IB Business Management

Depreciation
Section 3.4

These formulas are not on the IB formula sheet so you need to remember them.

Depreciation

Fall in the value of fixed assets over time.

Calculated using 2 different methods

Both methods spread fall in asset values over a period of time.

Straight Line Method

depreciation each year= Cost of asset/ expected lifetime

e.g car costs $10,000 and is expected to last 5 years.

10000/5= depreciation of $2000 per year.

Value of car after 3 years would be $4,000 ( cost- 3 years of depreciation)

Asset falls by exact same value each year.

Residual value is the value of an asset at the end of its expected life.

e.g after 5 years the car can be sold for $2,000

If residual value is given use the formula cost of asset – residual value / expected lifetime.

Problems 1. Residual value is a prediction so may not be accurate.

2. Assets do not fall in value by the same amount each year e..g cars fall in value
most when they are new.
Reducing balance method

Use % to reduce value of an asset each year.

Value of an asset after depreciation is called its net book value (NBV)

Net book value= value of asset - accumulated depreciation.

e.g car costs $10,000. Expected to fall in value by 25% each year.
Year 0 NBV = $10,000
Year 1 Depreciation is 25% of 10,000 (2,500)
NBV=10,000 -2,500
= 7,500
Year 2 Depreciation is 25% of 7,500 (1,875)
NBV= 7,500 – 1,875
= 5625

Residual value would be value of asset at the end of its expected lifetime.

This method is seen as more realistic but can be hard to predict accurately the % fall in the value of
an asset.