Software that is embedded in capital equipment, and some that is stand-alone, is currently being capitalized and consequently amortized against current and future earnings. There has always been a fuzzy dividing line between what is expensed and what is capitalized. This has historically bedeviled the accounting for research and development, for example. But the major technological advances of recent years have exposed a wide swath of rapidly growing outlays that, arguably, should be capitalized so that the returns they produce would be more accurately reflected as earnings over time. Indeed, there is even an argument for capitalizing new ideas, such as different ways of organizing production, that enhance the value of a firm without any associated outlays.
Some analysts judge the size of undercapitalized outlays as quite large.
The important point, however, is that decisions about which items to expense will have important consequences for reported earnings. In general, if the trend of expensed items that should be capitalized is rising faster than reported earnings, switching to capitalizing these items will almost always accelerate the growth in earnings. The reverse, of course, is also true. But the newer technologies, and the productivity and bull stock market they have fostered, are also accentuating some accounting difficulties that tend to bias up reported earnings. One is the apparent overestimate of earnings that occurs as a result of the distortion in the accounting for stock options.