Amortization of Intangible Assets

Amortization is like depreciation, except that amortization refers to intangible assets, or assets that do not physically exist, such as a brand name. Amortization directly reduces the asset on the balance sheet. Goodwill cannot be amortized, even if it is a kind of intangible assets.

Depreciation and amortization are income tax deduction but does not affect cash flows from operating activities. Therefore, both expenses appear in the income statement, even though they are non-cash expenses. To recap depreciation (of our freezer), visit Capital Expenditures and Depreciation.

After we acquired Café 95 and recorded $55,000 in Intangible Assets, we need to write off the value of Intangible Assets over their lifetime. Let say, we assume 5 years for the lifetime of the Intangible Assets.

Year 2Year 3Year 4Year 5Year 6
Intangible Assets55,00044,00033,00022,00011,000
Amortization in the Income Statement11,00011,00011,00011,00011,000
Book Value44,00033,00022,00011,0000

In our Balance Sheet, value of the Intangible Assets will be reduced by $11,000 and become $44,000.

Balance SheetYear 1Year 2Explanation
Current Assets
Accounts Receivable0.0044,200.00
Prepaid Expenses0.0016,000.00
Short-Term Investments0.000.00
Total Current Assets30,000.0023,906.00
Long Term Assets
Property, plant and equipment0.0039,000.00
Intangible Assets0.0044,000.00$55,000 – $11,000 = $44,000
Total Long Term Assets0.00108,000.00
Total Assets30,000.00131,906.00
Liabilities & Equity
Current Liabilities
Accounts Payable0.0014,000.00
Deferred Revenue0.0011,500.00
Total Current Liabilities0.0025,500.00
Long Term Liabilities
Total Long Term Liabilities0.0045,000.00
Toal Liabilities0.0070,500.00
Total Liabilities & Equity30,000.00131,906.00

It should be noted that Amortization is a non-cash expense, so it is an adjustment in the Cash Flow Statement. It reduces the company’s taxes, but it costs the company nothing in cash. As a result, the company’s cash balance increases.

Cash Flow StatementYear 1Year 2
Cash flows from operating activities
Net Income28,804.0039,406.00
Amortisation of intangible assets11,000.00
(Gains) / Losses on disposal of quoted shares0.00(1,000.00)
PP&E written off0.003,000.00
Inventories written off0.00500.00
Receivables written off0.00800.00
Changes in working capital
(Increase)/Decrease in Inventory0.00(22,000.00)
(Increase)/Decrease in Accounts Receivable0.00(45,000.00)
(Increase)/Decrease in Prepaid Expenses0.00(16,000.00)
Increase/(Decrease) in Accounts Payable0.004,000.00
Increase/(Decrease) in Deferred Revenue0.0011,500.00
Net cash from operating activities28,804.00(7,794.00)
Cash flows from investing activities
Capital Expenditures0.00(18,000.00)
Acquisition of quoted shares0.00(10,000.00)
Disposal of quoted shares0.0011,000.00
Acquisition of Café 950.00(180,000.00)
Net cash from investing activities0.00(197,000.00)
Cash flows from financing activities
Proceeds from bank borrowings0.0050,000.00
Repayment of bank borrowings0.00(5,000.00)
Shares Issuance0.0010,000.00
Dividends Issued0.00(8,000.00)
Shares Repurchase0.00(10,000.00)
Net Cash from financing activities0.0037,000.00
Net Change in Cash28,804.00(167,794.00)

As Amortization reduces the company’s taxes, we must record it in the Income Statement. Net Income decreases due to this Amortization expense.

Income StatementYear 1Year 2
Cost of Sales(110,000.00)(150,000.00)
Gross Profit90,000.00130,000.00
Selling and marketing expenses(3,000.00)(7,000.00)
Administrative expenses(50,000.00)(50,000.00)
Operating Expenses(53,000.00)(57,000.00)
Amortisation of intangible assets0.00(11,000.00)
Operating Profit37,000.0056,000.00
Other Income / (Expenses)900.00900.00
Interest Income / (Expenses)0.00(1,750.00)
Gains / (Losses) on disposal of quoted shares0.001,000.00
PP&E written off0.00(3,000.00)
Inventories written off0.00(500.00)
Receivables written off0.00(800.00)
Profit Before Tax37,900.0051,850.00
Income tax expense (24%)(9,096.00)(12,444.00)
Net Income28,804.0039,406.00

Impact of Amortization of Intangible Assets to the Financial Statements in a Glance

Impact of Amortization of Intangible Assets to the Financial Statements in a Glance

Explore other chapters and guides

Leave a Reply

Your email address will not be published. Required fields are marked *

Scroll to Top