Terms Beginning With 'r'

Research and Development

  • October 14, 2020
  • Team Kalkine

What is Research and Development (R&D)?

Research and Development is a crucial exercise undertaken by organisations, businesses, and Government. It is essentially the development of next-generation solutions, new knowledge and technologies. 

In a popular feud between legendary investor Warren Buffet and futuristic entrepreneur Elon Musk, the topic of moat (competitive advantages) and innovation took a great amount of head-scratching among their followers. 

Mr Musk told that if moats are the only defence against the rising competition, the defence will not last long. He stressed that the pace of innovation is the ‘fundamental determinant of competitiveness’. 

Innovation comes from R&D, which is also a precursor to achieve competitive advantages. In a business context, it may refer to the activities undertaken by a firm to develop a new product, services or processes. 

Businesses also undertake R&D to improve the processes that already exist. Research and Development include considerable risk because of the underlying uncertainties, specifically the uncertainty on achievement of expectations. 

Research and Development remain crucial for new product development, improving existing products, and stay competitive in the business. It can be undertaken in almost every industry, but there are some R&D intensive industries like life sciences, biotechnology, pharmaceuticals, automotive, software and technology. 

What are the types of R&D?

Research and Development start with basic idea generation, which helps to identify new opportunities. Afterwards, the process of exploring and identifying feasible ideas comes into play. 

Basic Research 

As the name suggests, basic research aims to assess the subject and build on the body of knowledge relating to the subject. In this stage, the complications are relatively lesser, and the undertaken research does not have commercial or practical application. 

Basic research is all about acquiring knowledge and applying the knowledge to building understanding and intelligence. This subject matter further helps to build a foundation for additional R&D projects and provides a basis for strategic business decisions. 

Applied Research 

Applied research is the next level of research in the process of the R&D. It has more directed objectives and aims to determine methods to address a specific research problem. The processes under applied research are generally focused on specific commercial objectives. 

Applied research includes applying new technology, penetrating into a new market, cutting costs, or improving safety. This part of the research further provides a base for the development phase of the research project. 

Development Phase

The development phase is initiated after the outcomes of research are utilised for the production of specified products. This phase also includes the design and development of prototypes.

The basic difference is between development and manufacturing or production. The development is the research phase that emphasises on the generation of knowledge and process required for production and manufacturing, whereas manufacturing involves utilisation of plans and research to produce commercial products.

Accounting treatment of Research and Development

R&D process is an expensive procedure. Companies incur substantial costs to undertake R&D to develop their products or services. Ultimately, the products or services developed by the firm through R&D will translate into revenues. 

International Financial Reporting Standards (IFRS) provides guidance on how companies can treat the costs associated with R&D in IAS 38 – Intangible Assets. When certain criteria are met, the accounting standard allows the companies to capitalise expenses on R&D; otherwise, the costs are expensed as incurred on the income statement. 

Internally generated intangible assets are usually capitalised and amortised under IFRS standards. Firms are required to distinguish expenses into two categories, research activities and development activities. 

After the expenses are distinguished, the companies could be able to capitalise some expense provided that the criteria are met. Expenses during the research activities could be costs incurred in the original and planned investigation, which would result in the achievement of scientific knowledge or technical understanding. 

Under development activities, the expenses incurred by the companies related to the utilisation of knowledge or process, planning design or production for the product, and before the start of commercial production. 

According to IFRS, the companies have to expense the cost of research and development in the income statement when the process in the research phase. However, they can capitalise the expenses in the development phase after the below criteria are met. 

Image Source: ©Kalkine Group

Among the above criteria, the crucial one is the technical feasibility of the project. Companies are required to evaluate the technical feasibility of the project. When companies have undertaken R&D for new product development, it becomes difficult to assess the technical feasibility of the project. 

When firms are able to capitalise R&D expenses, they are no longer required to capitalise the expenses at once on the income statement, and amortisation is adopted to capitalise the expense spread over the years. 

What is the importance of R&D? 

In an economic sense, the emphasis on Research & Development in an economy brings long term structural changes. It is crucial for the economies to continuously undertake R&D to bring a positive change in the lives of its citizens. 

Research and Development bring new ideas, new innovation and process to better than the existing process in the country. Economic policies of the Governments also emphasise on R&D and provide incentives to the companies as well as other organisation engaged in the processes. 

In a business sense, R&D remains crucial to stay competitive and ahead of competitors in the market. To remain competitive does not only mean spending on R&D but to stay open and responsive to the developing trends in the market. 

Research and Development are also about the thorough analysis of current conditions in the market. The dedicated department for this cause helps the companies to prepare for the future as it provides ideas and futuristic information, which support decision making. 

When a business is allocating capital for R&D, it is essentially investing capabilities and technologies, which would help to bring favourable benefits for the firm. R&D helps to develop new products and enhance existing processes. 

 

 

 

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