INVESTING ACTIVITIES

Accounting for Software Development

SUMALABE Costs

Operating Assets
➔ Firms must expense all internally
incurred costs of developing computer
➔ Describe the accounting and reporting software until such development
for a firm’s investments in tangible and achieves the ‘‘technological feasibility’’
intangible productive assets, including of a product.
the initial decision to capitalize or
expense them.
Subsequent Expenditures for
Are the Acquisition Costs Assets or Enhancement or Improvements
Expenses?

➔ Subsequent to acquiring long-lived

➔ The initial effects on financial operating assets, firms make additional
statements depend on whether the expenditures to enhance or improve
acquisition costs can be capitalized and them.
recognized as an asset (i.e., the four
conditions for asset recognition and
measurement are met) or not, and thus Costs of Self-Construction
recognized as an expense.

➔ A company might choose to

Accounting for the Acquisition of self-construct plant and equipment
Property, Plant, and Equipment: General because it wants to save costs or
Rule because no external supplier is
available.

BAHALA
➔ It should be recorded at the fair value of
what has been sacrificed to acquire the
asset. Costs of Acquiring Natural Resources
➔ Cash used to acquire property, plant,
and equipment is reported as a cash
outflow in the investing activities Three types of costs incurred in connection
section of the statement of cash flows. with natural resources are as follows:
● Acquisition costs
● Exploration costs
Accounting for Research and
Development Costs R&D (research and ● Development costs
development) Acquisition Costs. Acquisition costs
include the costs of acquiring the natural
resources and the costs associated with
➔ R&D (research and development) is an returning the resource site to an acceptable
important activity for many firms. condition after the resources have been
However, the U.S. GAAP requires firms obtained.
to immediately expense all internal Exploration Costs. Exploration costs
R&D costs. are incurred to discover the existence and exact
location of a natural resource.
Development Costs. Once the natural
resource has been acquired and exploration has
determined the location of deposits, the natural
resource must be developed.
 Costs of Acquiring Intangible Assets

➔ Intangible assets include trade and

brand names, trademarks, patents,
copyrights, franchise rights, customer
lists, and goodwill. Firms capitalize the
costs to acquire intangible assets from
others.
When Will the Long-Lived Assets
Be Replace
➔ Firms capitalize costs to acquire and
maintain long-lived tangible and
intangible assets if future benefits are
Long-lived assets, such as buildings,
probable and reasonably estimated;
machinery, or vehicles, are typically replaced
otherwise, the costs are expensed.
based on several factors:

Goodwill 1. End of Useful Life

2. Increased Maintenance Costs
3. Technological Advancements
How should you treat goodwill that
4. Changes in Business Needs
appears on a firm’s balance sheet?
5. Declining Performance

➔ One (1) approach is to follow financial

reporting rules and view goodwill like REYES
any other productive asset of the firm.
What Is the Relation between the Book
➔ Another (2) approach is to eliminate Values and Market Values of Long-Lived
goodwill from assets and to subtract its Assets?
amount from retained earnings or other
common shareholders’ equity accounts. ➔ Acquisition-Cost-Based Reporting rests on
the presumption that such amounts are
more objectively measurable than the fair
What Choices Are Managers Making to
Allocate Acquisition Costs to the Periods values of fixed assets.
Benefited?
Challenges in determining the market value:
When allocating acquisition costs to the
➔ Absence of active markets for many
periods benefited, managers must:
used fixed assets wherein there aren’t
enough markets for that asset, making it
(1) choose an allocation method
hard to give value on the asset.
(2) estimate useful life
➔ Need to identify comparable assets.
(3) estimate salvage value.
Since there is an absence for the active
market for long-lived assets, firms
Useful Life for Long-Lived Tangible and usually look for comparable assets in
Limited-Life Intangible Assets order to give an estimation for their
assets. Usually, this is done by firms
Depreciable life estimate with unique or customized assets.
➔ refers to the estimated duration over ➔ Need to make assumptions. Refers to
which a physical asset is expected to be the need to have a broader view in
useful and valuable to a business. which it must consider the asset’s
age/life, technological advancements,
Amortizable life estimate and such.
➔ is the period over which an intangible
asset is expected to be useful.
 Questions for Analyzing Profitability 1. Fair value (minus estimated costs to sell the
asset).
➔ Are impairment charges in line with 2. Value in use (the present value of future
the firm's economic environment? Is cash flows from using the asset).
the firm recording assets impairments
➔ U.S. GAAP and IFRS have different
due to economic reasons or is it
methods for determining when an
unrelated at all?
impairment is needed, with U.S. GAAP
➔ Are impairment charges transitory or
relying on undiscounted cash flows for
frequent? How frequent does the firm
the recoverability test, and IFRS using
record its impairment charges?
a more comprehensive method based on
Impairment charges recorded frequently
fair value and discounted cash flows.
can be seen negatively as it possesses
an image of having poor investment Impairment of Intangible Assets Not Subject
decisions due to the decreasing quality to Amortization
performance of the asset.
➔ Are impairment charges or ➔ Intangible assets with an indefinite life
revaluations based on reliable (e.g., goodwill, trademarks, or certain
estimates? The need to assess if the patents) are not amortized but are still
estimates are realistic and fair. subject to impairment testing. This
testing ensures that these assets are not
Three Basic Types of Long-Lived carried on the balance sheet at values
Operating Assets higher than their recoverable amount.

Impairment Testing Under U.S. GAAP

Impairment of Long-Lived Assets Subject to
Depreciation and Amortization
➔ Tested by comparing the fair value of
the asset to its carrying amount , if the
➔ Firms must assess whether conditions
fair value is below the carrying value.
suggest that the carrying amount of an
asset is no longer recoverable. If it is Impairment Testing Under IFRS:
not recoverable, the asset must be
written down to its fair value, and the ➔ Test for intangible assets not subject to
company must recognize an impairment amortization under IFRS is similar to
loss in its income statement. the process used for depreciable or
amortizable assets. The company
Impairment Testing Under U.S. GAAP compares the asset's carrying amount
to its recoverable amount, which is
1. Recoverability Test: The company defined as the higher of: Faire Value
checks if the asset's carrying value is and Value in use.
recoverable by comparing it to the sum
of undiscounted future cash flows Impairment of Goodwill
expected from the asset. If the carrying
value exceeds the future cash flows, the ➔ Goodwill represents the premium paid
asset is considered impaired. for intangible factors such as brand
2. Measurement of Impairment: If value, customer relationships, market
impairment is determined, the asset is position, or synergies that are expected
written down to its fair value, which is to benefit the combined business.
often calculated using a discounted cash However, goodwill is not amortized
flow method (present value of future like tangible assets; instead, it must be
cash flows). tested for impairment periodically to
ensure it is not overstated on the
Impairment Testing Under IFRS: balance sheet.

Impairment testing is based on

comparing an asset's carrying amount to its
recoverable amount, which is the higher of:
Impairment Testing Under U.S. GAAP influence or control over its
management or decisions.
➔ Reporting Unit: A segment or a
component of a segment that is a Minority, Active Investment.
business with separate financial ➔ Investments ranging from 20% to 50%
information that management regularly of the voting stock of another company.
reviews. May be a part of a larger Under U.S. GAAP and IFRS, firms
business segment but operates with such ownership are required to use
independently enough to generate its the Equity Method to account for their
own financial results. significant influence over the other
➔ Goal: To estimate whether the fair corporation.
value of the reporting unit (or the
business unit with goodwill) is greater Majority, Active Investment.
than its carrying value, including the
➔ When an investor or firm owns more
goodwill. If the fair value is less than
than 50% of the voting stock of another
the carrying value, an impairment loss
company, it generally has control, both
is recognized and recorded to reduce the
at a broad policy-making level and in
goodwill on the balance sheet.
day-to-day operations. The majority
investor is known as the parent
Impairment Testing Under IFRS:
company, and the majority-owned
➔ Cash-Generating Unit (CGU): The company is referred to as the subsidiary.
smallest group of assets that generates
cash inflows largely independent from
other groups of assets. Purpose of Consolidated Statements
➔ Goal: This involves comparing the
carrying amount of the CGU (which
➔ Provide more useful information to the
includes goodwill) to the recoverable
shareholders of the parent corporation
amount of the CGU. The recoverable
➔ More useful information than does the
amount is the higher of the CGU's fair
equity method
value less costs to sell or its value in
➔ Provides a more complete and realistic
use (the present value of future cash
picture of the operations and financial
flows expected to be generated by the
position of the whole economic entity
unit). If the carrying amount exceeds
the recoverable amount, an impairment
loss is recognized, and goodwill is
written down. Corporate Acquisitions and Consolidated
Financial Statements
MANALO

Two types of business combination:

Investment in Securities Statutory Mergers: This occurs when
one entity acquires all of the assets and
liabilities of another entity, integrating them
➔ Three Level of ‘‘controlling financial into its own books. The acquired entity ceases
interest’’ by the firm making the to exist as a separate legal entity.
investment, determined by Acquisitions: This happens when an
● Minority, Passive Investment entity acquires between 51% and 100% of the
● Minority, Active Investment common stock of another entity. In this case,
● Majority, Active Investment the acquired entity continues to operate as a
separate legal entity with its own financial
Minority, Passive Investment. records.
➔ Involves owning a small percentage
(typically less than 20%) of a
company's shares without significant
 Preparing Consolidated Statements at Consolidated Financial Statements
the Date of Acquisition Subsequent to the Date of Acquisition

Exhibit 8.13 presents the worksheet

necessary to consolidate Parent and Sub at the
date of acquisition .The primary objective of Exhibit 8.14 presents a consolidated
the worksheet is to replace the Investment in worksheet that provides a detailed view of the
Sub account with the aforementioned three financial consolidation process one year after
components in the account. the acquisition, dated December 31, 2014. It
includes both the income statement and the
Eliminations in the Consolidation Process balance sheet for the parent company and the
subsidiary, along with the necessary
Eliminating Investment in Subsidiary:
eliminations to create the consolidated financial
➔ The account "Investment in Sub" is statements.
removed in the Eliminations column.
This ensures that after summing the
rows, the Investment in Sub account
doesn’t appear in the Consolidated
column.

Adding Assets and Liabilities:

➔ The individual assets and liabilities

from the subsidiary’s financial
statements are added to the parent’s
assets and liabilities to get the
consolidated total Exhibit 8.14 shows how the financial
statements of the parent and subsidiary are
Adjusting for Fair Values and Goodwill: combined, eliminating intercompany
transactions, and adjusting for fair value
➔ The remaining eliminations add
differences to provide a comprehensive view of
differences between the fair and book
the financial health of the combined entity one
values of the subsidiary’s identifiable
year after acquisition.
net assets and any goodwill to the
consolidated total records.
BALIMBIN
Consolidated of Unconsolidated
Affiliates and Joint Ventures
What are the Non-Controlling Interest?
➔ Discusses how companies handle
➔ Non-Controlling Interest (sometimes unconsolidated affiliates and joint
called minority interest) happens when ventures in their financial statements.
a company buys less than 100% of These are investments or partnerships
another company. that are important to the firm but are not
➔ When parent company owns less than fully consolidated into the parent
100% of subsidiary’s voting shares, the company's financial statements.
portion not owned by the parent
company is referred to as Primary Beneficiary of a Variable-Interest
non-controlling interest (NCI) Entity

Key Points:
→ NCI and Ownership ➔ VIEs are financial structures where a
→ Fair Value and Reassessment company can exert control and reap
→ Goodwill financial benefits without majority
→ Consolidated Financial Statement ownership. They are often used to
manage risk, gain access to lower-cost
financing, and structure operations
efficiently. However, control of these
entities is based more on contractual
arrangements than on equity ownership.

When is an Entity Classified as a VIE?

➔ An entity is classified as a VIE if its

Corporate Acquisition and Income equity investment is too small to fund
Taxes its operations independently (typically
less than 10% of its total assets) and if
the equity-investing firm lacks control
➔ Refers to the tax implications and
over decision-making, the obligation to
considerations that arise when one
absorb losses, or the right to receive
company (the acquiring corporation)
residual returns.
purchases or takes control of another
company (the acquired corporation).
● Control over Decision-Making
The process involves various legal and
● Absorption of Expected Losses
financial complexities, including the
● Receipt of Residual Returns
treatment of taxes related to the
acquisition.

Corporate Acquisition and Income Taxes Which Entity Should Consolidate the
Key Concepts: VIE?
● Acquisition Process
● Tax treatment
➔ A firm that is the primary beneficiary of
● Deferred Taxes
a VIE, meaning it controls the VIE
● Deferred Tax liability Calculation
through decision-making, the obligation
● Impact on Financial Statement
to absorb losses, or the right to residual
returns, must consolidate the VIE into
its financial statements.
The firm is the primary beneficiary if it has: BALMES
➔ The ability to make decisions
➔ The obligation to absorb the Entity’s
Foreign Currency Translation
Expected Losses
➔ The right to receive the entity’s ➔ means converting money from one
Residual Returns currency to another in a company’s
financial report.

Variable Interest
Functional Currency Concept

➔ A firm can have variable interests ➔ It is the currency of the primary

through contractual rights similar to economic environment in which the
those of traditional equity owners. entity operates.
These variable interests create exposure
to both potential returns and losses. Two General Types of Foreign Entities

Examples of variable Interests includes:

A self-contained and integrated unit
● Participation Rights
in a particular foreign country. The
● Asset Purchase Options
functional currency for these operations is the
● Guarantees of debt
currency of that foreign country. The rationale
● Subordinated Debt Instrument
is that management of the foreign unit likely
● Lease Residual Value Guarantees
makes operating, investing, and financing
decisions based primarily on economic
Disclosure in Financial Statements: conditions in that foreign country, with
secondary concern for economic conditions,
If a VIE’s activities are significant to exchange rates, and similar factors in other
the financial statements of the primary countries.
beneficiary, the firm must disclose: A direct and integral component or
extension of the parent company’s
➔ The nature, purpose, size, and activities operations. The functional currency for these
of the VIE. operations is the U.S. dollar. The rationale is
➔ The carrying amount and classification that management of the foreign unit likely
of assets that represent the collateral for makes decisions from the perspective of a U.S.
the VIE’s obligations. manager concerned with the impact of
➔ The status of recourse to VIE creditors, decisions on U.S. dollar amounts even though
if any, to the assets of the primary day-to-day transactions of the entity are usually
beneficiary. conducted in the foreign currency.

Translation Methodology—Foreign
Disclosure by Firms with significant
Currency Is Functional Currency
Variable Interest In a VIE.

➔ When the functional currency is the

Firms with significant variable interests must
currency of the foreign unit, U.S.
also disclose:
GAAP requires firms to use the
➔ The nature of the firm’s involvement
all-current translation method.
with the VIE, including the start of that
involvement.
➔ The rationale for this method is that the
➔ The nature, purpose, size, and activities
firm’s investment in the foreign unit is
of the VIE.
for the long term; therefore, short-term
➔ The firm’s maximum exposure to loss
changes in exchange rates should not
as a result of its involvement with the
affect periodic net income.
VIE.
 Translation Methodology—U.S. Dollar Is
Functional Currency

➔ When the functional currency is the

U.S. dollar, firms must use the
monetary/nonmonetary translation
method.
➔ The underlying premise of the
Under All Current Translation Method monetary/nonmonetary method is that
the translated amounts reflect amounts
that the firm would have reported if it
REVENUES AND EXPENSES
had originally made all measurements
These are translated using the average
in U.S. dollars.
exchange rate over the period .

BALANCE SHEET ITEMS MONETARY ITEM

Assets and liabilities are translated
using the exchange rate at the end of the period.
➔ an account whose nominal maturity
TRANSLATION ADJUSTMENT amount does not change as the
Any difference that comes up because exchange rate changes.
of these translations (the numbers don't match
perfectly) goes into a special account called It includes cash, marketable securities,
"other comprehensive income. receivables, accounts payable, other accrued
liabilities, and short-term and long-term debt.
CUMULATIVE TRANSLATION
ADJUSTMENT ● From a U.S. dollar perspective,
If the company sells or shuts down the monetary items give rise to exchange
foreign unit, any gain or loss from this gains and losses.
adjustment is moved to the net income at that ● Firms translate monetary items using
time. the end-of-the-period exchange rate
and recognize translation gains and
Illustration—Foreign Currency Is losses.
Functional Currency

NON MONETARY ITEM

➔ Firms translate nonmonetary items

using the historical exchange rate in
effect when the foreign unit initially
made the measurements underlying
these accounts.

It include inventories, fixed assets,

common stock, revenues, and expenses

● Inventories and cost of goods sold

translate at the exchange rate when the
foreign unit acquired the inventory
items.
● Fixed assets and depreciation
expenses translate at the exchange rate
when the foreign unit acquired the fixed
assets.
 ● Most revenues and operating while permitting the foreign unit to
expenses other than cost of goods sold operate with considerable freedom.
and depreciation translate at the ➔ Minimize remittances/dividends. The
average exchange rate during the greater the degree of earnings retention
period. by the foreign unit, the more likely its
currency will be the functional
Illustration—U.S. Dollar Is Functional currency. The parent may obtain cash
Currency from a foreign unit indirectly rather
than directly through remittances or
dividends.

Interpreting the Effects of Exchange Rate

Changes on Operating Results

TWO STRATEGIES THAT

MANAGEMENT MIGHT USE TO
SHIFT TOWARDS USING FOREIGN
CURRENCY

➔ Decentralize decision making to the

foreign unit. The greater the degree of
autonomy of the foreign unit, the more
likely its currency will be the functional
currency. The U.S. parent company can
design effective control systems to
monitor the activities of the foreign unit