For Official Use
STD/NA(2001)4
Organisation de Coopération et de Développement Economiques
Organisation for Economic Co-operation and Development
03-Sep-2001
___________________________________________________________________________________________
English - Or. English
_____________
STATISTICS DIRECTORATE
STD/NA(2001)4
For Official Use
National Accounts
THE TREATMENT OF SOFTWARE - INCLUSION IN CAPITAL FORMATION AND TREATMENT
OF R & D PERFORMED IN CONNECTION WITH DEVELOPMENT OF SOFTWARE
Soli Peleg and Pablo Mandler - Central Bureau of Statistics, Israel
Agenda item 9
Chateau de la Muette, Paris
9-12 October 2001
Beginning at 9:30 a.m. on the first day
English - Or. English
JT00111971
Document complet disponible sur OLIS dans son format d'origine
Complete document available on OLIS in its original format
STD/NA(2001)4
TABLE OF CONTENTS
Introduction ..................................................................................................................................................3
Relations between R&D and software .........................................................................................................3
Software as work in progress .......................................................................................................................4
Measurement problems ................................................................................................................................4
Possible solutions .........................................................................................................................................7
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STD/NA(2001)4
THE TREATMENT OF SOFTWARE – INCLUSION IN CAPITAL FORMATION AND
TREATMENT OF R&D PERFORMED IN CONNECTION WITH DEVELOPMENT OF
SOFTWARE
Introduction
In Israel estimates of capital formation in software have been prepared for the national accounts since
1998. The methods of estimation have been gradually improved, and for example last year estimates for
production for own use have been added. The estimates for production of software in Israel for domestic
use and for exports, which is becoming more and more important (currently software production amounts
to 8% of GDP), have also been extended.
Production of software and gross capital formation in software in Israel
Production of software
1995
1996
1997
1998
1999
2000
Gross capital formation in software (1) Million $
Million $
% of GDP
Total
1785.6
2353.3
2928.3
4339.5
5100.0
8634.9
2.0
2.5
3.0
4.4
5.2
8.1
658.2
820.9
864.5
1074.9
1143.8
1408.8
Total as % of
gross fixed
capital formation
Thereof: for own
in machinery
use
and equipment
109.6
155.9
128.1
112.1
144.5
178.1
7.2
8.4
9.7
12.6
11.5
13.7
(1) Partial estimates - estimates are still under development
During the development of these estimates a number of problems have come up. One of the important
problems seems to be the thin borderline between R&D and software production. Another the treatment of
software as work in progress. Below a description of the conceptual background, Israel’s experience with
some of the problems is described and some tentative solutions are given.
Relations between R&D and software
Software is an intangible asset and the production of software involves “intangible” inputs, which may
make it difficult to observe when the production process has started or finished. The production also
involve many activities which may have characteristics of R&D. This is also the reason that the Frascati
manual for measurement of R&D has devoted a special annex to problems software issues – problems of
distinction between R&D and software development which is not viewed as R&D. In the SNA93 it was
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STD/NA(2001)4
decided not to define R&D as a fixed asset, whereas an important part of the production of software is
defined as a fixed asset, so a distinction has to be made even if in some cases it is difficult.
The classification of activities does not apparently help to solve this problem. It seems that the ISIC
category 72 – “computer and related activities” – covers mainly supply of software to third parties through
consulting. On the other hand, establishments mainly generating original sophisticated software as a result
of their R&D activity should to be included in ISIC category 73 – “Research and development”.
Software as work in progress
An additional problem is that the development of software may take a number of years much like the
construction of ships and aircraft. If the activity, including R&D, involved in the development is not
accounted for during all the period and the value of software only registered when it appears as a finished
product, one might get fluctuations in GDP. For instance a new complicated software system in a banking
corporation may be developed by the computer personnel within the corporation over a number of years.
This personnel may have current assignments as well as work in connection with the development, so that
all expenditure probably will be registered as production costs of the other activities. This means that no
output of software or “work in progress” will be registered. When the system is finished it may be
registered as GFCF in which case a use is accounted for, without the counterpart supply of software output.
Of course in many cases the finished software may not be registered even then, which means some capital
formation (and software production) will be missing.
The SNA93 gives a conceptual solution for the treatment of software production in its different stages
(SNA93 par. 10.102): “Work-in-progress consists of output produced by an enterprise that is not yet
finished, i.e., not yet sufficiently processed to be in a state in which it is normally supplied to other
institutional units. Work-in-progress occurs in all industries, but is especially important in those in which
some time is needed to produce a unit of finished output -- for example, in agriculture, or in industries
producing complex fixed assets such as ships, dwellings, computers, software or films. Work-in-progress
can therefore take a wide variety of different forms ranging from growing crops to partially completed film
productions or computer programs. Although work-in-progress is output that has not reached the state in
which it is normally supplied to others, its ownership is nevertheless transferable, if necessary. For
example, it may be sold under exceptional circumstances such as the liquidation of the enterprise.”
Thus if the SNA93 rules of separate accounting for work in progress on software (or the R&D activities
leading to software) are followed, no problem of underestimation exists.
If software is developed for own use and directly registered as part of GFCF, care should obviously be
taken to include its value in the output as output for own final use.
One could however say that the successful outcome of R&D on software is less certain then the outcome of
production of ships and aircraft, so that the treatment of R&D on software as work in progress and not
GFCF in the early stages would be preferable, even incases where the R&D on software is sold in advance
or produced for own use.
Measurement problems
The practical problems of measurement seem to be larger than the conceptual ones. Information on R&D
in software is collected in R&D surveys, but may not be collected in ordinary industry surveys. Since
R&D surveys often are performed by agencies not involved in the preparation of national accounts, it may
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STD/NA(2001)4
also be difficult to integrate these data in the national accounts. There are 3 important cases where this
may lead to underestimation:
1. Enterprises within the software industry may engage in R&D to develop an original sophisticated
computer program later used for large-scale production. The finished product would be a fixed asset
for own use. If no separate account is made for the R&D activity, it will not be registered as software
production, and the costs incurred would be registered as current costs of the principal and secondary
output of the industry. Since these kinds of enterprises have employees in computer-related
occupations anyway, the use of data on these employees to estimate software production for own use
in such enterprises may lead to errors.
2.
Enterprises in other industries may engage in R&D to develop software for own use. If produced for
own use and not accounted for separately as R&D or its software outcome, their production costs may
be treated as the costs of an ancillary activity, in which case neither output on R&D nor software will
be registered. Even if the recommended method for estimation of software production for own use is
applied and data on the cost of high-level employees in computer-related occupations are used, some
costs may be missing. F. Ex. the costs of personnel not in such occupations. It is well known that
software is often developed by young “wizards” not having a full college education, but with special
talents.
3. Start-ups may engage in R&D to develop software. If information on start-ups is collected these
activities will probably be classified as R&D in the early stages and there will be no problem of
underestimation. However, since start-ups do not register sales at the early stages, in many cases they
are not routinely included in survey samples and there may even be a delay before they are included in
the business registers.
Even if all costs on R&D are included, the problem is to be able to follow the production process and to
register the finished software as part of fixed capital.
Business accounts in most cases will not include information on software produced for own use.
When development of software is not defined as R&D as in the example with the banking corporation
given above, the chance of missing the activity is even bigger. In such cases the costs of the development
are registered as part of total input and the finished software may not be registered at all as fixed capital
formation.
Preparation of estimates of the value of software produced for own use might also be a problem. There
mostly will not be a market price available, since the software produced is unique. In addition to the
problem of underestimation of costs, estimates of price changes may be tricky.
Problems of identification of software or R&D on software in imports or exports are also important.
Transfer of software and R&D through the internet is very common, and is not registered in many cases.
Due to the growing internationalization of production, in many cases software or R&D in software are also
transferred between subsidiaries of international firms in different countries without being fully registered
in the balance of payments.
When the production of software itself is internationalized it may be difficult to know which part of
production has to be attributed to one country and which to another. For instance the major part of a
software may be developed in a subsidiary enterprise but patented by the parent enterprise. Even if exports
between subsidiary and parent enterprise are recorded, the question is how the value of the production is
distributed between the two, the enterprises tend to distribute the value according to tax considerations.
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STD/NA(2001)4
Some multinational corporations may engage in R&D and production of software as well as production of
a number other products. Especially in such cases the transfer of R&D and software may not be registered
as exports.
In some cases a whole enterprise is bought by a unit in another country to obtain the software developed
within the enterprise. In such cases the sales of the software may not be registered separately, and it may
be very difficult to evaluate the software included in the sale.
Classification and measurement problems
Measurement problems
Classification
Start-ups
Software
corporations
Non-software
corporations
R&D on software
Increase in stocks
(work in progress)
Start-ups may not be
included in regular
surveys
May not be
separated in
business accounts
May not be separated
in business accounts
Unfinished software (work
in progress) for own use
Increase in stocks
(work in progress)
Start-ups may not be
included in regular
surveys
May not be
separated in
business accounts
May not be separated
in business accounts
Unfinished software
(production in progress)
sold in advance to
resident unit
Gross fixed capital
formation
-
-
-
Unfinished software (work
in progress) sold in
advance to non-resident
unit
Exports
-
-
-
Finished software for own
use
Gross fixed capital
formation
May not be registered
in business accounts
Gross fixed capital
formation
Sometimes the whole
start-up enterprise is
bought by another unit
to obtain the software the sale of software
may not be registered
separately
-
-
Exports
Sometimes the whole
start-up enterprise is
bought by a unit
abroad to obtain the
software - the sale of
software may not be
registered separately
-
-
Finished software sold to
resident unit
Finished software sold to
non-resident unit
Finished software
transferred by
subsidiaries (which do not
use it) to non-resident
parent corporation
Exports
-
6
May not be
registered in
business accounts
May not be
registered as
exported output
May not be registered
in business accounts
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STD/NA(2001)4
Possible solutions
In Israel we have only started to solve part of the problems. Estimation of R&D on software in start-ups
has been prepared separately using data on finance of software start-ups to create rough estimates of the
activity of such start-ups. These activities are included in work in progress. When the finished products
are sold – in almost all cases to abroad – the exports are registered on the one hand and a decrease in stocks
of work in progress on the other hand.
Production of software for own use has been estimated using cost of employees in computer-related
professions.
Since the share of software production is so important in Israel, better solutions are needed.
Estimate of production in start-ups in Israel
4500
4000
Million dollars
3500
3000
2500
2000
1500
1000
500
0
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
Questions on expenditure on development of software for own use including expenditure on applied
research on software will have to be added to existing industry surveys. A solution to the problem of
following the production process will also have to be found – perhaps frequent follow-up surveys will have
to be performed.
For start-ups special information has to be gathered through scanning of newspapers, tax registers and
other sources on a current basis. Frequent comparisons with the business registers and survey frames will
have to be made to check if start-ups are included, and if any activity is measured or imputed for them, and
data for a sample of start-ups will have to be gathered to collect data on all costs of activity.
Transactions in the balance of payments have to be analyzed in order to separate the value of software
acquired in connection with sales of enterprises. It will also be important to check how these transactions
have been registered in the counterpart country.
Taking all the above mentioned special problems into account it seems that it would be useful to publish
comprehensive international guidelines for measurement of software and possibly refine the international
classification of industries by activities and other international classifications to facilitate measurement of
software production.
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