The Value-Relevance of Alternative Accounting Treatments of Software Development Costs

Abstract

This paper compares the value-relevance of current accounting practice for software development costs to three alternative accounting treatments: full expensing, full capitalization with uniform amortization, and full capitalization with firm-specific amortization. Test results indicate that full capitalization with uniform amortization is the only alternative accounting treatment that explains more of the variation in observed stock prices than current accounting practice. Overall, the results suggest that market participants adjust reported accounting information to reflect full capitalization of software development costs, but then apply uniform amortization to all firms rather than using reported firm-specific amortization rates.

JEL Classification: M41, M44, G14