Depreciation and Amortization: Free Tutorial and Video

Learn the details of how to calculate and understand depreciation and amortization, two crucial financial metrics for businesses. Discover their impact on a company's bottom line, their presence in financial statements, and the difference between straight-line and accelerated depreciation methods.

Key Insights

Depreciation is the method of allocating the cost of tangible assets over their useful life. Assets like buildings, equipment, and vehicles are examples of tangible assets.
There are different methods of calculating depreciation, with the most common being the straight-line depreciation method. In contrast, accelerated depreciation allows assets to depreciate faster at the start of their life.
The double declining method is a commonly used accelerated depreciation technique that can be beneficial for tax purposes. It allows a company to write off the total cost of an asset over a shorter period, resulting in more expenses and a lower tax bill initially.
Amortization is the process of writing down the value of intangible assets, such as goodwill, brand recognition, and intellectual properties such as patents, copyrights, and trademarks.
Depreciation and amortization are often not listed as separate line items in a company's income statement. However, they can be found under Operating Activities in the Cash Flow Statement.
Depreciation and amortization are non-cash expenses, meaning they need to be added back to the cash flows in the operating activities section when modeling a company's financials.

Gain in-depth knowledge about depreciation and amortization, their meaning, calculation, and practical implications in financial statements through this informative video.

In this video, we will talk about Depreciation and Amortization.

What is depreciation? It’s a method of allocating the cost of tangible assets over its useful life. An example of tangible assets would be buildings, equipment, vehicles, and so on.

The formula to calculate depreciation: Asset Cost (a cost at which the company purchased a particular tangible asset) minus Salvage Value (a value of an asset at the end of its useful life, it’s based on what the company expects to receive in exchange of selling the asset after its useful life for the company is over) divided by Useful Life of the Asset (a period of time the company uses an asset for its business).

Let’s take a look at the example on how to calculate depreciation. The most frequently used method is straight line depreciation.

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Let’s say an equipment cost that the company is about to purchase is $70K. Its salvage value is $20K and useful life is 5 years.

In this case scenario, you can see that over a period of 5 years we would write off depreciation in the amount of $10K each year to get from the original asset value to the salvage value when the useful life of an asset is over. Each year the asset value will go down by that exact amount of $10K.

That was an example of straight line depreciation. There’s also an accelerated depreciation method. In this case, the assets depreciate at a faster rate during the beginning of their lifetime and slow down near the end of their useful life.

There are several methods that are used for accelerated depreciation and the most commonly used one is a double declining method. You can see an example of that compare to the straight line depreciation in the table.

Accelerated depreciation can be used by the company for tax purposes. It allows the business to write off the total cost of an asset over a faster period of time than straight line depreciation, which means more expenses and lower tax bill in the beginning of the asset’s useful life. And the opposite applies for the end of the useful life.

What is amortization? It’s the process of writing down the value of an intangible asset. Examples of an intangible asset would be goodwill, brand recognition and intellectual properties such as patents, copyrights and trademarks. Amortization is calculated very similar to depreciation.

Let’s take a look how you can find depreciation and amortization in a company’s financial statements. Let’s take a look at 10-K of Apple Inc. Remember that financial statements are always listed under the item 8, so I will go straight there in the income statement.

You can notice that depreciation and amortization are not listed as a separate line item here, which is very often the case. It’s hidden somewhere within other line items in the income statement, but not given separately.

The place where I always can find a D&A line item is in Cash Flow Statement. So let me scroll down to the Cash Flow Statement. Here under Operating Activities you can find depreciation and amortization for 2020, 2019 and 2018.

Sometimes you want D&A to be separated into two line items. For that I will click Ctrl + F to pull up the “Find” window. I will type “depreciation” here, and with Enter button click through. You can see that under the “Property, Plant and Equipment” topic in the footnotes of the 10-K I can find that depreciation is $9.7B, $11.3B and $9.3 during 2020, 2019 and 2018 respectively. Since I know that property, plant and equipment are tangible assets, I know that these amounts apply for depreciation.

So the difference between the D&A line item in the cash flow statement and these numbers for depreciation would give me amortization.

I just came back to the cash flow statement. Here I want to highlight that depreciation and amortization are non-cash expenses, which means that it needs to be added back to the cash flows in the operating activities section of the statement, when modeling.

That’s the information about depreciation and amortization I wanted to share with you in this video. You’ll find more information in the following videos when we will build financial models.

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