IAS 38 – Significant Judgments and Estimates in a World Where Intangibles Drive Value

Part 1: Why the Balance Sheet Is Falling Behind the Business Model

1. Introduction – The Silent Growth of Intangible Value

IAS 38 intangible assets judgments – Over the past two decades, corporate value creation has undergone a structural shift. Tangible, capital-intensive business models have increasingly been replaced by models built on software, data, brands, platforms, intellectual property and proprietary processes. The most valuable assets of many modern enterprises are no longer machines, buildings or inventory, but code, algorithms, customer relationships, ecosystems and organisational know-how.

This shift is not subtle. It is visible in equity markets, in transaction pricing and, perhaps most clearly, in the persistent rise of EV/EBITDA multiples across a broad range of sectors. What used to be considered “high” multiples are now increasingly seen as normal, particularly in technology, healthcare, professional services, media and consumer brands. Investors are clearly willing to pay for future earning capacity that is not anchored in tangible capital.

Yet when one turns to the financial statements prepared under IFRS, a striking paradox emerges. The balance sheet remains largely silent about the very assets that appear to drive enterprise value. Internally generated software, brands, data sets, customer relationships and human capital are, with limited exceptions, absent. EBITDA, the metric most commonly used in valuation and covenant analysis, systematically excludes the amortisation of capitalised intangibles and ignores internally generated ones altogether.

The result is a widening gap between economic reality and accounting representation.

At the centre of this tension sits IAS 38 – Intangible Assets. Few IFRS standards involve such a high degree of management judgment, estimation uncertainty and governance sensitivity. Decisions about whether costs are expensed or capitalised, when development begins, how long an intangible asset is expected to generate benefits, and when impairment is required can have a profound impact on reported performance. At the same time, IAS 38 is deliberately conservative, built on the principle that reliability and verifiability should prevail over completeness.

This article explores IAS 38 through the lens of significant judgments and estimates. It argues that IAS 38 has become one of the most important – and most misunderstood – standards in IFRS, precisely because it sits at the intersection of valuation, performance reporting and governance. The persistent increase in EV/EBITDA multiples is not a failure of markets; it is a signal that accounting is struggling to keep pace with how value is created.

2. EV/EBITDA as a Symptom of Intangible Dominance

EV/EBITDA has become the dominant shorthand for corporate valuation. Its appeal is obvious: it is simple, widely understood and relatively insensitive to capital structure. However, its popularity also masks a fundamental weakness. EBITDA strips out depreciation and amortisation, implicitly assuming that these charges either do not reflect economic reality or are too heterogeneous to be meaningful.

In an intangible-driven economy, this assumption becomes increasingly problematic. Companies that invest heavily in internally generated intangibles often report high EBITDA margins precisely because much of their investment is expensed through operating costs rather than capitalised. Conversely, companies that acquire intangible assets through business combinations may recognise significant amortisation charges, depressing EBIT but leaving EBITDA untouched.

The outcome is a metric that systematically favours business models built on internally generated intangibles. Two companies with identical economic profiles can report materially different EBITDA figures depending solely on their growth path and accounting policy choices. Investors, aware of this distortion, compensate by applying higher multiples. In that sense, rising EV/EBITDA multiples are not irrational exuberance; they are a market response to the limitations of accounting information.

IAS 38 plays a crucial role here. By prohibiting the recognition of most internally generated intangibles, the standard effectively pushes a large part of value creation outside the balance sheet. This does not mean IAS 38 is “wrong”. Rather, it reflects a conscious trade-off: IFRS prioritises verifiability and discipline over completeness. The price of that discipline is an increasing reliance on judgment, narrative disclosure and alternative performance measures.

3. The Objective and Boundaries of IAS 38

IAS 38 aims to prescribe the accounting treatment for intangible assets that are not dealt with specifically in another standard. At its core, it seeks to ensure that only those intangible assets that can be identified, controlled and reliably measured are recognised on the balance sheet.

This objective immediately introduces tension. Many of the assets that clearly drive enterprise value struggle to meet these criteria, particularly when they are internally generated. Brands developed over decades, customer loyalty built through service quality, data accumulated through daily operations, and knowledge embedded in employees all generate future economic benefits, yet rarely satisfy the recognition thresholds of IAS 38.

The standard therefore draws a sharp line between:

• Internally generated goodwill, which is never recognised, and

• Identifiable intangible assets, which may be recognised if strict criteria are met.

This distinction is conceptually sound but economically uncomfortable. It results in balance sheets that are often a poor proxy for enterprise value, especially in sectors where intangible assets dominate.

IAS 38 is often criticised for being outdated. However, this criticism misunderstands its purpose. IAS 38 is not designed to measure value; it is designed to ensure disciplined recognition of assets. The fact that markets price what accounting does not recognise is not evidence of failure, but of different objectives. The real challenge lies in how companies explain this gap and how governance structures oversee the judgments involved.

Read the Staff paper regarding Disclosure of judgements, assumptions and estimates in the project General Sustainability-related Disclosures.

4. Recognition Criteria – Where Judgment Begins

An intangible asset is recognised under IAS 38 if, and only if, it meets three core criteria:

1. Identifiability

2. Control

3. Reliable measurement of cost

Each of these criteria involves significant judgment, particularly in modern business models.IAS 38 intangible assets judgments

Identifiability

An intangible asset is identifiable if it is either separable or arises from contractual or legal rights. In practice, separability is often theoretical rather than operational. While software code or a customer list may be separable in principle, the economic value may be inseparable from the broader platform or organisation in which it operates.

Judgment is required to assess whether an asset truly exists as a distinct resource or whether it is merely an attribute of the business as a whole. This assessment becomes increasingly complex in integrated digital environments, where value is created through interaction rather than isolation.

Control

Control is perhaps the most underestimated judgment in IAS 38. Control requires the power to obtain future economic benefits and restrict others’ access to those benefits. In an era of open-source software, cloud infrastructure, data-sharing arrangements and highly mobile workforces, control is rarely absolute.

Companies may have access to data but not exclusive rights. They may employ developers but cannot prevent them from leaving. They may operate platforms but depend on ecosystems they do not fully control. Determining whether sufficient control exists to justify recognition requires more than a legal analysis; it requires a deep understanding of the business model.

Reliable Measurement

Even when identifiability and control are present, reliable measurement remains a hurdle. For internally generated intangibles, cost accumulation is often fragmented across projects, teams and time periods. Agile development methodologies blur the line between maintenance and enhancement. Overhead allocation becomes highly judgmental.

IAS 38 does not prohibit judgment; it demands discipline. Costs may only be capitalised when they are directly attributable and reliably measurable. This requirement is straightforward in theory, but in practice it forces companies to make explicit choices about systems, documentation and governance.

5. The Conservatism of IAS 38 – By Design, Not Accident

It is tempting to view IAS 38 as excessively conservative, particularly when compared to the way markets value companies. However, this conservatism is deliberate. The standard reflects a long-standing concern that allowing broad recognition of internally generated intangibles would open the door to earnings management and balance sheet inflation.

From a governance perspective, this concern remains valid. Capitalising costs that are inherently uncertain creates incentives to overstate performance and defer expense recognition. IAS 38 therefore acts as a gatekeeper, forcing companies to justify recognition decisions with evidence rather than optimism.

The consequence is that judgment shifts from recognition to disclosure. If intangible value cannot be fully recognised, it must at least be explained. This is where IAS 38 intersects with IAS 1, particularly the requirement to disclose significant judgments and estimation uncertainty. The standard may keep assets off the balance sheet, but it increases the burden of explanation.

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Part 2: Capitalisation, Useful Lives and the Architecture of Judgment

6. Research versus Development – The Pivotal Judgment

No aspect of IAS 38 attracts more scrutiny than the distinction between research and development. The reason is simple: this is the point at which costs transition from being immediately expensed to being capitalised and amortised over future periods. The judgment involved is both technically complex and economically significant.

The conceptual distinction

IAS 38 defines research as original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding. Development, by contrast, is the application of research findings to a plan or design for the production of new or substantially improved products, processes or services before the start of commercial production or use.

In theory, the distinction is clear. Research is exploratory, uncertain and speculative. Development is focused, feasible and directed towards identifiable future benefits. In practice, however, modern innovation rarely follows a linear path. Particularly in software-driven and data-driven businesses, activities often oscillate between exploration and exploitation, sometimes within the same sprint or release cycle.

The six development criteria

IAS 38 permits capitalisation of development costs only when all six criteria are demonstrably met:

1. Technical feasibility of completing the asset

2. Intention to complete and use or sell the asset

3. Ability to use or sell the asset

4. Probability of future economic benefits

5. Availability of adequate technical, financial and other resources

6. Ability to measure reliably the expenditure attributable to the asset

Each criterion is individually demanding. Collectively, they impose a high threshold. The standard deliberately requires evidence, not aspiration.

Continuous development models

In many modern organisations, particularly those operating SaaS platforms, AI-based systems or digital products, development is continuous rather than project-based. Products are never “finished”; they evolve. This creates profound challenges for IAS 38 application.

Determining when research ends and development begins becomes a matter of interpretation rather than observation. Management must decide when uncertainty has reduced sufficiently to justify capitalisation, even though the product itself may still be evolving rapidly. The risk is that capitalisation becomes a rolling judgment, refreshed each reporting period, rather than a clearly defined transition point.

From a governance perspective, this is a high-risk area. Without robust internal criteria and documentation, the distinction between research and development can drift over time, particularly under earnings pressure.

7. Capitalisation Policies – Discipline versus Incentives

Capitalisation under IAS 38 is not a technical exercise alone; it is a policy choice with behavioural consequences.

The temptation to capitalise

Capitalising development costs improves short-term profitability by deferring expense recognition. In environments where performance metrics, management remuneration or debt covenants are linked to EBITDA or EBIT, the incentives are clear. The more costs are capitalised, the smoother reported performance becomes.

This does not mean that capitalisation is inherently aggressive. In many cases, it faithfully reflects the consumption of economic benefits over time. The challenge is ensuring that capitalisation decisions are driven by substance rather than outcome.

Documentation and evidence

IAS 38 implicitly assumes a level of documentation discipline that many organisations underestimate. Capitalisation requires:

• Clearly defined projects or asset components

• Evidence that development criteria are met at a specific point in time

• Reliable cost tracking mechanisms

• Consistent application across periods

In agile environments, this often necessitates deliberate governance interventions: formal project gating, capitalisation committees or audit committee oversight. Without such structures, capitalisation becomes ad hoc, increasing both audit risk and regulatory exposure.

Consistency and comparability

Once capitalisation policies are established, consistency becomes critical. Changes in policy may be justified, but they must be explained. Inconsistent application across similar projects undermines comparability and invites scepticism from auditors and regulators.

From an external perspective, differences in capitalisation policies are a major source of non-comparability between companies with otherwise similar business models. This again feeds back into valuation multiples, as investors adjust for accounting asymmetries.

8. Useful Lives – Finite, Indefinite and Everything in Between

Once an intangible asset is recognised, IAS 38 requires management to determine whether it has a finite or indefinite useful life. This determination is itself a significant judgment with long-term implications.

Indefinite does not mean infinite

An intangible asset is considered to have an indefinite useful life when there is no foreseeable limit to the period over which it is expected to generate net cash inflows. This assessment is inherently forward-looking and sensitive to assumptions about technology, competition and regulation.

In practice, the designation of an indefinite life is often applied to brands, certain licences and, in rare cases, customer relationships. The consequence is that the asset is not amortised but tested annually for impairment. This shifts the impact from the income statement to the impairment testing process, increasing reliance on valuation models and assumptions.

Determining finite useful lives

For finite-lived intangible assets, management must estimate the period over which the asset will generate economic benefits. This requires judgment about:

• Technological obsolescence

• Product life cycles

• Competitive dynamics

• Legal or contractual limitations

In fast-moving industries, useful lives are often shorter than management initially expects. Overly optimistic useful life estimates can materially overstate earnings in the early years of an asset’s life, only to be corrected later through impairment or accelerated amortisation.

Amortisation patterns

IAS 38 requires amortisation to reflect the pattern in which the asset’s future economic benefits are expected to be consumed. Where such a pattern cannot be reliably determined, straight-line amortisation is used by default.

In practice, straight-line amortisation dominates, not because it always reflects economic reality, but because alternative patterns are difficult to evidence. This again highlights the conservative bias of IAS 38. Simplicity is favoured over theoretical precision.

9. Impairment – The Moment of Truth

Impairment testing is where many of the judgments embedded in IAS 38 ultimately converge. Assets that were capitalised based on optimistic assumptions must withstand scrutiny when performance disappoints or circumstances change.

Interaction with IAS 36

IAS 38 cannot be viewed in isolation from IAS 36. Most intangible assets do not generate cash flows independently and must be tested as part of a cash-generating unit (CGU). Allocating intangible assets to CGUs is itself a judgment, particularly in integrated businesses.

For assets with indefinite useful lives and for goodwill, impairment testing is mandatory at least annually. For finite-lived assets, testing is triggered by indicators of impairment. In practice, these indicators are often identified late, particularly when management remains committed to a strategic narrative.

Optimism bias and delayed impairments

Empirical evidence suggests that impairments are often recognised later than economic reality would suggest. This is not necessarily due to bad faith, but to optimism bias, strategic commitment and uncertainty about future outcomes.

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From a governance standpoint, impairment testing is one of the most critical areas for challenge by audit committees and external auditors. The assumptions used in value-in-use calculations, particularly growth rates and discount rates, can materially affect outcomes.

The reputational dimension

Impairments of intangible assets are often interpreted by the market as admissions of strategic failure. This creates a further incentive to delay recognition. Yet delayed impairments undermine credibility and can lead to sudden, large write-downs that erode trust.

Read more regarding Judgements and estimates on the site of ICAEW (www.icaew.com).

10. IAS 38 as a Governance Issue, Not Just an Accounting One

What emerges from this analysis is that IAS 38 is not merely a technical standard. It is a governance framework that forces organisations to confront the uncertainty inherent in intangible value creation.

Decisions about capitalisation, useful lives and impairment require:

• Clear policies

• Robust documentation

• Independent challenge

• Consistent application

The audit committee plays a central role in this process. It must ensure that judgments are not only technically defensible, but also aligned with the economic substance of the business and transparently communicated to stakeholders.

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Part 3: Disclosure, Valuation Tension and the Governance Imperative

11. IAS 38 and IAS 1 – Making Judgment Visible

If IAS 38 is conservative by design, IAS 1 is where that conservatism must be explained. The standard requires entities to disclose significant judgments made in applying accounting policies and key sources of estimation uncertainty that have a significant risk of resulting in material adjustments.

For intangible assets, this requirement is not optional or generic. IAS 38 almost inevitably gives rise to judgments that meet the IAS 1 threshold, particularly in relation to:

• The distinction between research and development

• The timing of initial capitalisation

• Determination of useful lives

• Classification as finite or indefinite-lived

• Identification of impairment indicators

Yet in practice, disclosures are often boilerplate. They describe the accounting policy, but not the judgment. This undermines the very purpose of IAS 1: to help users understand not just what was recognised, but why.

High-quality disclosure in respect of IAS 38 should articulate:

• Where management discretion was exercised

• Which assumptions were most sensitive

• How uncertainty was addressed

• How judgments align with the business model

In an intangible-driven economy, such disclosures are not a compliance exercise; they are a trust mechanism.

12. The Valuation Gap Revisited – Why Markets Look Beyond IAS 38

The persistent rise in EV/EBITDA multiples is often framed as a valuation phenomenon. In reality, it is equally an accounting phenomenon. Investors are not ignoring IAS 38; they are adjusting for it.

Accounting comparability versus economic comparability

From an IFRS perspective, IAS 38 enhances accounting comparability by imposing uniform recognition criteria. From an investor perspective, however, it often reduces economic comparability. Two companies may apply IAS 38 consistently and correctly, yet present radically different balance sheets and profit profiles due to differences in:

• Growth strategy (organic versus acquisitive)

• Capitalisation policies within the boundaries of the standard

• Useful life assumptions

Investors respond by shifting focus from reported numbers to narrative explanations, non-GAAP measures and forward-looking indicators. EBITDA becomes a starting point rather than an answer.

Adjusted metrics and their risks

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Many investors and analysts attempt to “correct” IAS 38 conservatism by:

• Capitalising R&D in their own models

• Normalising amortisation

• Applying industry-specific heuristics

While this may improve economic insight, it introduces subjectivity and opacity. The irony is that markets often recreate, informally and inconsistently, what IAS 38 deliberately avoids formalising.

This reinforces the importance of transparent disclosure. If accounting cannot fully reflect intangible value, it must at least explain its boundaries clearly.

13. Audit Committees and Boards – Oversight of Invisible Assets

IAS 38 elevates intangible assets from a technical accounting topic to a boardroom issue. Decisions about capitalisation and impairment directly affect performance reporting, valuation perception and credibility.

Oversight responsibilities

Audit committees should actively engage with management on:

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• Capitalisation thresholds and criteria

• Changes in development practices or technologies

• Useful life assumptions and periodic reassessment

• Impairment testing methodologies and sensitivities

Passive acceptance of management judgment is inconsistent with effective oversight, particularly where incentives are aligned with short-term performance metrics.

Consistency over time

One of the clearest red flags for regulators and auditors is inconsistency. Changes in capitalisation behaviour, useful lives or impairment assumptions should be:

• Rare

• Well-documented

• Clearly explained

Consistency does not mean rigidity, but it does require that changes reflect genuine shifts in economic circumstances rather than reporting preferences.

Linking strategy and accounting

Perhaps the most underutilised governance tool is the explicit linkage between strategy and IAS 38 judgments. If a board believes that a company’s value increasingly resides in intangible assets, it must also accept that accounting will struggle to reflect this fully. The response should not be aggressive capitalisation, but enhanced explanation.

14. Is IAS 38 Still Fit for Purpose?

This question is increasingly asked, particularly in policy and academic circles. The answer depends on what one expects IAS 38 to do.

If the objective is to measure enterprise value, then IAS 38 is clearly insufficient. But IFRS has never claimed to do this. Its objective is to provide a faithful, prudent and verifiable representation of financial position and performance.

From that perspective, IAS 38 remains fit for purpose, albeit imperfectly. Its conservatism acts as a counterweight to optimism and managerial bias. In a world where intangible investments are inherently uncertain, restraint is not a flaw but a feature.

That said, the cost of this restraint is rising. As intangible assets become more central to value creation, the explanatory burden placed on narrative reporting increases. IAS 38 cannot remain static while the economy evolves around it. Enhanced disclosures, better integration with management commentary and clearer articulation of judgment are likely to be the path forward, rather than wholesale changes to recognition rules.

15. Final Reflections – Judgment as the Real Asset

IAS 38 exposes a fundamental truth about modern financial reporting: the most important assets are often the hardest to account for. In an intangible economy, judgment itself becomes a critical asset – not in the sense of recognition, but in the sense of governance quality.

The persistent rise in EV/EBITDA multiples is not an indictment of accounting standards, but a reminder of their limits. IAS 38 draws a deliberate line between what can be reliably measured and what must be explained. The quality of that explanation determines whether users trust the numbers they see.

For preparers, auditors, audit committees and boards, IAS 38 should therefore be treated as a cornerstone of the “Significant Judgments and Estimates” discussion. It is where accounting discipline, economic reality and governance responsibility intersect.

Ultimately, the balance sheet may remain silent on much of intangible value. But silence does not absolve responsibility. In a world where intangibles drive value, how judgments are made – and how they are disclosed – matters more than ever.

Read more in these series:

IAS 10 Judgments and Estimates for Events After the Reporting Period

Significant Judgments and Estimates under IAS 40 – Investment Property

IFRS 13 – Significant Judgments and Estimates – Fair Value, Big Numbers and Proper Disclosure

Significant Judgments and Estimates in Financial Instruments

FAQ’s – Significant judgments IAS 38