What you need to know:
 

• Australia’s Accounting Standards do not allow marketing spend to be considered capital expenditure, i.e. having value beyond one year.
• Rather, brand spend is considered operating expenditure and is measured on a yearly scale.
• This is at odds with the research and the economic value of marketing, especially for brands that are built for long term business gain.
• The standards are unlikely to change. But CMOs can prepare an accounting rationale for this with their CFOs: Here’s how to prepare for the watercooler conversation.

Capital vs Operating

Before I was a marketer, I was an accountant, and my work operated within the many accounting standards that governed what we could and couldn't do in terms of reporting financial results.

One of the key primary accounting standards was the definition of “capital expenditure” versus “operating expenditure” – they’re different, and they’re understandably treated quite differently by businesses. These guidelines are considered fundamental to accountants as the delineation of capital and operating expenditure is very influential in how a company operates.

What’s the difference? Capital expenditure is expenditure that provides a return over several years (e.g., a factory). Operating expenditure is that which returns within the year (e.g., staff costs).

Capital expenditure is accounted for, and regarded as, a long-term investment with long term return on investment (ROI). These budgets are planned and approved to span over many years. Accountants and leaders recognise the assets will provide benefit over many years. Crucially, though, the budget-holders are accountable to those longer-term timeframes. 

This is very important. If brand spend was considered as capital, a CMO would pitch the brand budget with a more appropriate framework, the CEO would understand the budget in this context and the CFO would record the spend and brand asset value in the balance sheet as an identified line item, making it more transparent and accountable.

Why is brand spend operational?

So why is marketing – and especially brand building – not considered as capital per the accounting guidelines? 

Well, it was – up until 2005, when the Australian Accounting Standards Board adopted the international accounting standard for “Intangible Assets” (IAS38) which is firmly of the view that brand assets should not be treated as capital. Let me explain.
The initial criteria within IAS38 for recognising an “intangible asset” is clearly in favour:

“An intangible asset shall be recognised if: (a) it is probable that the expected future economic benefits that are attributable to the asset will flow to the entity; and (b) the cost of the asset can be measured reliably.”

However, crucially, paragraph 63 of the Australian Accounting Standard 138, which deals with Intangible Assets, goes on to specifically call out spend on brands:

“Internally generated brands, mastheads, publishing titles, customer lists and items similar in substance shall not be recognised as intangible assets. Expenditure on internally generated brands, mastheads, publishing titles, customer lists and items similar in substance cannot be distinguished from the cost of developing the business as a whole. Therefore, such items are not recognised as intangible assets.”

This exceptional classification feels weak, somewhat prejudiced and somewhat short on its understanding of how a brand asset adds value to a business.

The CMO must discuss this with their CFO

I accept the logic that, for clear accounting purposes, an asset needs to be a readily recognisable independent value-producing entity or class, as opposed to a dependent thing that cannot be separated or valued. Factories, computers, vehicles are all examples of clear cash producing asset classes.

But I propose that brand assets can be readily recognised in terms of spend (Binet and Field define brand spend as that which primarily drives emotional response over transaction response) and value (Interbrand offers such services within a commonly accepted framework).

Brand’s long-term value is substantiated in various research works, and most businesses – including their CFOs, work on the assumption that brand budgets will have effects lasting longer than the financial reporting period.

I acknowledge that not all marketing activity should be “capitalised”. Direct response promotional activity is clearly operating expenditure. This is easily categorised and excluded.

But the current Accounting Standards do not favour the CMO and are not clear on the rationale for the exclusion. They short-change the marketing teams the opportunity to pitch multi-year budgets and accountability in line with the true nature of brand building.

There is limited scope to campaign a change in the International Accounting Standards. These standards are slow-moving and resistant to significant change as financial markets rely on the consistency of them for stock market valuations.

Rather, the opportunity for the CMO is to grab the CFO at the watercooler and start the discussion as to why brand marketing is not regarded as capital expenditure. I suspect a thoughtful look will come across the face of the CFO and I hope that in that pondering some sympathy might be extended to the plight of the CMO who is building a long-term asset within a shorter cycle expectation.