Question

we discussed that in general most corporations use the straight line method of depreciation for GAAP purposes and often an accelerated method for tax purposes with the obvious objective of reducing taxes due today at fundamentally over the long haul taxes that will be due some undetermined time in the future.   On the surface that looks like a good strategy for managing cash and optimizing by holding cash now even if it creates a cash drain in the future when the tax liability comes due.

But here is the question for you to think about and put your investor hat on. Investors like predicable and stable results, especially cash flows.

The one conceptual benefit that economists would say justifies the kind of crazy notion of accelerated depreciation is total cost of ownership.

Said another way, when you buy a new asset, call it a machine, you would expect the cost of maintenance to be low and the machine to be most up to date and have its maximum utility to you technology wise.   As the asset ages, the cost of maintaining the asset in theory should go up and at the same time the utility down as it ages technologically VS new options.    This thesis would argue that accelerated depreciation makes a lot of sense even though on the surface perhaps not.   Why, well if you look at cost of ownership and utility, it's maintenance is low when an asset is new and utility is highest.   Given that why not offset that by using an accelerated depreciation method and front loading the depreciation, while you have low maintenance and high utility. Then as the asset ages, while your depreciation expense goes down, your maintenance costs go up and the asset is less valuable as it has less utility.  

This would argue therefore that while it seems odd on the surface, an accelerated depreciation method, gives the most true cost of ownership and utility VS straight line which does not take any of this concept into account.

Given this thought process, as an investor, if you wanted to look at the real cost of ownership and value of an asset, would you not want your company to use an accelerated depreciation method so as to give you the most true and stable real cost of asset ownership.

The question to you all is does this thesis on assets make sense and if so does it make you want to argue for accelerated depreciation with all of it's complexity, or just stick with the simplicity of straight line albeit it's lack of true economic essence.

Tough question to answer, there is no right answer, but what do you think.

Answer 1

As a basic comparison to be drawn between the accelerated depreciation method and the straight line method is that the accelerated depreciation method works by adding a higher value to depreciaiton when it is new and the value of depreciation reduces consequently as time passess and the asset ages, this is justified under the logic that when an asset is new its usage is typically high and as asset ages its performance decelerates. On the other hand, the straight line asset depreciation method according to the generally accepted accounting principles the value of depreciation remains the same through out the life of the asset and in addition it is easy to compute and simple for tax calculations. As an investor, I suggest to go for the Accelerated depreciation method eventhough it is complex to calculate, in this digital era those calculations will just be a piece of cake and thereby the logic behind accelerated depreciation method is justifiable becasue anything new is used to obtain the maximum utiliy out of it and will also have a higher depreciable value due to its high usage, as the asset ages or time passes the performance of the asset degrades and thus it is cost effective strategically to reduce its cost of maintenance and use it according to its level of functioning, whereas the straight line depreciation method charges the same value of depreciation from the date of purchase till the end of its lifetime which is meaningless becasue the asset's performance on the date of purchase is not the same as it will be when it ages or after years. As mentioned in the question it is very much true that via the accelerated depreciation method we could ascertain the true economic value of the asset and predict its performance level over years and determine how much we have to spend as maintenance for it over the years.