The Daily Technical #67: What happens to the three financial statements if a company initiates a dividend?

Good morning. Welcome to the 67th edition of The Daily Technical. You’re here for one reason so let’s dive in.

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OVERVIEW OF YESTERDAY’S QUESTION
When do you capitalize vs. expense items under accrual accounting?

To determine whether to capitalize or expense items under accrual accounting, consider the useful life or estimated timing of benefits.

Capitalized Items: Expenditures on fixed and intangible assets expected to benefit the firm beyond one year should be capitalized. These costs are expensed over the asset's useful life. For instance, a building is capitalized as its benefits last 15+ years and it is depreciated over time.

Expensed Items: When benefits are short-term, expenses should align with the period they're incurred. For example, inventory turnover occurs within a year, and employee wages are expensed for the period services are rendered.

Common Mistakes

1. Conflating long-term and short-term benefits, capitalizing items that should be expensed. To avoid this, always analyze the asset’s useful life—capitalize only when it provides future economic benefits beyond a year.

2. Neglecting intangibles like patents or trademarks that require capitalization. Remember, intangible assets expected to offer benefits for more than a year should be capitalized and amortized over their useful life.

3. Incorrectly Timing Expenses. Verify that short-term benefits, like employee wages, are expensed in the period the service occurs.

TL;DR

• Capitalize items with benefits beyond one year; expense these costs over the asset's useful life.

• Depreciate long-term assets like buildings, which offer benefits over many years.

• Expense items when benefits are short-term and align with the period incurred.

• Expense rapidly-used items like inventory and employee wages during the service period.

• Determine treatment based on the estimated timing of benefits.

TODAY’S QUESTION
What happens to the three financial statements if a company initiates a dividend?

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THAT’S A WRAP
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See you tomorrow,

Mike Lukasevicz
Founder @ HirePrep