DEPRECIATION

It is reduction in the value of fixed asset with the passage of time. As an asset is used, its value decreases which is due to wear and tear of that asset. This amount is charged as an expense and represents the benefit use during the period.Depreciation is a non cash expense. This decrease in value of asset is called depreciable value.


DEPRECIABLE VALUE:
Cost/ revalued amount of asset – residual value


RESIDUAL VALUE:
Scrape value of an asset at the end of its useful life. It is also known as N.R.V. (Net Realizable Value)
DOUBLE ENTRY:
Dr  Depreciation a/c
Cr  Provision for depreciation a/c


METHODS OF DEPRECIATION:
There are two methods of depreciation.
1. Straight Line Method
2. Reducing Balance Method


STRAIGTH LINE METHOD:
This is a method according to which a constant amount of depreciation is charged over the useful life of an asset.
It is calculated as follow:
Annual Charge=Cost – residual value /expected useful life


REDUCING BALANCE METHOD:
This is a method according to which the annual charge decreases over assets useful life there is a percentage given to charge depreciation.
It is calculated as follow:
Net book value = (Cost –Accumulated depreciation) * % of charge

Bad Debts

Accounts receivable that will remain noncollectable  and will be written off are known as irrecoverable or bad debts. They are shown as an expense in trading profit and loss account i:e income statement.


Double entry:


Dr:     Bad debt expense (I/S)


Cr:     Debtors


When a bad debt becomes good i:e the debt is collectd its entry is:


Dr:     Bank/Cash


Cr:     Bad debts recovered a/c


Provision for doubtful debts:


Companies make a provision for bad debts in advance at the year end which they consider will become bad debts in future. Prudence concept also states that provision is to be made for these doubtful debts. The reason for making provision is that the amount of  debtors reported in balance sheet is not overstated.


Double entry:


Dr:     Bad debts (P&L)


Cr:     Provision for bad debts (BS)


When the debt actually becomes bad the entry will be:


Dr:     Provision for bad debts (BS)


Cr:     Debtors a/c

Cash Operating Cycle

Cash operating cycle is the length of time between company’s outflow of material, wages and other expenditure and inflow of  cash from the sales of goods. It reflects a company’s investment in working capital. The faster the cycle, lower is the investment in working capital. The investment increases from raw material to labour, OH, WIP upto final collection of cash from trade receivables.

Calculation of cash operating cycle:

For manufacturing business cash operating cycle is calculated as:

Raw material  period                                                             X

Add: WIP period                                                                          X

Add: Finished good period                                                            X

Add: Receivables collection period                                                X

Less: Payables payment period                                                     (X)

Cash Operating cycle                                                 X

Note: For retail business there is no raw material and WIP  holding period.

The length of cycle depends upon balancing liquidity and profitability. Shortening cash cycle may have an adverse effect on sales because customers buy from that supplier who gives more credit period so there should be an optimum level of cash operating cycle.