Accounting (depreciation)

A company needs to report depreciation accurately in its financial statements in order to achieve two main objectives:

1. matching its expenses with the income generated by means of those expenses, and
2. ensuring that the asset values in the balance sheet are not overstated. (An asset acquired in Year 1 is unlikely to be worth the same amount in Year 5.)

Depreciation is an attempt to write-off the cost of Non Current Asset over its useful life. The word write-off means to turn it into an expense. For example, an entity may depreciate its equipment by 15% per year. This rate should be reasonable in aggregate (such as when a manufacturing company is looking at all of its machinery), and consistently employed. However, there is no expectation that each individual item declines in value by the same amount, primarily because the recognition of depreciation is based upon the allocation of historical costs and not current market prices.

Accounting standards bodies have detailed rules on which methods of depreciation are acceptable, and auditors should express a view if they believe the assumptions underlying the estimates do not give a true and fair view.