Question

1. Ajacks has begun selling a new model of a product. at year end, it estimated the amount of warranty expense for the new model based on experience with the older model.

2. ajacks is party to a patent proceeding filed by a competitor. ajacks has already estimated and recorded a loss for the predicted outcome.
3. ajacks purchased a financial instrument that is not publicly traded and recorded it at fair value. low estimation uncertainty
4. ajacks records sales fob shipping point. Cutoff for sales for the year is determined by evaluating shipping documents.
5. ajacks records inventory at lower of cost or market, which includes issues related to inventory obsolescence. unlike other years, a material write-down occured this year.
How should A. Jacks account for these advertising expenses in accordance with generally accepted accounting principles (GAAP)?

a. Accounting Treatment Options:
b. Capitalize the advertising expenses over multiple periods.
c. Expense the advertising costs immediately in the period incurred.
d. Create an intangible asset for the marketing campaign.
e. Recognize the advertising expenses only when the sales increase due to the campaign.

Answer 1

Ajacks estimates warranty expenses based on previous models and expenses advertising costs as incurred, following the matching principle. Sunk costs, which represent past expenditures, should not influence future business decisions and are treated separately from current financial considerations.

Step-by-step explanation:

When a company like Ajacks introduces a new product, they must estimate warranty expenses based on prior experience with older models. This estimation is crucial for financial reporting and setting aside adequate reserves for future warranty claims that may arise from the new product.

The approach Ajacks takes suggests they are applying the matching principle of accounting, where expenses are matched to the revenues they help generate. In terms of advertising costs, businesses typically expense advertising costs as incurred. This means that the costs are recognized in the financial statements during the period in which the advertising activity occurs, regardless of the sales results. This immediate expensing aligns with the conservative approach in accounting, ensuring that expenses are not understated.

Reflecting on sunk costs is critical for businesses managing their resources. Sunk costs represent past expenditures that cannot be recovered, and economic theory posits that such costs should not influence future business decisions. It's more judicious to focus on future costs and benefits rather than past financial commitments. This principle helps in evaluating the efficacy of continuing or abandoning a struggling product line.