Shanette Medical Labs, Inc. began operations 5 years ago producing stetrics, a new type of instrument it hoped to sell to doctors, dentists, and hospitals. The demand for stetrics far exceeded initial expectations, and the company was unable to produce enough stetrics to meet demand.

The company was manufacturing its product on equipment that it built at the start of its operations. To meet demand, more efficient equipment was needed. The company decided to design and build the equipment, because the equipment currently available on the market was unsuitable for producing stetrics.

In 2008, a section of the plant was devoted to development of the new equipment and a special staff was hired. Within 6 months a machine developed at a cost of $714,000 increased production dramatically and reduced labor costs substantially. Elated by the success of the new machine, the company built three more machines of the same type at a cost of $441,000 each.

Instructions

(a) In general, what costs should be capitalized for self-constructed equipment?

(b) Discuss the propriety of including in the capitalized cost of self-constructed assets:

(1) The increase in overhead caused by the self-construction of fixed assets.

(2) A proportionate share of overhead on the same basis as that applied to goods manufactured for sale.

(c) Discuss the proper accounting treatment of the $273,000 ($714,000 ˗ $441,000) by which the cost of the first machine exceeded the cost of the subsequent machines. This additional cost should not be considered research and development costs.