Depreciate to appreciate!!
Increasingly I see situations where decent sized family and SME companies appear to take little regard for depreciation rates charged, which often neither reflects the use and economic life of the asset nor the appropriate net book value of the asset at the period end.
You may say “am I bovered” given that depreciation can only ever be an estimate, has no direct cash impact on the business and is most usually added back when looking at the value of a business under the over used and under-appreciated EBITDA calculations.
Well, I would suggest that you should be bothered. Many stakeholders, when reviewing the financial performance of an entity, are interested in disclosed operating profits, which of course is after depreciation charged. Those same stakeholders may review gearing ratios which may be effected by net book values of fixed assets.
If your company regularly records large profits/losses on disposal of fixed assets you should ask why. The depreciation charge should largely mirror the reduction in value of the asset as a measure of the economic use of the asset. Many assets will have a “residual value” and therefore it is inappropriate to write down to a nil value.
We carry out benchmarking for many companies and it is fascinating to see variances in depreciation charges made, particularly manufacturing and asset hire businesses.
Directors should ensure financial statements reflect true performance rather than relying on mopping up profits and losses when assets are disposed of.
There is, of course, no corporation tax impact in modifying depreciation policy. However, it may have some impact on deferred tax provision.
We advise directors and shareholders regularly on increasing their enterprise value, their company’s profile in its given market place and its true performance. I believe more consideration should be given to the entities depreciation policy applied.
We are always happy to have a conversation with you over how your published financial statements will be viewed what could be done to improve the story told.