Chapter 5

Problem 5.1:
b) The Golden Start Company purchased 3 types of machines: X,Y & Z three years
ago for its production activity, The first cost, P,service life, n, salvage value, F, and
depreciation model for each machine are indicated in the table below:
Machine X Y Z
Item
First cost (S) 18,000 25,000 13,000
Service life (years) 12 15 10
Salvage Value ($) 3,500 5,000 3,000
Depreciation Model SYD DB SL

Sketch Bt vs "t" for each machine then determine:

i) The depreciation charges for each machine during next year i.e D4 .
ii) The double-declining-balance model rate, R, for each machine.
iii) Use the double-declining-balance model to determine the salvage value of each
machine.

Solution 5.1

1
i) For machine X:
D4=[2(n+1-t)/n(n+1)]*(P-F)=2(12+1-4)/12(12+1) ($ 18,000-$ 3,500)= $ 1673.077
For machine Y:
R=1-n√F/P =1-15√5000/25000 = 0.10174
Where 1/n*≤R≤2/n*
n*=n(P/(P-F))=$15.000*$25,000/($25,000-$5,000)=18.75
Rmin=1/n*=0.0533
Rmax=2/n*=0.10666
D4=R(1-R)t-1.P= $1843.4778

2
 For machine Z :
D4=P-F/n=$ 13,000-$ 3,000/10=$1000

Depreciation Machine Z Machine X Machine Y

by Time t St-Line SYD Model Declining-Balance Model Bt ($)
(years) Model Bt ($) Bt($) R=0.10174
1 $ 1000 2230.8 2543.5
2 $ 1000 2044.9 2284.72
3 $ 1000 1859.0 2052.276
4 $ 1000 1673.1 1843.4778
5 $ 1000 1487.2 1655.9
6 $ 1000 1301.3 1487.4
7 $ 1000 1115.4 1336.1
8 $ 1000 929.5 1200.2
9 $ 1000 743.6 1078.1
10 $ 1000 557.7 968.4
11 - 371.8 869.9
12 - 185.9 781.4
13 - - 701.9
14 - - 630.5
15 - - 566.3

ii) Rmax=2/n*=2(P-F)/nP
For machine X :
Rmax=2/n*=2(P-F)/nP=2($ 18,000-$ 3,500)/12*$ 18,000=0.13425
For machine Y :
Rmax=0.10666
For machine Z :
Rmax=2/n*=2(P-F)/nP=2($ 13,000-$ 3,000)/10*$ 13,000=0.15384

iii) SV=Bn=(1-Rmax)n.P
For machine X :
SV=B12=(1-0.13425)12.$18,000=$ 3191.40936
For machine Y :
SV=B15=(1-0.10666)15.$25,000=$ 4604.598
For machine Z :
SV=B10=(1-0.15384)10.$13,000=$ 2446.066

Problem 5.2
(a) Show that for sum-of the years digits model of deprecation the book value at the
end of the year "t" ,Bt, is given by :
Bt= f+(P-F)(n-t/n)(n-t+1/n+1)
Where
P= first cost
F= salvage value
n= service life

3
 (b) the first cost of an asset is 2500kd and its salvage value after 10 years is 600kd .if
the asset deprecations according to the sum-of-the – years –digits model .sketch its
book value ,Bt, at the end of each year during the first five years of its service life .
(c) An asset has a first cost of $900000 an estimated life of 15 years, and an estimated
salvage value of 15% of first cost
1- Using the straight –line model, fine the annul depreciation charge expressed as a
percentage of first cost and the book value at the end of the 10 years .
2- Using the sum-of-the-years-digits model determine the depreciation charge
during the 7'Th year and book value at the end of 10 years

Solution 5.2
(a) According to this method :
The deprecation charge during any year ,t, is given by: n
Dt = n+1-t (P-F)/∑ j ……..1
j=1
The sum –of-the-years-digits for any number of year's n, can be computed from
the expression:
n
∑ j =1+2+3+…….+ (n-1)+n = n(n+1)/2 ……….2
j=1
From Eq 1 and 2
Dt =(n+1-t)(p-f)/n(n+1)/2 …………3
The book value at the end of any year t given by:
n
Bt= p-∑ Dj ………..4
j=1
Substitute Eq 3 into Eq 4 :
t
Bt= p-[(P-F)/n(n+1)/2]*∑(n+1-t) …….5
t=1
BUT:
t
∑(n+1-t) = n+(n-1)+……..+(n+1-t)
t=1
=[1+2+3+…..n]-[1+2+3+ …+(n-t)]
=n(n+1)/2 –(n-t)(n-t+1)/2 …………..6
Substitute Eq 6 into Eq4:
Bt=p-(P-F)/n(n+1)*[n(n+1)/2 –(n-t)(n-t+1)/2]
Bt=p-(p-f)+(p-f)*(n-t)(n-t+1)/n(n+1)
So
Bt=f+ (p-f)[n-t/n][n-t+1/n+1]………….#

4
(b) By using the equation of the sum-of-the-years-digits we get Bt of the first five
years as follow:
Bt=f+(p-f)(n-t) *(n-t+1)
n ( n+1)
Given:
n= 10
F =salvage value=$600
P= the first cost =$2500
Then
B0=p=$2500
B1=600+(2500-600)(10-1/10)(10-1+1/10+1)
B1 =600+1900*9*10/10*11=$2154.545
B2=600+1900*(10-2/100)*(10-2+1)/11=$1843.636
B3=600+1900(10-3/10)*(10-3+/11)=$1567.27
B4=600+1900(10-4/10)*(10-4+1/11)=$1325.455
B5=600+1900(10-5/10)*(10-5+1/11)=$1118.182

(c)Given:
P=first cost =$900000
n= estimated life =15 years
(1) This model assumes that the value of an asset decreases at a constant rate
according to this model:
Dt = (p-f)/n =constant ( *)
Where:
Dt= the deprecation charge during any year
P=the first cost of the asset
F= the estimated salvage value .
(Note that f =B10 in this problem)
n= the estimated service life of the asset
f=B10 =%15 of the first cost (given)
f=15*900000/100=$135000

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 Then to expressed Dt as a percentage of first cost and the book value at the end of
the 10 years:
t
Bt =p- ∑ Dt =p-t [(p-f)/n.]
t=0
From EQ (*) :
B10= P- 10[Dt]
Then
Dt= p-(B10)/10 .....#
Note that: Dt for this model is constant and its equal
Dt=(900000-135000)/15 =$51000

(2)Using sum-of the-years-digit model to get:

D7 & B10
As we proof in part (a)
Dt=(n+1-t/n(n+1)/2)(p-f)
D7= (15+1-7)(900000-135000)= 7978500=$6648705
15(15+1)/2 120
Also
Bt= f+(p-f)(n-t/n)(n-t+1/n+1)
B10=135000+(900000-135000)(15-10)(15-10+1)
15 15+1
B10= 135000+765000(5/15)(6/!6)=$230625 #

Problem 5.3
A new asset is purchased for $1,200 and is estimated to have a life of 10 years and a
scrap value of $200 at the end of that time.
A) The book value at the end of the sixth year using straight line model and
the sum-of -the -years - digits model.

6
 B) Determine the declining-balance rate,(R) that results in the same book value as
that given by the sum-of- the-years-digits model.

Solution 5.3:
P=$1200
F=SV =200
n= 10 years
a)
(i) Using straight line model.
Bt = P – t * (P-F) / n
B6 = 1200 - 6*(1200-200) / 10
=$600.
(ii) For sum –of –years-digits model:
Bt = F+ (P-F)[(n-t) (n-t+1) / n(n+1) ]
B6 =200+(1200-200) [ (10-6)*(10-6+1) / 10(10+1)]
=$381.818
b)
Using the declining - balance model.
^t
Bt = (1-R) *p
t
R = 1 – √( Bt / P ) (the end of the sixth` book value was used)
6
R =1- √ (381.818 / 1200)
=0.174

Problem 5.4
a) Define mathematically “declining-balance model of depreciation”
b) Prove that for its model
Bt=(1-R)t *p
Where
Bt ≡book value at end of year “t”
P ≡first cost of the asset
R ≡model rate.

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 c) Determine the book value of an asset at the end of the 5th year if it has a first cost of
$20,000 and a salvage value of $5000 after 9 years and it depreciates according to
the balance model.

Solution 5.4:
a) The declining balance model of deprecation assumes that an asset decreases in
value at a faster rate in the early portion of its life .
* Mathematically this model is represented by the following equation
Dt =R . Bt-1
Where:
Dt ≡the depreciation charge during any yr”t”

Bt-1≡the book value at end of the yr,(t-1)or at the beginning of the yr t.

R ≡the depreciation rate which is affixed percentage or a fraction constant

b) Since the book value of the asset decreases through time so does the size of the
depreciation charge?
as Bt α 1/t Dt α 1/t
from equation Bt= Bt-1 – Dt.
Bt=Bt-1 –Dt ………………………..(1)
Substituting for Dt from equ (1)
ֶֶ Dt=R . Bt-1;
Bt = Bt-1 – R * Bt-1 = (1-R) Bt-1……..(2)
Equ(2) is recursive relation that relates Bt to Bt-1 for various values of t;
Equ(2) gives
B1 = (1-R) B0= (1-R) P
B2 = (1-R) B1 = (1-R)2 * P
And so on B3= (1-R) B2 = (1-R)3 * P
From above equation we can say that
Bt = (1-R)t P

c) P=$20,000 SV=$5000
B5=? n=9 years
1/9
R=1-(B9/p)
R=1-($5000/$20,000)1/9
R=0.142756
B5=(1-R)5 * p
B5=(1-0.142756)5 * 20,000 B5=$9258.7480

8
 P
$20,000

$5000

9 8 7 6 5 4 3 2 1 *n

Solution 5.4:
a) Mathematically declining - balance model is represented by the following
equation:
- Dt = R*Bt-1 -------1)
where :
Dt = the depreciation charge during any year (t)
Bt-1 = the book value at the end of the year , (t-1) or at the beginning of year (t) .
R= the depreciation rate which is a fixed percentage or a fraction ,R=const

b) prove that for this model

Bt = (1-R)t p
- Since the book value of the asset decreases through time , so does the size of the
depreciation charge .
Bt 1/t
From Eq (1) :
Bt = Bt-1 – Dt (2)
Substituting for Dt from Eq (1),Eq.(2) reduces to:
Bt= Bt-1 – R*Bt-1 =(1-R)*Bt-1 (3)
Eq.(3) is a recursive relation that relates Bt to Bt-1. for various values of t, Eq(3)
gives:
B1=(1-R)*B0 =(1-R)*P
B2=(1-R)*B1 =(1-R)2 *P
: : :
: : :
.: Bt =(1-R)^t * P

c) for the declining – balance model the depreciation rate R falls in the range
1/n* <= R <=2/n* or 0.0833<=R <=0.1667

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 The particular value of R that makes the model passes through the given salvage
value, SV= F = B9 =$ 5000, is determined as R =1-(Bn/P)^1/n
R=1-(5000/20000)^9 =0.1428
Thus the model can be solved for these 3 values of R:
Bt = (1-R)^t *P
B5 = $ 20000 (0.917)^5 OR $ 20000(0.833)^5 OR $ 20000(0.857)^5
B5 = $ 12968.12 OR $ 8021.5 OR $ 9256.37

Solution 5.4:
a) Dt = R.Bt-1
Dt≡ the depreciation charged during year t.
Bt-1≡ the book value at the end of the year (t-1) or at the beginning of the year t.
Bt = (1-R) ^t. P
Dt = R (1-R) ^ (t-1).P

b) According to this model a fixed percentage, r, is multiplied times the book value of
the asset at the beginning of the year to determine the depreciation charge of that
year.
Since the book value of the asset decreases through time, so does the size of the
depreciation charge.
Dt = R. Bt-1
As B α 1/t → Dt α 1/t
Bt = Bt-1-Dt
Bt = B (t-1) – R.B (t-1)
B1= (1-R) B0 = (1-R) P
B2 = (1-R) B1= (1-R) (1-R) P = (1-R) ^2*P
B3 = (1-R) B2= (1-R) (1-R) ^2P2 (1-R) ^3P
.
..
Bt = (1-R) Bt-1= (1-R) ^t p

e) P = $20,000 , SV = $5,000 after 9 yrs.

B5 =??
Bt = (1-R) ^t.P
B9 = SV =$5,000
5000= (1-R) ^9.20000
R = 1-9√5000/20000
R = 0.143
B5 = (1-0.143) ^5.P
B5 = $9245

Problem 5.5:
a) When double declining balance model is used the book value of an asset at the
end of fifth year was found to be $ 4260. If the first cost asset is $ 13,000,
determine its book value at the end of the 3rd year.
b) If the straight line model is used what would be the book value of the asset at
the end of the 5th year.
c) Sketch on the same graph Bt vs. “t” for the two models and indicate all
numerical values, you obtained in previous parts on your graph.

10
 d) When the two models predict the same book value? i.e. intersection point on
your graph.

Solution 5.5:
a) Bt = (1-R) t *P …… (1)
Where t : time
Bt: book value at time (t)
R : rate of declining
P : principal value
Givens: P= 13000 t=3
Bt 4260
R= 1- t = 1- 5 = 0.2
P 13000

B3= (1-0.2) 3 *13000= $ 6.656

From straight line model to find n* (inverse of minimum rate):
t(P  F )
Bt = P- to find n* Bt=0
n
n * (P  F )
0 = P- → (P-F)/n = (Rmax/2) * P
n
PF
Rmax = 0.2 → = 0.1*p …… (2)
n

t(P  F )
b) For straight line Bt = P-
n
After substitution equation (2) from part (a) in above:
Bt= P-t*0.1*P
Bt= 13000- 1300 *t……. (3)
t=5 years → B5= $ 6500
c) To find the point of intersection of linear model with t-axis, from equation (3)
Bt = 13000 – 1300 t = 0 → t = 10

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 Bt Vs T
14000

12000
DDB
Linear
10000

8000
Book Value

6000

4000

2000

-2000
0 2 4 6 8 10 12
Time Period

d) To find intersection between tow models, equalize equations (1) & (2)
P*(0.8) t = P-0.1*t*p
(0.8) ti -(1-0.1ti) = f (t) =0
From parts a & b we have 5 < ti < 10
If we substitute:
t1 = 8 → f (t1) = -0.032227 < 0
t2 = 9 → f (t2) = 0.0342177 > 0
t = 0 → f (t) =?
By interpolation
f (t )  f (t1) f (t 2)  f (t1)
=
t  t1 t 2  t1

After substituting above values → t = 8.48502

Problem 5.6:
A certain heat-exchanger costs %45,000 and it has an estimated life of 10 years with
a salvage value of $10,000 at the end of the 10th year.
a) Determine the book value, Bt, of this heat-exchanger at the end of the 5th year using
the following depreciation models:
i) Straight-Line Model
ii) Sum-of-the-Years-Digits Model, SYD Model
iii) Double-Declining-Balance, DDB, Model
Sketch Bt vs. t in each case on the same graph.

12
 b) What is the rate, R, that should be used with the Declining-Balance Model in order
to predict the same book value B5 as the SYD model?
Is it possible to use this rate for tax purposes? Why?
c) Which depreciation model do you recommend for your company ? Why?

Solution 5.6:
a) The cash-flow diagram:-

i) Bt = P − t/n ( P− F)
Bt = 4500 − 5/10 (4500 − 10000)
= $27500
ii) Bt = F + (n − t) ( n − t + 1) ( P − F)
n( n + 1)
Bt = 10000 + (10 − 5) ( 10 − 5 + 1) ( 45000 − 10000)
10( 10 + 1)
= $ 19,545.45
iii) RDDB = Rmax = 2/n*
n* = n P_ = 10 45000 __
P−F 45000 −10000
= 12.857 years
Rmax = _2_ = 2 = 0.1556
n* 12.857
Bt = ( 1 − R)t . P = ( 1 − 0.1556)5 . 45000
B5 = $ 19,322.7

Bt vs. t for the three cases

b)
B5 = 19,545.45

R = 1− t√(Bt / P)

= 1− 5√(19,545.45 / 45000) = 0.1536

To use R it must be included with the range :-

13
 1 < R < 2
n* n*
0.0778 < R < 1.556
R = 0.1536 => we can use it for tax purposes because it's less than Rmax
Bt = ( 1 − R ) t . P
SV = B10 = ( 1 − 0.1536)10 . 45000 = $ 8491.2

c) I recommend the double-declining-balance model because we have to consider the

worst case which is represented by the DDB

Problem 5.6:
A certain heat-exchanger costs $45,000 and it has an estimated life of 10 years
with a salvage value of $10,000 at the end of the 10th year.
A) Determine the book value , Bt , of this heat-exchanger at the end of the5th year
using the following depreciation models :
i) Straight-line model
ii) Sum-of-the-Year-Digits Model's Model
iii) Double-declining-Balance, DDB , Model

Sketch Bt vs. t in each case on the same graph

B) What is the rate, R, that should be used with the Declining-Balance Model in
order to predit the same book value B5 as the SYD model?
Is it possible to use this rate for tax purpose? Why?
What will be the salvage value at the end of the 10th year if this rate, R, is used?
C) Which depreciation model do you recommend for your company? Why?

Solution 5.6:
PART (A):
Given
P = $45,000 F = $10,000 n = 10 years t = 5 years
[i] Straight -Line Model:
For Straight- Line Model, the Book value is given by,
t
Bt  p  (P  F )
n
where:
Bt = the Book value at the end of year t.
P = the first cost of the asset.
F = the estimated salvage value.
n = the estimated service life of the asset.
-The Book value at the end of the 5th year is
5
B5  $45,000  ($45,000  $10,000) = $27,500
10
[ii] The Sum-of-the-Year-Digit Model:

14
 The Book value for SYD model is
( n  t ) ( n  t  1)
Bt  F  (P  F )
n n1
(10  5) (10  5  1)
B5  $45,000  ($45,000  $10,000) = $19,545.5
10 10  1
[iii] The Double-Declining-Balance Model:
Book value is
Bt  (1  Rmax ) t P
Where:
Rmax ≡ the maximum depreciation rate = the double rate of the SL Model and is
given by
P
n*  n
PF
Where:
n* ≡ the limiting value of the service life , n, for which Bt becomes zero using the
straight line model.
2
RDDB = Rmax =
n*
45,000
n *  10  = 12.857
45,000  10,000
2
Rmax= = 0.1556
12.857
B5  (1  0.1556) 5  $45,000 = $19,317.6

PART (B):
For Declining-Balance Model, DB model:
Bt  (1  R ) t P
where R is less than Rmax, i.e. the DDB model is a particular case of the DB model.

15
 Bt
R  1 t
P
B5 for SYD model is $19,545.5
Then:
19,545.5
R  1 5 = 0.1536
45,000
Since R<Rmax, it is possible to use it for tax purposes.
Salvage value at the end of the 10th year is equal to the Book value at this year,B10.
Bt  (1  R ) t P
B10  (1  0.1536)10  $45,000 = $8,491.2
PART (C):
The recommended depreciation model is the DDB Model which provides the
lowest salvage value which is useful in calculating the taxes and provides a
realistic approximation.

Solution 5.6:
a)
i) St-Line model:
B t = P-t (P-F/P)
B5 = 45,000-5(45,000-10,000/45,000)
B5 = 44,996
ii) SYD model:
Bt = F + [(n-t)(n-t+1)/n(n+1)](P-F)
B5 = 10,000 + (30/110)35000
B5 = 19,545
iii) DDB model:
Rmax = 2/n*
(R)DDB = Rmax
n* = n(P/P-F)
n* = 10(45,000/35,000)
n* = 12.86
Rmax = 2/12.86
Rmax = 0.1556
Bt = ((1-R) t)*P
B5 = ((1-0.1556) 5)*45,000
B5 = 19, 31

P
b) R = 1-
5
√19,545/45,0 00
R = 0.1536

Bt
16

n *n
 It possible to use this rate (0.1536) for tax purpose, because it is smaller than Rmax.
B10 = ((1-O.1536) 10)45,000
B10 = 8,491
C) Straight- line model, because the book value (B t) in this model is the greatest

Problem 5.9:
A* = 3.3 * $1950 = $ 6435

a-
0
1 2 3 4 5 6 7 8 9 10 11 12 (years)

S (30800 – 22110) = $8690

30800 ≡ (200 * 5.5) * $28 ≡ cost of constructing the additional 10-mm of insulation
thickness with $28 per m2
22110 ≡ 3.3 * $6700 ≡ cost of installing 3.3 tons of refrigeration.
A*

0
1 2 3 4 5 6 7 8 9 10 11 12 (years)

A**
A/P 15,12A**
**
A = 8690 (0.1845) = $ 1603.305
Mr. Mahir will loss ($6435 - $16030305) = $4831.695 annually

17