P&L planning models consist of a variety of inputs, including revenue planning and various forms of expense planning. In addition to these standards, we are often asked to develop other planning components. One of these components entails a depreciation process, which leads to the question: what is depreciation?
Depreciation is defined as “a reduction in the value of an asset due to wear and tear or obsolescence.” In business terms, this typically entails a calculation to determine your current asset’s value.
There are various methods to calculate depreciation, all of which are taught in an Accounting 101 class. Most organizations, however, use a simple approach called “straight line” that spreads the reduction evenly over the course of a pre-defined asset life.
There are typically four components to a depreciation process:
- Asset value – the original cost of the asset
- Asset life – how long will it take for the asset to stop reducing its value
- Salvage value – the amount you expect the asset to be worth at the end of the asset’s life (e.g., a resale value)
- In service date – the time that you begin depreciating the asset, which is not always the same time as the purchase date
The calculation is relatively simple: subtract the salvage value from the asset value to determine the amount to be depreciated, then divide that amount by the asset life. Remember to ensure that the asset life uses the same level of time periods as your model … months, quarters, or years.
Once the depreciation calculation is performed you can easily view the original asset amount, the total allocated amount, and the current asset value. Want to learn more about depreciation details or recommended best practices? Contact us and we’ll help you.
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