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Depreciation and amortization

Fixed assets

A company's assets are usually divided into current assets like cash and stock or inventory, which will he used or converted into cash in less than a year, and fixed assets such as buildings and equipment, which will continue to be used by the business for many years. But fixed assets wear out - become unusable, or become obsolete - out of date, and eventually have little or no value. Consequently fixed assets are depreciated: their value on a balance sheet is reduced each year by a charge against profits on the profit and loss account. In other words, part of the cost of the asset is deducted from the profits each year.

The accounting technique of depreciation makes it unnecessary to charge the whole cost of a fixed asset against profits in the year it is purchased. Instead it can be charged during all the years it is used. This is an example of the matching principle. (See Unit 8)

BrE: fixed assets; AmE: property, plant and equipment


Assets such as buildings, machinery and vehicles are grouped together under fixed assets. Land is usually not depreciated because it tends to appreciate, or gain in value. British companies occasionally revalue - calculate a new value for - appreciating fixed assets like land and buildings in their balance sheets. The revaluation is at either current replacement cost - how much it would cost to buy new ones, or at net realizable value (NRV) - how much they could be sold for. This is not allowed in the USA. Apart from this exception, appreciation is only recorded in countries that use inflation accounting systems. (See Unit 7)


Companies in countries which use historical cost accounting - recording only the original purchase price of assets - do not usually record an estimated market value - the price at which something could be sold today. The conservatism and objectivity principles support this; and where the company is a going concern, the market value of fixed assets is not important. (See Units 7 and 8)

Depreciation systems

The most common system of depreciation for fixed assets is the straight-line method, which means charging equal annual amounts against profit during the lifetime of the asset (e.g. deducting 10% of the cost of an asset's value from profits every year for 10 years). Many continental European countries allow accelerated depreciation: businesses can deduct the whole cost of an asset in a short time. Accelerated depreciation allowances are an incentive to investment: a way to encourage it. For example, if a company deducts the entire cost of an asset in a single year, it reduces its profits, and therefore the amount of tax it has to pay. Consequently new assets, including huge buildings, can be valued at zero on balance sheets. In Britain, this would not be considered a true and fair view of the company's assets.

"Lets see, it says here that you've had a lot of corporate accounting experience

9.1 Match the words in the box with the definitions below. Look at A and B opposite to help you

appreciate current assets fixed assets
obsolete revalue wear out

1 to record something at a different price

2 assets that will no longer be in the company in 12 months' time

3 to increase rather than decrease in value

4 out of date, needing to be replaced by something newer

5 assets that will remain in the company for several years

6 to become used and damaged

Ov&r +o ipu

Are companies in your country allowed to record huge assets, such as their headquarters, as having zero value on their balance sheets? Is this a good idea?

9.2 Match the nouns in the box with the verbs below to make word combinations. Then use some of the word combinations to complete the sentences below. Look at A, B and C opposite to help you.

costs fixed assets market value
profits value purchase price




Internal auditing

After bookkeepers complete their accounts, and accountants prepare their financial statements, these are checked by internal auditors. An internal audit is an examination of a company's accounts by its own internal auditors or controllers. They evaluate the accuracy or correctness of the accounts, and check for errors. They make sure that the accounts comply with, or follow, established policies, procedures, standards, laws and regulations. (See Units 7 and 8) The internal auditors also check the company's systems of control, related to recording transactions, valuing assets and so on. They check to see that these are adequate or sufficient and, if necessary, recommend changes to existing policies and procedures.

External auditing

Public companies have to submit their financial statements to external auditors - independent auditors who do not work for the company. The auditors have to give an opinion about whether the financial statements represent a true and fair view of the company's financial situation and results. (See Unit 3)

During the audit, the external auditors examine the company's systems of internal control, to see whether transactions have been recorded correctly. They check whether the assets mentioned on the balance sheet actually exist, and whether their valuation is correct. For example, they usually check that some of the debtors recorded on the balance sheet are genuine. They also check the annual stock take - the count of all the goods held ready for sale. They always look for any unusual items in the company's account books or statements.

BrE: stock take;

AmE: count of the inventory

Until recently, the big auditing firms also offered consulting services to the companies whose accounts they audited, giving them advice about business planning, strategy and restructuring. But after a number of big financial scandals, most accounting firms separated their auditing and consulting divisions, because an auditor who is also getting paid to advise a client is no longer totally independent.


Are control



according to


auditors? Have



been applied


Auditors produce an audit report,

No - auditors find irregularities: systems are not adequate, principles have not been applied correctly or consistently.

Auditors produce a qualified report, stating that the financial statements do not give an entirely true and fair view and there are some problems.

Auditors write a management letter to

directors or senior managers explaining what needs to be changed.

Does the company follow the advice given in the management letter?


10.1 Match the job titles (1-4) with the descriptions (a-d). Look at A and P> opposite to help you.

1 bookkeepers a company employees who check the financial statements

2 accountants b expert accountants working for independent firms who review

companies' financial statements and accounting records

3 internal auditors c people who prepare financial statements

4 external auditors d people who prepare a company's day-to-day accounts

the company's accounts, to make sure that they ................... with company policies and general

Would you like to work as an external auditor? Do you think they get a very friendly welcome at the companies whose accounts they audit? If not, why not?


10.2 Match the nouns in the box with the verbs below to make word combinations. Some words can be used twice. Look at A and B opposite to help you.

accounts procedures opinions
systems of control regulations policies
stock take advice laws


10.3 Complete the table with words from A, B and C opposite and related forms. Put a stress mark in front of the stressed syllable in each word. The first one has been done for you. Then complete the sentences below with the correct forms of words from the table.

Verb Noun Adjective


The balance sheet 1

Assets, liabilities and capital

Balance Sheet, 31 December 20_ _ ($'000)

Current assets 3,500 Liabilities 6,000

Fixed assets 6,500 Shareholders' equity 4,000

Total assets 10,000 Total liabilities and Shareholders' equity 10,000

Company law in Britain, and the Securities and Exchange Commission in the US, require companies to publish annual balance sheets: statements for shareholders and creditors. The balance sheet is a document which has two halves. The totals of both halves are always the same, so they balance. One half shows a business's assets, which are things owned by the company, such as factories and machines, that will bring future economic benefits. The other half shows the company's liabilities, and its capital or shareholders' equity (see below). Liabilities are obligations to pay other organizations or people: money that the company owes, or will owe at a future date. These often include loans, taxes that will soon have to be paid, future pension payments to employees, and bills from suppliers: companies which provide raw materials or parts. If the suppliers have given the buyer a period of time before they have to pay for the goods, this is known as granting credit. Since assets are shown as debits (as the cash or capital account was debited to purchase them), and the total must correspond with the total sum of the credits - that is the liabilities and capital - assets equal liabilities plus capital (or A = L + C).

American and continental European companies usually put assets on the left and capital and liabilities on the right. In Britain, this was traditionally the other way round, but now most British companies use a vertical format, with assets at the top, and liabilities and capital below.

BrE: balance sheet; AmE: balance sheet or statement of financial position BrE: shareholders' equity; AmE: stockholders' equity

Shareholders' equity

Shareholders' equity consists of all the money belonging to shareholders. Part of this is share capital - the money the company raised by selling its shares. But shareholders' equity also includes retained earnings: profits from previous years that have not been distributed - paid out to shareholders - as dividends. Shareholders' equity is the same as the company's net assets, or assets minus liabilities.

A balance sheet does not show how much money a company has spent or received during a year. This information is given in other financial statements: the profit and loss account and the cash flow statement. (See Unit 14)

11.1 Are the following statements true or false? Find reasons for your answers in A and B opposite.

1 British and American balance sheets show the same information, but arranged differently.

2 The revenue of the company in the past year is shown on the balance sheet.

3 The two sides or halves of a balance sheet always have the same total.

4 The balance sheet gives information on how much money the company has received from sales of shares.

5 The assets total is always the same as the liabilities total.

6 The balance sheet tells you how much money the company owes.

11.2 Complete the sentences. Look at A and B opposite to help you.

1 are companies that provide other companies with materials, components, etc.

2 are profits that the company has not distributed to shareholders.

3 are things a company owns and uses in its business.

4 consist of everything a company owes.

5 consists of money belonging to a company's owners.

11.3 Make word combinations using a word from each box. Then use the word combinations to complete the sentences below. Look at A and B opposite to help you.











1 We.................... a lot of our because we don't....................................... any of our

to the shareholders.

2 Most businesses have customers who , because they.......................................................

them 30 or 60 days'.............................

3 We have a lot of..................... that we'll have to later this year.

"I'm afraid our accountants are being investigated for fraud on the brighter side, our financial statements have made the New York Times best-seller fiction list. "

Ov^r + o IAOU

Look at the balance sheets of some large companies. What are the most common sub-divisions of these categories: assetsf liabilities, and shareholders' equity?

Date: 2015-02-28; view: 9122

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