depreciation expense
The systematic allocation of a tangible asset's cost over its useful life, recorded as an expense on the income statement each period.
Example
“The $100,000 machine depreciated over 10 years created $10,000 in annual depreciation expense.”
Memory Tip
DEPRECIATION EXPENSE = spreading the cost of a physical asset over its life. Non-cash charge.
Why It Matters
Depreciation expense affects how much profit a company reports, which influences stock prices, taxes owed, and investment decisions. Understanding depreciation helps you evaluate whether a company is truly profitable or if its earnings are inflated by accounting methods that do not reflect actual cash outflows.
Common Misconception
Many people think depreciation is just a non-cash accounting entry that does not matter, but depreciation significantly reduces taxable income and can save businesses thousands in taxes each year. It also affects whether a company can afford to replace aging equipment, making it crucial for assessing long-term financial health.
In Practice
A manufacturing company purchases a machine for $100,000 with a useful life of 10 years and no salvage value. Using straight-line depreciation, the company records $10,000 in depreciation expense each year on its income statement, which reduces reported profits by $10,000 annually and also reduces the company's taxable income, saving it money on taxes even though no cash was paid out that period.
Etymology
DEPRECIATION (reduction in value) EXPENSE (cost recorded). The EXPENSE recognizing an asset's DEPRECIATION.
Common Misspellings
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