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Website Software Capitalization-iterative projects-capitalize or not?

Kathie Lee's Profile

My client is an internet website service company that offers products/services for the real estate industry.  Their R/D cycle/style is to do a series of short, iterative projects.  Their typical project is short in duration (< 1 month) and involves a few engineers and they test/learn/code and repeat.  Thus, a feature starts out a certain way, but may be something pretty different by the time they are "done" with the feature. We have capitalized the first project that passes the test on new functionality but the subsequent cycles have been labeled "incremental" and have not been capitalized.  I believe these subsequent changes can be major because if you compare the before and after when they are done with the many changes, it is indeed a significant change and if they had done it under the label of one project with a clearly laid out start and end date, the whole thing would have been capitalized.  

Is our capitalization therefore on the low end (we cap ~10% of engineering labor) because of the way they do their projects?  Is there another way of looking at it that allows us to perhaps bundle the many changes together to attribute it to one project instead of many projects that incrementally change the features?

Thanks for your feedback.

Answers

Topic Expert
Keith Perry
Title: Consulting CFO and Business Operations A..
Company: Growth Accelerator
(Consulting CFO and Business Operations Advisor, Growth Accelerator) |

I would consider your capitalization not to be on the low end at all. One approach is to capitalize only once the product has become commercially viable, and have subsequent efforts be maintenance. The result is no capitalization; it all drops to R&D expense and maint expense. This contrasts with your policy of considering the project viable prior to a commercially viable product being demonstrated.

The positives to this lower-cap approach is that you don't have vapor-ware on your balance sheet, nor do you have write-offs if prior work efforts didn't result in a viable product (which appears to be a risk, if there are so many changes?). There is also a question of writing off the R&D expense vs. amortizing a capital asset.

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