Depreciation Methods
Why the exact same ₹10 crore machine can show a different profit impact every year for a decade, depending on nothing more than which depreciation method a company picked on day one.
In plain English
Imagine a factory buys a machine for ₹10 crore, expected to last 10 years with no resale value at the end. Common sense says: spread that ₹10 crore cost over the 10 years the machine is actually used, rather than dumping the whole ₹10 crore as an expense the day it's bought, or ignoring the cost entirely. This spreading-out of an asset's cost over its useful life is depreciation — and there is more than one accepted way to do the spreading, each producing a genuinely different profit number along the way, on the exact same machine.
Words you'll need first
The period over which an asset is expected to be usable by the company — not necessarily how long it could physically survive, but how long THIS company expects to get economic value from it. Schedule II of the Companies Act 2013 provides indicative useful lives for common asset categories (general plant and machinery, indicatively, 15 years), but a company can use a different life if it can justify it with a technical assessment.
The estimated amount an asset could be sold for at the end of its useful life, after deducting the estimated costs of selling it — like the resale value of a car after you're done using it. Only the cost ABOVE this residual value gets depreciated; a company doesn't depreciate value it still expects to recover by selling the asset later.
Two common ways to spread the cost
Straight-Line Method (SLM)
Charges the exact same amount of depreciation every single year over the asset's useful life. A ₹10 crore machine (nil residual value) depreciated over 10 years under SLM charges exactly ₹1 crore to the P&L every year, without exception. Simple, predictable, and most common for assets that deliver a fairly even benefit throughout their life, like a building.
Written Down Value Method (WDV)
Applies a fixed PERCENTAGE to the asset's remaining book value each year, rather than a fixed rupee amount — so the charge is highest in the first year and shrinks every year after. The same ₹10 crore machine at a 20% WDV rate would charge ₹2 crore in Year 1 (20% of ₹10 crore), then ₹1.6 crore in Year 2 (20% of the remaining ₹8 crore), and so on — always charging more upfront and less later than SLM.
Before vs. now
How it used to happen
Under the old Companies Act, 1956 (Schedule XIV), depreciation was rate-based: the law prescribed specific minimum depreciation RATES for each category of asset, and companies simply applied those rates — there was little room for, or requirement of, company-specific judgement about how long an asset would actually last in that particular business.
How it's done now
Schedule II of the Companies Act, 2013 (effective from April 2014) shifted this to a useful-life-based approach. Instead of prescribing fixed rates, it prescribes INDICATIVE useful lives for various asset categories, and depreciation rates are derived from whatever useful life and residual value the company decides to use, based on genuine technical or usage-based judgement — a company running machinery in continuous double-shift operations, for instance, can justify a shorter useful life, and so faster depreciation, than one running the same machinery on a single shift. This single change forced companies across India to formally reassess and often shorten the useful lives they were using, materially changing depreciation charges — and reported profit — for many companies in FY2014-15.
A worked example, with numbers
| Year | SLM — depreciation charge | WDV @ 20% — depreciation charge | WDV — remaining book value |
|---|---|---|---|
| Year 1 | ₹1.00 cr | ₹2.00 cr | ₹8.00 cr |
| Year 2 | ₹1.00 cr | ₹1.60 cr | ₹6.40 cr |
| Year 3 | ₹1.00 cr | ₹1.28 cr | ₹5.12 cr |
| Year 4 | ₹1.00 cr | ₹1.02 cr | ₹4.10 cr |
| Year 5 | ₹1.00 cr | ₹0.82 cr | ₹3.28 cr |
- In Year 1 alone, WDV charges ₹2 crore in depreciation versus SLM's ₹1 crore — exactly double — purely from the choice of method, on the identical machine.
- By Year 5, WDV's annual charge (₹0.82 crore) has fallen BELOW SLM's flat ₹1 crore, and keeps falling every year after — WDV always front-loads depreciation, SLM never does.
- A company using WDV will show LOWER profit in the early years of an asset's life and HIGHER profit in later years, compared to an identical company using SLM on an identical asset, with zero difference in actual cash spent.
- This is precisely why the depreciation method and useful-life assumptions are disclosed in a company's accounting policy notes — two companies with identical machinery can show meaningfully different reported profit purely from these choices.
What it does to the financial statements
Impact on the P&L
- Depreciation is a non-cash expense — no money leaves the company the day it's charged — but it directly reduces reported operating profit (EBIT) and net profit.
- WDV front-loads the depreciation charge, showing lower profit early in an asset's life and higher profit later; SLM spreads the charge evenly across the asset's whole life.
- A shorter assumed useful life increases the annual depreciation charge and reduces reported profit, all else equal; a longer assumed useful life does the opposite — a genuine area of management judgement that materially affects reported earnings.
- A big capex cycle pushes up depreciation charges for years afterwards, which is why capital-intensive companies often see margins compress right after a major expansion, even if the new capacity is performing well operationally.
Impact on the Balance Sheet
- Depreciation accumulates in Accumulated Depreciation, which reduces the Gross Block (original cost) of Property, Plant & Equipment down to its Net Block (carrying value) on the balance sheet.
- WDV leaves an asset's book value higher in the early years and lower in later years compared to SLM on an identical asset, affecting Fixed Asset Turnover and ROCE even though nothing about the underlying business has changed.
- A fully depreciated asset still in active use will show a Net Block of roughly nil on the balance sheet, even though it continues to generate revenue — worth checking when a company's asset base looks unusually small relative to its output.
- A sudden, large change in useful-life assumptions can materially and immediately change reported profit and asset values without any actual change in the assets themselves — worth checking the notes whenever depreciation charges move sharply year-on-year.
Which standard covers this
In India, the accounting treatment is governed by Ind AS 16 – Property, Plant and Equipment, while the useful-life and residual-value framework companies use is anchored to Schedule II of the Companies Act, 2013, applicable to all companies incorporated under the Act. Ind AS 16 requires the depreciation method used to reflect the actual pattern of economic benefit consumption, reviewed at least at each financial year-end.
How it's recognised globally
Globally, the equivalent is IAS 16 – Property, Plant and Equipment, and both SLM and WDV (called the 'reducing balance method' internationally) are equally accepted worldwide, with the same core requirement that the method must reflect the genuine pattern of benefit consumption. The United States, under US GAAP (ASC 360), permits both methods too, and additionally allows accelerated methods like 'double-declining balance' and 'units of production' more commonly in practice than in India — largely because US tax law has historically encouraged accelerated depreciation for tax purposes, creating a strong incentive for American companies to front-load depreciation that doesn't exist in quite the same form under Indian tax law.
Real example — Indian listed company
The clearest real-world illustration of how much this choice matters came from a regulatory change, not a single company's decision: when Schedule II of the Companies Act, 2013 replaced the old rate-based Schedule XIV in April 2014, capital-intensive companies right across corporate India — power generators, cement makers, steel producers — had to formally reassess the useful lives of their massive asset bases. NTPC, India's largest power generation company with enormous investments in plant and machinery, is typical of the sector most affected: power plants, transmission equipment and other long-lived infrastructure assets had their depreciation profiles reworked based on genuine technical useful-life assessments rather than the old prescribed rates. For a capital-intensive company like NTPC, even a modest change in assumed useful life for its power generation assets translates into a meaningful swing in annual depreciation charge, and therefore reported profit, without a single new rupee being spent or a single unit of electricity generated differently. This is exactly why analysts covering asset-heavy sectors like power, cement and steel pay close attention to the useful-life and depreciation-method disclosures in the accounting policies note, not just the headline profit number.
Where you'll see this
Related concepts
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Borrowing Costs Capitalisation
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Impairment of Property, Plant & Equipment
Why a factory that's still running, still making products, and hasn't broken down at all can suddenly be written down by thousands of crores on a company's balance sheet — with nothing physically wrong with the building or the machines.