The Income Statement

Noncash Items

Noncash items that are reported on an income statement will cause differences between the income statement and cash flow statement. Common noncash items are related to the investing and financing of assets and liabilities, as well as depreciation and amortization. When analyzing income statements to determine the true cash flow of a business, these items should be added back in because they do not contribute to the inflow or outflow of cash like other gains and expenses.

Fixed assets, or non-current assets or property, plant, and equipment (PP&E), are accounting terms for assets and property. Unlike current assets such as cash accounts receivable, PP&E is not very liquid. PP&E are often considered fixed assets: they are expected to have relatively long lives and are not easily changed into another asset. These often receive a more favorable tax treatment than short-term assets in the form of depreciation allowances.

Machinery Machinery is an example of a noncash asset.

Depreciation is a way of accounting for the decreasing value of long-term assets over time. A machine bought in 2012, for example, will not be worth the same amount in 2022 because of things like wear and tear and obsolescence.

On a more detailed level, depreciation refers to two very different but related concepts: the decrease in the value of tangible assets (fair value depreciation) and the allocation of the cost of tangible assets to periods in which they are used (depreciation with the matching principle). The former affects the values of businesses and entities, while the latter affects net income.

In each period, long-term noncash assets accrue a depreciation expense that appears on the income statement. Depreciation expense does not require a current cash outlay, but the cost of acquiring assets does. For example, an asset worth 100,000 in year 1 may have a depreciation expense of 100,000, so it appears to be worth $90,000 in year 2.

Amortization is a similar process to deprecation but is the term used when applied to intangible assets. Examples of intangible assets include copyrights, patents, and trademarks.