Long-lived assets: investment versus reported expense

Learning goals

• Compare acquired and internally developed intangibles.
• Interpret depreciation, impairment, disposal and roll-forward disclosures.

Draft · approximately 80 minutes, excluding further revision.

Recognize what the expenditure creates

Purchased intangible rights and identifiable intangibles acquired in a business combination can be recognized when applicable criteria are met. Under IAS 38 research is expensed; development expenditure is capitalized only after all required feasibility, intent, resources, benefit and reliable-measurement conditions are demonstrated. US GAAP generally expenses research and development, with specific exceptions such as qualifying software; do not apply one blanket rule to every project.

A capitalization decision affects assets, current profit and later amortization, but does not itself create cash. For comparisons, examine additions, useful lives, residual values and the date an asset becomes available for use. A long life reduces annual depreciation but can conceal replacement needs. Test whether product obsolescence supports the estimate.

Impairment and derecognition answer different questions

For IFRS assets within IAS 36, recoverable amount is the higher of value in use and fair value less costs of disposal. A carrying amount above it creates an impairment loss. A later permitted reversal for an asset other than goodwill is limited by the carrying amount that would have existed without impairment. Goodwill impairment is not reversed. US long-lived assets held and used generally use an undiscounted recoverability screen before measuring a loss; scope-specific rules differ.

On a disposal, compare proceeds with carrying amount to determine gain or loss and remove the asset’s cost and accumulated charges. The full proceeds, not the gain alone, generally appear in investing cash flow. An impairment can lower future depreciation and mechanically improve future return on assets even if operating capacity worsens.

Audit the roll-forward analytically

Reconcile beginning net PPE plus additions, less depreciation, impairment and carrying amounts disposed, plus other disclosed changes to ending net PPE. Acquisitions, currency translation and revaluations need separate lines. Capex/depreciation or average-age approximations can inform questions but are unreliable when asset mix, inflation or acquisitions change sharply.

Read impairment assumptions, sensitivity, pledged assets, construction in progress and remaining commitments. Compare a manufacturer replacing machinery with a software issuer capitalizing development; equal capex/revenue ratios need not mean equal reinvestment quality. Preserve the distinction between accounting carrying value and estimated economic capacity.

Development capitalization requires all gates

For IAS 38 development, demonstrate technical feasibility, intent and ability to complete, use or sell; probable future economic benefits; adequate technical, financial and other resources; and reliable measurement of attributable expenditure. A promising idea, management enthusiasm or a patent application alone is insufficient. Research remains expensed; separate identifiable acquisition-date intangibles from residual goodwill in a business combination.

Track costs from the date the criteria are demonstrated. Costs previously expensed are not automatically reinstated because the project later succeeds. Analysts comparing peers should reconcile development additions, amortization and impairment rather than assume identical R&D captions imply identical profit timing.

Tie depreciation assumptions to the asset roll-forward

A fictional machine costs 110, has residual value 10 and five-year useful life, with straight-line depreciation and no impairment. Annual depreciation=(110−10)/5=20. After two full years, carrying amount is 70. Selling it for 75 creates a gain 5 before tax; cash proceeds 75 differ from the income-statement gain 5. Depreciation is allocation of depreciable cost, not a current estimate of resale value.

Reconcile opening net PP&E+qualifying additions−depreciation−carrying amount disposed−impairment±other movements=closing net PP&E. Acquisitions, foreign-currency translation and noncash additions prevent a simple equality between cash capex and accounting additions. Longer lives increase current profit relative to otherwise identical shorter-life assumptions; test whether the engineering and utilization evidence supports the change.

Formula and assumptions

Ending PPE=beginning PPE+additions−depreciation−impairment−carrying value disposed+other movements; disposal gain=proceeds−carrying value

Roll forward then dispose

1. Beginning net PPE 500, additions 120, depreciation 60, impairment 30 and carrying value of disposals 40 give ending PPE 490, with no other movements.
2. Sale proceeds 55 on carrying value 40 create gain 15, but investing cash inflow 55.
3. Separately, carrying 100, value in use 76 and fair value less disposal costs 82 imply recoverable 82 and impairment 18 under IAS 36.

Errors to catch

• Capitalizing every research payment.
• Confusing sale gain with cash proceeds.

Original knowledge check

Answer every question before checking. Review explanations after submitting; retry starts a new attempt.

Sources and coverage status

These original lessons are drafts. Public outlines are used to check scope; the official learning-outcome text and proprietary question banks are not reproduced here. Follow the source for exam-year requirements and updates.

• Reference · www.ifrs.org
• Reference · www.ifrs.org
• Reference · www.ifrs.org