Capitalization of Costs and Expected Earnings Growth

This article offers a model articulating how the capitalization of costs affects contemporaneous earnings and the growth path of expected earnings. It makes three points. First, reported earnings under successful efforts are more price-relevant than earnings under full costing or full expensing. Second, whether conditional or unconditional, conservatism always enhances the growth rate of expected earnings. Third, independent of capitalization policy, the long-run expected earnings growth rate converges either to the long-run expected free cash flow growth rate or to the depreciation rate. Therefore, while capitalization policy affects the price relevance of earnings and short-run expected earnings growth, it does not affect long-run expected earnings growth.