Professor Adisa Omerbegovi Arapovi

Accounting ACCT 101

November 21, 2016
Hadzic Sejjaf

Case study 1

1. In this chapter, you learned that when a company incurs a cost, its
accountants have to decide whether to record it as an asset or expense. When costs
are recorded as an asset, they are said to be capitalized. This builds on ideas first
presented in Chapter 2, where you learned that it is appropriate to record costs as
assets provided that they possess certain characteristics. What are those
characteristics?
Characteristic of capitalized costs or expenses is that this cost in its essence
is actually in a way benefitting the company, so even though it is expense it is
shown as asset. Reason behind this is because these expenses are used to enhance
companies business. We can see many examples, such as wage cost, which is
decrease in cash, but is used to operate and to work. Building is also a cost and sort
of cash decrease, but is assigned as asset as it will eventually enhance business.
Many other expenses are seen as capitalized costs because of this. These costs will
not decrease retained earnings as there is a benefit from this cost in assets
accounts.
2. The author of the article argues that even with clear rules such as those
referenced in requirement 1, accounting still allows managers to use tricks such
as capitalizing expenses. What do you suppose the author means by the expression
capitalizing expenses?
These tricks are used to show the situation of company slightly better than it
is for outside parties, such as investors or other companies which engage in
businesses with that company. These capitalized expenses are actually shown as
capitalized costs. These are shown as company acquired assets in long term which
are effecting accounting system in a way that there is no essential decrease or loss,
as these expenses are shown as acquiring of something in one of the accounts
which at the end does not decrease net income of company and makes the
company more attractive to outside parties.
3. Suppose that, in the current year, a company inappropriately records a
cost as an asset when it should be recorded as an expense. What is the effect of this
accounting decision on the current years net income? What is the effect of this
accounting decision on the following years net income?
If the company records a cost as an asset, but it should be an expense, it
would not be affecting net income of the current year as it is shown as an asset
which increased one of the asset accounts. As it increased asset account and
increased liability account it will not be shown as increase or decrease in net
income, as it would be if this cost was assigned as expense.
This expense will be shown in next year as if it was a cost it would return the
benefit to the company in some way. As this was originally expense not cost in the
following year it would be shown that this was at the beginning the cost and it did
not benefit the company in no other account.
4. Later in the article (not shown), the author says that the videogame
industry is one in which companies frequently capitalize software development
costs as assets. These costs include wages paid to programmers, fees paid to
graphic designers, and amounts paid to game testers. Evaluate whether software
development costs are likely to possess the main characteristics possessed by all
assets. Can you think of a situation in which software development costs might not
possess these main characteristics?
Term of asset in the software business is kind of tricky and that reflects of
companies accounting cycle. In this situation, as we can see, expenses related to
software development are seen as capitalized. That is in a way logical, as
developers are developing software which is main asset, and by developing them,
they are benefitting the company. These development costs would be a expense
and could not be seen as capitalized cost if it would not benefit company for longer
period. Then, we would see decrease in net income and no place to increase, so that
would be seen as expense, not capitalized cost.
5. Do you think it is always easy and straightforward to determine whether
costs should be capitalized or expensed? Do you think it is always easy and
straightforward to determine whether a manager is acting ethically or unethically?
Give examples to illustrate your views.
It is not always easy to determine these costs capitalized or whether these
are expenses. This can lead to misunderstanding and wrong balance at the
accounting year. Also, these can lead to different types of unethical behavior. This is
actually situation in which company shows expenses as capitalized costs, which is
fraudulent behavior. This is done to show better state of the company to the
investors or other company, but at the end it creates much problems to the
company if found out.