The Effects of Recent Accounting Changes for In-process Research and Development
Mulford, Charles W.
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The newly-revised SFAS No. 141 (R), Business Combinations, offers some important changes in accounting for in-process research and development (IPR&D). Long expensed at the time of acquisition, IPR&D will henceforth be capitalized and subsequently amortized, though abandoned projects will be written off. The expectation is that earnings in years following an acquisition will be lower, though the impact is entirely dependent on whether new acquisitions result in additional amounts of capitalized IPR&D and the amortization period for previously-capitalized amounts. In this study we look at the significance of IPR&D over the period 1998 through 2006 relative to selected measures, including net sales and total assets, for a large cross-section of firms and within five technology industries. We then recast pretax income in 2006 for our sample and for fifteen firms from the five industries assuming IPR&D incurred over the 2003 – 2005 time period had been capitalized and subsequently amortized. Across our sample period we find that the median firm that incurs IPR&D spends about 1.47% of sales and .91% of assets on those acquired projects. The effects, however, in certain industries and at selected companies were much greater. We also find that pretax income in 2006 is reduced by approximately 1.12% if IPR&D were capitalized and amortized over afive-year period. What is unclear is the extent to which companies may need to take charges for IPR&D projects abandoned in the future. Analysts and investors will want to be prepared for all of these changes as they begin to review financial statements for technology firms in 2009 and beyond.