Question

You’ve just been called for an interview for an executive position at HLT Co. A member of the panel asked you the following question:

You are the Chief Executive Officer for HLT Co. Your chief financial office (CFO) and Controller are not in agreement regarding an expenditure of $750,000. The CFO wants to capitalize it while the controller is arguing that it should be expensed. Assume that chief officers are paid a bonus based on reported income from operations and also offered stock options whereas the controller is paid a fixed salary.

1)Explain to your CFO & controller the grounds upon which an item is capitalized or not?

2)What would be the impact on financial statements of “capitalizing” versus “expensing” the above expenditure?

3)Why might the CFO favor capitalization over expensing?

4)Which one you might favor?

Answer 1

1. The simple method to determine whether the cost should be expenesed or capitalised is through matching principal in which expenses are to be matched with the revenue. IF the cost incurred can be apportioned to more than one year than the same should be capitalised instead of expensed in one year
2. Capitalising will increase the expenditure only of the part which is actually used in the current year leadong to better profits margin. Whereas in expensing it, the profits may shrink because of higher recognition of expense in the year
3. CEO salary is linked with profits figures, if the item is expensed, it may lead to lowe bonuses for him where as if capitalized it will give higher profit figure and consequently higher bionuses.
4. I would like to go by the rules, considering the nature of transaction I shall either expense it or capitalise.

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