Introduction. Company Overview
Founded as Free People retail store in 1970, Urban Outfitters Inc (URBN) is a multinational corporation based in Philadelphia, Pennsylvania, that specializes in a merchandise mix of men’s and women’s fashion apparel, beauty, wellness, footwear, accessories, housewares, music, and other consumer products associated with lifestyle. Currently, the company operates in various nations in Europe as well as Canada and the United Arab Emirates. The company primarily targets young adults who are enthusiasts of lifestyle and beauty products.
Currently, the company is seeking growth and has recently hired new district managers to assist in this growth. In talking to other regional managers, it has been found that some district managers do not have a thorough understanding of commonly used accounting tools, including an income statement and balance sheet. The new district manager, John, needs to do some training, so he has a solid understanding of income statements, balance sheets, and the elements that go into them, including advertising costs, Web development costs, and store opening costs. Therefore, the aim of this report is to develop comprehensive materials to provide training for John and other district managers to give them skills and knowledge in financial reporting.
Before understanding how the company capitalizes store opening costs and the time period to amortize them, it is important to understand what the term amortization means. Amortization means the same thing as capitalization, which refers to the practice of spreading the cost of assets over a number of fiscal years (Franklin, Graybeal & Cooper, 2019). This approach is opposed to accounting for the full cost of the assets at once. When the company opens a new store, it seeks to account for the expense incurred over a number of fiscal years. Urban Outfitters has a policy of deducting a portion of the price of setting up a new store for the next ten years rather than claiming the entire cost as a business expanse in the first year of the store’s operation. The reason for using this approach is based on the fact that the store will lose value over time due to age.
Store Amortization Method
It is a building that needs repairs and replacements as it grows old. This implies that stores lose value through annual depreciation, which is calculated based on the straight-line approach as a rule in Urban Outfitters Inc. The company uses amortization for a number of theoretical and practical reasons (Franklin et al., 2019). Noteworthy, amortization helps the company, as well as its investors, to develop a comprehensive understanding and forecast of the cost over time. For instance, in terms of loan repayment, the company will use amortization schedules to provide clarity into the specific portion of the repayment that should consist of interest against the principle. In this case, amortization can help guide the company when it is deducting interest payments for the purposes of taxation.
Amortization and Depreciation
Amortization of tangible assets, such as the new stores, helps reduce the company’s taxable income, which results in reduced tax liability while also giving investors an understanding of the organization’s actual earnings. Furthermore, there is a need to understand the difference between amortization and depreciation. Noteworthy, the two concepts are similar in that they attempt to capture the costs of an asset over time (Franklin et al., 2019). Nevertheless, they are also different because amortization can apply to intangible assets while the depreciation concept is used in reference to tangible assets.
At Urban Outfitters, the development of a company website has been treated as an acquisition of an asset rather than an expense under the general expenses category. In this case, the company views a new website as an asset that will function in the same manner as a new piece of equipment required to improve the business process. A website, like communication technology, is considered from the research and development perspective (Franklin et al., 2019). The cost of this process is treated as an asset and features in the company’s income statement.
Importance of Notes to Financial Statements
Notes to financial statements, as a rule, are included with the published financial statements of Urban Outfitters at all times. These statements are supplementary notes that help to explain the assumptions used when preparing the numbers and figures in all the financial statements and the accounting policies that the company has adopted. Specifically, notes to financial statements provide a method of differentiating types of users, such as financial analysts (Franklin et al., 2019). Moreover, these notes provide critical information that is not found on the income statement, balance sheet, cash flow, and statement of changes in equity. The company normally uses texts, graphs, and tables to help explain the details of its accounting, such as when revenue is calculated.
Using Other Methods of Costing
If another method was used to capture costs, the financial statements would have differences from the current ones. In this case, if the costs were treated individually rather than categorized, then the balance sheet would also have its figures as short-term assets. This means that the company would be treating advertising expenses as an asset if there are enough grounds to believe that they are tied to specific future sales. In essence, the idea is that advertising costs will result in an increase in sales, which then become an income (Franklin et al., 2019). Consequently, it is worth noting that advertising costs are considered an investment, which is an asset in its own right.
How Accounting Concepts and Practices Impact Financial Reporting
The expense recognition principle states that expenses must match with all associated principles in the trading period in which the revenues have been earned. If there is a mismatch in revenues and expenses, it is possible to have understated net income in one period with an overstated income in another period. Therefore, the statements are less reliable when the expenses are recorded separately from the generated revenues. This principle is also known as the matching principle and is a critical aspect of financial accounting.
The cost principle (historical cost principle) states that everything a business owns or controls should be recorded at the date of acquisition. In essence, these are assets that the company owns at a given time. Most assets’ value is easy to determine because it is the price agreed upon when the company was purchased from the provider. Nevertheless, exceptions to the rule exist, but it will always apply the cost principle unless specified by rules and regulations. Financial instruments such as bonds and stocks can be recorded at their fair market value. This is one of the exceptions to this specific rule.
Full Disclosure Principle
The principle of full disclosure states that an organization must always report any activities that can have an impact on its financial statements. It is worth noting that the activities can be nonfinancial in nature or could have their supplemental details not readily available on the primary financial principle. Examples of such activities are acquisition information, pending litigation, and methods required to calculate figures. In most cases, such figures are recorded in footnotes or as addenda to the financial statements.
This study material will help the district managers to develop a good understanding of the principles of accounting. Managers will learn how accounting concepts and practices impact financial reporting. They will also learn how to explain how the accounting method the company uses affects the financial statements. In addition, they will be able to compare how the two accounting methods differ in their effects on the financial statements. Furthermore, managers will be in a position to communicate financial information with multiple stakeholders. Finally, the materials will help managers to communicate accounting information clearly.
Franklin, M., Graybeal, P., Cooper, D. (2019). Principles of accounting volume 1- Financial Accounting. 12th Media Services.