International Financial Reporting Standards is a set of international reporting standards that states how certain transactions are events should be reported in the statements of financial. It is based upon the principles rather than rules that is the main contrasting part to the U.S GAAP. The main objective of the application of the financial statement is to make it more transparent, comparable and high quality in front of the investors so that they can take the appropriate decisions based on the explanation provided related to inventory, property and equipment, goodwill, borrowing costs, intangible assets and many other aspects of the balance sheet. This report will discuss two financial reporting areas: “IAS 38 Intangible Assets” and “IAS 23 Borrowing Costs”.
This aim of this financial statement reporting is to provide comprehensive knowledge of borrowing costs and intangible assets regarding the different treatments and critical evaluation of these areas related to its implications and usefulness of financial statement.
Critical Evaluation of “IAS 38 – Intangible Assets” related to the financial reporting:
IAS 38 Intangible Assets discusses the treatments of account of intangible assets, which are non-monetary assets which are without physical substances and identifiable. By this standard the accountant gets an idea about the specified disclosure requirements related to the intangible assets.
Expenditure on intangibles which result in new technologies and brand names are difficult to quantify and value. Traditionally, intangibles have always been considered “risky” assets. Accounting defines assets as economic resources with measurable future service potentiality, however, the accountant measures difficulties while assessing the upcoming service of intangibles than the benefits accruing from other assets such as plant and equipment, investment in property and many others. Thus, it indicates that accounting standards are required for assessing all “internally generated intangibles”. In the recent economy, however, assets of the nature of the intangible such as intellectual capital frequency generate value (Abeysekera 2016). By IAS 38, the literature discussed about internally generated intangible assets. Although, the controversy relating to internally generated assets of intangible embraced whether there should be:
- “A requirement to recognize internally created assets of intangible s in the statement of financial position whenever certain criteria are met”
- “A requirement to perceive expenditure on all intangibles generated internally in the statement of financial position as an expense”
- “A requirement to commonly recognize expenditure on all internally created assets as an expense, with certain specified exceptions”
The board, however, rejected a proposal to give an option of the recognized expenditure on intensive generation of assets of intangibles as an expense instantly, even though the company meets requirement of an asset due to the reason that “a free choice would undermine the comparability of financial statements efforts of the Board in recent years to reduce the number of alternative treatments of IAS (Basis for Conclusion, Paragraph 24)”. According to the international standard, the identifiable criterion is met when assets of intangibles is separable. In case of the assets separately acquired shall be recognized internally at cost. In this context, the cost related to the separately acquired intangible assets comprise with duties of import and related purchase taxes which are non-refundable in nature and directly attributable costs of preparing the asset for its intended use (Tripathi and Jha 2016). On the other hand, the purchase price of intangible assets which are acquired on a secular manner incorporates assumptions about the apparent future benefits economically that may be generated by the assets. On the contrary, the “internally generated assets of intangibles” are divided into a research phase and a development phase. As per the financial accounting standards, those assets arising from the phase of research may be recognized. On the other hand, assets arising from the phase of the development shall be recognized as intangibles if such entity can be demonstrated:
- its intent to accomplish the developments
- its ability to use or sell the intangible assets
- its feasibility regarding the technicalities
- the “availability of resources to complete the process of development”
- its “capability to measure the attributable expenditure reliably”
Acquisition as part of the business combination:
Apart from the intangibles acquired from separately and generated internally, the entity can experience the generation of assets in a combination of business. In case of the intangible assets acquired in a combination of business, both the likelihood and criterion are always considered to be met. Therefore, recognition of the intangible assets shall always be recognized, irrespective of consideration of whether it has been previously recognized in the acquirer’s statements of financial (Ali, Akbar and Ormrod 2016). As per the accordance IFRS 3, IAS 38 contains the listed of items acquired in a combination of business that shall be meet the definition of an assets of intangibles. This includes are as follows:
- Assets of intangibles related to the marketing including “trademark”, “internet domain names” and “newspaper mastheads”.
- Intangible assets which are customer-related including “lists of customers”, “order backlogs”, “contracts of customers”, and “non-contractual customer relationships”
- Assets of intangibles related to art including “copyrights for plays, books and musical works”
- Contract-driven intangible assets including agreement of license, contracts of management and rights of broadcast
- Technology-oriented assets of intangibles including “ patented database”, “technology and trade secrets such as secret formulas”, “processes or recipes”
In a nutshell, the intangible assets are generated internally as per the paragraph of 48, 51 and 63. In this case, the measurement will be done comprising with all costs of attribution incurred in the creation of asset from the date on which the assets first met the all criteria of recognition. However, the process of generation of assets can be segregated into two parts for maintain transparency and for better understanding during the phase of financial reporting (Kafouros and Aliyev 2015.). On the other hand, intangible assets can be recognized in the separate process of assts generation. In that case, the measurement of the separately acquired will be done including the purchase price along with any “directly attributable cost of preparing the asset for its intended use”. Lastly, the intangible assets acquired as part of the combination of business shall be measured as per the fair value at the date of the acquisition. However, there are much confusion regarding the treatment of intangible assets and goodwill (Bontempi and Mairesse 2015). According to the paragraph of 35 of IAS 38, the “fair value” of the assets of intangibles generated from the business combination needs to be measured with sufficient reliability. However, such treatment shall be recognized separately from goodwill. Furthermore, Ali, Akbar and Ormrod (2016), highlighted the fact of intangible assets with finite useful life. According to Carvalho, Rodrigues and Ferreira (2016), “those kinds of intangible assets are a rebuttable presumption that its fair value can be measured reliably”.
Amortization of intangible assets:
The concept of amortization arises during the measurement of the intangibles with finite lives (Tsalavoutas, Andr? and Dionysiou 2014). By covering this into the financial report, the reporting entity can get a clear idea that the amount of depreciation with a limited useful life shall be allocated on a methodical basis over its useful life (Chalmers et al. 2012). The significant part of the understanding is about the identification of the identification period. Generally, amortization shall begin when the asset is available for use. In other words, asset is it in location and conditions are required for its capabilities of operating which intended by the management shall be considered as the beginning of amortization (Kafouro and Aliyev 2015). According to Sinclair and Keller (2014), a lot of issue has been raised regarding the suitable amortization methods used in case of allocation of the depreciation amount on a methodical basis over its infinite life. There is a mentioned in the standards of financial that a variety of amortization methods can be applied to apportion the amount of depreciation of intangible assets over its useful life including “diminishing balance method”, “straight line method” and the “unit of production method” (Bontempi and Mairesse 2015). Su and Wells (2015) stated that such method is selected considering the expected consumption pattern of the expected future economic benefits embodied in the assets which shall be consistently from one period to another.
Methods of measurement of assets of intangibles:
In accordance with the paragraph of 78 of IAS 38, an entity must choose either the model of costs or the model of revaluation. Based on the model of costs, intangible assets shall be carried at cost less “accumulated amortization” and “loss of impairment”. Alternately, the model of revaluation helps to measure the value of the asset subtracting the subsequent amortization and impairment losses (Abeysekera 2016). However, the reporting entity uses this revaluation method if “fair value” can be determined by reference to an active market as per the standard of IAS 38 (74).
Importance of disclosure related to the intangible assets:
According to Lin et al. (2015), all the significant matters shall be disclosed properly for providing the clarity of the reports of the financial of an entity. Hence, the reporting should have the understanding about the necessary disclosure which must be supported along with the comprehensive financial statements related to the one financial year (Alfraih 2016). As per the mentioned paragraphs of 118 and 122 of IAS 38, the entity needs to be mentioned including “useful life” or the “rate of amortization”, “methods of amortization”, “gross carrying amount”, “figure of accumulated amortization” and “losses of amortization”. Based on such disclosure, the reporting entity can easily generate awareness about the reflection of the huge changes such as economic system of the tangible assets and so on (Carvalho, Rodrigues and Ferreira 2016).
Critical Evaluation of IAS 23- Borrowing Cost related to the financial reporting:
The conceptualization of IAS 23 was done on March in the year 1984. It came into the implementation in the year 1986. Over the years several amendments were made into the IAS borrowing system, such as amendments related to capitalization of the borrowing cost and annual improvements made in the IFRS 2007 for the purpose of including several borrowing costs. The main purpose if the introduction of IAS 23 borrowing cost is related to the appropriate of the borrowing cost. The various types of the borrowing costs are related to the bank overdrafts, long-term borrowings, short term borrowing (included in the contemporary borrowing list) finance charges related to the financial leases are also considered to be considered under the borrowings as per IASB.
As per the section IAS 23.6, interest expenses shall be computed by the effective interest procedure as per the norms given under the scheme of IAS 39. The financial charges related to the financial leases which are recognized as per IAS 17 leases are also recognized by the norms as per IAS 23. Some of the other important aspects of the IAS standard include the consideration of exchange differences which exists from the borrowings done by the foreign currency and to the extent that they are included in the adjustment to the interest cost (Gupta 2014). The borrowing costs under the IAS 23 also takes into consideration the amortization of the discounts and the premiums relates to the borrowing of several forms (Chaudhry et al. 2015). The borrowing also includes the amortization of the ancillary costs which are incurred in the connection of with the arrangement of borrowings. The several type of the borrowing cost s are directly attributable to the acquisition, production, construction of the qualifying assets as prescribed under the IAS 23 norms. In amount of the funds borrowed are eligible for the purpose of the capitalization of projects are also considered as borrowing cost less the amount of investment of the surplus borrowings which have not been utilized. In the borrowing amount are considered eligible for capitalization the amount of the borrowing cost is estimated by the application of the capitalization rate on the basis of the weighted average borrowing cost which is applicable to the general borrowings. Thus the amounts of the borrowing cost capitalized during the financial year cannot exceed the amount of the borrowing cost incurred during the same financial year.
As per the section IAS 23.3 this standard of the accounting does not take into consideration the value of the actual or the imputed cost of the equity which include the preferred capital which are not considered under the liability as per same accounting standard. As per the section IAS 23.5 the qualifying asset is defined as the asset which takes into consideration the appropriate amount of time required for the purpose of the sale of the items. Then various amendments made under then IAS 23 norms also state that the companies need to consider the property, plant, and then equipments and the investments property during the development of the period and made to order inventories (Shkulipa 2015).
For assessing the borrowing costs as per core principles of IAS 23, the reporting entity should have a clear understanding about the differences of “qualifying assets” and “non-qualifying assets” (Bohu?ov? 2014). This is the integral part of the definition of the costs of borrowing (Akdogan and Ozturk 2015). A “qualifying assets” is an asset is those which inevitably take a considerable period of time for using it or sale purpose. For instance, the entity should consider “qualifying asset” which include “inventories (that are not generated over a short period of time)”, plants of manufacture, generation facilities of power, “assets of the nature of intangible” and properties of investment. However, there is a big confusion recognized by several accountants related to the criterion of intangible asset under IAS 23. Although, those intangible asset that takes a considerable period of time and which are intended to use or sale is definitely be treated as qualifying assets in the financial report. For instance, software, would be treated as “qualifying asset” in accordance of borrowing cost calculation , which is generated internally in the development phase when it takes a “substantial period of time” to complete. When it capitalized, the “interest capitalization rate” shall only be included for the ascertainment of the capitalization costs. Alfraih (2016), however, argued with the fact that assets are considered to be qualified as per the management intention. In other words, the treatment of the borrowing costs related to that will be varied as per the management intension taken into the account. For instance, it is the management decision whether such acquired costs can only be used in combination with a large group of fixed assets or it created particularly for the construction of one specific qualifying asset.
Treatment of borrowing costs:
By the following this specific accounting standard, the reporting entity can get a clear idea about the proper treatment of the borrowing costs. Tripathi and Jha (2016) stated that the main problem arises at the time of analyzing whether the borrowing costs needs to be capitalized or not after generating costs associated with the construction, acquiring and producing a “qualified assets”. This financial statement demonstrates how the reporting entity would recognize the borrowing related costs as per different methods. As per the statement, there are two different methods are generally used for recognizing such costs at the end of the financial records. Caria et al. (2016) stated that “capitalizing of borrowing costs method” recognizes the “qualifying costs”. On the contrary, the second treatment has been described the cost of borrowing at the time of incurring it. However, this standard gives the value only at the time of recognizing the borrowing costs. Nobes (2015) contradicts that major issues arise at the time of assessing eligibility of the portion of capitalization. In case of the capitalization, the borrowing costs which are attributable directly to “constructing, acquiring or producing” of an asset that identifies must be capitalized being considered as part of that cost of a particular assets. Here the matter of qualifying assets is the most significant part of the judgment which shall be evaluated by the reporting entity. This accounting standard also stated that capitalization should be suspended with the interruption takes place during the phase of development as per IAS 23.20. Here the important consideration is that when “construction is competed in stages, capitalization of attributable costs of borrowing should crease when substantially all of the activities necessary to prepare that part for its intended use or sale are complete”. Therefore, the standards clearly explain about the commencement of capitalization, the specific time of suspension of capitalization and lastly, the ceases of capitalization.
Disclosure of Borrowing costs:
In the case of evaluation of actual figure of the cost of borrowing, it is important to mention the appropriate disclosures at the end of financial records in order to make it’s the entire procedure transparent and viable and in accordance with the accounting standards IAS 23 (Alfraih 2016). There are two disclosure must be maintained such as “amount of borrowing of capitalization cost during the period” and the “rate of the capitalization used during the accounting”.
Therefore, the financial standard of IAS 38 is useful for ascertaining the value of the intangible assets exists in the corporate statement of the company. The comprehensive knowledge discussed the understanding about the recognition and relevant measurement. The entire discussion clearly defines the terms of “indefinite period” and “definite period” during the measurement of the intangibles. Furthermore, the financial disclosure related to the IAS 38 shall be incorporated in the above discussion which is indeed necessary for maintaining the financial transparency, and the better understanding of the reporting statement.
On the other hand, IAS 23 indicates that “cost incurred by an entity in connection with the borrowing of funds is considered as borrowing costs”. This standard clearly describes how an reporting entity amortize of discounts or premiums related to borrowings, treatment of changes of finance in respect of financial lease, treatment of interest on bank overdrafts along with long term and short term borrowings and other important facts which are relevant to the financial reporting purpose.
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