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The result of depreciating a machine (which has a residue value) upon its original cost, would produce an incorrect balance sheet, which if depreciated on the diminishing balance, the existence of the property would be continuously represented at the diminishing amount until reduced to its ultimate value at the hand of the auctioneer or dealer in second-hand machinery or as old iron. It must be borne in mind that as a machine grows older the charge for repairs increases and as we wish to equalize the total charges to revenue over the "life" of a machine the charges for repairs will be small at the beginning and increase in amount as the machine grows old in years. Therefore if the charge for repairs and the increasing charge for depreciation were made, the first cost of the machinery the later years of its "life" would be burdened without giving it credit for its better work at the beginning of its career. The depreciation being made on the diminishing value, the charges to revenue are equally divided over the whole life of the machine.

The following illustration will explain the effect on original cost and the varying burden of repairs.

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A machine costing $1000. Life determined, say ten years.

preciation ten per cent.

De

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This $120.11 with the residual value of $34.89 makes up the total

charges of $155. Depreciation on the original cost is therefore a writ ing off of the actual capital without leaving the residual value.

Ratio of Diminution.

Calculating the depreciation of ten per cent. off leases having ten years to run-patents having a fixed life or any other property which becomes absolutely extinguished in a determined number of years.

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On property that has always a residue value, the principle being written off on the diminishing value:

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Residual value at end of 5th year on 50 per cent.

Diminishing Values.

60 per cent.

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A new machine does not wear out as soon as an old one, and by depreciating on the diminishing value the total charges to revenue are equitably distributed over the life of the machine.

Thus we see that the ratio of diminution of realizable value is greater in the earlier than in the later years of the life of the machinery. This being true, I think the principle upon which depreciation of machinery should be valued, is to assess the residual value and then ascertain what rate of discount upon the diminishing value will serve to reach that residual value.

We must bear in mind that as soon as the original cost is reduced so as to represent the residual or break up value, further depreciation is unnecessary. But in this connection we must remember that with any system of depreciation the value of machinery as carried in the books of a manufacturer is never realized whenever the assets are sold, either at auction or private sale. With railway, gas, and steamship companies the depreciation partakes more of a renewal account, since the actual maintenance is only included in the revenue account.

There are items to which no general rule of writing off is applicable. Such are the cost of good will, patents, trade marks, copyright designs, etc., for although, as in the case of patents, the life of the asset is clearly defined, the incidental advantages derived from the possession, for a term of years, of a valuable monopoly do not necessarily cease upon the expiration of the term of the patent. On the contrary, the value of the good-will may increase although the term of the patent is expiring. The obvious rule, therefore, is that in the balance-sheet such items should appear at their cost value, and need not be written down unless their realizable value as integral parts of a going concern falls below their cost value. Any estimated increment may be accounted for by the creation of a special fund, but until such estimated increased value is realized, it should not be considered as an element of profit.

Shareholders' Rights.

Preferred shareholders have a prior right to share in the profits, and that to a greater extent than the ordinary shareholders, but in case of liquidation of the company, both common and preferred shareholders participate equally in the division of the assets. Thus the interests of these two classes are conflicting, dividends to preferred stockholders being dependent upon the profits of the particular year only, preferred stockholders benefiting by no charge being made for

depreciation. Providing the company retains sufficient assets to carry on its productive business, common stockholders derive an advantage correspondently greater as the provision made for depreciation increases; so that matters of accounting are best left in the hands of the company itself for determination, seeing that their capital, being the surplus of assets over liabilities, is a matter of paramount importance to both of them. If the working expenses exceed the correct gains, then no dividend may be declared, while on the other hand a company has the power to devote the surplus of income over expenditures, should it so decide. No obligation is imposed by law or statutes, whereby a reserve fund out of revenue is created to recoup the wasting nature of capital, so that profits may be the balance remaining after the payment of all charges, including depreciation. The principle of limited liability implies that the capital should be preserved intact for the safety of the creditors, in consideration of the counter balancing disadvantage that he, the creditor, has only a limited fund to look to for payment of his account.

Preferred shareholders stand, to some extent, on the same footing as creditors in relation to the common stockholders, seeing that should a diminution of capital take place, and a dividend be paid the common stockholder, the actual capital is being distributed in violation of the terms of its issue. Therefore, in case of shrinkage of capital, the correct procedure would be to write down the capital by reducing the nominal value of the shares, and the auditor should see that every item of expenditure fairly chargeable against the year's income, shall be brought into the revenue account for the year.

CHAPTER THIRTY-ONE.

Railway Auditing.

Instructions to Traveling Auditors -Their Duties-Reports of Each Examination-Defaulting Agents-Remittance and Freight

Collections.

The revenue of railway companies is derived from five principle sources, viz: Freight, passenger, express, mails and miscellaneous. The revenue from freight, passenger and miscellaneous sources is collected almost entirely by the company's agents along the line, therefore, the first and most important duty of an auditor is to look after the funds of the company, collected by and passing through the hands of agents.

Agents are instructed how they shall keep their accounts, and all their books and blanks are furnished from the stationery supply store. Notwithstanding these detailed instructions, one of the most important duties an auditor has to perform is to exercise a constant and intelligent supervision over the manner of keeping accounts, carefully instructing the agents whenever they are wrong or in default.

The nature of the duties to be performed are delicate and very responsible, therefore, it is important that your intercourse with agents and others should always be frank, but governed by the utmost courtesy and tact. It is also your duty to see that the instructions for keeping the accounts are fully obeyed, but you must do so in a courteous and gentlemanly manner.

In making examinations and rendering reports of agents' accounts, you must be just and impartial, you must hold your judgment unbiased by either courtesies or want of deference shown you, in your official capacity, or personal intercourse with agents.

You must not allow personal resentments to govern your actions or change your statements.

Reports of all examinations of agents' accounts are made upon a blank provided by the Auditing Department, and usually embraces

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