Not all company assets are physical items like property or equipment. Learn what intangible assets are, how to acquire them and how to account for them on your balance sheet.
- Intangible assets cannot be used in the same way as furniture or computers; they include goodwill, trademarks and patents, licenses to operate, and land usage rights.
- Intangible assets can be created or acquired through purchases, exchanges and government grants.
- Money is not considered a tangible or intangible resource. Rather, it is a financial asset.
- This article is for small business owners who want to better understand how to identify and manage their company's intangible assets.
Intangible assets are various resources a business owns that cannot be moved like equipment or handled like property. These resources can be goodwill, patents, trademarks, copyrights and more. They hold a lot of value for your business even though they aren't physical items you can touch. As a business owner, you'll need to recognize, manage and amortize your intangible assets.
Examples of intangible assets
Assets without physical substance are created daily, continually expanding the definition of an intangible asset. Any resource controlled by an entity as part of a purchase or self-creation that creates a certain economic benefit constitutes an asset. While their intangible nature may make their value somewhat subjective, these assets often govern the legality of business and the control of production.
These are some examples of intangible resources:
Goodwill: This intangible is often recognized when one business acquires another. It represents the excess of cost paid by the purchasing business over the value of the purchased business's assets. For example, a purchasing company might pay $8 million for a company valued at $7 million, giving the purchased company a goodwill of $1 million based on its business reputation and other contributing factors.
Copyright: Granting copyright to a purchasing company allows it to continue creation and sale of the purchased company's services or products.
- Patents: A patent grants a manufacturing or research company control over the patent's use and sale of a specific design. For example, a company may possess a patent for the only way of producing a specific product on the market. The purchasing company would claim ownership of the patent and be allowed to continue overseeing production of the patented design.
Intellectual properties – such as songs, designs, trademarks and inventions – are also intangible assets, as are software licenses, motion pictures, customer lists and franchises.
"Intangible assets can be extremely valuable to the company and in some cases have more value than all of the company's tangible assets," said Yarik Kim, audit and accounting partner at Macias, Gini & O'Connell LLP. "Just think about companies like Facebook or Twitter, whose ability to reach billions of users is way more valuable than the sum of their tangible assets."
Cash is neither an intangible or tangible asset. It's considered a financial asset, which is an item you own that has monetary value and comes from a contractual claim. Financial assets include cash flow, bonds and bank deposits.
Key takeaway: Intangible assets are resources your business owns that cannot be physically handled, including trademarks, patents and copyrights.
Amortizing intangible assets
Amortization of intangible assets entails expensing out their value over their intended lifetime. Much like tangible assets, intangible assets have a useful lifetime, or depreciation. Some elements, such as goodwill, have an indefinite useful life, whereas things like patents only possess a useful lifetime of 20 years. The remaining useful lifetime influences the overall intangible asset valuation, much like the age of a company's equipment.
Some intangibles have a determinable life, also known as a legal life or economic life. The overall value, or cost of the asset, is divided against the remaining duration of its useful life. Such assets include software licenses, patents and customer lists. Other assets have indeterminable lives dependent on how long the company's brand will hold value. These assets include brand name and goodwill – elements dependent on a company's reputation and growth.
Accountants commonly amortize intangible assets using the straight-line method. For example, a patent may cost a company $50,000 to obtain. The patent's legal life is 20 years, but the company only plans to utilize the patent for 10 years before creating a newer product. The company would then be required to amortize the patent over 10 years, yielding a per-year amortization of $5,000.
Key takeaway: When you amortize intangible assets, you assess what the asset's value will be over its estimated economic life.
Acquiring intangible assets
Businesses obtain intangible assets through various methods. A common practice is to obtain all assets during a company acquisition or merger. These are some other possible methods:
Separate purchase: Assets can be purchased from an existing company, just like purchasing regular services. For the right price, companies will give up patents and other production rights to the purchaser.
Government grants: In some circumstances, intangible assets are acquired free of charge through a government grant. For example, the government may transfer or allocate intangible assets, such as licenses to operate or land usage rights, to a company.
Assets exchange: A company might be acquired through the purchase of its assets in exchange for cash or stock from the purchasing company.
- Self-creation: Not all assets need to be purchased; they can be created internally for use or future sale. In this instance, companies rely on their own in-house resources to create the intangible resource.
The value of intangible assets depends on both the cost of creation and the asset's long-term value. How these assets are acquired and exchanged, as well as how they influence the market, contribute to their value.
Key takeaway: Your business can create intangible assets or acquire them through a company acquisition or merger, a government grant, or an asset exchange.
Examples of tangible assets
Companies own an array of physical resources that keep them up and running. Tangible assets are items, property or equipment purchased by your business that have monetary value and can be touched or seen. Compared to intangible assets, it's much easier to track and determine their worth.
"This is the type of asset that is usually utilized to produce products and services," said Timo Wilson, CEO of ASAP Credit Solutions. Tangible assets include office furniture and fixtures, buildings and real estate, computers, equipment, and machinery.
Key takeaway: Tangible assets are physical resources or items your company purchases that hold monetary value.
Using balance sheets to track assets
It's important to know how to track your tangible, intangible and financial assets. A balance sheet is a financial statement that helps you monitor all these things, giving you an overview of your company's financial health. According to Angela Nedd, tax preparer at Expect Tax & Accounting Inc., balance sheets show you your assets (what you own), liabilities (what you owe) and equity (net value) at a moment in time.
"The balance sheet is the most important of the three financial statements, as it lets you know whether you're able to cover your obligations," Nedd said.
Companies are regularly advised to carry intangible assets on balance sheets at cost rather than perceived value, but they are usually listed on this financial statement only if they can be amortized or have a specific value.
When an entity assigns a value to intangible assets such as jingles, this deceptively changes the perceived value of an organization and can boost its stock value. However, when a company is audited and such incorrect information is included on an income statement or balance sheet, it creates a potentially problematic situation for investors and stockholders.
Intangibles like the Coca-Cola brand name are priceless, for example, but cannot carry a value on financial reporting statements.
Key takeaway: A balance sheet is a financial statement that shows what you own in terms of both intangible and tangible assets, what you owe, and your equity at a given point in time.
Ryan Goodrich contributed to the writing and reporting in this article.