Amortization
In one sentenceSpreading the cost of an intangible asset, such as licensed software or franchise rights, over its years of use, just as depreciation spreads the cost of a tangible asset.
Simply put
Amortization is depreciation for assets you cannot touch. Instead of charging the whole cost of a license to the year of purchase, you divide it over the years you will benefit from it.
Amortization appears as an expense in the income statement, and is added back to net profit along with depreciation when calculating EBITDA, because it involves no cash outflow.
Worked example
A business bought a software license for 60,000 SAR to be used for 5 years, with no residual value.
License cost60,000 SAR
Period of use5 years
Annual amortization (60,000 ÷ 5)12,000 SAR
Formula: Annual amortization = (Cost − Residual value) ÷ Period of use
Don't confuse it with
DepreciationDepreciation is for tangible assets such as equipment and vehicles, and amortization is for intangible ones.