The accounting issues faced in accounting for advertising expenditures are very similar to those of R & D. The FASB’s Statement of Financial Accounting Standards (SFAS) No. 2, Accounting for Research and Development costs states three reasons why R& D costs should be expensed as incurred as opposed to capitalized (Munter 23-30).
1. Uncertainty of future benefits
2. Lack of causal relationship between expenditures and benefits.
3. Inability to measure economic resources (future benefits).
Proponents of expensing advertising costs as incurred base their opinions on the above-referenced reasons. However there are others, who support capitalizing advertising expenditures who argue that the future benefits are identifiable and measurable. Further, they argue that capitalization of these expenditures motivates management to consider not only short-term, but long-term profits as well. The basis of this argument is that “managers might be tempted to eliminate or reduce advertising expenditures in the current period unless these costs are capitalized (Flesher, August 1991). In December, 1993, the Accounting Standards Executive Committee (AcSEC) issued Statement of Position (SOP) No. 93-7 “Reporting on Advertising Costs,” to address these issues.
SOP No. 93-7 breaks advertising down to two categories with limited exceptions – direct-response advertising and all other forms of advertising. Direct-response advertising is the only type that may be capitalized providing certain requirements are met. All other forms of advertising should be expensed either as incurred or upon the first airing of the ad.
Direct-response advertising should be capitalized if its “primary purpose is to elicit sales from customers who can be shown to have responded specifically to the advertising”. The customers’ responses must be documented in some way. That documentation could be in the form of files indicating customer names and the advertisement;...