Identification and Measurement of Intangibles - A Must for Corporate Governance

Abstract

The significance of intangible assets in the contemporary business scenario can never be overemphasized. The recent studies show that the market values of firms comprise about 50 to 80 percent intangibles. Thus, intangible assets form major part of the business that earns revenue but are not reported on the financial statements, footnotes, or management discussion and analysis. Identification and measurement of such assets have their own challenges, but efforts in this direction to report to the shareholders the nature, the dynamics of their revenue and costs, treatment in preparing financial statements, resource allocation for further development, related transactions and finally, test of impairment should be attempted at. A business, that hinges on knowledge, brand name, patent, customer relationships, software and such other intangible assets, not reporting the size of the asset and how the assets are developed or maintained and how they might be impaired can not be considered transparent and well managed. In the US, introduction of Statement of Financial Accounting Standards (SFAS) 141 and 142 brought a new paradigm. The values of identifiable intangibles are separately disclosed from goodwill and reported on the balance sheets of the business combinations. SFAS 142 and 144 require period testing of impairment of goodwill and other long-lived intangible assets. However, these regulations are attracted only in case of business combinations. Internally generated intangible assets in normal course of business are not required to be valued or reported. There are significant challenges in identification and measurement of intangibles. Important parameters like royalty savings, excess earnings, replacement costs, and comparable assets transactions are difficult to assess. However, a prudent approach with a focus on qualitative assessment for better shareholder awareness is required. The financial reporting needs to accommodate valuation of intangibles and hence, should be revamped to keep pace with the business scenario.