Computer software is the most common technology-based intangible asset encountered in business combinations. Nearly every company in every industry owns or uses software that may require recognition — from proprietary platforms and custom applications to internally developed tools and configuration code. Under IFRS 3, computer software is classified as a technology-based intangible asset.
The accounting treatment of software has been one of the most debated topics in intangible asset accounting, primarily because of the tension between IAS 38's strict capitalisation criteria and the commercial reality that software development is the primary investment activity for thousands of technology companies.
Under IAS 38, internally developed software can be capitalised (recognised as an intangible asset on the balance sheet) only when six criteria are simultaneously met:
The software can be completed to a point where it is available for use or sale. This typically requires a working prototype or proof of concept.
Management intends to complete the software and use or sell it.
The entity has the capability to use the software in its business or sell/license it to third parties.
The software will generate revenue, reduce costs, or provide other demonstrable economic benefits.
The entity has sufficient technical, financial, and other resources to complete and exploit the software.
Development costs can be measured reliably and attributed to the software asset.
In practice, the capitalisation point is the moment the project transitions from research to development — when technical feasibility is demonstrated. All research-phase costs (investigation, evaluation, experimentation) are expensed as incurred.
Under IAS 38, most early-stage software development is expensed, not capitalised. The capitalisation criteria create a high bar — particularly the requirement to demonstrate technical feasibility. For agile development teams working in continuous iteration, identifying the precise capitalisation point is a persistent practical challenge.
The IFRS 3 treatment is fundamentally different from IAS 38. When software is acquired as part of a business combination, it is recognised at fair value regardless of whether the seller had capitalised it. This means:
This asymmetry between IAS 38 and IFRS 3 is one of the most significant in intangible asset accounting.
For software that generates direct revenue — SaaS platforms, licensed applications, embedded software in products — RFR estimates the royalties avoided through ownership:
| Software Type | Typical Royalty Range | Revenue Base |
|---|---|---|
| Enterprise SaaS platform | 20-35% of subscription revenue | Recurring subscription fees |
| Licensed application software | 15-30% of licence revenue | Licence fees + maintenance |
| Embedded software | 5-15% of product revenue | Revenue from products containing the software |
| Mobile applications | 10-25% of app revenue | In-app purchases + subscription |
| Internal-use software | N/A (use cost approach) | No external revenue to apply a rate |
For internal-use software, the cost approach estimates the replacement cost:
A mid-market ERP vendor is acquired with a proprietary platform comprising 2.5 million lines of code developed over 12 years. The platform generates £30 million in annual subscription revenue. Using RFR with a 25% royalty rate, 8-year remaining economic life, and 15% discount rate, the software is valued at approximately £33.7 million. Cross-checking with the cost approach — estimated replacement cost of 150 developer-years at £100,000 fully-loaded per year = £15 million — confirms that the income approach captures additional value from the software's market position and customer base integration.
| Category | Description | Typical Valuation Approach |
|---|---|---|
| Core platform technology | The primary software product or platform | RFR or income approach |
| Internal-use applications | ERP, CRM, HR systems used in operations | Cost approach |
| Configuration and customisation | Custom configurations of third-party software | Cost approach (typically lower value) |
| Development tools and frameworks | Internal tools that accelerate development | Cost approach |
| In-process R&D software | Software under active development, not yet complete | Cost-to-complete plus expected return |
Software useful lives depend on the technology cycle and the investment in maintenance:
Amortisation is typically straight-line, though an accelerated pattern may be appropriate for software nearing the end of its technology cycle.
Software technology ages rapidly. A platform built on contemporary frameworks today will be on legacy technology within 5-7 years. Useful life estimates must reflect the realistic technology refresh cycle, not the theoretical maximum period of continued use. Using outdated software may be possible, but the competitive disadvantage it creates limits its economic useful life.
The shift from on-premises to cloud-based software architectures has created both opportunities and challenges for software valuation. Cloud-native software with microservices architecture may have longer useful lives (easier to update incrementally) and higher values (greater scalability). Legacy monolithic software may face accelerated obsolescence as the market moves to cloud-first delivery. Valuation must assess the architectural readiness of the software for the next technology cycle.
Computer software is one of ten technology-based intangible assets under IFRS 3. For the full taxonomy, see 35 types of intangible assets. For IAS 38 treatment in detail, read our IAS 38 guide.
Ivan Gowan is the Founder and CEO of Opagio. He brings 25 years of experience building and scaling technology platforms in financial services. Meet the team.
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