P&L Foundations
Depreciation and Amortisation
Depreciation allocates tangible asset cost over useful life. Amortisation does the same for intangible assets such as software licences, patents, trademarks, and goodwill.
Concept First
Learn It Step By Step
Start with the business meaning, then move into the formula.
Why is depreciation non-cash?
The cash was paid when the asset was purchased. Depreciation reduces accounting profit each year, but it does not itself reduce bank balance in that year.
How does straight-line depreciation work?
SLM Depreciation = (Cost - Salvage Value) / Useful Life. If a machine costs Rs. 50L, salvage value is Rs. 5L, and useful life is 5 years, annual depreciation is Rs. 9L.
Additional note: Depreciation vs Amortisation
Depreciation is the gradual charging of tangible asset cost, such as plant, machinery, vehicles, or factory equipment. Amortisation is the same idea applied to intangible assets, such as software licences, patents, trademarks, or customer lists.
How does Written Down Value depreciation work?
In WDV, depreciation is charged on the opening written down value each year. Example: if a machine costs Rs. 10L and WDV rate is 30%, Year 1 depreciation is Rs. 3L and closing WDV is Rs. 7L. Year 2 depreciation is 30% of Rs. 7L, or Rs. 2.1L. The charge is higher in early years and lower later.
Why does WDV charge more depreciation in the initial years?
WDV applies a percentage to the asset's written down value. The written down value is highest at the beginning, so the depreciation charge is also highest early. As the book value falls each year, the same percentage produces a smaller rupee charge.
Which method is used for Income Tax and which is used for annual reports?
For Indian income-tax depreciation, WDV/block-of-assets rates are commonly used under the Income-tax Act. For annual financial statements, companies follow the Companies Act and applicable accounting standards; SLM or WDV may be used if it reflects the asset's useful-life pattern, but the method must be disclosed and applied consistently.
How should I read the answer?
Depreciation and amortisation reduce profit without current cash outflow. They are added back in EBITDA and operating cash flow analysis.
SLM vs WDV depreciation pattern
Example: asset cost Rs. 12L, SLM life 6 years, WDV rate 30%. SLM charges the same amount every year. WDV charges more in early years because the opening written down value is highest at the start.
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Formula Lab
Understand the Formula
Read the formula like a business sentence before calculating it.
Formula 1
SLM Depreciation = (Cost - Salvage Value) / Useful Life
Formula 2
WDV Depreciation = Opening Written Down Value x Depreciation Rate
Why this formula exists
Depreciation spreads asset cost over the years in which the asset helps the business earn revenue. SLM spreads the cost evenly; WDV charges more in early years and less later.
How it is derived
For SLM, first remove expected salvage value from cost. The balance is the depreciable amount. Divide it by useful life. For WDV, multiply the opening written down value by the depreciation rate each year, then reduce the asset value by that depreciation.
Simple example
SLM: Cost Rs. 50L - salvage Rs. 5L = Rs. 45L depreciable amount; over 5 years, annual depreciation is Rs. 9L. WDV at 30% on Rs. 50L gives Year 1 depreciation Rs. 15L, closing WDV Rs. 35L, and Year 2 depreciation Rs. 10.5L.
Solved Case Study
Read the Numbers Like an Analyst
Work through one business case slowly: understand the situation, calculate the ratios, then interpret what the numbers are really saying.
Case context
Under SLM, a Rs. 12 Lakh vehicle with no salvage value and a 6-year life charges Rs. 2 Lakhs every year. Under WDV at 30 percent, Year 1 depreciation is Rs. 3.60 Lakhs, Year 2 is Rs. 2.52 Lakhs, and the charge keeps reducing as written down value falls.
Case: Same machine, two depreciation patterns
A machine costs Rs. 10L and is expected to be useful for 5 years. Assume no residual value for SLM. For WDV, use 40 percent on written down value.
Calculate SLM
Straight Line Method spreads cost evenly over useful life.
SLM gives a stable annual charge and is commonly seen in annual-report accounting where useful life is estimated systematically.
Calculate WDV
Written Down Value applies the rate to the remaining book value each year, so depreciation is higher in early years.
WDV charges more depreciation initially and less later. Tax depreciation often follows prescribed written-down-value style rates.
Interpretation
What This Means In Practice
Read the result as a business signal, not as a standalone number.
Read it through the P&L chain
Depreciation and amortisation reduce profit without current cash outflow. They are added back in EBITDA and operating cash flow analysis. Ask where this item sits between revenue, gross margin, EBIT, PBT, and PAT. The same rupee amount can mean different things depending on whether it affects product economics, operating overhead, finance cost, or tax.
What a manager should investigate
Depreciation reduces accounting profit but does not mean cash is leaving today. High depreciation usually indicates an asset-heavy business where fixed asset cost is being charged gradually to the P&L. Check trend as a percentage of net sales, compare with peers, and identify the driver: price, volume, input cost, overhead control, accounting classification, or one-time item.
Key Takeaway
Depreciation reduces accounting profit but does not mean cash is leaving today. High depreciation usually indicates an asset-heavy business where fixed asset cost is being charged gradually to the P&L.
Practice Checkpoint
Check Your Understanding
Work through the quiz in smaller sets. Your answers stay visible while this page is open, so you can review before moving on.
Question 1 of 20
Level 1Why is depreciation called non-cash?
Question 2 of 20
Level 1Which statement best compares SLM and WDV?
Question 3 of 20
Level 1Why is depreciation added back while calculating EBITDA?
Question 4 of 20
Level 1Which item is amortised rather than depreciated?
Question 5 of 20
Level 1What is the depreciable amount under SLM?
15 questions remaining in this lesson.
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P&L Foundations
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