Name________________________

Date__________________________

What is Depreciation?
Definition
Depreciation is the concept that assets decrease in value over time.
For example, this happens with cars that lose about 10% of its value as soon as you bought it, even if
it has never been driven.

Working out Depreciation

How do you work out the depreciation? There are two main types of depreciation we will look at:
1. Simple depreciation, known in the business world as Straight Line Depreciation
2. Compound depreciation, known in the business world as Reducing Decay Depreciation

Simple (or Straight Line) Depreciation (Easiest)

This approach happens when the value of the asset will end at 0.00 at the end of a certain period and
it reduces in value the same amount each year.
The amount an asset depreciates each year is fixed.
If a piece of machinery is reduced at a straight 20% rate it would look like this

Source: http://www.duncanwil.co.uk/jpg%20files/sldepr.jpg

Formula for simple depreciation:

= ( )
(Where i = interest and n = number of periods)

Compound (or Reducing Balance) Depreciation (More Realistic)

This approach happens when the business reduces the current value of the
asset at the same percentage each year.
The amount an asset depreciates each year changes with time

Formula for compound depreciation:

= ( )
(Where i = interest and n = number of periods)

Source: computersciencesource.wordpress.com

A business depreciates its value using the two methods at 20%

Straight Line Method
Current Value of Asset
Depreciation Value
10,000
2,000
8,000
2,000
6,000
2,000
4,000
2,000
2,000
2,000
0
2,000

Year
0
1
2
3
4
5
6
7
8
9
10

Reducing Balance Method

Current Value of Asset
Depreciation Value
10,000
2,000
8,000
1,600
6,400
1,280
5,120
1,024
4,096
819
3,277
655
2,621
524
2,097
419
1,678
336
1,342
268
1,074
215

12,000

12,000

10,000

10,000

8,000

8,000

6,000

6,000

4,000

4,000

2,000

2,000

0
0

Current Value of Asset

Depreciation Value

Current Value of Asset

Depreciation Value

Notice how the depreciation value (how much the asset depreciates each year) changes differently in
each method and consequently the current value of asset

Depreciation Exercises
Question 1
What would happen if a car cost 15,000 and is depreciated at a rate of 10%?

Year

Simple Depreciation
Current Value of Asset Depreciation Value
15,000

Compound Depreciation
Current Value of Asset Depreciation Value
15,000

1
2
3
4
5
6
7
8
9
10

Question 2
What would happen if a computer cost 1500 and is reduced at a rate of 25%?

Year
0
1
2
3
4
5
6
7
8
9
10

Straight Line Method

Current Value of Asset Depreciation Value
1,500

Reducing Balance Method

Current Value of Asset Depreciation Value
1,500

Question 3
Which depreciation method would you choose for a business that has a van worth 25,000? You must
choose from a straight line 10% method or a reducing balance 30% method?

Year
0

Straight Line Method

Current Value of Asset Depreciation Value
25,000

Reducing Balance Method

Current Value of Asset Depreciation Value
25,000

1
2
3
4
5
6
7
8
9
10

Extension Task
Why might a business reduce the value of its assets?

Which is more realistic, reducing balance method or straight line method? Justify your answer