Capitalizing vs. Expensing Costs

Why does capitalizing costs result in “smoother” earnings (lower variability)?

Because costs are depreciated over time as opposed to expensed in one lump sum in any particular year

gazhoo Wrote: ------------------------------------------------------- > Why does capitalizing costs result in “smoother” > earnings (lower variability)? “smooth that bad boy”, taking it ratably forward

anyone else?

I agree with beatthecfa and tend to think along those lines as well. If I were to expense all the cost in a given year, the net income would be very low for that year and much higher in other subsequent years (tends to reflect income growth and more variability) While capitalizing the costs as an asset and depreciating them over the useful life of the associated asset will affect income similarly each year (thus reducing earning variability).

Explaining what beatthecfa posted. For example, you have bought $100 worth of goods for your company. And say you have 2 choices: 1. You can expense all of these $100 in your Income Statement in a single go or 2. You could capitalize that good in your B/S as an asset and expense (depreciate) it gradually, say $10 per year for next 10 years. In the first case, your earnings will reduce by $100 and this being a huge amount (as compared to $10 of depreciation) will have a big downward variation in your earnings, making them voletile. In 2nd case, your earnings will reduce only by $10 each year, hence smoothing out the effect of your $100 expenditure.

Too good rus!

Thanks very much guys…got it