What are the methods of determining the research and development costs?

What is research and development costs? What are the methods of determining the research and development costs? How are they presented and disclosed in cost statements? Well, to answer all these questions the  Institute of Chartered Accountants of India has come up with cost accounting standard 18 (CAS-18) on “Research and Development costs”.   images So, what is the reason for coming up with this standard? Quite logically, the objective is to bring consistency and uniformity in the principles and methods of determining the research and development costs with reasonable accuracy and presentation of the same. So, let us understand what research is. In simple words, it is original and planned investigation which is undertaken to gain new scientific or technical knowledge and understanding. Development, on the other hand, is the application of research findings or other knowledge in order to produce and substantially improved products and services prior to the commencement of commercial production or use. Now, the question arises as to what costs will be included in research and development costs. So, we include all the costs that are “directly traceable” to research and development activities. Moreover, the costs that can be assigned to research and development activities on the basis of a) cause and effect or b) benefits received are also considered as research and development costs. Let us read through a few examples to better understand this concept. So, research and development costs will include: i)                    The cost of materials and services consumed in R&D activities. ii)                  Salary and wages of personnel engaged in R&D. iii)                Depreciation of equipment and facilities and amortization of intangible assets used for R&D. iv)                Overhead costs related to R&D v)                  Cost of bought out materials and hired services as per invoice or agreed price including duties and taxes directly attributable thereto net of trade discounts, rebates, taxes and duties refundable or to be credited. vi)                Costs incurred on R&D activities by other entities and charged to the entity. vii)              Expenditure incurred in securing copyrights or licenses. viii)            Expenditure incurred for developing computer software. ix)               Costs incurred for the design of tools, jigs, moulds and dies. x)                  Other costs that can be directly attributed to R&D activities and can be identified with specific projects.  It is also equally important to know that which costs will not be included in R&D costs. The below-mentioned costs are not included in R&D costs: i)              Any abnormal cost which is material and quantifiable. ii)             Fines, penalties, damages etc paid to statutory authorities or third parties. iii)            Imputed costs. Also, care should be taken to reduce the following costs from the cost of R&D activites: a)      Subsidy, grant or incentive received in relation to R&D activity. b)      In case there are credits and recoveries (material and quantifiable) such as sale of output produced from R&D activites. R&D costs attributable to a specific cost object shall be assigned to that cost object directly. Moreover, R&D costs which cannot be attributed to a specific product or process shall not form part of the product cost. Now there can be two situations – the improved product or process is distinctly different from the existing and it is marketed as a new product or there is only an improvement in the quality of existing product or there is only minor modification in attributes. Now, in case the R&D activity continues for more than one accounting period, the cost of the same shall be accumulated and amortised over the estimated period of use of the improved process or estimated period over which the improved product will be produced by the entity after the commencement of commercial production if the improved process is different from the existing. However, if the improved process is just a modification in the existing process then this principle is not applied. Moreover, R&D costs relating to the former is presented as a separate item of cost in the cost statement under cost of production. For the latter, it is presented as a part of the reconciliation statement. Now, what are the disclosure requirements in the cost statements? Disclosures shall be made in the body of the cost statement or as a footnote or a separate schedule: We need to disclose the following only where material, significant and quantifiable: 

  • The basis of accumulation and assignment of R&D costs.
  • R&D costs paid to related parties.
  • Credit/recoveries from related parties.
  • R&D costs incurred in foreign exchange.
  • Any subsidy, grant or incentive reduced from R&D costs.
  • Credit/recoveries reduced from R&D costs.
  • Any abnormal cost or penalties and damages excluded from R&D costs.

This standard will be applicable on and after 1st April, 2014. Thanks for reading for this article. Please feel free to write to us, We want to hear it all!Suggestions? Complaints? Feedback? Requests?  at [[email protected]] or call us at +91 88208208 11. We would be more than happy to assist you.