HRSS Engineering Limited – a multinational company working in Pakistan is principally engaged in providing engineering and operational support services to its Pakistani customers and various European countries as well. It works for projects related to Energy, manufacturing, construction and plant maintenance. Company is enjoying strong market reputation owing to its excellent quality services and prompts responses towards its customers.
Recently, HRSS has received an order from one of its client Melto Ltd. (engaged in power sector) to develop a newly designed Heat Recovery Steam Generator. Before going into its manufacturing, HRSS has to conduct a laboratory research and build a prototype for Melto. Upon the successful demo, its commercial production would be started to execute the order.
To finance this Research & Development activity, HRSS incurred a total budget of Rs. 1.0 million. Following costs were incurred by the company in pursuance of its research and development:
- Rs 200,000 were paid to the researchers engaged in the research process. Whereas, administration cost incurred to supervise this phase was Rs. 100,000.
- Material of Rs. 400,000 was purchased for developing the prototype.
- First model was tested at a cost of Rs. 150,000 to ensure that it operates properly according to the customer’s demand. Meeting was called and expert engineers were invited for introduction of new product. Total cost incurred for this purpose was Rs. 75, 000.
- A prototype was tested in the controlled environment to check customers’ acceptance for the design at a cost of Rs. 150,000. Sample was proved to be acceptable by customers.
1. Determine research cost incurred on the project. (0.50)
Solution: HRSS incurred a total cost of Rs. 1.0 million.
2. Determine development cost associated with the project. (0.50)
Solution: First model was tested at a cost of Rs. 150,000
3. Which cost needs to be capitalized as per IAS 38? (0.50)
Solution: Total cost incurred for introduction of new product.
4. Give arguments in support of your answer in 3 above in the light of IAS 38. (0.50)
The objective of IAS 38 is to prescribe the accounting treatment for intangible assets that are not dealt with specifically in another IFRS. The Standard requires an entity to recognise an intangible asset if, and only if, certain criteria are met. The Standard also specifies how to measure the carrying amount of intangible assets and requires certain disclosures regarding intangible assets. [IAS 38.1]
IAS 38 applies to all intangible assets other than: [IAS 38.2-3]
- financial assets
- exploration and evaluation assets (extractive industries)
- expenditure on the development and extraction of minerals, oil, natural gas, and similar resources
- intangible assets arising from insurance contracts issued by insurance companies
- intangible assets covered by another IFRS, such as intangibles held for sale, deferred tax assets, lease assets, assets arising from employee benefits, and goodwill. Goodwill is covered by IFRS 3.