Research and development
Panorama Ltd manufactures and distributes a wide range of general pharmaceutical products. Selected audited data for the reporting period ended 31 December 2011 are as follows:
Gross profit $17,600,000
Profit before tax 1,700,000
Income tax expense 500,000
Profit for the period 1,200,000
The company uses a standard mark-up on cost.
From your audit files, you ascertain that total research and development expenditure for the year amounted to $4,700,000. This amount is substantially higher than in previous years and has eroded the profitability of the company. Mr Paniq, the company's finance director, has asked for your firm's advice on whether it is acceptable accounting practice for the company to carry forward any of this expenditure to a future accounting period.
Your audit files disclose that the main reason for the significant increase in research and development costs was the introduction of a planned 5-year laboratory program to attempt to find an antidote for the common cold. The following items were included in research and development costs for the year.
(a) Costs to test a new tamper-proof dispenser pack for the company's major selling line (20% of sales) of antibiotic capsules - $760,000. The new packs are to be introduced in the 2012 financial year.
(b) Experimental costs to convert a line of headache powders to liquid form - $590,000. The company hopes to phase out the powder form if the tests to convert to the stronger and better handling liquid form prove successful.
(c) Quality control required by stringent company policy and by law on all items of production for the year - $750,000.
(d) Costs of a time and motion study aimed at improving production efficiency by redesigning plant layout of existing equipment - $50,000.
(e) Construction and testing of a new prototype machine for producing hypodermic needles - $200,000. Testing has been successful to date and is nearing completion. Hypodermic needles accounted for 1% of the company's sales in the current year, but it is expected that the company's market share will increase following introduction of this new machine.