Accounting Treatment of Intangible Assets

news report Treatment of nonphysical As limit Draft Pace University ACC692 summer I By Yigal Rechtman July 30, 2001 Introduction What is the problem? accounting for impalpables has gained prominence in the erstwhile(prenominal) few decades referable to changes in the direction the business world operates. The technological revolution and in particular, the culture age, has brought impalpable resources to the onward of the business environment.Businesses ( even the most traditional production manufacturers ( be moving towards an education age where a competitive run into is increasingly linked to resources nearly reason(a) than the fixed and liquid assets as netherstood by princip eithery Accepted Accounting Principles (generally accepted story principles). Some look into has shown that account for impalpable asset additions (IA) a usual landmark that leave be delimit and separated later allow for fulfill the accuracy requirement of the story functions a nd reports. Other research has shown that accuracy ordain expect to be traded off with relevance of the accounting functions and reports. understood some early(a) research claims that n both accuracy nor relevance argon served by accounting for resources that do non meet the actual definitions of Assets under generally accepted accounting principles. Accordingly, thither ar dickens questions regarding the accounting for IA 1. Should the Generally Accepted Accounting Principles recognize as fiscally relevant and accurate final results that a testify from IA? 2. How should generally accepted accounting principles account, process and present these IA relate events (if the answer to question summate 1 is positive. ) Question number one is answered in the positive the innovation of IA in the electric current business environment is proven in repeated investigations.Further, the economic effects of IA on corporations has shown that non disclosing or accounting for much(pr enominal)(prenominal)(prenominal) resources amounts to miscomunications regarding the activity and fiscal state of a business. The research that was utilise in this composition has shown that impalpable alternatives atomic number 18 increasingly a factor in the business world. intangible resources, as lead be addressed below, is a super-set group of strategic elements that contribute to the success of a business. IA, in turn is a sub-set of the Intangible Resources.The paper intends to explore the current range of thinking relative to IA and how such resources should be pryd, accepted and presented in the pecuniary account of U. S. companies. The question of how to account for IA poses contrary challenges, some of them tie in back to the answer of the first question. As this paper will show, recognizing IA on an entity(s books underside be seen as a natural next step, especially for authoritative(a) familiarity industry part businesses. However, the challenges to the issue of credit rating remain how to determine IA in a meaningful manner?How to report IA and what argon the potential out appendage of alternative accounting discussions? Scope and Method of Exploring the ProblemScope and Method of Exploring the Problem The process of finding information approximately the topics relating to IA, and obtaining an understanding of the issues, involved an introduction by means of participating in a conference on the subject and obtaining complimentary readings of published articles. The Third Annual assembly on Intangible Assets, sponsored by sunrise(prenominal) York University(s Ross Institute produced a documentary of the first appearances, which were used in this paper.Additional published material was obtained through the ABI-Inform data posterior, by searching for (Intangible Assets(, (Intangible Accounting( as well as (Assets Valuation( and (Appraisal, Intangibles( for the years 1976-2000? i. The search was limited to articles open in replete form on line (versus articles in which tho the abstract is getable on line. ) This paper refers to twenty dollar bill articles that were obtained through ABI-Inform and ten articles from presenters at the NYU(s conference.Two flecks should be made in terms of the ground of the treatment. First, the discussion includes IA as it is captured and presented for immaterial, possibly audited, users of the entity(s comprehensive fiscal financial parameters. Unless other stated, financial program lines herein ar presented with conformity of get together States( Generally Accepted Accounting Principle (GAAP). inwardly the latter confines, estimates such as amortization and useful life of an Intangible Asset (IA), although a sensible issue, will be generally out of the cathode-ray oscilloscope of this paper.The reason for the limitation is that for cash flow manipulations, as well as for match mainsheet analysis, such estimates represent regulatory requirements a nd provide bittie by way of capturing the essence of the issues surrounding IA. Therefore, the ultimate purpose of this paper is to venture out of the confined safety of U. S. GAAP and investigate what other isms are potential for presentation of a Statement of fiscal Position which incorporates intangible assets. The method of this paper consists of discussing the troika criteria which are used to assess the alternatives to accounting IA evaluation, recognition and presentation.Each of these criteria is measured on a scale from 0 to atomic number 6 (alternatively, from 0. 0 to 1. 0) to show the extent of the departure of the alternative from the currently accepted method, commonly the Generally Accepted Accounting Principles. Because free grace is already an established IA under current accounting rules, it will be discussed first (for each criteria) to show the extent of the living treatment. Although other IA such as gentleman great or Patents exist, they are oft eithe r unaccounted for or merely replaced by a generic (Goodwill( entre on the books.Although they are all intangible resources? ii, it crown be shown that non all are Assets (as define herein). This paper will also explore the possibility that, perhaps intangible assets such as homophile Capital should non be substituted for by the generic (Goodwill( entry. Definitions Some unclear, overlapping and un organize definitions occupy the set of IA issues. in turn, some researchers withstand used in self-consistent definitions of IA, reduce the transparency that accountants and financial experts have to discuss these issues.Although excellent analysis has been published, such research is often not consistent in scope or definition to other frame start and conceptual essays that are contemporarily published. Therefore, aside from giving this (creature( a right name, and calling all its parts victimization the same taxonomy, coupled here from various sources. The dictionary defines IA as (an asset that is saleable though not material or physical(? iii and (Intangible an asset that fucking not be perceived by the senses such as Goodwill or dedication(? .According to the FASB, an congenitally generated IA is proposed to be defined? v as (1) a foregone event that has a (2) measured effect and that presents a (3) afterlife take in. The FASB supererogatory Report? vi states that thither is not a sine qua non for different rules of recognition for internally and externally generated IA. The FASB clarifies that internally generated IA is simply an (Asset( without a physical presence, nor does have to it be an external acquisition as long as all triad tests are conformed with, some(prenominal) business event or process rear produce an IA.The FASB further notes that in that respect is an embedded conflict in this definition because it contains a departure from the ( diachronic terms( principle. The move to a (forward looking( definition is defended by the FASB in making an argument for further revealing, not a modification for the format and content of the existing presentation rules. In this presentation, for the purpose of defining IA (internally or externally generated) the FASB definition will be applicable. smart Capital (IC) A business entity uses common chord types of capital physical, financial and intellectual? vii. rational capital (IC) is defined as an intangible asset that is not financial or physical and that has been ( adjudge, captured and supplementd to produce a higher- leverd asset(? viii. The raw material, captured and formalized in the process of capitalization of IC, is knowledge. Knowledge resides in spite of appearance an individual, a group of individuals or entity-wide. Knowledge that is mental synthesisd in a formal manner (usually with an information sy al-Qaida, considerrized or otherwise) is just data. When it is purposeful and useful, data is considered information. learning made use of is knowl edge? ix, which underside become an IC. In the discussion of IC, several disaggregation of IC exist. For the purpose of this discussion, the next categorization will suffice as (all inclusive(. This paper does not intend to be exhaustive in its definitions. It gage be shown that other good examples of IC erect be found (and the definition extended) without diluting the effect of the issues at hand. The classification proposed in this paper uses the following examples of IC Human Capital, Intellectual Capital and Structural Capital.Human Capital (HC) is arguably the most elusive from accounting for in financial or quantitative terms. Some? x solicit that HC is the most active set driver in the business world today. Intellectual Capital (InC) has been at times presented under different names, too (Patents and brand names? xi( or Social Capital (the latter is a definition of a hybrid of Human Capital and Organizational Capital. ) InC, abstractly is intellectual property that un derstructure from (or relate to) innovation inside the entity(s business.Structural Capital (SC) can be wear out described that defined SC is all leverage that can be described in terms of the relation backships of functions within the organic law and the leverage of entities outside the organization. For example, a customer base relationship qualified or quantified is a SC that can be portrayed as an external relationship an Enterprise Resource Plan (ERP) that allows departments within a company to facilitate resource allocation is an instance of SC. Goodwill Goodwill is arguably the most conforming IA to GAAP It is the excess of Fair shelter (FV) over Book regard as in a purchase act.Currently, treatment of any of IA has been confined to Goodwill produced on the difference sheet from acquisition under the purchase method. As the only if allowed IA capitalization, Goodwill appear in many studies pertaining account for IA. For GAAP purposes, three tests are applied to all ow recognition of an event as an Asset 1. the event is a past-event, 2. it is measurable and 3. it contains probable future benefit. Goodwill passes the (past event(, (measurable effect( and (future benefit( tests.The reason Goodwill can be seen as a past event is that it is easy to date the creation of an acquisition under the purchase method where the fair grade (FV) of an acquired entity is lower than the adjusted basis (AB) to the acquiring entity. Goodwill arising from a consolidation, merger or takeover transaction has produced inconsistent definitions of the (other( classes of IA. For example, at times a well trained workforce is describe plainly as (un accepted Goodwill( due to the disallowed recognition under GAAP (the proper classification for such a workforce is HC).Although this paper is not intended to disprove these notions, definition clarification can aid in seeing the general direction of accounting for IA Evaluating executable answers to the question of Accounti ng Treatment of Intangible Assets Treatment by an accounting method is found on Measurement, credit and Reporting dimensions. In order to present these dimensions, this paper will attempt to survey the range of possibilities and maculation them on three dimensional coordinate axises of possibilities 0 organism the most conservative conduct and 100 being the most (daring( in terms of relevance and accuracy.Thus, the treatment of IA can create a multi-dimensional pile of the accounting classification, account and even auditing. Imagine a three dimensional cube with an X, Y and Z axises. On the X axis spread are the ideas most recognition of IA. On the Y axis we shall plot the various metrics ( measuring) that are proposed for IA. Finally on the Z axis will lie the proposed solutions for the presentation aspects of IA. The difference surrounded by recognition and metrics should be explored further metrics are the regulates upon which, ultimately, monetary amounts are made avai lable for classification. information, on the other hand, are the issues that mandate the accounting perspective of the monetary (and possibly non-monetary, too) information that can be captured. The matter of presentation touches on the financial statement and the apocalypse issues that surround IA. Measuring and Valuing Intangible Assets Goodwill measuring is the only existing allowed GAAP-related event. The measurability of future benefit from Goodwill is based on known measures of financial events, videlicet the Adjusted Basis (also known as Book Value, or AB) and the Fair Value (FV). In a Goodwill event, the FV is the purchase price.The AB amount is discernable the FV amount can arguably be changed harmonise to commercialise and strategic conditions. This discussion will assume, however, that FV is a fixed amount, available to accountants and the earth. Therefore, Goodwill is an excess between twain set amounts, Fair Value (of assets acquired) and Adjusted Basis (paid by acquiring entity). By definition, this is a measurable amount. originalizing Goodwill can be stated this way the reason an acquiring entity is willing to stipend more for the acquired entity more than the estimated assets( FV is because of difference of assumptions in the definitions of FV.Therefore, the FV to the acquiring corporation is different than the FV to the acquired corporation the former sees future cash flow that is great than the cash flow seen by fundamental look at the sense of equilibrium sheet of the acquired entity. In a sense, this is a statement about the abide by of the effect of (gamma( ( the effect of (growth( ( in the example given elsewhere in this paper (see Appendix). Thus, the acquiring entity sees a measurable amount of influx of cash that can justify the excessive damage up front. Current research indicates that IA and, in general, non-financial events are measurable.The main conflict is deciding on which good example to rely on, and moreover, which stupefy to use as a standard measurement. The problem with measuring IA is that such measurements are too specific to an industry and perhaps to a particular entity. investigate yields plenty of data showing how measurements can be conjured up to measure certain non-financial, intangible events. For example, measurements models exist to quantify information? xii, or the comfort of business alliances? xiii, et cetera. These models show that values of quantity, rate of growth and other statistics can be obtained at a feasible cost? xiv (existing techniques and expanded use of nonfinancial metrics seem to offer a more cost effective solution. ( However, the FASB Special Report states that making such copyrighted measurements useful for general purpose accounting and financial reporting is not likely. The problem with value models or future-inflow metrics is that they are estimates. Like depreciation schedules, valuation methods are based on assumptions. Because they often inc lude not just one or two variables but numerous independent variables, the number of assumptions grow at least in linear proportion to the number of variables.For example, a Human Resource valuation model by Skandia, an insurance and financial corporation (Sweden) has been criticized for having up to 140 variables? xv. Unlike depreciation, which requires disclosure of one or two assumptions, disclosure of such complex models, even if they include only 5 to 10 variables, can be quite unfriendly to the user. Furthermore, a multi-variable model is generally susceptible to greater risk of contradicting of any of the assumptions, leading to invalidating the results of the entire model.Generally, measuring IA is a departure from diachronical cost? 1. GAAP requires that the cost, or past event principle, guide any valuation. This requirement is in keeping with GAAP(s frame work of conservatism. When an IA is appraised in value it becomes a forward-looking measurement which is not compati ble with other elements of GAAP. Future Value is the opposite of the principle of reliability in GAAP determined financial reporting the accuracy of past events reported is the crucial element of its reliability? xvi.However, value projection can be manipulated to create certain effects. For example, a projection can be made by Management (and included in a financial report) about the future effect of a certain meshing domain name that is owned by a company, such as (money. com(. The projection is unique enough that it cannot be verified by other sources. In order to have measurability of IA, a compromise between the forward looking and historic cost principles is sought. Seemingly, past-based and future based measuring can not be consistent.It may be possible however to reconcile the projective nature of valuating IA and the required verification by historic cost in GAAP by creating an appraisal weapon. Arguably, appraisals can be done by means of three approaches? xvii cost, co mparable mart or income. Approaches used in Appraisals Approaches used in Appraisals The cost approach estimates the value of an asset at an arm(s length transaction this approach is inapplicable to IA for example, HC is not measurable or even possible to written report as an (arm(s length( transaction.Goodwill, also by definition, can not be an (arm(s length( transaction because an excess is paid by a purchaser above the FV of an acquired target. Similarly, SC can not be assessed this way because of its unique, untransferable characteristic. The market approach states that appraisals of similar purchased (or sold) goods or services can be a basis for estimating the value of the transferred property. Although a model for HC or InC can be built based on the market appraisals approach, SC can not be fit into a model that includes transferring assets in an exchange.IA of that nature loses its value in such a transfer. The income approach is most fitting to the accounting use in terms of IA. Present Value analysis is available and established within GAAP as a model. Its application in an IA valuation depends on the class of IA. Goodwill, for example, is inherently suited to the income approach valuation the excess over FV represents the purchaser(s belief in enhanced cash in flow over a known (fixed) length of time, such that this inflow will surpass not only the declared FV but also the (higher) purchase price. However, SC has little known useful life, as does in part InC.For example, a distributed wareho exploitation corporate structure, or a Just In Time production process can not have a tenable income based appraised value because their useful life is not known, nor can it be averaged in the same way that for example, investment in employee training (HC) can be. However, HC is not slayly compatible with the income approach, either employee satisfaction and homage (both IAs) are similar in concept to the element of ( liberation concern( because once HC(s u seful life is in doubt, the going concern of the entity is generally in doubt, too.Users of financial statements are often wary of appraisals as they represent at best a range of possibilities. Consequently, an approximation of value diffuses the utility of fundamental analysis of the financial statement in question. At worse, appraisals represent a biased, subjective and diverted view gratuity of the management. Even in an honest attempt to value an IA, a range must by provided or alternatively, a tradeoff measure of (confidence level( accompanies any so-called (fixed( dollar amount. In any way, an Appraisal? xviii does not produce a consistent monetary measure. On the Y axis all appraisals are at the high read unsubstantiated, (daring() end, at Y=90. A ( factual Options( valuation model describes a series of future inflow of cash (or other benefits or desirable effects, such as employee morale) in a recursive manner the first event (event number 1) in the series is an evaluatio n of the chance that a winning beneficial event will come to pass in the second event (event number 2). For events that are not the first event, (Real Options( model defines the event number N+1 as (if event N has been successful to obtain a desired result, evaluation of the possibility of event N+1 to occur is computed, along with the possible benefit of N+1.If event N has a result that is undesirable, the entire process ends. ( So, instead of seeing the model of future cash flow (or desirable result events), a Real Options model does not have a (useful life( but attempts to predict when the series of events will end and what the accumulated result will be. The Real Options model, however weak (in terms of assumptions or addition to understanding of (useful life(), does solves another conflict in measurement of IA the conflict between consistency of an entity-specific measurement and the fair-value approach.The constitute for consistency is that no assumptions are made a-priory t o using the model each step has its own unique scenario and set of assumptions that can be extended and extrapolated by an external user or for internal use? xix. Because it is a projective model where future benefits are based on some assumptions, it can not be much more conservative than any value model conjured up by managers (or auditors). Consequently, (Real Option(s( place on the Y axis is 85. trademarked Value forges Although research abounds with successful examples of special valuation model, the test of consistency is a challenge to these models (1)consistency of measurement over time (because not enough materials have been collected under any particular model) (2)consistency between business units (because the measurements are proprietary and a valuation model that fits an insurance corporation(s will be likely mot fit for a flower-delivery corporation or even an academic institution).And (3)consistency with GAAP although these measurements are all non-GAAP compliant, b y definition of this discussion, they do not rely on GAAP in their assumption. These models often use non-financial reporting assumptions that puts them closer to cost accounting than to financial accounting. For example, banks and lending institutions use proprietary value models to assess credit worthiness of certain IA-laden companies? xx, although these valuations are typically limited to IA such as patents or copyrights because they have leverage in sellable or contractual terms? xxi.Simply indicating to the user ( external or internal ( that certain valuation is (estimated( or (based on a model( without specifying the assumptions, can lead rendering the valuation an act of providing useless or mis-stated financial value. An abstract standard setting is required to fulfill the task of measuring IA. Attribution of Income IA can be attributed and acknowledge by measuring normalized operating income and subtracting the portion of income attributable to other classes of assets. T his is a generalized value model that is based on fewer assumptions. It, too, can be located at Y=100. backchat of examining the range of measurements available for Intangible Assets On the axis of measurement (Y in this paper), some possible phases can be plotted first, measuring cost is the GAAP put ond method (Y=0). For example, historic cost of training, benefits and other outlays of resources can be aggregated to measuring the intangible value of Human Capital, as an asset. Of course, whether such measurement can be recognized or reported must be construed on the respective X and Z axis, as presented elsewhere herein. The historic cost measurement will be on the 0 point of the Y axis (Measurement).In contrast, at the maximum point on the Y axis (Y=100), we plot the concept that allows any proprietary value model. Whether it is acceptable as consistent (read GAAP compliant) or not, value models are available for managers and users of financial information on any IA-based event . Data mining and computer-oriented accounting information system make creating such models a relatively easy task, albeit a proprietary tool for the reporting entity or industry. Appraisals were often hailed as the magic bullet for such metric setting and some strength set that to be the magic (Y=50( on the Y axis.But, as shown earlier in this presentation, appraisals are simply value models that have been warranted or certified and are founded on their own (multiple) assumptions. Because applying the right mix of different appraisals methods, human thought and experience causes variation in the consistency of this valuation? xxii, appraisals can not be a consistent or reliable method of measuring IA. Thus, appraising an IA receives a mark of 90 on the Y axis. As alternative of future benefit inflow models, a (real- creams( model is also available to some small relief of the issues.Real Options, too is set at Y=90. Recognition of Intangible Assets Recognition of Intangible Assets There exists a notion that recognizing IA is a threat to proper disclosure of current period expenditures capitalization of certain outlays can be seen as a scheme for expense deferral, intentional to enhance the perceived value to creditors (shareholders et al). Proper classification, processing and reporting structures designed to deter such outlaw(a) reporting can be effective. Overall, requiring supernumerary disclosure can only enhance the utility of the financial report to its users.On the other hand, it is easy to prove logically (see Appendix) that IA should be recognized, assuming that it can be properly and consistently measured. The argument for capitalization essentially shows that if one assumes that (1) A company must have a growth factor ((gamma() in its assets in order to survive (2) Outlays of assets (cash) in period N reduces equity in period N (3) If (gamma( is present then recognizing outlays as expenses in period N understates Equity in period N Therefore, the recognition of expenses is inaccurate, and the capitalization of these outlays is required.In this paper, the X axis will become the range of possible recognition treatments of IA. In general, several points of view are identifiable on this axis. Currently, GAAP does not allow for recognition of IA (except Goodwill from purchase transaction) either because of the control test? xxiii or because of the measurability test (measurability pertains to the Y axis in this model). An opposing view is presented states in essence that IA are either any excess of market value over book value, or that earned income, before depreciation, amortization, and taxes (or some other similar representation of operating income) can be allocated(? xxiv to the different asset classes fixed, financial and intangible. Finally, using a roll in the hayly projectionist method future cash flow as the value of an IA (perhaps in conjugation to subtracting the adjusted-basis and adding the brass value) magnat e allow non-GAAP recognition of an such an IA. GAAP Recognition Currently GAAP contains no recognition of IA, other than Goodwill as provided by GAAP. As discussed in the measurement subsection, above, Goodwill is recognized only under certain purchases where certain tests of the excess of FV over AB are present, giving rise to Goodwill.However, Goodwill is often realized and recognized when another class of IA should be created, instead. Goodwill is realized and recognized due to an excess of a purchase consideration over FV (GAAP). This excess, however can be disaggregated or classified more finely than simply calling it Goodwill Take for example a sibyllic acquisition of a Value Added Network (VAN) provider by an Internet Service Provider (ISP). The former provides the communication tools, the phone lines and the data traffic from customer(s homes to the Internet.The latter, the Internet Service Provider, can benefit from this acquisition by avoiding renting the VAN(s and inste ad capitalizing on the acquisition(s future cash in flows. Moreover, the ISP can direct its customer base to use VAN as a preferred channel, creating certain loyalties, flexibility (for the customers) and other added value benefits. assumptive under GAAP that the ISP paid the VAN(s shareholders more than the FV of their stock, an entry for Goodwill is required.However, this entry is a misnomer the Goodwill is not really for the excess value but for the additional structure capital (SC) of the acquiring entity. Mostly, the VAN(s organizational structure can benefit from this excess (only in secondary order is the future cash inflows of the acquired VAN to the ISP. ) Because Goodwill is the only GAAP compliant IA combined with its possible vagueness or generality, it receives a position of 0 on the X axis.Recognizing only Marketable IA This method allows for some latitude in recognizing certain IA, for example, patents, copyrights, and contractual leverage (with employees, supplier s or customers). Using this method excludes most internally generated IA because their effect is not legally binding. Recognizing IA based on their enforcability and to some degree, marketability gets placed at X=50. Recognizing tout ensemble Events Some knowledge based essays argue that all events in a business entity is one of IA. As such, all otherwise not measured events can be considered intangible and once measured, recognized on the entity(s books.Because it is the most relaxed method, recognizing all non-financial events in an index or model of fair value? xxv obtains X=100. Recapitulate Valuation & Recognition Valuation and Recognition of IA has yielded a two dimensional plain on which different methods are available. At the most conservative level, GAAP driven, is the point (X=0,Y=0) which asserts that measuring asset must be according to the past-event principle (historic cost) and that with the exception of Goodwill, no internally or externally generated IA are accounte d for.Departing from this basis, on the valuation scale (the Y axis) are proposed method of measuring the value of IA ((future cash flow(, (appraisal( or (real-option( models) make an interesting combination. For example, assume the point (X=0,Y=100) on the X,Y plain is proposed and accepted. This means that a only historic cost (X=0) is realized and yet, that future cash flow (Y=100) is used for measuring the value of these asset. Thus, any hybrid of such a nature (cell D in the defer I) of conventional measurement and unconventional recognition poses the challenge to the third axis in this paper presentation of IA. Recognition X=0 X=50 X=100 Valuation (A) (B) (C) Y=0 ( IA not recognized? 2 ( require IA recognized, based on ( All events recognized, if not ( past Cost market, contractual. classified elsewhere they are IA ( Historic Cost events ( Historic Cost Y=85 (D) (E) (F) ( IA not recognized ( Select IA recognized, based on ( All events recognized , if not ( Real option valuation model market, contractual. classified elsewhere they are IA ( Real option valuation model events ( Real option valuation model Y=90 (G) (H) (I) ( IA not recognized ( Select IA recognized, based on ( All events recognized, if not ( Appraisal (cost, market, income market, contractual. classified elsewhere they are IA approaches) ( Appraisal (cost, market, income events approaches) ( Appraisal (cost, market, income approaches) Y=100 (J) (K) (L) ( IA not recognized ( Select IA recognized, based on ( All events recognized, if not ( Proprietary Value Model market, contractual. classified elsewhere they are IA ( Proprietary Value Model events ( Proprietary Value Model Table I Intersection of measurement and recognition approaches for IA? 3 Presentation of Intangible AssetsThe issue of possible presentation of IA as part of a financial statement must be addressed by the Reporting utilization that such a report co ntains. Not specifically within the scope of GAAP(s IA (other than Goodwill) are vaguely disclosed in the financial statement. As research shows, some Securities and deputise Commission regulated corporations disclose Goodwill in aggregated format, while others disclose the underlying detail. Moreover, the other (disclosure( of IA, specifically to the external user, is done by the Management Discussion and Analysis (MD&A) that accompanies most financial statements of publically held entities. However, MD&A is a really only another form of appraisal, and not unbiased at that, in relation to IA valuation.In reference to accounting for IA, MD&A is inapplicable as translation of the value, structure and other forms of unclassified (and unaudited) material statement can become vague in its pass to external users. It is grievous to note that the internal users of a financial statement are slightly better equipped to properly ascertain the message in the financial report internal acco unting practices, cost management and non-financial reporting facilities can aid an internal user to better gauge the weight and setting of an IA reference within the financial statement, be it a Goodwill or otherwise disclosed IA. The current GAAP disclosure practice (but not requirement) is at the lower end of the Z axis (Z=0). to a lower place GAAP, a balance sheet of a corporation that might have intangible resources at its disposal might be presented in the following way (example 1) Balance Sheet, GAAP Driven Assets $1000 Liabilities (100) Equity (900) Example 1 GAAP Driven Balance SheetComplete inclusion of any intangible resource available to a company is in contrast to the current GAAP treatment. A plump out inclusion of non-required disclosure of IA is at the farthest end of the Z axis the concept of full consolidation of IA in the financial reporting (Z=100) . Of course, this in itself is a valid notion because full disclosure of IA represents expressi ng in the main relevant information to the user of the financial report. ? 4 Relevance however, has a trade off with accuracy. The relevance of including any and all IA in a financial statement might hinder on its accuracy the example below makes this point. blanket(a) integration of IA in a financial report can lead to a balance sheet of the following format (example 2) With Considering IA, Complete Inclusion Assets $1500 (capture events related to both tangible and intangible resources) Liabilities (100) Equity (1500) Example 2 Complete Inclusion driven Balance Sheet A possible over-statement of Assets by $500 exists under a complete inclusion method, which is most permissive in relation to GAAP. This type of presentation contains all resource-based events pertaining to the business at hand. It includes both financial and non-financial events pertaining to the entity. Some of this superset(s contents are IA that are externally or internally generated. For exam ple, employee loyalty or positive media coverage are non financial events that affect its financial position.A possible reconciliation between the requirements to present certain financial statement elements (such as fixed assets, financial assets, current and non current liabilities, shareholders( capital et cetera) can be obtained in a tiered financial report. The concept behind a tiered financial report is that the core of any financial report must be GAAP driven. Its benefit to any user must save in order to provide consistent, accurate and standardized language of communication of a financial position. Within this core, GAAP reporting is one where the balance sheet presents the assets and the claims against them. This fundament is in turn included in a larger set which can include not only cost-related assets but value driven assets, i. e. IA. Conceptually, IA that provide a growth factor (recall gamma 1) is meaningful to the financial position of the reporting entity.For exam ple, calculate an internally generated IA such as organizational structure or shared knowledge exist (assuming it can be valued and recognized). Under GAAP IA are not attributed to growth of several periods (by definition, growth is the adjoin of the value of an asset between successive periods). However, for the users of the financial statement, the information about such growth is important in making educated decision about the going concern and prospects of the entity. Thus, the compromise format of financially reportable events includes a degree of IA-related events that can affect a reasonable user(s decision-making process. This type of reporting mechanism is about mid-way between GAAP and Non-GAAP reporting format, at Z=50.An example of a tiered balance sheet follows (example 3) Without Considering IA With Considering IA, Tiered Format N/A Intangible Asset $300 (Note Recognize IA events based on historical ost) Assets $1000 Assets 1000 Liabilitie s (100) Liabilities (100) Equity (900) Equity (900) N/A Equity Attributed to Intangible Asset (300) Example 3 (Padded( Balance SheetIn essence, this type of (padding( of a balance sheet is derived from the set concept introduced above. The (core( statement, consisting only of Asset, Liabilities and Equity, remains intact. An extended set of financial events allow further disclosure of the financial effect of IA (in this example, by using the most aggressive GAAP-departure valuation method). Recapitulate Recognition and DisclosureRecapitulate Recognition and Disclosure Just as Valuation and Recognition can be plotted on a two dimensional plain, so can the axis of Recognition and Disclosure. Overall, the X,Y and Z axis allow us to examine the problem at hand on a three-dimensional basis.The intersection point of the Recognition alternatives in relation to the Disclosure alternatives follows Recognition X=0 X=50 X=100 Disclosure (M) (N) (O) Z=0 ( IA not recognized ( Select IA recognized, based on ( All events recognized, if not ( No GAAP required Disclosure, market, contractual. classified elsewhere they are IA events only discretionary MD&A ( No GAAP required Disclosure, only ( No GAAP required Disclosure, only discretionary MD&A. discretionary MD&A Z=50 (P) (Q) (R) ( IA not recognized ( Select IA recognized, based on ( All events recognized, if not ( well-worn ((Padded() Financial market, contractual. classified elsewhere they are IA events Report ( Tired ((Padded() Financial Report. ( Tired ((Padded() Financial Report Z=100 (S) (T) (U) ( IA not recognized ( Select IA recognized, based on ( All events recognized, if not ( expert financial incorporation market, contractual. classified elsewhere they are IA events of IA undefined ( Full financial incorporation of IA. ( Full financial incorporation of IA Table IIIntersection of measurement and reporting approaches for IA. Cells M-U describe the X, Z plain (the letter are assigned sequentially).To complement tables I and II, the intersection of valuation alternatives and disclosure methods available are included in Table III Disclosure Z=0 Z=50 Z=100 Valuation (V) (W). (A1) Y=0 ( No GAAP required Disclosure, ( Tired ((Padded() Financial Report. ( Full financial incorporation of IA only discretionary MD&A discretionary MD&A. ( Historic Cost ( Historic Cost ( Historic Cost Y=85 (A2) (A3) (A4) ( No GAAP required Disclosure, ( Tired ((Padded() Financial Report. ( Full financial incorporation of IA only discretionary MD&A ( Real option valuation model ( Real option valuation model ( Real option valuation model Y=90 (A5) (A6) (A7) ( No GAAP required Disclosure, ( Tired ((Padded() Financial Report. ( Full financial incorporation of IA only discretionary MD&A ( Appraisal (cost, market, income ( Appraisal (cost, market, income ( Appraisal (cost, market, approaches) approaches) income approaches) Y=100 (A8) (A9) (B1) ( No GAAP required Disclosure, ( Tired ((Padded() Financial Report. ( Full financial incorporation of IA only discretionary MD&A ( Proprietary Value Model ( Proprietary Value Model ( Proprietary Value Model Table IIIIntersection of measurement and disclosure approaches for IA. DiscussionDiscussion The problem of Intangible Assets revisitedConceptually, the accounting for IA is at the heart of the framework that links the Balance Sheet and the Income Statement at its core the balance sheet is a statement of resources while the income statement is a an expression of the utilization of these resources (tangible or otherwise available to the entity). Coupled, the traditional balance sheet and income statement includes only tangible resources. However, the traditional Income Statement includes activities that stem from using all available resources. In the asymmetry lies the reason for inclusion of IA resources on the Balance Sheet. For example, outflows for wages is often the single largest expense of a corporation. Yet, employee knowledge, or other types of Human Capital are seldom disclosed. Further, any activities that are profitable, i. e. where the growth factor ((gamma() is greater than 1, are attributed only the tangible resources. Classes of Intangible AssetsIA can be divided to two classes resources that are within the control of the organization and resources that are only part within the control of the organization. To maintain a mathematic model, we can introduce OC, Organizational Control, such that For IA such as Customer Base and Customer Relations Index, Vendors( Credit and Trust, Internal Production or Service Procedures, OC = 1. 0, i. e. there is complete control over the resource, which is an intangible asset For IA such as Human Skill aim , Employee Satisfaction and public Relation Index ((Public Image(), OC 1. 0. The following is an imaginary yet possible comparison of two companies tha t might have different levels of Organizational Control over their IA, classified according to their business type.Table IV is an illustration of OC levels (Tobacco and food conglomerate((Northeastern Ice-cream Manufacturer( Organization Control take = 1. 0 Customer Base 1. 0 1. Vendor(s Credit 1. 0 1. 0 Internal Production Procedures 1. 0 1. 0 Organization Control Level 1. Human Skill 0. 9 0. 7 Employee Satisfaction 0. 8 0. 8 Public Image 0. 5 0. 9 Table IVThe (determined) values of Organizational Control (OC) over Resources We assume these values derive from internal yet consistent studies and valuation, we can see that for the first three (classified as IA over which the entity has complete control) the OC value remain 1. 0. This simply indicates an existence of an IA (completely within the company(s control). The second group of so called (assets( (or generally resources) are not completely within the control of their respect ive entity. We can say, perhaps, that the ice cream factory workers need less training than the tobacco production plant workers but that they are equally satisfied.Further it is clear that the tobacco conglomerate has less leverage in their public image (OC = 0. 5) than the ice-cream maker (OC=0. 9). The important point about all these resources is that the entities are not controlling the value drivers. Therefore, for example, their public images is different and it can not be enlisted as an (asset( because it is outside the scope of their respective control. ? 5 The three sets of resource group can be summarized as follows The most inner core of assets that are GAAP driven Tangible Assets that are at the core of the Income Statement and Balance Sheet pair. These assets produce tangible activities such as cash (inflow) or products (output).The intermediate outside tier consists of resources that are fully under the control of the entity, thus they can be classified as Assets, alb eit intangible they too produce activity such as competitive edge (HC) and customer loyalty (SC). In contrast to HC and SC, the outmost tier class of resources are intangible resources that are not fully under the control of the entity thus fail the control test of the definition of an Asset. In a sense, the inner set of Balance Sheet and Income Statement represent the fundamental analysis that an external or internal user of these statement might be interested in. Under this framework, fundamental ratios and projections are available in the most traditional sense. Extrapolating from that tier, the resources described as (true( Intangible Assets, i. e. hat they are measurable resources that occurred in the past and are within the entity(s full control, describe the effect of growth and going concern. growing is indicative of innovation or competitive edge, while going concern is more general and encompasses other factors. In this vein it has been shown that IA are a source of both growth and continuity IA are key to strategic planning and success? xxvi. Resources such as reputation, employee know-how, and organizational culture were also linked to success factors of companies? xxvii. Finally, the outer tier of partially controlled resources can be described ( if so wished by the reporting entity ( as additional disclosure of interest to the user of a financial report.The outer tier is only marginally useful because of the lack of full control the reporting entity might have over factors such as public image. It will be interesting to see if the two outer tiers of resources will play out in future disclosure the FASB is now encouraging companies to discloses elements of intangible assets in their financial reports. However, from a review of the two tiers it seems that disclosing resources in the intermediate tier can add to the reporting utilization of the entity(s financial report, perhaps if it is presented in a two tier Balance Sheet ((padded(, described ea rlier). Resources that are not within the complete control of the entity (the outer tier(s elements) will most likely not be disclosed.Assuming a valid and consistent index can be obtained (by an external review, for example), there can be usefulness to disclosing elements of intangible resources which are (true( IA such as index of customer base, customer loyalty and vendors( credit which reflect on a positive (going concern(. In contrast, disclosure of elements such as employee retention, public image and human learning index, can provide external users a marginal utility regarding the activity and prospects of the entity. Conclusion Measurement of IA is the orbital cavity where the disparity is widest (on the Y axis in this discussion(s three dimensions model). The alternatives to historic cost are valuations based on proprietary models or based on certified models. Both alternatives are insufficient because they require judgement which lead to substantial variation.Historic co st is most consistent but inapplicable because it can not measure certain IA such as customer base or affiliations and alliances. Therefore, an allocation approach is suitable computing the ratio of growth in equity to fixed, financial and intangible asset allows measurement of IA at least as a class of resources on the balance sheet statement? xxviii. Further discussion and research is required in order to properly weigh the specific intangible assets within this class, and thus compute the financial value attributed to it. Generally, the emergence of IA and in general, intangible resources, is unavoidable. The accounting profession should treat this type of financial event within its GAAP guidelines and not attempt to preclude it from recognition.Plainly, accounting for IA by including it in the financial statement (specifically, as part of the Balance Sheet) is not helpful to the external user. such(prenominal) recognition will simply inflate the value of corporations and will ca use comparisons to be more difficult and the financial statement viewed more skeptically. However, by methodically presenting IA in a tiered manner, users of the financial statement can view the traditional fundamental (current) GAAP elements as well as supplementary elements. In a sense, allowing companies to literally (pad( their balance sheet with separate IA and IC (Equity due to IA) will put to a (vote( of the external and internal users the concept of systematic disclosure.To wit, instead of a honorable mention in the MD&A section or a buried treasure in the footnotes to the financial statement, disclosing IA on the face of the balance sheet, without reducing its existing utility, might be a solution to the emerging need to report IA as a financial event. References pic pic 11IA are often labeled knowledge assets. Much has been written about a knowledge economy and some attempted to define all resources as knowledge-based. The device in which this is possible is usually illust rated by an example of an organization that can be described all in terms of knowledge. Such zeal is convincing only to the extent that a counter example is not produced. Knowledge is information produced by data and ideas.Transforming knowledge to a benefit producing resource ((value() converts knowledge to an IA. Thus, in terms of scope of valuation of IA, not all business process are considered IA only business processes that have not been measured or presented elsewhere can be considered measurable for purposes of this discussion. 22In all the instances of Y=0, IA is not recognized except for Goodwill in purchase. 33The recent FASB sponsored attempt to account for certain types of IA by rules of annual damage valuation (read appraisal valuation method) is position in box (B( of Table I using historic cost and a (certified) appraisal of fair value of an IA to trigger both valuation and recognition. 44However, (strange bedfellows( effect might occur if we simply plot the Z axis a gainst, say the Y axis (measurement) the point (Y=0, Z=100) yields an IA that (is not recognized (Y=0)( and (integrated in the financial report( (Z=100). Therefore, at least from a practical point of view, these type of pairing with GAAP (Y=0 and Z=100) can not be used for our analysis this point in our exploration model is undefined. 55It is the public, the society in which they operate for example, that determines which company is the (Kind American Corporation( and which is the (Evil American Corporation. ( ii. ABI-Inform is available via the Internet from ProQuest Information and Learning Company. iiii. Accuracy of the yield and direct capitalization methods A twenty-year empirical study of the electric utility industry( Assessment Journal Chicago Richard R Simonds Vol. 6 No. 4 pp. 49-55 iiiiii. Internet available www. dictiornary. com. Source of this citation 1997 Princeton University. iviv. Internet available www. dictionary. com. Citation source The American Heritage lexicon of the English Language, 4th Edition. vv. FASB presentation, Nakamura in 4th Annual Intangible Assets Conference, Ross Institute, impertinent York University, May 2001. vivi. Financial Accounting Standards Board Special Report Business and Financial Reporting, Challenges from the New Economy Wayne S. Upton, junior No. 219-A April 2001 p. x (Executive summery). viivii.Lynn, Bernadette, CMA Intellectual Capital Key to Value added Success in the Next Millennium Society of Management Accountants of Canada, CMA Magazine. getable Internet http//www. cma-canada. org. viiiviii. Lynn, Brenadette. ixix. Data is the superset of information which in turn is the super set of knowledge. Purposeful and formal transition of data to information and information to knowledge, creates Intangible Capital, which can be leveraged. xx. Berry, John MIT, Wharton Search for IT Asset metric Internetweek Manhasset Feb 5, 2001. xixi. ( Brand assets and patents are knowledge assets, not just technology(. Co mpanies May Be Unwittingly Ignoring The Bulk of Their Asset Value Investor Relation Business New York Dec. 3, 1999 p. 4. xiixii. Hal Varian How Much Information is Produced Worldwide? University of Berkeley Presented in the 4th Intangibles Conference at New York University, Stern School of Business, Ross Institute of Accounting Research May 2001. xiiixiii. Christopher Tucci The Value of Collaborations and Alliances New York University Presented in the 4th Intangibles Conference at New York University, Stern School of Business, Ross Institute of Accounting Research May 2001. xivxiv. FASB Special Report Chapter 2. xvxv. John Rutledge, You(re a Fool if You Buy into This One Available ABIinfrom. xvixvi. Alfred M. King, Jay M. heat content Valuing intangible assets through appraisals Strategic Finance Vol. 81, No. 5, Montvale Nov. 1999. pp. 32-37. xviixvii. Alfred M. King, Jay M. Henry, Strategic Finance, Nov. 1999. xviiixviii. Lawrence C. Rose Accuracy of Appraisers and Appraisal Method s of closely Held Companies Entrepreneurship Theory and Practice (ET&P) Vol. 17, No. 3 Spring 1993 pp. 21. xixxix. FASB Special Report p. 39 xxxx. Alfred M. King, Jay M. Henry, Strategic Finance, Nov. 1999. xxixxi. Wiley A. Scott, Jr. Borrowers( Intangibles May be Off-Balance-Sheet Gold Commercial Lending Review Vol. 9, No. 3 Boston Summer 1994, pp. 26. xxiixxii. Lawrence C.Rose Accuracy of Appraisers and Appraisal Methods of Closely Held Companies Entrepreneurship Theory and Practice (ET&P) Vol. 17, No. 3 Spring 1993 pp. 21. xxiiixxiii. FASB Special Report Chapter 4. xxivxxiv. Lev, Baruch. xxvxxv. IAS 36 defines (value in use( as (future cash flows expected to arise from the continuing use of an asset. xxvixxvi. Joseph A. Patrick et al Global Leadership Skill and