This is the quietest family and the most common. It's also the most destructive. Costs that should hit the P&L today are parked on the balance sheet as assets and dribbled out (or never released) as depreciation, amortization, or impairment. There are three sub-moves. Capitalize what should be expensed. Depreciate too slowly. Refuse to impair.
(a) Improper capitalization: the WorldCom move
You already know the rule. Capitalize expenditures that create a probable future economic benefit controlled by the entity. That means the machine, the building, directly attributable construction costs, and mandatory borrowing-cost capitalization on qualifying assets (IAS 23/Ind AS 23; ASC 835-20). Expense the rest: period costs, maintenance, marketing, most R&D under US GAAP. IFRS/Ind AS capitalize development only when the six criteria of IAS 38/Ind AS 38 are all met: technical feasibility, intention, ability, probable benefits, resources, and measurable spend. Judgment lives at every boundary, and boundaries are where shenanigans live.
Advertisement
The move & entries. Dr PP&E (or CWIP, or "capitalized software/development," or "deferred customer-acquisition costs") / Cr Cash or AP, where the truth is Dr Operating expense / Cr Cash or AP. Pre-tax profit inflates immediately by the full amount parked. Depreciation claws back only a sliver per year.
WorldCom (2002): the anchor, with the arithmetic you must internalize. WorldCom's largest operating cost was line costs, the fees paid to other carriers to lease network capacity. From 2001, the CFO's team simply reclassified billions of line-cost operating expense as capital expenditure. Internal audit (Cynthia Cooper's team) uncovered it in June 2002. The first figure was ~$3.8bn across 2001 and Q1 2002. The total misstatement eventually reached roughly $11bn including reserve games, because WorldCom had also written huge merger reserves at the MCI acquisition and released them (the big bath). It filed for bankruptcy in July 2002, then the largest in US history, overtaking Enron within eight months. CEO Bernie Ebbers was convicted in 2005.
How do you spot costs parked as assets?
The detection arithmetic. WorldCom's reported line-cost-to-revenue ratio ran near 42% while comparable carriers ran near 50%. That peer benchmark was screaming at anyone who computed it. Now note the cash-flow signature, because it's the universal one for improper capitalization. The cash still left the building, but it left through investing instead of operations. EBITDA and CFO inflate, and free cash flow doesn't move. Capitalization fools every metric except FCF and capex ÷ D&A. So the FCF conversion you learned is the test that catches it. You learned it for this reason, before you knew why it mattered.
The tests. Look for Capex ÷ depreciation sustained above ~2× without a real expansion story, and reconcile it against disclosed capacity additions. Watch the "capitalized costs" note (software, development, customer acquisition) as a share of revenue or opex. Flag an EBITDA margin that expands while FCF deteriorates. Look for accounting-policy changes that move a cost from opex to the balance sheet. The note will say so once, in passing. And watch soft assets ("deferred costs," "miscellaneous expenditure") growing.
How does CWIP parking work in India?
The India variant: capital-work-in-progress parking. CWIP is capitalization's waiting room. Costs accumulate there, undepreciated, until the asset is "ready for intended use." Park operating costs in CWIP. Add gold-plated capex and endlessly capitalized borrowing costs. The gold-plated capex is paid at inflated prices to promoter-linked contractors, a round-trip through the asset side. Keep the project "under commissioning" for years and the P&L never meets the truth.
The residue is distinctive. CWIP is large and aging relative to gross block, and projects never commission. Capitalized interest grows while P&L finance costs stay tame. Asset turns fall every year as the "asset" base inflates. Since FY22, Schedule III requires a CWIP ageing table (<1, 1–2, 2–3, >3 years, with overdue-project disclosure). Read it in every Indian AR. A fat ">3 years" bucket is a confession in tabular form. IL&FS's road and infrastructure SPVs showed the pattern at group scale. Costs and interest were capitalized through entity layers while group leverage (~₹94,000 crore at its September 2018 default) stayed off any single balance sheet anyone was reading.
(b) Depreciating too slowly: the useful-life stretch
The move. Lengthen useful lives or raise salvage values, a "change in estimate" under IAS 8/Ind AS 8/ASC 250, applied prospectively, disclosed briefly if at all. Annual depreciation falls and profit rises, with no change in cash. The asset base overstates until a future impairment (see (c)) or a "modernization write-off" (the big bath) settles the bill.
The tests. Start with the implied depreciation rate, depreciation ÷ average gross block, trending down with no change in asset mix. Compare useful lives in the accounting-policy note with 2–3 peers. Think of airlines on 30-year aircraft while peers use 20, or a trucking fleet on 12-year lives when peers use 8. And watch accumulated depreciation ÷ gross block falling while the fleet ages.
On the record. Waste Management (1998) stretched truck lives and inflated salvage values. It avoided write-offs and netted one-time gains against unrelated charges, and the result was a then-record restatement (~$1.7bn, 1992–97). The SEC later sued founding executives and fined auditor Arthur Andersen, a dress rehearsal for Andersen's Enron collapse.
(c) Failing to impair: the loss that is always tomorrow's
The move. Assets whose value is gone (goodwill of a failed acquisition, a plant with no demand, receivables that will never collect, loans that will never repay) stay on the books at cost. Under IFRS/Ind AS the recoverable-amount test, and under US GAAP the held-for-use and goodwill tests, all run on management's own cash-flow projections. The fox forecasts for the henhouse. For lenders, the same sin is under-provisioning, keeping dud loans "standard."
The special lender's variant: evergreening. A borrower can't pay. The bank lends fresh money (to the borrower or its affiliate) that swims straight back as "interest received." The loan stays performing, and interest income keeps accruing on a corpse. The entries make the circle explicit: Dr New loan / Cr Cash then Dr Cash / Cr Interest income. The bank is paying itself and calling it revenue. Round-tripping and failure-to-impair have fused into one move.
The tests. Set goodwill against the market's verdict. A unit's book value above any sane multiple of its earnings is a warning, and for the whole firm, market cap below book equity is a standing impairment question. Watch for segment losses that persist while segment assets stay uncut, and for receivables ageing tables that worsen while the ECL allowance percentage falls. For banks/NBFCs, look for GNPA flat while Stage-2 (SMA-style) buckets swell, for interest accrued but not received growing, for disclosed RBI divergences (see below), and for lending growth aimed at stressed borrower groups.
On the record: Yes Bank (FY16–FY19), the India anchor for under-provisioning. RBI's asset-quality inspections found the bank's reported gross NPAs materially below the regulator's assessment. The divergences were roughly ₹4,200 crore for FY16 and ₹6,400 crore for FY17, both multiples of what the bank had reported, with another large divergence for FY19. Profits in those years were flattered by provisions never taken. RBI declined to extend CEO Rana Kapoor's term (2018), and by March 2020 the bank required an RBI-led reconstruction, with AT1 bonds written off.
The test you can carry to every bank is beautiful and free. RBI requires banks to disclose material divergences in their annual reports. A regulator hands you, in a table, the gap between claimed and assessed asset quality. Read it every time.
IL&FS (2018) is the NBFC-side companion. The SFIO alleged systematic evergreening at its financial-services arm, with fresh loans to affiliates of defaulting borrowers to keep old loans standard. It all sat inside a 340-entity structure that hid group leverage until the September 2018 defaults froze India's credit markets. Its auditors faced NFRA proceedings and penalties.