UTPA STEM/CBI Courses/Engineering Economics/Depreciation Methods

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Course Title: Engineering Economics

Lecture Topic: Depreciation Methods

Instructor: Sofia Carolina Maldonado

Institution: Texas A&M International University


Backwards Design

Course Objectives

Primary Objectives- By the next class period students will be able to:

  • Use a specific depreciation method to reduce the value of capital invested in an asset or natural resource


Sub Objectives- The objectives will require that students be able to:

  • Understand and use the basic terminology of depreciation
  • Calculate the straight line (SL), declining balance (DB), and double declining balance (DDB) classical depreciation methods
  • Apply the Modified Accelerated Cost Recovery System (MACRS)
  • Utilize percentage depletion and cost depletion methods


Difficulties- Students may have difficulty:

  • Identifying the different formulas needed to compute book depreciation and tax depreciation
  • Differentiating between book value and market value
  • Identifying when the salvage value is taken into consideration and when it is not
  • Figuring out how MACRS rates are derived


Real-World Contexts- There are many ways that students can use this material in the real-world, such as:

  • Calculating the value of your car after several years
  • Income tax calculation


Model of Knowledge

Concept Map

  • Depreciation terminology
  • Straight line
  • Declining balance
  • MACRS
  • Depletion

Content Priorities

Enduring Understanding

  • Book depreciation, tax depreciation
  • First cost or basis
  • Book value, market value, salvage value
  • Depreciation rate or recovery rate
  • Percentage depletion, cost depletion

Important to Do and Know

  • Difference between depreciation and depletion
  • Personal and real property
  • Which methods are approved for tax depreciation in the United States
  • When and how salvage value is considered

Worth Being Familiar with

  • Half-year convention
  • Property classes
  • General Depreciation System (GDS)
  • Interest factor tables


Assessment of Learning

Formative Assessment

In Class (groups)

  • Calculate the annual SL depreciation of an asset of known first cost and estimated salvage value after certain number of years.
  • Compute the annual depletion amount of a natural resource with given anticipated gross income and percentage.

Homework (individual)

  • Compute and compare both annual depreciation and equipment book values if B = $180,000, n = 6 years, and S = $20,000. Use 150% DB and DDB depreciation methods.
  • Recalculate the above values, this time using the MACRS method.

Summative Assessment

  • Calculate and compare the depreciation values of a certain asset using two different depreciation methods.
  • Calculate and compare the book value of the same asset after a certain number of years using different depreciation methods.


Legacy Cycle

OBJECTIVE

By the next class period, students will be able to:

  • Compare the different depreciation methods by computing the depreciation values and book values of a particular asset.
  • Calculate the percentage depletion and cost depletion methods for natural resource investments.

The objectives will require that students be able to:

  • Know how and when the estimated salvage value is used.
  • Explain why the distinct depreciation methods give out very different results and which approach has a tax advantage.


THE CHALLENGE

Students will be asked: How many of you own a car? Do you know how much your car is worth right now? A number of factors affect the value of your car: year, make, model, mileage, location, style, equipment, condition, etc. Suppose that you want to sell your current car and want to purchase a new one, similar to the one you have. Determine the best option.


GENERATE IDEAS

1. What is your current car’s worth? What year is your car? What is the annual depreciation rate? How do the other factors influence the price? Trade in or sell?

2. What us the book value? What is the current market value?

3. When buying a car, would you prefer a new or used? If used, can you calculate the price based on depreciation rates?

4. What other factors do you consider when buying a car?

5. Now, take a look into the future. How long are you planning to keep your new car? Which car will give you the best value in the future? Which ones hold and lose the most value over the years?


MULTIPLE PERSPECTIVES

1. Find out how much your current car is worth.

2. Students must generate a list of candidate choices and explain why these cars made it to their list.

3. Visit some websites: Kelley Blue Book (kbb.com), consumer reports, MSN autos, dealership sites, etc.

4. Discuss and identify which car is the best option based on your current car’s selling price and the new car’s purchasing price, future price, depreciation rates, and additional features.


RESEARCH & REVISE

Students should have collected all relevant data that will be used for further comparison. Students will work individually to calculate and compare the depreciation and book values of the different candidate choices and determine which car will be the best option. After all students have given a short presentation, they can get into groups and compare/revise their calculations.


TEST YOUR METTLE

Students will take quizzes individually. Students form groups and will grade each other’s quiz. They will teach each other until everyone understands the problems. A similar set of quizzes can be taken afterwards, with possible repetition on individual basis.


GO PUBLIC

Students groups will use car dealer websites to “build” their car and get an estimated price. A written report should account for multiple input factors used in the different depreciation methods and produce a comparison between them. Students must share their findings with the rest of the class.


Pre-Lesson Quiz

1. Why is depreciation important to engineering economy?

2. Why is depreciation performed?

3. Give examples of personal property.

4. Give examples of real property.

5. There are 3 different life (recovery period) values associated with a depreciable asset. Identify each by name and explain how it is correctly used.

6. Explain the difference between an accelerated depreciation method and one that is not accelerated. Give an example of each.

7. Distinguish between the declining balance method of depreciation and double declining balance method of depreciation.

8. When does MACRS depreciation switch from declining balance to straight line in the year?

9. Explain the half-year convention.

10. What is the correct relation used to determine book value after t years using MACRS depreciation?

11. Which recovery rate is most often used for comparison with other methods’ rates?

12. When do we use depletion methods instead of depreciation?

13. State the monetary limits placed on the amount of an investment (first cost) that can be recovered annually and over the expected life for both depletion methods.


Test Your Mettle Quiz

1. A machine is purchased for $1000 and has a useful life of 12 years. At the end of 12 years, the salvage value is $130. By straight-line depreciation, what is the book value of the machine at the end of 8 years?

2. An engineer with Accenture Middle East was asked to compute equipment book values for each year if B = $200,000, n = 5 years, and S = $25,000. Use both 150% DB and DDB depreciation methods.

3. Determine the book value in year 3 of a robotic arm that has a first cost of $300,000, a 5-year life, and a $60,000 salvage value, using MACRS, DDB, and SL depreciation methods.

4. A small privately-owned gold-mining company has the sales results summarized in the table below. Determine the annual percentage depletion for the gold mine.

Year Sales, tons Spot Sales Price, $/ton

1 34,300 9.68

2 50,100 10.50

3 71,900 11.23

4 85,650 12.75


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