Definition of Depreciation – Depreciation is an important cost component. In a company’s operational activities, there are many types of costs, depreciation is one of them. Depreciation costs are inevitable costs that must be experienced by every business fixed asset, such as buildings, machinery, transportation equipment, and so on.
For this reason, during the closing period, you will then always find depreciation expenses in the financial statements. There are also several depreciation methods, depending on the factors and from which point of view you are calculating it.
Want to know more about depreciation? You can do this by reading this article to the end. So, read this article to the end, friend.
Definition of Depreciation
So far, people have always given the notion of depreciation in terms of currency, even though its use in the economic sphere is much broader than that. In the business world, the notion of depreciation is a result of consuming the cost of assets, so that the value of an asset will decrease.
In addition, depreciation is also widely used in the accounting context, one of which is to calculate the age of an asset. The longer the age of the asset, the more intense its use, normally the quality and quantity of work on the asset will decrease.
Characteristics of Depreciation
To understand more deeply about depreciation, we need to know the characteristics of depreciation first. The following are the characteristics of depreciation.
The process of depreciating assets will be carried out in stages, continuously and regularly. Whether it will be used or not, the value of its assets will also continue to decrease because it is calculated based on its economic age or its use.
During the depreciation process, the asset value will not be returned to its original value. This is because depreciation is a decrease in the value of assets in a permanent economic age.
Subsequent depreciation will not reduce the market value of the asset, but it may reduce its book value. This is because the selling price of an asset is based on the market value of the asset.
Depreciation is the process of allocating costs, then assets can be used effectively throughout their life.
This depreciation method can only apply to fixed assets that have a form, such as buildings, factories, offices, as well as equipment.
Factors Influencing Depreciation
In the accumulated depreciation there are various factors that then influence. Details about the factors that affect depreciation include the following:
Acquisition cost
Acquisition cost is the main factor in determining the amount of depreciation. Depreciation or depreciation expense can be calculated according to the total cost of an asset which then needs to be issued until the fixed asset is ready for use again. It’s best if you understand this, before learning how to calculate depreciation. The costs included include:
- The purchase price of an asset
- Transportation or shipping costs
- Installation costs
- Import duty
- Installation costs
Estimated Economical Life Time of Assets
The factor that then influences a second depreciation or depreciation is the economic life of an asset. This means that a smaller amount of depreciation will be charged for assets with later useful lives and vice versa. Economic life can also be expressed in the number of units produced or with a period of time such as weeks, months to years.
Residual Value
The estimated residual value of assets (Estimated Residual Value of Assets) or the residual value of assets or commonly known as the residual value of assets is a value that can then be realized when assets are sold or not reused. If a company then uses these assets until they are obsolete and provide absolutely no more benefits, then these assets or assets can be said to have no residue or various residual values anymore.
However, if the company then replaces its assets after a relatively short period of use and the assets in question can still be used, then this residual value will of course still be high. This is one of the factors that will then influence how to calculate depreciation.
Estimated Useful Life
Estimated useful life is a factor influencing subsequent depreciation costs. Apart from being based on the residual value and acquisition price, several companies then generally have certain expectations when an asset is declared to be fully depreciated, which can be several months to 10 years depending on company policy.
Usage Pattern
The process of using assets within a certain period of time then greatly influences depreciation, especially at the age of assets. Usually, the heavier the use, the faster the estimated time and then the benefits will run out. In this case, you can then use the depreciation formula which adds up the expenses over the depreciation period.
Benefits of Depreciation Calculation
Even though depreciation is in the form of depreciation, it turns out that depreciation has its benefits. Following are some of the benefits of calculating depreciation.
Recording Gain Profits
Depreciation expense is an important thing in calculating company profits. Therefore, the first benefit of depreciation is to obtain profit information. Because there are also many initial asset expenditures and reserve assets which are mandatory to be recorded in the financial statements.
Knowing the Initial Price of the Asset
The main benefit of calculating depreciation is knowing the initial price of the asset. In accounting, assets that are then purchased are not necessarily only reviewed for their benefits. However, the initial price of the asset as well as its use should be taken into account in depreciation. This measurement is then based on work use rights and asset ownership. The combination of these will also give rise to the initial price of the asset which is also used in a calculation of operating expenses and profit.
Knowing the Total Calculation Value
The total expenses per period then knowing the calculation of the total expenses per period of goods, finance and the value of assets in doing business also then becomes important to do. This in itself can be known one of them by utilizing the calculation and application of depreciation in an accounting. Patterns of usage, work, debts or receivables can be recorded per period for work evaluation or follow-up strategies.
Minimizing Losses
Purchasing assets can then become a source of company losses, if these assets are then unable to generate productivity. Thus, one of the benefits of depreciation is to minimize losses. Having assets, a company will think of maximizing assets in generating profits and preparing an allocation of funds as a reserve in buying a new asset, because its value continues to depreciate.
Knowing the Cost of Depreciation
The benefit of calculating the next depreciation is that the company can then find out the depreciation cost for each period. Depreciation costs are reserve capital in buying a new asset because the old asset cannot be used again.
By calculating and recording, the company will then be able to calculate depreciation costs within a certain period of time. This will then help the company consider making a decision related to assets, for example, when to buy a new asset, what is the maximum production quantity of assets, and so on.
Depreciation Calculation Methods and Formulas
How to calculate this depreciation can be done with many depreciation methods. Below are the depreciation methods and formulas that you need to know.
Straight Line Method
First, the depreciation method is the straight-line method. The straight-line method can be said to be a way of calculating depreciation with the assumption that it is based on a function of time, not of usage. As a result, this straight-line method is then considered less accurate because the results of asset consumption between periods are the same. The straight-line method of depreciation formula, ie
Depreciation Value = Price of Revenue – Residual Value : Economic Age
Special Depreciation Method
The next method of depreciation or depreciation is the special depreciation method. Where this method then has a goal to determine the depreciation of the benefits of a company’s assets. In some cases, companies are no longer able to choose one of the fixed asset depreciation methods mentioned above, because the assets involved then have unique characteristics and require special application.
Double Declining Balance Method
The next depreciation calculation method is the double declining balance method. This depreciation calculation method is usually used in accounting for the business world. This method itself does not involve residual values and is used at the beginning of the business period. The detailed formula is the acquisition cost divided by the economic life then multiplied by two and the result is the depreciation value.
Double declining balance method = cost : economic life x 2
For example, an asset with a useful life of five years will then have a return on value of 1/5 or 20%. Double the rate, or 40%, is applied to the current book value of the asset for depreciation to be carried out. Even if the exchange rate remains constant, the value of money will then decrease over time because the exchange rate is multiplied by its depreciable basis and is smaller each period.
Units of Production Method
Lastly, the depreciation method is the units of production method. The unit of production method is a way of calculating depreciation by planning the calculation of assets in units of time (hours) and weight (kg). The production unit depreciation formula is:
Depreciation = (Revenue price – Residual value) x (Asset utilization : Estimated age).
Even though depreciation is in the form of depreciation that occurs in a company, depreciation actually has several benefits, one of which is to minimize company losses. By exploring the science of depreciation, someone will know what things will become depreciation, so they can prepare a more mature plan so that the company can continue to grow.
Closing
Thus the discussion about the definition of depreciation to the method of calculation. Hopefully all the discussion above is useful for you as well as can add to your insight.