CAPITAL ASSETS THAT YOU ALREADY OWN 193
In accounting terms, your asset accounts record other items which for business plan-
ning purposes it is better to regard as operational (current) spending. For example, you
have already noticed that rent paid in advance is recorded as an asset (prepaid rent). This
belongs in your cash flow statement, but not in any schedule of capital investment.
WHAT’S IT WORTH?
If you spend a million on machinery that will be used over ten years, how do you show
it in your financial accounts? All other things being equal, if you charged the million to
today’s operational spending your profit and loss account would look rather unhealthy
this year, especially if you had not started using the machine. On the other hand, your
profit and loss account would be great next year when the machinery was producing
output for no apparent outlay (other than perhaps maintenance).
It is usual and rational to divide the purchase cost into several parts and charge them
to operating costs over the life of the machine. For example, a $30,000 machine with a
three-year life span might be thought of as costing you $10,000 a year for three years. The
exact way that you allocate the costs over time is specified by your:
depreciation policy for physical assets;
amortisation policy for intangible assets such as R&D costs; and
depletion policy for natural resources.
Depreciation, amortisation and depletion are different names for exactly the same thing
– writing off costs over the working life of the asset. From now on, if I refer to depreciation
take this to include amortisation and depletion as appropriate.
You can have a different depreciation policy for each category of assets (plant, machin-
ery, office, etc.) or sometimes even for each asset. You will see how it works in a moment.
Essentially, it results in your assets being shown in your accounts at their historic cost,
or replacement cost, or some other artificial book value. Watch for somebody revaluing
assets when switching between the three values or when bringing recorded values back
into line with unexpected inflationary trends. This is a good trick for artificially massaging
profits and balance sheet figures. I know that you would not do it.
Capital assets that you already own
As discussed in Chapter 3, your business plan needs to include a summary of your exist-
ing fixed assets, together with an indication of their value and an outline of the related
depreciation policy. A typical accountant’s summary of fixed assets is shown on page 194.
You can create this from one (or both) of the following two sources: