IAS 38 specifies disclosures about intangible assets.

Audit Procedures

The auditor should ensure that:

a) Any costs incurred in the purchase of fixed assets in order to provide facilities for research and development over a number of accounting years are to be capitalised and written off over their useful lives;

b) Expenditure on research should be written off as it is incurred;

c) Development expenditure should also be written off as it is incurred except in the very special circumstances mentioned above. If development costs are as defined, they should be amortised on the basis of sales or use of the product or process. The amount deferred should be reviewed each year and if there are any doubts as to its recoverability, it should be written off immediately. Once written off, research and development expenditure should not be reinstated;

d) Movements and balances of deferred development costs should be fully disclosed in the accounts as a separate item and not included in current assets. The accounting policy adopted should be fully explained. The movements that need to be disclosed are: the balance at the beginning of the year, additional expenditure during the year, less expenditure written off during the year and the amount carried forward.

The two key issues in the audit of intangible assets are:

(a) Recognition of intangible assets

The audit problem here is to ensure that all the requirements of IAS 38 are net before intangible assets are recognized. The identification, measurement and distinction between ‘research’ and ‘development’ expenditure are potentially difficult areas for the auditor.

(b) Measurement after initial recognition

Intangible may only be revalued upwards (although in practice this may be rare) if an active market in them exists. If an active market does exist evidence of valuation will be available. Active markets are typical in many industries. For example fishing quotas in the fishing industry may be purchased by a company at Kshs. per tonne. This increase can be reflected in the financial statements by the company provided that it is verifiable from observed activity of buying and selling of quotas on the market and the verification of price evidence.

The standard defines research and development as follows:

(a) Research – original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding.

(b) Development – the application of research findings or other knowledge o a plan or design for the production of new or substantially improved materials, products devices etc. prior to the commencement of commercial production or use.

Research costs should be expensed in the period in which they are incurred

Enterprises costs should be expenses in the period in which they are incurred

Enterprise should write off all development costs, unless they can demonstrate (a) to (f) below, in which case the cost should be recognized as an asset.

(a) The technical feasibility of completing the intangible asset and use or sell it

(b) The intention to complete the intangible asset and use or sell it

(c) The ability to use or sell the intangible asset

(d) How the intangible asset will generate probable future economic benefits. Among other this, the

enterprise should demonstrate the existence of a market for the output of the intangible asset pr the intangible asset itself or if it is to be used internally the usefulness of the intangible asset.

(e) The availability of adequate technical, financial and other resources to complete the development and to use or sell the intangible asset, and

(f) The ability to measure the expenditure attributable to the intangible asset during its development


Costs which were originally recognized as expenses cannot be recognized as assets in subsequent periods.

Amortization – capitalized costs should be amortised to reflect the pattern in which the related economic benefits are recognized.

Once commercial production has commenced development costs should be amortised over the period of production that has benefited from the development expenditure. This may be done on a time basis or using a ‘unit production’ method.

Impairment – deferred development expenditure should be reviewed at the end of each accounting period and where the circumstances which have justified the deferral of the expenditure no longer apply, the expenditure should be written off immediately.

The main procedures in audit work to verify compliance with IAS 38 are to check that the conditions noted above for recognition of development costs have been complied with.