What financial statements are impacted by depreciation expense?

Depreciation expense affects all three financial statements: the Income Statement, the Balance Sheet, and the Cash Flow Statement.

On the Income Statement, depreciation is recognized as an expense, reducing the net income for the period. This is crucial as it reflects the allocation of the cost of tangible assets over their useful lives, allowing businesses to present a more accurate picture of earnings.

On the Balance Sheet, accumulated depreciation is subtracted from the total value of fixed assets. This results in a net book value, which provides stakeholders with insight into the actual value of the company's tangible assets after accounting for wear and tear over time.

In the Cash Flow Statement, depreciation is added back to net income in the operating activities section. Although it reduces reported earnings on the Income Statement, it is a non-cash expense. Therefore, to reconcile net income to cash flow from operations, depreciation is added back, highlighting that cash flow remains unaffected by this accounting entry.

Understanding how depreciation expense flows through all three financial statements is essential for comprehensively analyzing a company's financial health and performance.