Financial accounting: AcSEC update.

The accounting standards executive committee has formed a task force to develop a statement of position on accounting for the costs of start-up, preopening and preoperating activities (collectively referred to as "start-up costs"). The SOP would apply to all entities and might amend current American Institute of CPAs SOPs and audit and accounting guides.

Although there is some AICPA industry guidance on accounting for start-up costs, such costs are not defined in the broad authoritative literature. A Financial Accounting Standards Board Discussion Memorandum, Accounting for Research and Development and Similar Costs, defines them as unusual one-time costs incurred in commencing some new operation. Internal Revenue Code section 195 defines them as those costs incurred following a decision to acquire or establish a particular business and before its actual operation.

The lack of broad standards has led to inconsistent accounting and reporting of these costs. Broad authoritative guidance is needed to improve comparability. A cursory review of more than 150 public company financial statements that disclose information on start-up costs reveals that almost two-thirds capitalize and amortize some start-up costs while the rest expense all start-up costs as incurred. Amortization periods vary from less than one year, to one to two years, to more than two; some entities do not disclose amortization periods. Additionally, practice is diverse within industries.

To illustrate, take an example of four clothing retailers with similar start-up activities. Joe's Stores expenses start-up costs as incurred. Barbara's Outfitters capitalizes certain start-up costs and fully amortizes those costs within the first year of operations. Sondra's Specialties capitalizes like Barbara's but Sondra's amortizes start-up costs over two years from the date operations begin. Finally, nobody knows how Frank's Fun-Wear accounts for start-up costs because Frank's doesn't disclose anything on start-up costs.

The Securities and Exchange Commission staff has noted at various conferences that it prefers registrants to expense start-up costs as incurred. In one situation, the staff did not allow a registrant to change accounting principles from expense-as-incurred to capitalization even though capitalization was industry practice. The staff also noted that it has taken exception to entities capitalizing certain kinds of start-up costs. However, the staff has not objected to capitalization of certain kinds of start-up costs if they meet certain criteria.

AcSEC will undoubtedly have to consider many questions, which may include:

* Is there a difference between start-up, preopening and preoperating activities? These terms are apparently used interchangeably and inconsistently in practice.

* What is considered start-up? For example, does start-up encompass new products and services, new facilities, new processes, expansions and upgrades?

* Do start-up costs result in recognizable assets?

* When does asset recognition begin and end? In other words, when does the start-up phase begin and end?

* What start-up costs are eligible for capitalization? Costs to consider include payroll, rent, travel, utilities and professional and outside consultant costs that are incremental and directly related to start-up activities.

* How should capitalized start-up costs be amortized?

* Should there be a recoverability test applied to capitalized start-up costs and, if so, must it be the same test as that in FASB Statement no. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of?

Many people erroneously assume that start-up activities apply only to newly formed entities, yet both established operating and development stage entities can have start-up activities. The proposed SOP would apply to both types of entities. FASB Statement no. 7, Accounting and Reporting by Development Stage Enterprises, does not require special accounting by development stage entities when determining whether costs incurred should be capitalized or expensed as incurred. That is, generally accepted accounting principles do not differ for the two types of entities.

This project on start-up costs is the next phase in a broader AcSEC project to develop guidance on accounting for the costs of activities undertaken to create future economic benefits through the development of intangible assets. It is AcSEC's intention to use SOP 93-7, Reporting on Advertising Costs, the first phase of the broad project, as a guide in resolving issues associated with activities that create such future economic benefits. However, though the FASB did not object to AcSEC's undertaking this project on start-up costs, board members expressed concern that the FASB might not be able to support AcSEC's conclusions because the board had not specifically decided how its conceptual framework on assets applies to deferred charges.