Estimating Practice Exam

In financial assessments, what does depreciation and amortization focus on?

1. Value increase over time

2. Value maintenance

3. Value reduction over time

4. Asset liquidity

The correct answer is: Value reduction over time

Depreciation and amortization are accounting methods used to allocate the cost of tangible and intangible assets over their useful lives. This process effectively reflects the decline in value of an asset as it is used over time. When an asset is purchased, its value is recorded at a certain amount. As the asset ages, it may lose functionality or value due to wear and tear, obsolescence, or market conditions, which results in a reduction in its value. Depreciation applies to tangible assets like machinery, buildings, and vehicles, while amortization is used for intangible assets such as patents and copyrights. Both processes allow companies to match the expense of using the asset with the revenue it generates, which is critical for accurate financial reporting. Understanding this context clarifies why the other options do not align with the concepts of depreciation and amortization. Value increase over time, value maintenance, and asset liquidity pertain to different financial and asset management principles that do not accurately reflect the primary focus of these accounting practices.