In: Finance
A. Depreciation for all three methods is presented below:
i) Staight line method
Year | Depreciable base | Dep factor | Dep exp |
1 | $45,00,000 | 11.11% | $5,00,000 |
2 | $45,00,000 | 11.11% | $5,00,000 |
3 | $45,00,000 | 11.11% | $5,00,000 |
4 | $45,00,000 | 11.11% | $5,00,000 |
5 | $45,00,000 | 11.11% | $5,00,000 |
6 | $45,00,000 | 11.11% | $5,00,000 |
ii) Double declining balance method
Depreciation rate = straight line dep rate * 2
= 11.11%*2 = 22.22%
Year | Book value | Depreciation | Ending book value |
1 | $48,00,000.0 | $10,66,666.7 | $37,33,333.3 |
2 | $37,33,333.3 | $8,29,629.6 | $29,03,703.7 |
3 | $29,03,703.7 | $6,45,267.5 | $22,58,436.2 |
4 | $22,58,436.2 | $5,01,874.7 | $17,56,561.5 |
5 | $17,56,561.5 | $3,90,347.0 | $13,66,214.5 |
6 | $13,66,214.5 | $3,03,603.2 | $10,62,611.3 |
iii) Sum of year digits method
Sum of year digits = 9(9+1) / 2 = 45
Depreciation = depreciable base * remaining useful life / sum of year digit
Year | Depreciable base | Dep factor | Dep exp |
1 | $45,00,000 | 0.20 | $9,00,000 |
2 | $45,00,000 | 0.18 | $8,00,000 |
3 | $45,00,000 | 0.16 | $7,00,000 |
4 | $45,00,000 | 0.13 | $6,00,000 |
5 | $45,00,000 | 0.11 | $5,00,000 |
6 | $45,00,000 | 0.09 | $4,00,000 |
B) Income taxes
As a result of depreciation, the income taxes to be paid would be reduced to the extent of depreciation.
i) Straight line method
Year | Depreication | Reduction in taxes |
1 | $5,00,000 | $2,25,000 |
2 | $5,00,000 | $2,25,000 |
3 | $5,00,000 | $2,25,000 |
4 | $5,00,000 | $2,25,000 |
5 | $5,00,000 | $2,25,000 |
6 | $5,00,000 | $2,25,000 |
ii) Double declining method
Year | Depreication | Reduction in taxes |
1 | $10,66,666.7 | $4,80,000.0 |
2 | $8,29,629.6 | $3,73,333.3 |
3 | $6,45,267.5 | $2,90,370.4 |
4 | $5,01,874.7 | $2,25,843.6 |
5 | $3,90,347.0 | $1,75,656.1 |
6 | $3,03,603.2 | $1,36,621.4 |
iii) Sum of year digits
Year | Depreication | Reduction in taxes |
1 | $9,00,000 | $4,05,000 |
2 | $8,00,000 | $3,60,000 |
3 | $7,00,000 | $3,15,000 |
4 | $6,00,000 | $2,70,000 |
5 | $5,00,000 | $2,25,000 |
6 | $4,00,000 | $1,80,000 |
C) The net income would reduce as a result of depreciation. The net income under the three methods is:
i) Straight line method
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 |
EBT | $17,00,000 | $20,00,000 | $22,00,000 | $30,00,000 | $34,00,000 | $35,00,000 |
Income tax | $7,65,000 | $9,00,000 | $9,90,000 | $13,50,000 | $15,30,000 | $15,75,000 |
Net income after tax | $9,35,000 | $11,00,000 | $12,10,000 | $16,50,000 | $18,70,000 | $19,25,000 |
ii) Double declining method
1 | 2 | 3 | 4 | 5 | 6 | |
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $10,66,667 | $8,29,630 | $6,45,267 | $5,01,875 | $3,90,347 | $3,03,603 |
EBT | $11,33,333 | $16,70,370 | $20,54,733 | $29,98,125 | $35,09,653 | $36,96,397 |
Income tax | $5,10,000 | $7,51,667 | $9,24,630 | $13,49,156 | $15,79,344 | $16,63,379 |
Net income after tax | $6,23,333 | $9,18,704 | $11,30,103 | $16,48,969 | $19,30,309 | $20,33,018 |
iii) Sum of year digits
1 | 2 | 3 | 4 | 5 | 6 | |
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $9,00,000 | $8,00,000 | $7,00,000 | $6,00,000 | $5,00,000 | $4,00,000 |
EBT | $13,00,000 | $17,00,000 | $20,00,000 | $29,00,000 | $34,00,000 | $36,00,000 |
Income tax | $5,85,000 | $7,65,000 | $9,00,000 | $13,05,000 | $15,30,000 | $16,20,000 |
Net income after tax | $7,15,000 | $9,35,000 | $11,00,000 | $15,95,000 | $18,70,000 | $19,80,000 |
D) Cash flow will increase as a result of depreciation
1 | 2 | 3 | 4 | 5 | 6 | |
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 | $5,00,000 |
EBT | $17,00,000 | $20,00,000 | $22,00,000 | $30,00,000 | $34,00,000 | $35,00,000 |
Income tax | $7,65,000 | $9,00,000 | $9,90,000 | $13,50,000 | $15,30,000 | $15,75,000 |
Net income after tax | $9,35,000 | $11,00,000 | $12,10,000 | $16,50,000 | $18,70,000 | $19,25,000 |
Net cash flow | $14,35,000 | $16,00,000 | $17,10,000 | $21,50,000 | $23,70,000 | $24,25,000 |
ii) Double declining method
1 | 2 | 3 | 4 | 5 | 6 | |
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $10,66,667 | $8,29,630 | $6,45,267 | $5,01,875 | $3,90,347 | $3,03,603 |
EBT | $11,33,333 | $16,70,370 | $20,54,733 | $29,98,125 | $35,09,653 | $36,96,397 |
Income tax | $5,10,000 | $7,51,667 | $9,24,630 | $13,49,156 | $15,79,344 | $16,63,379 |
Net income after tax | $6,23,333 | $9,18,704 | $11,30,103 | $16,48,969 | $19,30,309 | $20,33,018 |
Net cash flow | $16,90,000 | $17,48,333 | $17,75,370 | $21,50,844 | $23,20,656 | $23,36,621 |
iii) Sum of year digits
1 | 2 | 3 | 4 | 5 | 6 | |
EBIT | $22,00,000 | $25,00,000 | $27,00,000 | $35,00,000 | $39,00,000 | $40,00,000 |
Depreciation | $9,00,000 | $8,00,000 | $7,00,000 | $6,00,000 | $5,00,000 | $4,00,000 |
EBT | $13,00,000 | $17,00,000 | $20,00,000 | $29,00,000 | $34,00,000 | $36,00,000 |
Income tax | $5,85,000 | $7,65,000 | $9,00,000 | $13,05,000 | $15,30,000 | $16,20,000 |
Net income after tax | $7,15,000 | $9,35,000 | $11,00,000 | $15,95,000 | $18,70,000 | $19,80,000 |
Net cash flow | $16,15,000 | $17,35,000 | $18,00,000 | $21,95,000 | $23,70,000 | $23,80,000 |