Question 3

Earthwear Ltd is engaged in a research and development project to produce a new fabric for its apparel products. In the year to 30 June 2019 the company spent $120,000 on research and $75,000 on development. At this date, the management did not have full confidence regarding the profitability of the project and decided to write off the full amount of R & D expenses incurred to the income statement. For financial year ended 30 June 2020, a further amount of development costs of $80,000 was incurred. It is expected that production will be commenced very shortly in the following year after further development cost of $10,000 is incurred. However, it is estimated that the new product can only earn profits of $150,000 for the company, and that is far below the original estimated amount.

In the directors' opinion, in view of the overall loss of the project, they decided to write off the amount of $80,000 to the profit and loss account for the financial statement of 30 June 2020.

Required:

a) Do you agree with the accounting treatment for the year of 30 June 2019?

b) For the year 2020, since there is expected profit of $150,000 which can partially cover the development cost of $75,000 incurred in 2019, can the directors write back the amount that has been charged to the income statement previously?

c) Do you agree with the directors' decision to write off the amount of $80,000 in view of the overall deficit of the project?

d) Could the further development cost of $10,000 in 2021 be capitalized as intangible asset? Should the company continue the project and incur this further development cost?