What Is Depreciation?
Depreciation is the process of allocating the cost of a tangible fixed asset over its useful life, recognizing a portion as expense each period. It reflects the gradual loss of an asset's value from use and age, and is a non-cash expense.
What depreciation is and why it matters
When a business buys a long-lived asset — equipment, vehicles, buildings — it doesn't expense the whole cost at once. Instead, depreciation spreads that cost across the years the asset is used, matching expense to the revenue the asset helps generate. This keeps each period's profit accurate and is required under GAAP. Because depreciation is non-cash (the money left when the asset was bought), it's added back in cash-flow analysis and EBITDA. Common methods include straight-line (equal amounts each year) and accelerated methods like double-declining balance.
A worked example
A company buys machinery for $50,000 with a useful life of 5 years and no salvage value. Under straight-line depreciation, annual expense = $50,000 ÷ 5 = $10,000. Each year it records: debit *Depreciation Expense* $10,000, credit *Accumulated Depreciation* $10,000. After two years, accumulated depreciation is $20,000 and the machine's book value is $50,000 − $20,000 = $30,000.
How firms handle it today
Firms keep a depreciation schedule per fixed asset and post the periodic entry at close — formulaic once the method, life, and salvage value are set.
How OCTA Flow relates to depreciation
OCTA Flow can maintain the fixed-asset depreciation schedule and post the recurring depreciation entries each period, logging them for your team to review — removing a repetitive close task.
Related terms
- Amortization
- Fixed asset
- Book value
- EBITDA
- Historical cost
FAQ
What's the difference between depreciation and amortization?
Depreciation applies to tangible fixed assets; amortization applies to intangible assets. The mechanics are similar.
Is depreciation a cash expense?
No — it's a non-cash allocation of an earlier cash purchase, which is why it's added back in EBITDA and cash-flow analysis.
What are common depreciation methods?
Straight-line (equal each year) and accelerated methods like double-declining balance and units of production.
See how firms automate depreciation schedules → start an OCTA Flow trial.