Accounting for Goodwill and Other Intangible Assets

CHAPTER 1Recognizing Intangible Assets

A. Introduction and Background

For financial reporting purposes, “intangible assets” consist of assets (not including financial assets) that lack physical substance.¹ Intangible assets are getting more and more important to companies and their owners as the economies of many developed countries have changed from industrial to knowledge-based. The manufacturing/industrial value chain is no longer the primary driver of value creation; it is innovation and constantly seeking new ways of meeting market demands. Companies seek to differentiate themselves through the creation or acquisition of intangible assets to create competitive advantages. With the increased importance of their intangible assets, the need for relevant and reliable financial information for their existence and valuation is increasing.

The necessity of valuing intangible assets as accurately as possible is tied to the growing significance of such assets.² The FASB put the situation more mildly: “At the inception of [FAS 142], the [FASB] observed that intangible assets make up an increasing proportion of the assets of many (if not most) entities.”³ With such a large percentage of total assets classified as intangible assets, it no longer takes an extremely large error to affect financial statements. Even small valuation errors, if made repeatedly, can mushroom into very large valuation errors on the financial statements.⁴

Comment

The relevance of intangible assets has ...