The Treatment of R&D Expenses under US GAAP

C

Difficulties in measuring the current value of assets being generated by R&D prevent a reliable application of the accrual principles, which require allocation of expenses in proportion to the current benefits generated. Hence, US GAAP takes the easiest solution of expensing all the R&D costs (unless they generate tangible or intangible assets which have alternative future uses which are measurable). Since R&D does generate future benefits on an expected basis, the full expensing of the costs when incurred tends to under-estimate current income and leads to lower taxes. Further, when the R&D activities do lead to profitable results, income gets overstated because of non-recognition of a portion of it in previous periods. Thus, R&D expensing adds volatility to income. On the other hand, expensing leads to a more conservative balance sheet since no assets or equity is recognized until the benefits actually materialize. Thus, by assuming that current R&D has no current benefits, the GAAP accounting tries to prevent "bad" surprises.