About this Book

There are a lot of talks going around when it comes to adjustment of fixed assets and depreciation expense in accounting terms. Depreciation is almost similar to that of any other expenses in the fact that all expenses are deducted from sales revenue to determine profit. Keeping this apart, however, depreciation is very different from most other expenses.
(Amortization expense, which we get to later, is a kissing cousin of depreciation.) When a business buys or builds a long-term operating asset, the cost of the asset is recorded in a specific fixed asset account. Fixed is an overstatement; although the assets may last a long time, eventually they’re retired from service.

The main point is that the cost of a long-term operating or fixed asset is spread out, or allocated, over its expected useful life to the business. Each year of use bears some portion of the cost of the fixed asset. The depreciation expense recorded in the period doesn’t require any cash outlay during the period.
(The cash outlay occurred when the fixed asset was acquired, or perhaps later when a loan was secured for part of the total cost.

Seeing both numbers gives you an idea of how old the fixed assets are and also tells you how much these fixed assets originally cost. In the example in this chapter, the business has, over several years, invested $12,450,000 in its fixed assets (that it still owns and uses). The business recorded $775,000 depreciation expense in its most recent year.

You can tell that the company’s collection of fixed assets includes some old assets because the company has recorded $6,415,000 total depreciation since assets were bought – a fairly sizable percent of original cost (more than half). But many businesses use accelerated depreciation methods that pile up a lot of the depreciation expense in the early years and less in the back years.

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A business could discuss the actual ages of its fixed assets in the footnotes to its financial statements, but hardly any businesses disclose this information – although they do identify which depreciation methods they’re using. Operating expenses and their balance sheet accounts The sales, general, and administrative (SG&A) expenses of a business connect with three balance sheet accounts.

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