29. A company buys a new piece of machinery for £55,000 cash. It is expected to last for 8 years and will have a scrap value of £7,000 The company uses straight line depreciation

A. In the year of purchase, there is a cash movement of £55,000 and a depreciation charge and therefore a reduction in profit of £6,000.

B. In the year of purchase, there is a cash movement of £49,000 which is £55,000 paid for the machine and £6,000 depreciation charge.

C. In the year of purchase, there is a cash movement of £6,875 which is the depreciation charge.

D. In the year of purchase, there is a net cash movement of £48,125. This is the £55,000 paid for the machine and £6,875 depreciation charge.

Answer : A

Depreciation is NOT the same as cash on a year by year basis. The cost of the equipment over the 8 years is £55,000 less the scrap value of £7,000 = £48,000 Therefore the annual depreciation, on a straight line basis, is £6,000 per year. THIS is the value that affects profit. The CASHFLOW occurs when the machinery is purchased, and when it is sold.