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A2 Business 2010

A2 Business 2010. Depreciation . Understand the importance of. Working Capital Depreciation Profit Utilisation Profit Quality. Expenditure and Depreciation .

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A2 Business 2010

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  1. A2 Business 2010 Depreciation

  2. Understand the importance of Working Capital Depreciation Profit Utilisation Profit Quality

  3. Expenditure and Depreciation What would happen if a business bought a new lorry for £200,000 and after four years still showed the value of the vehicle as £200,000 in the balance sheet?

  4. Classifying business expenditure Important to distinguish between day to day spending (e.g. Wages) and capital spending (fixed assets e.g Machinery). WHY? When constructing an account, income needs to be matched to the expenditure involved in creating that income. Wages, stock payments, etc.. Are deducted from the income earned from selling the final product, usually within a year therefore creating a balance. For fixed assets which are used over time we must take account of DEPRECIATION

  5. Expenditure & Assets Business expenditure classified as either; Revenue Expenditure Day-to-day running expenses (< 1 year) Capital Expenditure Expenditure on long-term assets (> 1 year)

  6. Capital or Revenue Expenditure? Wages Machinery Office equipment Stationary Vehicles Leasehold Payments Freehold Payments R C C R C R C

  7. Accruals When calculating profit, income should be matched to the expenditure involved in creating that income. For Revenue expenditure it is straightforward, wages and costs are deducted from the income earned from selling the product. It is assumed sales and expenditure take place in the same year For Capital Revenue it’s different….?

  8. Asset Valuation & Depreciation The balance sheet shows the value of assets at one point in time. However, the value of assets changes over time due to depreciation and will be written down in value: Machines wear out Equipment becomes outdated Some assets may be written off due to damage or having no further economic value.

  9. ‘Matching’ capital expenditure Fixed assets used over time, capital expenditure needs to be spread over assets lifetime (matching) Machine costs £100,000 and lasts for 4 yrs The value of the asset will depreciate

  10. Straight-Line Depreciation Assumes assets depreciate evenly over their lives. 3 pieces of information required: Purchase price Estimated useful life Residual value – how much it can be sold for at the end of its useful life

  11. Depreciation Calculation initial cost – residual value Annual Depreciation = expected life (years) Example: Machine bought for £100,000 Expected life of 4 years Residual value of £40,000

  12. Analysis of the method – Adv / Dadv Advantages Easy to calculate ‘Fair’ method of calculation which spreads the cost over the working life of the asset Disadvantages Based on predictions – useful life and residual value – which may be wrong Depreciated values may differ from market values – e.g. cars

  13. Why is revenue expenditure and capital expenditure categorised separately in a balance sheet ?

  14. Questions A2 Book p. 30 PRACTICE EXERCISE 4

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