Question

A. Camilia Inc. has two options to acquire intangible assets either through buying the intangible asset, or through doing some research and develop the intangible asset internally. From what you learnt from this course explain with details the differences between these two ways of acquiring intangible assets.

B. Camilia, Inc, a biotechnology company, developed and patented a diagnostic product called Trouvadol. Camilia purchased some research equipment to be used for Trouvadol and subsequent research projects. Camilia defeated a legal challenge to its Trouvadol patent, and began production and marketing operations for the project. Corporate headquarters costs were allocated to Camilia's research division as a percentage of the division's salaries.

Required:

How the equipment purchased for Trouvadol should be reported in Camilia's income statement and statement of financial position? Explain your answer.

Describe the accounting treatment of research and development costs. And what is the justification for the accounting treatment of research and development costs?

How should corporate headquarters' costs allocated to the research division be classified in Camilia's income statements? Why?

How should the legal expenses incurred in defending Trouvadol 's patent be reported in Camilia's financial statements?

Answer 1

a. A company has an option to acquire intangibles in two ways:

(i) Produce or develop

(ii) Purchase

Purchase of intangibles refers to buying the assets from an external party. The cost of purchase includes all acquisition costs and expenses incurred to make it ready to use. These costs include the purchase price, legal fees etc. The accounting for purchased intangibles is similar to purchased tangible assets. The asset is recorded at the acquisition price. In case of intangibles are acquired as a part of stock exchange in that case the asset is recognized at fair value of the consideration given or fair value of the stock whichever is more evident.

If the assets internally generated and is identifiable the research and development costs are expensed while other capital costs are amortized over the useful life of the asset. If the asset has indefinite life then the asset is tested for impairment each year. In case the internally generated intangible is not identifiable the research and development expenses are expensed as incurred.

b.

(i) The cost of the research equipment to be used on Trouvadol and future projects is capitalized and shown as equipment less accumulated depreciation in the statement of financial position. The depreciation expense incurred on an capital research equipment is reported as research and development expense.

(ii) Research and development costs are expensed as they are incurred. They are reported in the income statement. The justification of such a treatment is that these expenses cannot be matched with revenues. There is a high degree of uncertainity in the amount and future benefits. The direct relationship between research and development costs and future revenues is generally difficult to establish.

(iii) Corporate headquarters' costs allocated to the research division must be classified as general and administrative expenses since these expenses are not related to research and development activities.

(iv) Legal expenses incurred in defending Trouvadol 's patent will be capitalized and added to the cost of the patent and amortized over the remaining useful life of the asset. In the statement of cash flows, the legal expenses are reported under investing activities in the period paid.