Learn about depreciation and amortization — Hinglish notes

2.4.11 · Stock-Market › Financial Statements

Core Concept

Depreciation aur amortization non-cash expenses hain jo long-term assets ki cost ko unki useful life mein allocate karte hain. Yeh reported profit ko reduce karte hain LEKIN cash ko reduce nahi karte (cash tab gaya tha jab tumne asset khareeda tha).

Investors ke liye KYUN important hai:

Yeh expenses net income ko kam karte hain lekin cash flow ko nahi touch karte
Heavy assets wali companies (factories, equipment) apni cash-generating ability se kam profit dikhati hain
Yeh samajhna "low profit" ko "bad business" samajhne ki galti se bachata hai

Depreciation vs Amortization

Split KYUN? Accounting standards physical nature ke hisaab se categorize karte hain. Dono ka jawab yeh hai: "Is saal humne is asset ki kitni value 'use' ki?"

Depreciation Methods

1. Straight-Line Method (Sabse Common)

Yeh formula KYUN? Hum depreciable amount (cost minus jo hum recover karenge) ko un saalo mein barabar divide kar rahe hain jisme hum isse benefit lenge.

Worked example Straight-Line: Manufacturing Equipment

Ek factory ne ek CNC machine $500, 000 * * m e ink ha r ee d i . I n s t a l l a t i o n cos t * *$ 20,000. 10 saal baad estimated salvage value: $20,000.

Step 1: Total cost = $500 k +$ 20k = $520,000 Installation kyun add ki? Kyunki asset ko usable banane ke liye zaroori hai.

Step 2: Depreciable amount = $520 k -$ 20k = * $500, 000 * * * S a l v a g e k y u n s u b t r a c t k i y a ? H u m w o h$ 20k recover karenge, isliye humne sach mein woh "khoya" nahi.

Step 3: Annual depreciation = $500 k \div 10 = * *$ 50,000/year** 10 se kyun divide kiya? Har saal barabar expense, jab machine humein products banane mein help kare.

Har saal journal entry:

Depreciation Expense     $50,000  (Income Statement↓)
   Accumulated Depreciation      $50,000  (Balance Sheet ↑)

5 saal baad:

Book value = $520 k - (5 \times$ 50k) = $270,000
Yeh market value NAHI hai, bas accounting value hai

Figure — Learn about depreciation and amortization

2. Accelerated Methods (Tax Benefits)

Declining Balance Method

Accelerate KYUN karein? Assets aksar early mein tezi se value lose karte hain (nai car lot se nikalne par 20% value khoti hai). Saath hi, tax strategy: abhi bade deductions → abhi kam taxes → time value of money ka faayda.

Worked example Accelerated: Company Car

Company ne ek car $40, 000 * * m e ink ha r i d i, s a l v a g e * *$ 4,000, 5-year life.

Straight-line rate = 1/5 = 20% → DB rate = 2 × 20% = 40%

Year	Book Value Start	Depreciation (40%)	Book Value End
1	$40,000	$16,000	$24,000
2	$24,000	$9,600	$14,400
3	$14,400	$5,760	$8,640
4	$8,640	$3,456	$5,184
5	$5,184	$1,184*	$4,000

*Year 5: Sirf salvage value tak hi depreciate kar sakte hain, isliye $5, 184 -$ 4,000 = $1,184

Year 5 mein yeh step KYUN? Hum salvage value se neeche depreciate nahi kar sakte—yahi hamara floor hai.

Total depreciated = $36,000 (straight-line jitna hi), bas front-loaded hai.

Units of Production

KAB use karein? Jab asset ka wear use par depend kare, time par nahi (oil rigs, factory machines).

Amortization of Intangibles

Same straight-line logic, lekin:

Intangibles ki usually koi salvage value nahi hoti (ek used patent ki koi value nahi)
Kuch intangibles (trademarks) ki indefinite life hoti hai → amortize NAHI hote, balki impairment test hota hai

Worked example Amortization: Patent Purchase

Pharma company ne ek drug patent $10 million mein kharida. Patent 8 saal mein expire hoga.

Annual amortization = $10 M \div 8 = * *$ 1.25M/year**

8 saal KYUN? Patent ki legal life = useful life. 8 saal baad, koi bhi woh drug bana sakta hai.

Journal entry:

Amortization Expense        $1,250,000  (Income Statement ↓)
   Accumulated Amortization             $1,250,000  (Balance Sheet ↑)

Financial Statements par Impact

Income

Depreciation/Amortization Expense operating income ko reduce karta hai
Operating Expenses section mein ya Cost of Goods Sold mein dikhta hai (agar factory equipment ho)

Balance Sheet

Accumulated Depreciation ek contra-asset account hai (asset value se subtract hota hai)
Net Book Value = Original Cost - Accumulated Depreciation

Worked example Balance Sheet Presentation

Property, Plant & Equipment:
  Machinery (at cost)              $500,000
  Less: Accumulated Depreciation  ($200,000)
  Net PP&E                         $300,000

Contra-account KYUN? Dono dikhata hai: humne kya pay kiya (historical cost) aur kitna use kiya (accumulated depreciation). Transparency.

Cash Flow Statement

Operating Cash Flow: Net income mein depreciation/amortization add back karo
KYUN? Isne net income reduce kiya lekin cash use nahi kiya → hum woh "fake" reduction reverse kar rahe hain

Common Mistakes

Tax Strategy: Book vs Tax Depreciation

Key insight: Companies do sets of books use karti hain (legally):

Book depreciation (shareholders ke liye): Aksar straight-line, earnings smooth karta hai
Tax depreciation (IRS ke liye): Aksar MACRS (Modified Accelerated Cost Recovery System), front-loaded

KYUN? Tax deductions early maximize karo → abhi kam tax pay karo → woh cash invest karo. Isse deferred tax liabilities banti hain (baad mein zyada tax dena hoga jab book depreciation tax depreciation se zyada ho jaye).

Worked example Book-Tax Difference

Equipment ki cost $100k, 5-year property, no salvage.

Book (straight-line): $20k/year

Tax (actual MACRS 5-year table, with half-year convention):

Year	MACRS %	Tax Depreciation
1	20.00%	$20,000
2	32.00%	$32,000
3	19.20%	$19,200
4	11.52%	$11,520
5	11.52%	$11,520
6	5.76%	$5,760

Year 1 = sirf 20% kyun, 40% kyun nahi? MACRS ek half-year convention use karta hai: assume kiya jaata hai ki asset mid-year mein service mein aaya, isliye Year 1 ko sirf half-year ki depreciation milti hai. Peak deduction Year 2 mein aata hai (32%).

Year 2 impact:

Book income: Revenue - $20k depreciation
Taxable income: Revenue - $32k depreciation → us saal kam taxes
Difference: $12k temporary timing difference → deferred tax liability

Investors ke liye KYUN matters karta hai: Front-loaded tax deductions matlab early mein kam cash taxes → growth ke liye zyada cash. Net income nahi, cash flow statement aur tax footnote dekho.

Investor Analysis Checklist

Recall Analyze Karte Waqt Key Questions

Company apni BOOKS ke liye kaunsa depreciation method use karti hai? (10-K ke footnotes mein check karo)
- Accelerated book method → early mein kam profits (zyada conservative reported earnings)
- Straight-line → smoother earnings
- Note: Book depreciation method directly operating cash flow nahi badalta—depreciation non-cash hai aur cash-flow statement par add back hota hai, net-income impact ko offset karta hai. Cash badalta hai tax depreciation method se (cash taxes paid ke zariye).
Assumed useful lives kya hain?
- Short lives (3-5 saal) → zyada depreciation → kam profits (conservative)
- Long lives (20+ saal) → kam depreciation → zyada profits (aggressive)
- Industry peers se compare karo. Agar Company A 10-year lives use kare aur peers 5-year, to sawaal karo kyun.
Accumulated Depreciation ka Gross PP&E se ratio kya hai? $Avg Asset Age \approx \frac{Accumulated Depreciation}{Annual Expense}$
- High ratio (70%+) → purane assets, jald hi replacement capex ki zaroorat pad sakti hai
- Low ratio (20%) → recent investments, near-term mein kam capex pressure
Kya capex > depreciation hai? (Cash Flow Statement se)
- Haan → growing asset base, expand ho raha hai
- Nahi → existing assets se kaam chala raha hai, possibly declining

Connections

Acrual Accounting - Depreciation ek core accrual concept hai (expense recognition vs cash payment)
Capital Expenditures - "Purchase" side; depreciation "expense" side hai
Free Cash Flow - Operating Cash Flow minus capex (depreciation OCF ke andar add back hota hai)
EBITDA - Operating performance focus karne ke liye depreciation/amortization remove karta hai
Deferred Tax Liabilities - Book-tax depreciation differences se create hoti hain
Asset Impairment - Jab asset ki value achanak book value se neeche gire (gradual depreciation nahi)
Matching Principle - Accounting concept jo expense-revenue matching require karta hai

Recall Ek 12-saal ke bacche ko explain karo

Socho tumne ek bicycle $100 mein kharidi apna delivery business shuru karne ke liye. Bike 5 saal chalegi, phir bekaar ho jayegi.

Kya tumhe kehna chahiye "aaj humne $100 khoya" jabki bike 5 saal tak tumhein paisa kamaane mein help karti hai? Yeh thoda ajeeb lagta hai na? Aaj bahut bura lagega aur agli 5 saalon mein bahut accha (bike free mein use kar rahe ho!).

Depreciation yeh kehne jaisa hai: "Main har saal is bike ka $20 u se k a r r ahah oo n ." I s l i y e ha r s aa l, t u ma p n ecos t s m e in l ik h t e h o " main e bik e p a r$ 20 kharch kiya." 5 saal baad, tumne poora $100 thoda thoda karke write off kar diya.

Yahan trick hai: **tumne $100 t abhik ha r c hk a r d i y a t ha * * j ab t u mn e bik e k ha r i d i . D e p r ec ia t i o nk ama tl abnahik i t u mha r s aa l$ 20 kharch kar rahe ho. Iska matlab bas yeh hai ki tum har saal $20 cost mein count kar rahe ho, kyunki yeh fair hai—tum us saal paise kamaane ke liye bike use kar rahe ho.

Jab tum apna "profit" dekho, usme yeh $20 cos t s haami l hai . L e k inj ab t u ma c t u a l c a s h d e k h o, t u m$ 20/year nahi gawate—tumne Day 1 par $100 gawaye the. Isliye investors profit nahi, cash flow dekhte hain!

#flashcards/stock-market

Depreciation aur amortization mein kya difference hai? :: Depreciation tangible assets (equipment, buildings) ki cost ko unki useful life mein allocate karta hai; amortization intangible assets (patents, trademarks) ki cost ko unki useful life mein allocate karta hai. Dono non-cash expenses hain.

Operating cash flow calculate karte waqt net income mein depreciation add back kyun karte hain?

Depreciation net income reduce karta hai lekin yeh ek non-cash expense hai (cash tab gaya jab asset kharida tha). Ise add back karne se woh "fake" cash reduction remove hoti hai aur operations se generate hua actual cash dikhta hai.

Straight-line depreciation ka formula kya hai?

Annual Depreciation = (Cost - Salvage Value) / Useful Life. Yeh depreciable amount ko un saalo mein barabar spread karta hai jab asset use hota hai.

Agar ek machine

100, 000 m e inaai,

10,000 salvage value hai, aur 9-saal ki useful life hai, to annual straight-line depreciation kya hogi?

(

100, 000 -

10,000) / 9 = $10,000 per year.

Contra-asset account kya hota hai?

Ek account jo related asset account ki value reduce karta hai. Accumulated Depreciation ek contra-asset hai jo balance sheet par Property, Plant & Equipment ko reduce karta hai.

Kisi asset ki book value (net book value) kya hoti hai?

Original cost minus accumulated depreciation. Yeh remaining "accounting value" represent karta hai lekin market value NAHI.

Company tax purposes ke liye accelerated depreciation kyun use karti hai lekin financial reporting ke liye straight-line? :: Accelerated (MACRS) tax depreciation deductions ko front-load karta hai, early mein cash taxes reduce karta hai aur cash free karta hai. Straight-line book depreciation shareholders ke liye reported earnings smooth karta hai.

Kya BOOK depreciation method ka chunaav directly operating cash flow badalta hai?

Nahi. Book depreciation non-cash hai aur cash-flow statement par add back hota hai, net-income impact ko exactly offset karta hai. Cash badalta hai TAX depreciation method se, cash taxes paid ke zariye.

Agar useful life 5 saal hai to double-declining balance (DDB) rate kya hogi? :: Straight-line rate = 1/5 = 20%. DDB rate = 2 × 20% = 40% jo har saal declining book value par apply hoti hai.

Units-of-production depreciation kaise calculate karte hain?

Depreciation per unit = (Cost - Salvage) / Total Expected Units. Phir current period mein produce kie gaye units se multiply karo. Expense ko actual usage se tie karta hai.

Current accounting rules ke under goodwill amortize kyun nahi hota?

Goodwill (net assets se zyada purchase price) ko indefinite useful life wala maana jaata hai. Amortize karne ki jagah, companies annually impairment test karti hain.

Agar kisi company ka accumulated depreciation gross PP&E ka 80% hai to iska kya matlab hai?

Assets average par kaafi purane hain. Company ko jald hi purane equipment replace karne ke liye significant capital expenditures karne pad sakte hain.

EBITDA kya hai aur investors ise kyun use karte hain?

Earnings Before Interest, Taxes, Depreciation, and Amortization. Yeh non-cash expenses aur financing/tax effects exclude karke operating cash flow approximate karta hai, operational performance compare karne ke liye.

Operating Cash Flow se Free Cash Flow kaise nikalte hain?

Free Cash Flow = Operating Cash Flow - Capital Expenditures. Operating Cash Flow mein depreciation already add back hai; FCF phir capex subtract karta hai.

5-year property ke liye MACRS Year 1 percentage kya hai, aur yeh 40% kyun nahi hai?

20%. MACRS ek half-year convention use karta hai (asset ko mid-year mein service mein assume kiya jaata hai), isliye Year 1 ko sirf half-year ki depreciation milti hai; peak 32% Year 2 mein aata hai.

Salvage value kya hoti hai?

Kisi asset ki useful life ke end mein estimated resale ya scrap value. Sirf salvage value se upar ki amount depreciate hoti hai.

True ya False: Depreciation asset replace karne ke liye cash reserve create karta hai.

False. Depreciation pure accounting allocation hai. Cash tab gaya jab asset kharida. Depreciation expense record karne se koi cash set aside nahi hota.