The Australian reporting environment, by permitting capitalisation of R&D expenditures in some circumstances, allows more discretion with respect to accounting for R&D than in the United States, where it is mandatory to expense immediately virtually all R&D expenditure. Studies in the United States of the impact of a rigid reporting environment on investment in R&D find that compliance with SFAS2 discourages investment in R&D. Other research indicating the long-term benefits of R&D expenditure, the value-relevance to investors of the R&D capitalisation process, and the evidence of the economic consequences of SFAS2, have led many accounting researchers and practitioners to suggest that the FASB should consider allowing firms to capitalise more R&D expenditures. In Australia, R&D expenditure must be capitalised provided that these capitalised
costs are recoverable 'beyond any reasonable doubt'. The ASC, in its recent review of capitalised R&D costs (1995), found that companies did not supply 'enough' qualitative information, nor adequately justify the choice of capitalisation or immediately expensing of their R&D expenditure. The ASC attributes these 'inadequacies' to unclear disclosure requirements and deferral standards in the relevant accounting standard, AASB1011. It supports the AASB's decision to reexamine the standard and achieve consistency with the international accounting rules for R&D costs.
The central proposition of this study is that the investment opportunity set of high research intensive versus low research intensive firms partially determines accounting policy and disclosure choices as well as the financing arrangements utilised. The aim of this thesis is to investigate the relationship between the investment opportunity sets of high
research intensive versus low research intensive firms and the mapping to accounting policy and disclosure choices as well as financing procedures. In analysing the R&D behaviour of a group of firms in which substantially different scales of research and development exist, research intensity rather than the absolute level of a firm's R&D expenditures, is used.
It is argued that for firms where the proportion of firm value represented by growth opportunities (as opposed to assets-in-place) is larger, monitoring costs will be higher, because managerial actions are less observable in the short-run. As well, the separation of ownership and control observed in public corporations leads to information asymmetries between managers and investors/potential investors. These information asymmetries will be high and persistent in firms where the proportion of firm value represented by growth opportunities is greater. In this situation, the agency costs of
monitoring and information asymmetry can be reduced by increasing information provided to investors/potential investors about management's discretionary investment decisions by the use of informative accounting methods, i.e., selective capitalisation, and discretionary disclosures. Selective capitalisation and voluntary disclosure will prevail if the costs of disclosure are relatively low or if the information asymmetry and monitoring costs are relatively high.
The empirical procedures used involved cross-sectional analysis being applied to all the listed Australian firms that conducted R&D in 1993, resulting in a data set of 153 firms. The results support the proposition that the different research intensities map to the decisions on accounting method, disclosure and financing. In particular, the results confirm the importance of the measures of research intensity, information asymmetry, the use of a R&D financing arrangements, and the issue
of shares in explaining the selective capitalisation of R&D expenditure. Furthermore, measures of research intensity and the use of an R&D financing arrangement are significant in explaining voluntary disclosure of R&D expenditure and activities. These relationships hold even after controlling for economic characteristics of the firms, by incorporating into the models other variables commonly used to explain accounting method and disclosure choice.
More generally, the influence of R&D intensity on contractual arrangements is observed in this study, with research intensity impacting on the use of financial reporting discretion, in the selective capitalisation of R&D expenditure, the provision of voluntary disclosures about R&D expenditure and activities, and the financing arrangements employed. The endogenous nature of accounting with the other contractual choices of the firm, both financing and disclosure, is
confirmed. This study provides evidence to both U.S and Australian regulators of the impact of the different investment opportunity sets of high and low research intensive firms on the utilisation of selective capitalisation of R&D expenditure in the discretionary reporting environment of Australia in 1993.