Two Growing Firms Are Identical Except That One Firm Capitalizes

question 50

Multiple Choice

Two growing firms are identical except that one firm capitalizes, whereas the other firm expenses costs for long-lived resources over time. For these two firms, which of the following statements is generally true?
I. The expensing firm will show a more volatile pattern of reported income than capitalizing firm.
II. The expensing firm will show a less volatile pattern of return on assets than the capitalizing firm.
III. The expensing firm will show lower cash flows from operations than the capitalizing firm.

• A)I only
• B)II only
• C)I and III only
• D)II and III only

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Definitions:

Real Output

The total goods and services produced by an economy, measured in constant prices to adjust for inflation, synonymous with real GDP.

Incentives

Something that motivates or encourages an individual or group to perform or act in a certain way.

Savings

The portion of income not spent on current expenditures and set aside for future use.

Investment

The action of dedicating resources such as capital, time, or effort to a particular venture with the expectation of achieving a beneficial return.