CAPEX VS ROPEX

[bizzle]

Can anyone tell me why a company would report their operating expenses as their capital expenditure? I've just noticed this on an associates statement(s) and being new to accounting I can't see why they would do that ?

Is it something Thai specific or something that is favoured in other countries too?

[fletchsmile]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

[bizzle]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

Thanks mate, that is a great definition

[bizzle]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

Thanks again

Ive just been thinking, regarding this misrepresentation, who is likely to suffer from it? Would employees of a compnay be affected at all or would it be more people who have money invested?

Im just trying to see the knock-on effect this has..

[SheungWan]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

Thanks again

Ive just been thinking, regarding this misrepresentation, who is likely to suffer from it? Would employees of a compnay be affected at all or would it be more people who have money invested?

Im just trying to see the knock-on effect this has..

Have a look at case studies where companies have misrepresented their figures eg Tesco or even countries eg Greece and see how they have played out.

[fletchsmile]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

Thanks again

Ive just been thinking, regarding this misrepresentation, who is likely to suffer from it? Would employees of a compnay be affected at all or would it be more people who have money invested?

Im just trying to see the knock-on effect this has..

Can depend on which direction they manipulate the numbers. Potential investors/ shareholders can lose out if expenses are capitalised which shouldn't be, as it makes their profit and loss look better than it should as well as the balance sheet. This would affect anyone valuing the company for any reason. Banks may be another loser. It's possible the company has convenants or considerations for financing/ loans in place, eg certain ratios need to be above certain levels as warning / protection for the bank.

The employees could eventually lose out if the situation compounds and causes any problems to snowball. the company gets into bad shape as a result of manipulated profits and eventually it comes out in the wash, so some form of restructuring is needed, which usually means job cuts.

All in all, any stakeholders could ultimately lose out one way or another: employees, management, shareholders, creditors, banks, revenue department and hence society at large,

Cheers

Fletch

[bizzle]

Broadly:

If you capitalise the expense it will then be held on your balance sheet as an asset. The asset would then be depreciated over its remaining useful economic life

If you treat it is as an operating expense it all goes through your profit and loss account, and you will have no asset on the balance sheet.

So let's say your profit for the year excluding this transaction is 50, and the transaction was 60.

1) If you treat it as an operating expense, you're profit will become 50 profit - 60 expense = now a loss of 10

2) If you capitalise it and say it has a UEL of 6 years, then 60 / 6 = 10 per year

So you end up with an expense of only 10 for the transaction for the year, and 50 (60-10) is capitalised on the balance sheet as a fixed asset

Hence, profit becomes 50 - 10 = 40 profit and you have an asset worth 50 that looks nice on your balance sheet

In summary:

Treating it as an expense will reduce your profit more, whereas capitalising it will give reduce your profit less

One way of many companies try to manipulate numbers

Some people will often do the opposite. Lower profit or loss usually means less tax. Hence depending whether they are more interested in higher profit or lower tax may be a factor.

What should happen is people shouldn't just make arbitrary choices, and should look at the substance of the transaction. ie is it really something you'll use for 6 years (so capitalise), or is it something you've spent and is gone (expense it)

Cheers

Fletch

Thanks again

Ive just been thinking, regarding this misrepresentation, who is likely to suffer from it? Would employees of a compnay be affected at all or would it be more people who have money invested?

Im just trying to see the knock-on effect this has..

Can depend on which direction they manipulate the numbers. Potential investors/ shareholders can lose out if expenses are capitalised which shouldn't be, as it makes their profit and loss look better than it should as well as the balance sheet. This would affect anyone valuing the company for any reason. Banks may be another loser. It's possible the company has convenants or considerations for financing/ loans in place, eg certain ratios need to be above certain levels as warning / protection for the bank.

The employees could eventually lose out if the situation compounds and causes any problems to snowball. the company gets into bad shape as a result of manipulated profits and eventually it comes out in the wash, so some form of restructuring is needed, which usually means job cuts.

All in all, any stakeholders could ultimately lose out one way or another: employees, management, shareholders, creditors, banks, revenue department and hence society at large,

Cheers

Fletch

Great post Fletch, thanks again mate