Cost Accounting Standard (CAS) 18: Research and Development Costs

Cost Accounting Standard (CAS) 18: Research and Development Costs – A Complete Guide

Introduction to CAS 18

Cost Accounting Standards (CAS) ensure consistency and transparency in cost determination. CAS 18 – Research and Development (R&D) Costs provides guidelines on recognizing, measuring, and allocating R&D costs in cost accounting.

Understanding CAS 18 is essential for CMAs, accountants, and finance professionals to accurately allocate research and development expenditures and ensure proper financial reporting.

In this article, we will cover:

• The scope and objectives of CAS 18
• Key definitions and principles
• Methods for classifying and allocating R&D costs
• Exclusions and practical applications
• Compliance and disclosure requirements
• FAQs for better understanding

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Scope and Applicability of CAS 18

CAS 18 applies to all entities engaged in product development, process innovation, and scientific research where R&D costs are incurred. The standard is relevant in:

• Manufacturing – Development of new products and production techniques
• Pharmaceuticals – Drug research and clinical trials
• Technology – Software development and AI research
• Infrastructure and Engineering – New material testing and construction innovations

However, CAS 18 excludes general administrative costs and marketing-related research.

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Key Definitions Under CAS 18

To understand CAS 18, let’s look at some key terms:

1. Research Costs

Costs incurred to gain new scientific or technical knowledge, such as:

• Laboratory testing and experiments
• Prototype design and feasibility studies
• Fundamental scientific research

2. Development Costs

Costs related to applying research findings for commercial use, including:

• Product design and testing
• Process improvement trials
• Patent development costs

3. R&D Project Costs

Direct and indirect costs associated with a specific research or development project.

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Principles of Research and Development Costing in CAS 18

CAS 18 provides guidelines on:

1. Classification of R&D Costs

Businesses must separate costs into:

• Research phase costs – Expenses related to idea generation and feasibility studies
• Development phase costs – Expenses incurred to turn research into a practical application

2. Allocation Methods

R&D costs should be allocated based on:

• Direct attribution – If costs relate to a specific project, they should be charged directly.
• Proportional allocation – General R&D costs should be distributed based on activity drivers such as labor hours or machine usage.

3. Exclusions from Costing

CAS 18 does not allow:

• Market research and advertising costs
• Routine quality control expenses
• General administrative costs unrelated to R&D

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Methods for Computing Research and Development Costs

1. Direct Costing Method

R&D expenses directly attributable to a project are assigned to that project.

Example:
If a company spends ₹5,00,000 on a new drug trial, this amount is charged directly to the R&D budget.

2. Absorption Costing Method

Indirect R&D costs (e.g., shared lab facilities) are allocated across projects.

Formula:
Total R&D Cost = Direct Costs + (Indirect R&D Costs × Allocation Ratio)

Example:
If total lab costs are ₹10,00,000 and are shared by two projects (60%-40%), then:

• Project A = ₹6,00,000
• Project B = ₹4,00,000

3. Amortization of R&D Costs

Some R&D costs are capitalized and amortized over time if they lead to a patent or new product.

Formula:
Annual Amortization = Total R&D Cost / Useful Life of Product

Example:
If a patent costs ₹20,00,000 and has a 10-year life, then:
Annual R&D Amortization = ₹2,00,000 per year

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Practical Application of CAS 18 in Different Industries

1. Pharmaceutical Industry

A company invests ₹50 crore in a new vaccine trial. The research phase costs are expensed immediately, while development costs are capitalized if the vaccine succeeds.

2. Automobile Sector

A car company spends ₹10 crore on electric vehicle R&D. Costs are allocated across battery, design, and performance enhancement projects.

3. Software Industry

A tech company develops a new AI tool. Research costs (brainstorming, feasibility studies) are expensed, while software development costs are capitalized.

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Compliance and Disclosure Requirements Under CAS 18

1. Disclosure of R&D Costs

Financial statements must disclose:

• Total R&D expenditure
• Allocation methods used
• Capitalized vs. expensed R&D costs

2. Audit and Compliance

Auditors verify:

• Proper classification of research and development costs
• Exclusion of unrelated expenses
• Compliance with CAS 18 guidelines

3. Impact on Financial Reporting

CAS 18 ensures transparent cost reporting, affecting:

• Tax benefits from R&D expenses
• Product pricing and profitability analysis
• Investment decisions in innovation projects

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Common Mistakes in Applying CAS 18 (And How to Avoid Them)

1. Misclassification of R&D Costs

Mistake: Treating development costs as research expenses (or vice versa).
Solution: Separate research (idea generation) from development (product creation).

2. Incorrect Capitalization of R&D Costs

Mistake: Capitalizing all R&D expenses instead of only development-related costs.
Solution: Follow CAS 18 guidelines for capitalization and amortization.

3. Ignoring Indirect R&D Costs

Mistake: Not allocating shared lab expenses properly.
Solution: Use absorption costing for indirect R&D expenses.

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Frequently Asked Questions (FAQs) on CAS 18

Q1: What is the objective of CAS 18?

CAS 18 ensures the proper classification, allocation, and disclosure of R&D costs to maintain consistency in financial reporting.

Q2: Can all R&D costs be capitalized?

No, only development costs leading to a commercial product or patent can be capitalized. Research phase costs are expensed.

Q3: How should indirect R&D costs be allocated?

Indirect R&D costs should be proportionally allocated based on cost drivers like labor hours, machine usage, or project budgets.

Q4: Are software development costs considered R&D under CAS 18?

Yes, software R&D (AI, app development, etc.) falls under CAS 18 if it involves innovation and research.

Q5: How does CAS 18 impact taxation?

CAS 18 helps businesses claim tax deductions for R&D expenses, reducing taxable income.

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Conclusion: Key Takeaways from CAS 18

• CAS 18 ensures transparent treatment of R&D costs in cost accounting.
• Businesses must separate research and development costs to comply with regulations.
• Incorrect classification or misallocation can distort financial reporting.
• Following CAS 18 ensures regulatory compliance and accurate cost reporting.

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