A patent is an exclusive right to produce and sell a commodity that has one or more unique features. Issued to inventors by the federal government in the United States, patents have a legal life of 17 years. They may be obtained on new products developed in a company’s own research laboratories or they may be purchased from others. If a patent is purchased from others, its cost is simply the purchase price. The cost of the patent is amortized over the useful life of the patent, which may or may not coincide with the patent’s legal life.
The cost of a patent for a product developed within a firm is difficult to determine. In 1974, the Financial Accounting Standards Board determined that all research and development costs of internally developed patents are expensed as they are incurred.
Franchise and licenses are exclusive rights to perform services in certain geographical areas. For example, McDonald’s Corporation sells franchises to individuals to operate its hamburger outlets in specific locations. Similarly, the Interstate Commerce Commission issues licenses to trucking firms, allowing them to transport certain types of goods in specific geographical areas. The cost of a franchise of license is amortized over its useful or legal life, whichever is shorter.
When business is purchased, the negotiated price often exceeds the total value of the specific assets minus the outstanding liabilities. This excess in purchase price that cannot be allocated to specific assets is called goodwill and is an intangible asset. The mergence of goodwill in such a transportation is considered an indication that the purchased business is worth more than its net assets, due to such favorable characteristics as a good reputation, a strategic location, product superiority, or management skill.