CAPITALIZED

COST
• Capitalized Cost of a property
refers to the sum of its first cost and
cost of perpetual maintenance.

The capitalized cost of a project or

structure is the sum of the First Cost (FC)
and the present worth of all future
payments and replacements which is
assumed to continue forever.
Capitalized Cost, K

𝑶𝑴 𝑹𝑪−𝑺𝑽
K = FC + +
𝒊 𝟏+𝒊 𝒏 −𝟏

If RC is not specified, RC = FC.

Annual Cost, AC

AC = (Annual interest of investment)

+(Annual Operation & Maintenance)
+ (Annual Depreciation Cost)

In relation to Capitalized Cost:

Annual Cost, AC = K i
(𝐑𝐂−𝐒𝐕)𝒊
AC =(FC)i + OM +
𝟏+𝒊 𝒏 −𝟏
EXAMPLE

A machine costs P300,000 new, and

must be replaced at the end of 15
years. If the annual maintenance
required is P5,000 find the capitalized
cost if money is worth 5% & the final
salvage value is P50,000.
EXAMPLE

At 6%, find the capitalized cost of a

bridge whose cost is P200M & life is
20 years, if the bridge must be
partially rebuilt at a cost of P100M
at the end of each 20 years.
COST COMPARISON OF DIFFERENT
ALTERNATIVES

• If two or more different articles are available

for the same purpose, they are equally
economical if the corresponding present
worth, annual cost or capitalized cost are the
same
EXAMPLE
A certain equipment costs P150,000, lasts for 6
years & has a salvage value of P30,000. How much
could an investor afford to pay for another
machine for the same purpose, whose life is 10
years and salvage value is P40,000, if money is
worth 5%?
EXAMPLE
A company uses a type of truck
which costs P2M, with a life of 3
years & a final salvage value of
P320,000. How much could the
company afford to pay for another
type of truck for the same purpose,
whose life is 4 years with a final
salvage value of P400,000 if money
is worth 4%.
DEPRECIATION
DEPRECIATION

Depreciation is the reduction or

fall in the value of an asset or
physical property during the
course of its working life and
due to passage of time.
• Value is the money worth of an asset or product. It also refers to the present
worth of all future profits that are to be received through ownership of a particular
property.
• Market value is the amount a willing buyer will pay to a willing seller for a
property where each has equal advantage and neither one of them is under
compulsion to buy or sell.
• Book value is the worth of the property as reflected in the book of records of the
company. ( it is the original cost basis of a property, including any adjustments, less
all allowable depreciation or depletion deductions)
• Use value is the amount of the property which the owner believed to be its
worth as an operating unit.
• Fair value is the worth of a property determined by a disinterested person in
order to establish an amount which is fair to both the buyer and the seller.
• Salvage Value the amount obtained from the sale of property. This is also known
as resale value. Salvage value implies that the property will still be used for the
purpose it is intended.
An asset may depreciate physically or functionally.

Cost of property plotted versus time:

Elements of Depreciation:

FC = First Cost
SV = Salvage Value
D = Depreciation Charge
n = Economic Life of the asset in years
m = any time before n
BVm = Book Value after m years
Dm = total depreciation for m years
at any time m, the book value of a given asset is:
BVm = FC - Dm
In general, property is depreciable if
it meets the following requirements;

1.It must be used in business or held to

produce an income.
2.It must have a determinable useful
life and the life must be longer than
a year.
3.It must be something that wears out,
decays, get used up, becomes
obsolete, or loses value from natural
causes.
4.It is not inventory, stock in trade,
or investment property.
Depreciable property is classified
as;
a.Tangible property - can be seen or touched

i.Personal property – includes assets such as

machinery, vehicles, equipment, furniture
ii.Real property – land and generally anything
that is erected on, growing on, or attached to
a land.
Note: Land itself is not depreciable because it
does not have a determinable life.

a.Intangible property – is a personal property

such as a copyright, patent, or franchise.
• In engineering projects rarely includes this
class of property.
Depreciation Methods

1.Straight Line
2.Sinking Fund
3.Declining Balance
4.Double Declining Balance
5.Sum of the Years Digit (SYD)
Straight Line Depreciation Method

→ the cost of the property is assumed to vary

linearly with time
𝐅𝐂−𝐒𝐕
d= (annual depreciation charge)
𝒏
also;
Dm = d x m ( total depreciation after m years)

Book value after “m” years

• BVm = FC-Dm
Sinking Fund Depreciation
→ an imaginary fund d called a sinking fund
is invested yearly at a rate of i amount
to (FC-SV) at the end of economic life of
the property
𝐅𝐂−𝐒𝐕 𝒊
d= 𝒏 (annual depreciation charge)
𝟏+𝒊 −𝟏
also;
𝒅[ 𝟏+𝒊 𝒎 −𝟏]
Dm = (total depreciation after m years)
𝒊

Book value after “m” years

• BVm = FC-Dm
Declining Balance
(Diminishing Balance or Constant
Percentage Method)
→ based on the compound interest formula F=P(1+i)n
where: P = FC,i is the depreciation rate & is equal to –K
thus;
BVm = FC(1-K)m
Also; SV = FC(1-K)n
𝑛 SV
Matheson Formula or Constant percentage, K = 1 -
FC
Dm = FC(1-K)m-1K

Note: This method is not applicable if the salvage

value or scrap value is zero.
Double Declining Balance

Formulas in Declining Balance Method

becomes formula in Double Declining
2
Balance Method if 𝑘 is replaced by .
𝑛
Sum of the Years Digit (SYD)
→ depreciation charge is assumed to vary
directly to the number of years &
inversely to the sum of the year’s digit
𝒏
Sum of Year’s Digit, SUM = (1+n)
𝟐
Depreciation charges after m years;
𝒎 𝟐𝒏−𝒎+𝟏
Dm =(FC-SV)
𝟐 𝒙 𝐒𝐔𝐌
Book value after “m” years

• BVm = FC-Dm
Sum of the Years Digit (SYD)

OR
Respective depreciation charges:
𝑛
a.First Year; 𝑑1 = 𝐹𝐶 − 𝑆𝑉
Σ𝑦𝑒𝑎𝑟𝑠
𝑛−1
b.Second Year; 𝑑2 = 𝐹𝐶 − 𝑆𝑉
Σ𝑦𝑒𝑎𝑟𝑠
𝑛−2
c.Third year; 𝑑3 = 𝐹𝐶 − 𝑆𝑉 ; and
Σ𝑦𝑒𝑎𝑟𝑠
so on….
Service Output Method

𝐹𝐶 − 𝑆𝑉 𝑄𝑛
𝑑𝑛 =
𝑇

where:
𝑄𝑛 = total no.of units of output during
nth year
𝑇 = total no. of units of output up to
useful life
Working Hours Method
𝐹𝐶 − 𝑆𝑉 𝐻𝑛
𝑑𝑛 =
𝐻

where:
𝐻𝑛 = total no.of hours of during nth year
𝑇 = total no. of hours up to useful life
PROBLEM

• What is the value of an asset after 8 years of use

if it depreciates from its original value of
120,000 to its salvage value of 3% in 12 years?
Use Straight Line Depreciation method.

ANS: 42, 400

PROBLEM
• An equipment costing 250,000 has an estimated life
of 15 years with a book value of 30,000 at the end
of the period. Compute the book value after 10
years using sinking fund method. Using 8% interest.

ANS: 132, 622. 63

PROBLEM
• A large profitable corporation has purchased a
luxury plane for use by its executives. The cost of
the plane is 5M with an economic life of 5 years.
The estimated resale value at the end of 5 years is
1M. Compute the book value at the 3rd year using
Sum of the Years Depreciation Method.

• ANS: 1.8M
PROBLEM

• Given the following data for construction

equipment: Initial cost = P 1, 200,000.00
Economic life = 12 years Estimated Salvage
Value= P 320,000 Determine the book value
after seven years using;
a. Sum of the year’s digit method
b. Double-declining balance method
c. Sinking fund method using 6% interest