Capitalization

CFA Level I
#1

Could somebody clarify how capitalization effects balance sheet and Income Statement?

Thanks

#2

Capitalization creates an asset. Instead of recognizing the whole cost in one period as an expense, you capitalize it and start to depreciate it according to your expectation of the useful life of this asset.

Capitalization compared to expensing the cost result in:

  1. Total Assets are higher;

  2. NI in the first year is higher;

  3. NI in the subsequent years are lower.

#3

Great. Can you also explain how capitalising and expensing differs depending on software development R&d etc?

#4

IFRS: Research cost are expensed, development costs are capitalized after the recognition criteria are met.

US GAAP: All research and development costs are expensed, except software development costs which are capitalized after the recognition criteria are met.