Page images
PDF
EPUB

Franchises, when limited in term, should also be extinguished by the time of expiration. The question of depreciation on the assets of public service corporations seldom receives due attention, however. This is largely due to the rapid growth and prosperity enjoyed by such corporations because of the increase in population, the ever increasing earning power being capitalized in most instances, with but little regard to the value of the tangible assets. An attempt is generally made by such corporations, as may also be said of railroads, to maintain the value of assets through charges to maintenance accounts or by means of funds especially set aside from earnings for replacement purposes.

Good-will is of uncertain value, and while no rule can be laid down as to its treatment, the best course is to dispose of such an account through a charge to depreciation, when, through reorganization or otherwise, an asset of this nature is created, if it proves practicable to do so. The good-will of a business is bound to fluctuate with the earnings produced, and it can therefore hardly be measured. It is contended by some that good-will is a capital account which is in no manner related to revenue, and that any loss incurred is a capital loss and not properly chargeable to revenue. Be this as it may, as a prudential measure the writing off of good-will is to be encouraged.

It is also desirable to close out preliminary expenses, carried as assets in the early days of an undertaking, within a reasonable period of time.

A third group of assets is headed Personal Property, and consists of furniture and fixtures, horses, vehicles, and sundry other movable assets. There is but one safe and satisfactory method of handling such assets, and that is by taking annual inventories, the amount of depreciation being written off the asset accounts when closing books.

A careful record should be kept of all purchases of personal property, and when the inventory is made up a full description of each article should be given in order that comparison may be made with the original record. Notations may be made as to the present condition, and it is well to list the dates of purchase, cost prices, and previous inventory figures on the inventory to serve as guides in placing the new values. The opinion of a practical person who is familiar with the assets under review, with respect to their salable value, also proves advantageous; however, care

should be exercised to see that increases are in no event made over previous values because of repairs, etc., as this would have the effect of capitalizing such expenditures.

When monthly balance sheets are rendered and it is desired to distribute the charge for depreciation through the year, the depreciation on personal property can safely be calculated at from 10 to 20 per cent. on furniture and fixtures; from 20 to 30 per cent. on horses, and from 30 to 50 per cent. on vehicles, all of the percentages named being based on the residual values. At the close of the period the accounts should be properly adjusted.

In creating a reserve in the manner suggested, it should be termed Personal Property Depreciation Reserve as distinguished from Plant Depreciation Reserve, for the reason that the former will be subject to annual adjustment while the latter account continues to accumulate from year to year. The debits to depreciation are, of course, closed at the conclusion of the fiscal year into the revenue accounts to which they relate, or the transfer is made direct to the Profit and Loss Account.

The Plant Depreciation Reserve is subject to charge when complete asset replacements take place, but should otherwise not be disturbed unless a readjustment of values becomes imperative, by reason of appraisement, sale of property, adjustment of fire loss, etc.

Passing to the subject of reserves other than for purposes of depreciation, an Insurance Reserve may first be mentioned. Such an account is created for the purpose of allowing a concern to carry its own insurance, by charging revenue with a stipulated amount annually, which may be based to some extent on premium costs. Adequate protection on this basis can hardly be secured, however, until the reserve reaches an amount commensurate with the value of assets carried. The amount reserved should, by all means, be the subject of a reserve fund, the amount being invested in securities. Such a fund is, of course, an asset which is earmarked" in such a manner as to show its relation to the reserve account on the liability side of the ledger. In the present instance the term "Insurance Reserve Fund" would properly describe the

account.

[ocr errors]

Allusion has been made to reserves for repairs and renewals. When charges to maintenance accounts run irregularly, an equalization of the monthly expense may readily be obtained by means

of reserves created for this purpose. In arriving at the amounts to be accumulated, the average cost of maintenance for a previous period should be ascertained, and the reserves can be based upon these figures, at the same time making reasonable allowance for increases in maintenance expense and possible charges of an extraordinary nature which may develop. The reserve account should ordinarily appear on the credit side of the balance sheet, and under no circumstances should it be carried as a debit at the close of a year. In fact, it is only permissible to have the account appear thus in cases where repairs are given attention at one period and it is desired to distribute the charges throughout the months of the year.

Reserves may be created to meet contingent liabilities, claims in dispute, variation of weights and measures, and for other purposes. Doubtful accounts receivable, which for some reason it is not desired to write off by placing the amounts to the credit of the accounts in question, may be made the subject of a “Reserve for Doubtful Accounts Receivable." In fact, whenever it is found desirable to make provision for the reduction of assets without actually placing the credit to the account, on charging the required sum to the debit of revenue, a reserve may, with propriety, be created.

When reserves are accumulated in excess of loss or reduction of value which is estimated to have actually taken place, the amount of such excess may be termed a "Secret Reserve." While from the accountant's viewpoint it is theoretically as incorrect to understate as to overstate values, it is seldom that such measures are carried to extremes, experience proving that in a majority of cases, expectations are exceeded in the matter of losses. And while the amount reserved may at some period be larger than necessary, the meeting of immatured losses is likely to equalize the matter in due course of time.

Secret reserves are sometimes accumulated without appearing as such on the balance sheet. The placing of values upon inventories below the proper figures-cost or market, whichever is the lower-constitutes a secret reserve. The same may be said of any other assets, the accounts covering which have actually been reduced below their intrinsic value. Securities purchased at a low cost which subsequently rise in value, form a common source of secret reserve, as the prudent business man is loath to anticipate

profits by writing up the value of such assets. But while it is permissible to allow favorable fluctuation of values to become the subject of secret reserves, a contrary movement should invariably cause a reduction with a consequent charge to Profit and Loss. The practice which obtains in some quarters, of writing off valuable property in its entirety, is hardly to be encouraged. Banks frequently write off the outlay for fixtures, which plan is not open to criticism, but when the value of real property is dropped from the statement, the action appears extreme. The Bank of England illustrates this tendency, the property of this great institution, which is estimated to be worth fully two million pounds sterling, not being represented among the assets in the statements rendered.

It may be stated in conclusion, that as no actual monetary transaction takes place in creating reserve accounts, in which feature the subject differs from ordinary business transactions, it is largely a matter of opinion as to how accounts shall be treated, rather than a matter of absolute fact. For the purpose of satisfactorily conducting a business along safe and conservative lines, however, an understanding should be had of the principles underlying the creation of reserve accounts, and through intelligent application of these principles much may be accomplished towards obtaining truthful results.

An Example of Depreciation Charges.

BY "LINDUM."

The fundamental principles of figuring depreciation charges are simple and axiomic. That there is a constant deterioration of used property needs no proof; the fact that market values may be enhanced by extraneous causes need not be considered in connection with the depreciation problem.

Deterioration may be classed under three heads:

1. Natural wear and tear.

2. Accidental breakage and unusual destruction.
3. Obsolescence.

This deterioration must be provided for by:

A. Repairs.

B. Replacements.

C. Improvements.

D. Scrap and selling value of discards.

When A + B + C + D just equal 1 + 2 + 3 then asset value remains constant.

When A+B+C+D more than equal 1+ 2+ 3 then there is a conclusive addition to asset value.

When A+B+C+D are less than 1 + 2 + 3 then there is an impairment of asset value.

Differences of opinion arise when methods of determining these factors are considered, and to these problems I address myself.

First as to asset value; undoubtedly the best measure of that value is an accurate, disinterested physical appraisal of the property considered in the light of its value to a going concern. In default of such an inventory there remains the taking of the cost price depleted annually by a definite percentage according to the term of useful life of the property in question.

In order to set forth any inventory in a satisfactory manner, whether upon the physical examination or the percentage plan, it is necessary to itemize its units, and such inventory may be best

« ՆախորդըՇարունակել »