DEPRECIATION

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FIXED ASSETS
Assets acquired not for resale.

Help to earn revenue for more than 1 financial year.

Examples :

- A printing machine in a printing company.

- A van in a courier service company.

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DEFINITION OF DEPRECIATION

Applies only to fixed assets.

The whole cost of the fixed assets must be spread over

its useful life.

The portion of the cost allocated to a particular accounting

period is charged as an expense against revenue
(Matching principle).

This portion of the cost is called Depreciation.

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CAUSES OF DEPRECIATION

Physical Deterioration

Obsolescence

Depletion of an asset

Passage of Time
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PHYSICAL DETERIORATION

Caused by physical wear and tear

- rust, erosion, rot and decay

Examples - office furniture

- printing machines

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OBSOLESCENCE

Fixed assets become out-of-date

- when new model or more efficient tool come into existence.

Pentium I
Examples - cars

- computers
Pentium IV

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DEPLETION OF FIXED ASSETS

An asset that depletes over time as resources

are extracted from it. Little Guilin

Examples - Gold mines

- Quarries
- Little Guilin is a depleted granite quarry now
turned into a beautiful lake.
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PASSAGE OF TIME
Some assets confer upon their holders the
exclusive rights to enjoy certain privileges
for a fixed period of time.

Examples - copyrights

- patent rights

- leases on land
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METHODS OF DEPRECIATION

Straight-Line
Units-of-output
Reducing Balance
Double-declining-balance
Revaluation
Sum-of-the-years'-digits
STRAIGHT LINE METHOD

A fixed asset is depreciated by an equal amount per year.

Example:

If an asset is depreciated by $1,000 in the first full year of

usage, it will also be depreciated by $1,000 in the second
year; $1,000 in the third year and this continues annually
until it is fully depreciated.

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STRAIGHT LINE METHOD

Advantages
- Easy to calculate.
- Easy to understand.

Disadvantage
- Assumes fixed asset gives same amount of service annually
throughout its useful life.

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STRAIGHT LINE METHOD (I)

A machine X costs $20,000 is expected to last 4 years.

At the end of the 4th year, it can be sold for $2,000 as scrap.
( Scrap value is the same as residual value.)

Depreciation per year = Original cost - Residual value

Expected useful life
20,000 - 2000
=
4

= $4,500

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 Balance Sheet as at 31 Dec 1999

Fixed asset
Office equipment $16,000
Less Prov. for dep. 2,000 $14,000

Balance Sheet as at 31 Dec 2000

Fixed asset
Office equipment $16,000
Less Prov. For dep. 4,000 $12,000

Dep
O/E
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IMPORTANT FEATURES:

Fixed asset account shows original cost of asset.

Provision for Depreciation account shows

accumulated depreciation of fixed asset.

Net book value of fixed asset (in Balance Sheet)

is original cost less Provision for Depreciation.

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REDUCING

BALANCE METHOD OF

DEPRECIATION

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REDUCING BALANCE METHOD
The amount of depreciation per year diminishes with
every successive year.

Example:

- If an asset is depreciated by $2,000 in the first full year

of usage, it will be depreciated by less than $2,000
(eg $1,600) in the second year; and even less (eg $1,300)
in the third year. This continues until it is fully depreciated.

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REDUCING BALANCE METHOD

Advantage
- Overall expenses ( including repairs and maintenance)
charged for the use of a fixed asset would be fairly
constant.

Disadvantages
- Difficult to calculate.
- Assets are always left with a small value at the end of
useful life.
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REDUCING BALANCE METHOD

Depreciation per year

= Rate of depreciation X Net book value at beginning of

accounting period

Net book value = Original cost - Accumulated depreciation

Accumulated depreciation is the sum of the yearly depreciation.

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 REDUCING BALANCE METHOD

A machine Y costs $10,000 is depreciated at 20% per annum

on the reducing balance method. Show depreciation for the
first 3 years.

Net Book
Depreciation Value

Year 1 20 X 10,000 = $2,000

$10,000-2,000=$8,000
100
Year 2 20 X 8,000 = $1,600 $10,000-3,600= $6,400
100
Year 3 20 X 6,400 = $1,280 $10,000-4,880=$5,120
100
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THANK YOU

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