DEPRECIATION

DEPRECIATION, PROVISIONS AND RESERVES
Depreciation is the reduction in value of an asset as a result of fair wear and tear. An as asset loses its value/efficiency we reduce the book valuation of it in line with our estimate of loss. 'DEPRECIATION' is a fairly complex topic, where book-keeping merge into Accountancy. The accounting principle which motivates Accountants to try different methods of depreciation, is that we are seeking in our accounting to achieve a ‘true and fair view’ of the position of the business. This ‘true and fair view’ requires two things:
(1) The assets must be valued on the books at a fair value so far as we can estimate it.
(2) If a loss has been suffered it must be charged against the profits to do otherwise would overstate the profitability of the business. Apply these two rules to the problem of depreciation, we see that if an asset wear out the loss suffered as a result of wear and tear must be written off the profits. At the same time the assets will be reduced in value to show only its present value now that is has been partly worn out.

DIFFERENT AUTHORS HAVE GIVEN DIFFERENT
'DEFINITIONS' OF DEPRECIATION, SUCH AS:
“Depreciation is the gradual decrease in the efficiency of an asset expressed in monetary terms because of its usage and wear and tear”.

England:
Depreciation is the reduction in value of a fixed asset occasioned by physical wear and tear, obsolescence or the passage of time”.

CAUSES OF DEPRECIATION:

Depreciation may be of two types:

(1) INTERNAL:
Depreciation which occurs for certain inherent causes, is known as internal depreciation. The causes of internal depreciation.

(a) Wear and Tear:
An asset decline on account of continued use, e.g. Building, Plant, Machinery etc. such decline depends on the quantum of use of the asset. If a factory works double-shift instead single-shift, depreciation on plant and machinery will be doubled. It is obvious that such loss is unavoidable. An asset may be kept in proper working condition through repairs for the time being, but it cannot be done, so 'PERMANENTLY' . At one time the asset become unfit for repairs, when it will no longer be usable.

(b) Depletion:
Some asset decline in value proportionate to the quantum of production, e.g. Mine, Quarry etc. with the raising of coal from coalmine the total deposit reduces gradually and after sometime it will be fully exhausted. Then its value will be reduced to nil.

(2) EXTERNAL:
Depreciation caused by some external reasons is called external depreciation. The causes of external depreciation are:

(a) Obsolescence:
Some assets, although in proper working order, may become obsolete. For example, old machine becomes obsolete with the invention of more economical and sophisticated machine whose productive capacity is generally larger and cost of production less. In order to survive in the competitive market the manufacturer by must install new machine replacing the old one, Again, it may happen that the articles produced by old machine are no longer salable in the market on Account of change of habit and taste of the people. In such a case the old machine, although in good working condition, must be discarded and the new one purchased.

(b) Efflux of time:
Some assets diminish in value on account of sheer passage of time even though they are not used. E.g. Leasehold property, patent right, copyright etc.

(c) Accident:
Assets mat be destroyed by abnormal reasons such as , fire, earthquake, flood etc. in such a case the destroyed asset must be written off as loss and a new one purchased.