ltd. acquired running business of Sunil Ltd. for Rs. 10,80,000 on 15th May, 2019.
The fair value of Sunil Ltd.'s net assets was Rs. 5,16,000. Naresh Ltd. is of the view that
due to popularity of Sunil Ltd.’s product in the market, its goodwill exists.
(ii) Naresh Ltd. had taken a franchise on July 2019 to operate a restaurant from Sankalp Ltd. for Rs.
1,80,000 and at an annual fee of 10% of net revenues (after deducting expenditure). The franchise
expires after 6 years. Net revenues were Rs. 60,000 during the financial year 2019-2020.
(iii) On 20th August, 2019, Naresh Ltd, incurred costs of Rs. 2,40,000 to register the patent for its product.
Naresh Ltd. expects the patent’s economic life to be 8 years.
Naresh Ltd. follows an accounting policy to amortize all intangibles on straight line basis over the
maximum period permitted by accounting standards taking a full year amortization in the year of
acquisition. Goodwill on acquisition of business to be amortized over 5 years (SLM) as per AS 14.
Prepare a schedule showing the intangible assets section in Naresh Ltd. Balance Sheet at 31st March,
2020.
[Link].10:
The company had spent ₹ 45 lakhs for publicity and research expenses on one of its new
consumer product, which was marketed in the accounting year 20X1-20X2, but proved to be
a failure. State, how you will deal with the following matters in the accounts of U Ltd. for the
year ended 31st March, 20X2.
[Link].11:
A company with a turnover of Rs.250 crores and an annual advertising budget of Rs.2 crores
had taken up the marketing of a new product. It was estimated that the company would have
a turnover of Rs.25 crores from the new product. The company had debited to its Profit and
Loss account the total expenditure of Rs.2 crore incurred on extensive special initial
advertisement campaign for the new product.
Is the procedure adopted by the company correct?
8.3
[Link].12:
AB Ltd. launched a project for producing product X in October, 20X1. The Company incurred
Rs.20 lakhs towards Research. Due to prevailing market conditions, the Management came
to conclusion that the product cannot be manufactured and sold in the market for the next
10 years. The Management hence wants to defer the expenditure write off to future years.
Advise the Company as per the applicable Accounting Standard.
[Link].13:
Swift Ltd. acquired a patent at a cost of Rs.80,00,000 for a period of 5 years and the product
life-cycle is also 5 years. The company capitalised the cost and started amortizing the asset
at Rs.10,00,000 per annum. After two years it was found that the product life-cycle may
continue for another 5 years from then. The net cash flows from the product during these 5 years were
expected to be Rs.36,00,000, Rs.46,00,000, Rs.44,00,000, Rs.40,00,000 and Rs.34,00,000. Find out the
amortisation cost of the patent for each of the years.
[Link].14
What is the criteria for recognition and measurement of Internally generated intangible assets. Describe
which kind of cost is considered for capitalisation with respect to provisions of AS 26. Whether the same
applies for internally generated goodwill also?
[Link].15: (Exam Nov19)
As per provisions of AS-26, how would you deal to the following situations:
(1) Rs 23,00,000 paid by a manufacturing company to the legal advisor for defending the
patent of a product is treated as a capital expenditure.
(2) During the year 2018-19, a company spent Rs 7,00,000 for publicity and research expenses on one of
its new consumer product which was marketed in the same accounting year but proved to be a failure.
(3) A company spent Rs 25,00,000 in the past three years to develop a product, these expenses were
charged to profit and loss account since they did not meet AS-26 criteria for capitalization. In the
current year approval of the concerned authority has been received. The company wishes to capitalize
Rs 25,00,000 by disclosing it as a prior period item.
(4) A company with a turnover of Rs 200 crores and an annual advertising budget of
Rs 50,00,000 had taken up for the marketing of a new product by a company. It was estimated that
the company would have a turnover of Rs 20 crore from the new product.
The company had debited to its Profit & Loss Account the total expenditure of Rs 50,00,000 incurred on
extensive special initial advertisement campaign for the new product.
8.4
SOLUTIONS OF ABOVE QUESTIONS
SOLUTION Q01
Journal Entry
Particulars Dr. Amount Cr. Amount
Profit and Loss A/c (PPI) Dr. 12,00,000
Amortisation A/c Dr. 2,00,000
To Know How A/c 14,00,000
(Being depreciation of 7 Years out of which 6
years dep charged as Prior Period Item)
**As per AS 26 “Intangible Assets”, there is a rebuttable presumption that the useful life of an intangible
asset will not exceed ten years from the date when the asset is available for use. Amortisation should
commence when the asset is available for use.
SOLUTION: Q02
As per AS 26, costs incurred in creating a computer software product should be charged to research and
development expense when incurred until technological feasibility / asset recognition criteria has been
established for the product. Technological feasibility / asset recognition criteria have been established
upon completion of detailed program design, coding and testing. In this case, Rs. 90,000 would be recorded
as an expense (Rs. 50,000 for completion of detailed program design and Rs. 40,000 for coding and testing
to establish technological feasibility/asset recognition criteria). Cost incurred from the point of
technological feasibility/asset recognition criteria until the time when products costs are incurred are
capitalized as software cost (63,000+18,000+19,500)=Rs.1,00,500. Packing cost Rs.16,500 should be
recognized as expenses and charged to P&LA/c.
SOLUTION: Q03
Calculation of cost of software (intangible asset) acquired for internal use
Purchase cost of the software £ 1,50,000
Less: Trade discount @ 2.5% £ (3,750)
£1,46,250
Cost in Rs. (UK £1,46,250 x Rs. 100) 146,25,000
Add: Import duty on cost @ 10% (Rs.) 14,62,500
160,87,500
Add: Additional import duty @ 5% (Rs.) 8,04,375
168,91,875
Add: Installation expenses (Rs.) 1,50,000
Add: Professional fee for clearance from customs (Rs.) 50,000
Cost of the software to be capitalized (Rs.) 170,91,875
Note: Since entry tax has been mentioned as a recoverable / refundable tax, it is not included as part of
the cost of the asset.
SOLUTION: Q04
Amortization of cost of patent as per AS 26
Year Estimated future cash flow Amortization Amortized Amount
(Rs in lakhs) Ratio (Rs in lakhs)
1 600 .25 300
2 600 .25 300
3 600 .25 300
4 300 .40 (Revised) 120
5 300 .40 (Revised) 120
6 150 .20 (Revised) 60
8.5
1,200
In the first three years, the patent cost will be amortized in the ratio of estimated future cash flows i.e.
(600: 600: 600: 300: 300).
The unamortized amount of the patent after third year will be Rs 300 lakh (1,200-900) which will be
amortized in the ratio of revised estimated future cash flows ([Link]) in the fourth, fifth and sixth
year.
SOLUTION: Q05
As per AS 26, subsequent expenditure on an intangible asset after its purchase or its completion should
be recognized as an expense. However, if the subsequent expenditure enables the asset to generate future
economic benefits in excess of its originally assessed standard of performance or can be measured and
attributed to the asset reliably, then such subsequent expenditure should be added to the cost of the
intangible asset.
The legal costs incurred for both the trademarks do not enable them to generate future economic benefits
in excess of its originally assessed standard of performance. They only ensure to maintain them if the
case is decided in favour of the company. Therefore, such legal costs incurred for both trademarks must
be recognized as an expense.
SOLUTION: Q06
Company amortized Rs 16,00,000 per annum for the first two years. Hence, Amortization for the first two
years (Rs 16,00,000 X 2) = Rs 32,00,000.
Remaining carrying cost after two years =Rs 1,60,00,000 – Rs 32,00,000
= Rs 1,28,00,000
Since after two years it was found that the product life cycle may continue for another 5 years, hence
the remaining carrying cost Rs128 lakhs will be amortized during next 5 years in the ratio of net cash
arising from the sale of the products of Fast Limited.
The amortization cost of the patents may be computed as follows:
Year Net cash flows Rs Amortization Ratio Amortization Amount Rs
I - 0.1 16,00,000
II - 0.1 16,00,000
III 50,00,000 0.2 25,60,000
IV 30,00,000 0.12 15,36,000
V 60,00,000 0.24 30,72,000
VI 70,00,000 0.28 35,84,000
VII 40,00,000 0.16 20,48,000
Total 250,00,000 1.000 160,00,000
SOLUTION Q07
Research Expenditure: As per Para 41 of AS-26, the expenditure on research Rs. 265.37 lakhs should be
expensed in the year in which it is incurred. It is presumed that the entire expenditure of Rs. 265.37 lakhs
is incurred in financial year 2002-2003. Hence, it should be written off as an expense in that year itself.
Development Expenditure: As per para 44 of AS-26, the expenditure on development can be treated as an
asset only if all the conditions listed in that paragraph are satisfied. It is presumed that the company
has duly complied with this requirement.
Cost of internally generated intangible asset: Para 53 specifies the items which can be included in the
cost of an internally generated intangible asset, while Para 54 specifies the exclusions there from. It is
presumed that the expenditure of Rs.180 lakhs is determined in accordance with Para 53 and 54 of AS-
26.
Discounting Future Cash Flows: As per Para 30 of AS-26, fair value of an intangible asset can be estimated
by discounting estimated future net cash flows. Even if this paragraph is primarily related to estimation
of fair value of an intangible asset acquired in the course of amalgamation in the nature of purchase, the
concept can be extended for internally generated intangible asset also.
Cost savings from the new process design for five = Rs. 40 lakhs per year
8.6
Company's Cost of Capital = 10%
Annuity Factor at 10% for five years = 3.7908
(from the annuity tables)
Present value of future cash flows =Rs. 40 x 3.7908= Rs. 151.63 lakhs
Carrying Amount of the Asset: Since the Present Value of Future Cash Flows is only Rs. 151.63 lakhs,
(which is lower than the cost of Rs.180 lakhs), it is prudent to recognise an impairment loss of Rs. 180.00
lakhs - Rs. 151.63 lakhs = Rs. 28.37 lakhs in the financial year 2003-2004.
Amortisation Period and Amount: The Company can amortise Rs. 151.63 lakhs over a five-year period by
charging Rs. 30.33 lakhs per annum from the financial year 2004-2005 onwards.
SOLUTION Q08
As per AS 26 ‘Intangible Assets’
(i) Carrying value of intangible asset as on 31.03.2021
At the end of financial year, on 31st March 2021, the production process will be recognized (i.e.,
carrying amount) as an intangible asset at a cost of Rs. 30 (98-68) lacs (expenditure incurred
since the date the recognition criteria were met, i.e., from 1stJanuary, 2021).
(ii) Expenditure to be charged to Profit and Loss account for the year ended 31.03.2022
(Rs. in lacs)
Carrying Amount as on 31.03.2021 30
Expenditure during 2021–2022 72
Book Value 102
Recoverable Amount (52)
Impairment loss 50
Rs. 50 lakhs to be charged to Profit and loss account for the year ending 31.03.2022.
(iii) Carrying value of intangible asset as on 31.03.2022
(Rs. in lacs)
Book Value 102
Less: Impairment loss (50)
Carrying amount as on 31.03.2022 52
SOLUTION: Q09
Naresh Ltd.
Balance Sheet (Extract relating to intangible asset) as on 31st March 2020
Note No. Rs.
Assets
(1) Non-current assets
1 8,11,200
Intangible assets
Notes to Accounts (Extract)
Rs. Rs.
1. Intangible assets
Goodwill (Refer to note 1) 4,51,200
Franchise (Refer to Note 2) 1,50,000
Patents (Refer to Note 3) 2,10,000 8,11,200
Working Notes:
Rs.
(1) Goodwill on acquisition of business
Cash paid for acquiring the business (purchase 10,80,000
8.7
consideration)
Less: Fair value of net assets acquired (5,16,000)
Goodwill 5,64,000
Less: Amortisation as per AS 14 ie. over 5 years (as per (1,12,800)
SLM)
Balance to be shown in the balance sheet 4,51,200
(2) Franchise 1,80,000
Less: Amortisation (over 6 years) (30,000)
Balance to be shown in the balance sheet 1,50,000
(3) Patent 2,40,000
Less: Amortisation (over 8 years as per SLM) (30,000)
Balance to be shown in the balance sheet 2,10,000
Note: Amortisation shall commence from the date when Asset is acquired or available for use. Hence, in
this question, policy followed by company to charge full year amortization in the year of purchase is not
justified.
SOLUTION Q10
In the given case, the company spent ₹ 45 lakhs for publicity and research of a new product which was
marketed but proved to be a failure. It is clear that in future there will be no related further revenue/benefit
because of the failure of the product. Thus according to AS 26 ‘Intangible Assets’, the company should
charge the total amount of ₹ 45 lakhs as an expense in the profit and loss account.
SOLUTION Q11
According to AS 26 ‘Intangible Assets’, “expenditure on an intangible item should be recognised as an
expense when it is incurred unless it forms part of the cost of an intangible asset”.
AS 26 mentions that expenditure on advertising and promotional activities should be recognised as an
expense when incurred. Marketing & Promotional Expenses can’t give us an assumption of FEB. Hence,
FEB is not certain to be received.
In the given case, advertisement expenditure of Rs.2 crores had been taken up for the marketing of a new
product which may provide future economic benefits to an enterprise by having a turnover of Rs.25 crores.
Here, no intangible asset or other asset is acquired or created that can be recognised. Therefore, the
accounting treatment by the company of debiting the entire advertising expenditure of Rs.2 crores to the
Profit and Loss account of the year is correct.
SOLUTION Q12
As per para 41 of AS 26 “Intangible Assets”, expenditure on research should be recognised as an expense
when it is incurred. Hence, the expenses amounting Rs.20 lakhs incurred on the research has to be written
off in the current year ending 31st March, 20X2.
SOLUTION Q13
Swift Limited amortised Rs.10,00,000 per annum for the first two years i.e. Rs.20,00,000. The remaining
carrying cost can be amortised during next 5 years on the basis of net cash flows arising from the sale
of the product. The amortisation may be found as follows:
Year Net Cash Flows Amortisation Ratio Amortisation Amt.
1 - 0.125 10,00,000
2 - 0.125 10,00,000
3 36,00,000 0.180 10,80,000
4 46,00,000 0.230 13,80,000
5 44,00,000 0.220 13,20,000
6 40,00,000 0.200 12,00,000
8.8
7 34,00,000 0.170 10,20,000
Total 2,00,00,000 1.000 80,00,000
It may be seen from above that from third year onwards, the balance of carrying amount i.e., Rs.60,00,000
has been amortised in the ratio of net cash flows arising from the product of Swift Ltd.
Note: The answer has been given on the basis that the patent is renewable and Swift Ltd. got it renewed
after expiry of five years
SOLUTION Q14
To assess whether an internally generated intangible asset meets the criteria for recognition, an enterprise
classifies the generation of the asset into 2 phases:
⮚ Research Phase &
⮚ Development Phase
Research Phase - The expenses related to Research phase is expensed off in statement of Profit and loss.
Development Phase - 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 prior to the commencement of commercial production or use.
An intangible asset arising from development (or from the development phase of an internal project)
should be recognised if, and only if, an enterprise can demonstrate all of the conditions given in para 6.15.
Cost of an Internally Generated Intangible Asset
The cost of an internally generated intangible asset is the sum of expenditure incurred from the time
when the intangible asset first meets the recognition criteria. Reinstatement of expenditure recognised
as an expense in previous annual financial statements or interim financial reports is prohibited.
The cost of an internally generated intangible asset comprises all expenditure that can be directly
attributed, or allocated on a reasonable and consistent basis, to creating, producing and making the asset
ready for its intended use from the time when the intangible asset first meets the recognition criteria.
For details, refer para 6.16.
Internally generated goodwill is not recognised as an asset because it is not an identifiable resource
controlled by the enterprise that can be measured reliably at cost.
ANSWER: Q15
As per AS 26 “Intangible Assets”, subsequent expenditure on an intangible asset after its purchase or its
completion should be recognized as an expense when it is incurred unless (a) it is probable that the
expenditure will enable the asset to generate future economic benefits in excess of its originally assessed
standard of performance; and (b) expenditure can be measured and attributed to the asset reliably. If
these conditions are met, the subsequent expenditure should be added to the cost of the intangible asset.
(i) In the given case, the legal expenses to defend the patent of a product amounting Rs 23,00,000 should
not be capitalized and be charged to Profit and Loss Statement.
(ii) The company is required to expense the entire amount of Rs 7,00,000 in the Profit and Loss account
for the year ended 31stMarch, 2019 because no benefit will arise in the future.
(iii) As per AS 26, expenditure on an intangible item that was initially recognized as an expense by a
reporting enterprise in previous annual financial statements should not be recognized as part of the
cost of an intangible asset at a later date. Thus, the company cannot capitalize the amount of Rs
25,00,000 and it should be recognized as expense
(iv) Expenditure of Rs 50,00,000 on advertising and promotional activities should always be charged to
Profit and Loss Statement. Hence, the company has done the correct treatment by debiting the sum
of 50 lakhs to Profit and Loss Account.
8.9
Student Notes:-
8.10
