The depreciation policy is of considerable importance to the management because of its impact on income, its size in relation to total costs of operations, cash flows and productive capacity of the assets. These matters are discussed as impact on net income. The declaration and the consequent distribution of the dividends is directly influenced by the net income figure of the accounting period. Without an income figure the management cannot take a decision about the quantum dividends. The income determination is directly affected by managerial decisions of depreciation policy. The objective of the depreciation policy should be to indicate how much service potential of the assets expired during the accounting period.

Relative amount of depreciation. The total amount of depreciation expense in relation to other costs of operations would invite the management attention on the productive use of the assets. The increase in depreciation amount may be due to specific policy of the management regarding a particular method of depreciation or sudden revision of depreciation charge in view of possible obsolescence. In the latter case the increase in the depreciation expenses would conceal the effectiveness of other operational costs.

Expansion-contraction decisions. The depreciation policy would influence to a great extent the management’s decisions to expand or discontinue a certain activity in the business enterprise. A wrong assessment would lead to the abandonment of good or productive assets.

Impact on funds flows. The depreciation is a non-cash expenses and the extent of depreciation would determine the withholding of funds from sales to some extent in the firm. It may be stated that the terms ‘funds’ does not necessarily means cash. In this way the depreciation policy directly influences the working capital position. This view is especially correct from the point of view of financial management rather than accountant. Moreover it is the impact of the objectives of depreciation policy and not the reason.

Replacement of asset. When the object of the depreciation policy is to provide cash required to replace an asset at the end of its useful life, the amount set aside for depreciation might be invested outside the business in some securities.

Depreciation does not generate funds. It is only a method of retaining the funds created by revenues. The benefit of the sinking fund method is that the cash is readily available by selling the investments in outside securities. It is the effect of depreciation method and not its reason.
Depreciation policy and tax consideration. The depreciation policy of business enterprise is often used for calculating taxable income. For tax purpose, the objective is to use that method (of course with permissible legal requirements) which minimizes the effect of taxes.

For more help in Depreciation Policy And Management Decisions click the button below to submit your homework assignment