Morris Mining Corp Research Paper

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but the growth rates are adjusted to the previously mentioned comparatives. This test yields an increase in the present value of cash flow from royalty of $6,099,911 and an increase in net royalty income of $4,743,587, resulting in a significant increase in tax expense.

Sensitivity Testing 3 combines the discount rate reduction noted in Test 1 and the growth rate adjustments noted in Test 2. This test yields an increase in the present value of cash flow from royalty of $7,550,073 and an increase in net royalty income of $3,293,425, also resulting in a significant increase in tax expense.

The extreme sensitivity in Tests 1 through 3, indicate that additional research, support, and appraisals will more than likely be requested by the external auditors. However, I do not expect the auditors to write down the patent, as an increase in the value appears more probable. The external auditors also may recommend Morris Mining to use one of the alternate evaluation methods. Although Morris Mining is not required to use alternate evaluation, the external auditors will not sign-off or provide positive assurance if they are not confident in the valuation. Therefore, it would be in Morris Mining’s best interest to fully evaluate the external auditors’ valuation model. If Morris Mining feels that their model is the most representative they must provide adequate support, especially since testing shows extreme sensitivity in the discount and growth rates.

You work for Morris Mining on the operations audit team and you’ve been tasked with assessing the risk that the external auditors will require you to write down the patent or get third party appraisals.

1. Can firms record goodwill when they have purchased an asset like a patent?

No. Goodwill can only be recognized if the whole business was purchased and the purchase price is greater than the market value of the net assets. According to ASC 350-30-25-2, the cost of a group of assets acquired in a transaction other than a business combination or an acquisition by a not-for-profit entity shall be allocated to the individual assets acquired based on their relative fair values and shall not give rise to goodwill.

2. Can the external auditors require them to use a method other than the discounted cash flows models?

No. The external auditors can only recommend Morris Mining to use an alternate evaluation method and/or percentages. However, if the external auditors are not comfortable with the evaluation, they will not sign-off or provide positive assurance. Therefore, it would be in Morris Mining’s best interest to evaluate the external auditor’s evaluation model. If Morris Mining feels that their model is the most representative they must provide adequate support.

3. Are patents subjected to impairment testing?

Yes. The patent would be reviewed for impairment under the Impairment and Disposal of Long-Lived Assets Subsections of Subtopic 360-10-05-4.

4. Is impairment testing based strictly on discounted cash flow models?

According to ASC 360-10-35-17, an impairment loss shall be recognized only if the carrying amount of a long-lived asset is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. That assessment shall be based on the carrying amount of the asset at the date it is tested for recoverability, whether in use or under development. An impairment loss shall be measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value.

5. Is there some other way to determine fair value of this patent?

ASC 820-10-55 explains the fair value valuation approaches: market approach, cost approach, and income approach. The market approach (ASC 820-10-55-3A) uses prices and other relevant information generated by market transactions involving identical or comparable assets, liabilities, or a group of assets and liabilities, such as a business. The cost approach (ASC 820-10-55-3D) reflects the amount that would be required currently to replace the service capacity of an asset (often referred to as current replacement cost). The income approach (ASC 820-10-55-3F) converts future amounts (for example, cash flows or income and expenses) to a single current (that is, discounted) amount. When the income approach is used, the fair market value measurement reflects current market expectations about those future amounts.

Your boss is a stickler for details and will require you to cite ASC references for your conclusions.