New Korean Accounting Guidelines Aim For More Flexible Biopharma Practices
New Treatment Of R&D Costs
Executive Summary
South Korea moves to lay out clearer accounting guidelines related to R&D costs for pharma and biotech companies, making improvements to earlier official guidance in 2018 in order to ease uncertainties and help foster the sector.
South Korea's Financial Services Commission (FSC) is planning to improve what are viewed as conservative accounting practices in the pharma/biotech sector to introduce changes more suited to individual firms’ situations, notably how R&D expenses are treated.
The fiscal regulator has identified key problem auditing and accounting areas for the sector, mainly relating to assetization of R&D expenses such as those incurred before investigational new drug approvals, linked to additional marketing authorization applications for already launched drugs, identification of R&D activities and the use of inventory assets in such activities.
Methods of recognizing profits from out-licensing deals and profit/loss from the sale of intangible assets (such as sales rights) are also addressed in the latest guidelines, which come after repeated calls from the industry for revisions to reflect situations more specific to the biopharma area.
Under International Financial Reporting Standards, various accounting methods can be adopted depending on individual circumstances, based on judgment and estimates stemming from the characteristics of transactions. But Korean companies have tended to be too conservative in their practices amid concerns over possible punitive measures.
As a result, the commission decided to more actively resolve uncertainties in dealing with accounting for relatively "new" industries.
Clearer Guidelines For Assetization
Under the new Korean guidelines, biopharma companies (including those dealing in biosimilars) will be able to recognize development expenses occurred before receiving IND approval to begin Phase I trials as assets, if they can objectively suggest whether the asset can be materialized in the future.
This clears up uncertainty around whether companies could actually reflect such early development expenses, such as purchasing drug substance for clinical trials and manufacturing costs, as assets in their accounting practices.
Examples of cases of "objective suggestions" include the following:
- if the companies have other very similar clinical development cases and have experience that suggests a very high probability of clinical trial approval;
- if companies have received IND approvals in other countries and can provide evidence that such review standards do not differ substantially from domestic norms;
- if opinions of third party experts or credible analysis of materialization of the technology can be provided in cases where an IND approval has not been received yet.
These criteria can be applied to the assetization of development expenses for both new and generic drugs.
When companies reach out-licensing and collaboration deals, it was previously unclear whether the income from such transactions could be reflected as revenues before the conditions of the collaboration could be fully carried out. If certain conditions are met, it it now clear that licensing deal income can be reflected in accounting at the time of the transaction.
In addition, if a product is already launched in certain countries, it will be still possible to assetize R&D expenses for that drug if these are related to activities to seek additional marketing approvals in other countries, the new FSC guidance states.
It stressed that companies would still be able to make accounting decisions differently if there are reasonable grounds.
Improvements From 2018 Guidelines
In 2018, the financial regulator unveiled initial guidelines for pharma and biotech companies' R&D cost-related accounting, in a move designed to ease uncertainties over best practice and to improve transparency in the sector.
At that time, companies could reflect clinical trials as assets in their accounting once they got approval to begin a Phase III trial. Before the approval to begin such a study, however, it was generally seen as difficult to objectively prove the asset's possible value, given the higher likelihood of failure.
Over the past 10 years, some 50% of drugs that received Phase III approval went on to receive marketing authorizations, according to US industry statistics.
For biosimilars, the FSC said at the time that companies could reflect clinical trials as assets once they had IND approval for Phase I work, while for generics, trials could be considered assets once approval is granted to begin a bioequivalence test. About 60% of biosimilars that received approvals for Phase I studies went on to receive marketing authorizations, according to one US study.
Also in 2018, the commission launched an accounting review of 22 pharma and biotech firms to check if they were properly reflecting R&D costs in their accounting books, amid sharp fluctuations in the stock prices of some of these companies and speculation of possible accounting distortions around R&D expenses.