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The decision is made thousands of times a day in companies around the world: Should a recently purchased asset be expensed currently, or should it be capitalized and depreciated over its useful life? The Financial Accounting Standards Board (FASB) provides no specific guidance to companies regarding what the threshold level should be. But it does stress that financial statements must provide information that's consistent and comparable across similar companies, as stated in FASB Concepts Statement No. 8, Conceptual Framework for Financial Reporting.
Considering that the FASB doesn't impose an Asset Capitalization Threshold (ACT) on companies, we set out to discover whether there was any sort of consistency in ACT choice. To that end, we distributed a multiquestion survey to financial leaders across a broad range of large, mostly public, companies. What we discovered surprised even us, and it wasn't what we had expected.
Entering Uncharted Territory
As the old saying goes, sometimes something very valuable can be found "right under our noses." In this article, we'll share our latest research into a fundamental accounting practice that has significant bearing on reported periodic net income but hasn't been discussed widely. Every company, private and public, has an Asset Capitalization Threshold. As such, contemporary ACT practices should be of serious interest to several important stakeholders, including but not limited to, internal and external financial analysts, controllers, and regulators.
Management accountants and those involved in financial planning and analysis regularly use reported net income to make a variety of decisions, including which business units or segments are more profitable than others, and to assess the financial health of customers or suppliers. Therefore, consistency of ACT within a company is critical. Controllers should be very interested in how their company's ACT compares with that of their peers, with a view toward coherent benchmarking. Regulators, too, should be interested in supporting disclosures that actually improve transparency and clarity regarding reported periodic earnings without increasing the cost and complexity of compliance. The disclosure of ACT in the notes to financial statements would satisfy these criteria and could even improve the public image of the accounting profession.
Shedding More Light on ACT
Why is understanding ACT practices important today? To help answer this question, we'll present a simple illustration of ACT in...