Hi all,
Prepping for interviews, I saw this on Glassdoor for a BB ER job, not sure how to answer it.
How are the three statements changed when a company begins to capitalize R&D? Why would a firm capitalize R&D?
I was under the impression you cannot capitalize R&D costs under GAAP and has to be expensed in the period incurred, but I read online under IFRS you can partially amortize capital assets for R&D? Is this a trick question?
I assume capitalizing R&D would reduce the impact of the activity on the income statement, increasing earnings, better margins, etc.
bump
I believe under GAAP companies are allowed to capitalise certain software related R&D and if they do so, then this increases earnings and margins in the current period, also higher operating cash flow and lower investing cash flow. But in the future periods this R&D will have to be expensed on the income statement via depreciation and this will lower earning and margins in the future period. In general, it is aggressive accounting when a company chooses to capitalise something instead of expensing because it increases earnings in the current period. Hope it helps a bit
Income Statement: R&D is ordinarily expensed - R&D expense would be partially or totally eliminated from the income statement. Net Income should rise commensurately with the amount of R&D that was booked as CapEx instead of expensed during the period.
Cash Flow Statement: The new Net Income Number feeds in from the income statement. Cash from Operations should increase commensurately as well since the noncash charges stay the same. In the investing section, there will be a new line item for R&D spend.
Balance Sheet: R&D should appear as a new line item which is equal to the prior year's R&D line item plus (+) this year's R&D spend allowed to be capitalized minus (-) R&D amortization. No change in cash between expensing and capitalizing because the money is spent regardless of the accounting. Essentially the money moves around on the assets side of the Assets=Liabilities+Equity equation.
Amortization refers to loss of value on intangible assets. Depreciation refers to loss of value on tangible assets. Feel free to comment if you have any questions. Also which job is this if you don't mind me asking?
Isn't there a tax benefit to expensing all of the R&D, which you would lose most of if you capitalized it instead? Cash would go down in this case, no?
Excuse me: assuming a flat tax on profits, the cash balance would go down by the tax rate * the r&d capitalized since the expense isn't deducted and pretax income increased.
What I have written above just doesn't include tax treatment.
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