A patent is a legal license granting its holder the exclusive right to make, use, or sell a specific invention.
There are three types of patents. A utility patent is for processes, machines, and articles of manufacture. The light bulb and the Model T would have been utility patents. A design patent is used for any new, original ornamental design that can be affixed to an item of manufacture, such as a hood ornament for a Model T.
A plant patent is granted to anyone that has invented or created a new plant, such as a unique strain of corn. A patent is an example of an intangible asset with a limited life. Despite the fact that a patent is connected to a specific type of item, a patent represents a legal right and not a tangible item. The value of a patent that a company would record on its books depends on how it acquired the patent. If the business developed the invention internally, all the research and development costs associated with that item would have been listed as an expense as those fees were incurred.
Therefore, the initial value of an internally developed patent could be quite low. If the business purchased the patent from the original holder, the value of the patent equals the acquisition cost. The value of the patent may be increased if a patent holding company defends its rights to the invention in a lawsuit.
Since a patent is only valid for a limited number of years, a business is required to amortize it. For example, assume a business acquires a patent that has 15 years left on its term for 1 million dollars. However, the invention the patent secures will only generate revenue for ten years.
For the next ten years, the company must decrease the value of the asset by , The value of a business is not always defined by what assets it owns and what it owes. A successful business will develop customer loyalty and an overall positive reputation in its community, which will cause its market value to be greater than its book value. A company may also generate a higher value if it proves over time that it can generate superior revenues than its competition through managerial expertise, its reputation within its business sector, and other company attributes.
The difference between the value of a company as reflected in its balance sheet and its market value is known as its goodwill. In comparison, economic goodwill refers to company attributes that are hard to quantify, such as brand loyalty, brand recognition, company innovation, and executive talent. Apple is a successful company with considerable goodwill. In short, goodwill equals the acquisition price minus net assets. Say a business was purchased for million.
Its assets were worth 80 million but it had 30 million in liabilities. However a business may not record goodwill that it generates for itself.
Using the same example, assume the business was not acquired, but it was worth million and still had 80 million of assets with 30 million in liabilities. The business would not be able to record the 50 million of goodwill on its own balance sheet. Goodwill can only be recorded when an entire business or an entire section of a business is purchased at a price greater than the value of its assets.
It used to be that goodwill was amortized. This meant that the value of goodwill was decreased annually, with the business recording a loss equal to the amount of the decrease in value. As of , goodwill is no longer amortized. Every year the value of goodwill must be evaluated by the business that owns it. When a company acquires another company's assets, the usurped company's goodwill deflates in value.
In such a case, the impairment cost is charged off the new owning company's books to bring the asset's value to a fair market valuation. As long as a company handles impairment costs responsibly, investors can see accurate valuations of the company.
With so many variables and inferences involved with determining amortization and the life expectancy of an intangible asset, impairment cost can be used to manipulate the balance sheet. One of the main factors contributing to manipulation is the fact that declared values of intangible assets are not required to be reported.
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I Accept Show Purposes. Your Money. Personal Finance. When used in case of tax purposes, the actual lifespan of the assets is not considered, and only the base cost is amortized over a specific number of years.
Intangible assets are not physical in nature, and finding an actual value for them is not as easy as in the case of tangible assets. There are regulations, which group certain assets under the category of intangible assets and give them particular value. Intangible assets without a finite useful life, i. Accordingly, the carrying amount may differ from the market value of assets.
For example, Goodwill Goodwill In accounting, goodwill is an intangible asset that is generated when one company purchases another company for a price that is greater than the sum of the company's net identifiable assets at the time of acquisition.
It is determined by subtracting the fair value of the company's net identifiable assets from the total purchase price. Below is the Google Inc purchase price allocation of all the acquisitions taken from its K Report. Under U. Goodwill impairment Goodwill Impairment Goodwill impairment is the process of writing off the accounting charge amounting to the excess of the acquired asset's book value as recorded in the financial statements over its fair value.
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