ShmoopTube

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Finance a la shmoop what is double-declining balance sheet

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depreciation kind of sounds like that strange-looking British double-decker [Buses in London]

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bus right but it's not instead it's a structure or formula under which [Definition of a double declining balance sheet]

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companies assess the depreciating value of an asset that you know loses value

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it's basically the way they lose or track the loss of value in it that's [Guy talking on a London street]

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different from normal depreciation like a tractor smelting Factory or the break [A bucket of molten metal being poured]

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room vending machine which used to deposit KitKat bars but has been hanging [KitKat bar gets stuck in the machine]

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on to that one bar since 1992 we got to depreciate those well if Shmaterpiller

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has a smelting Factory they paid a hundred million bucks to build which [100 million bucks price tag appears]

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will be sold for salvage value or scrap for ten million bucks in 20 years then

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the decline in total value over that time will be ninety million bucks yep [Decline in value calculation]

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over twenty years or four and a half million dollars each year if the company

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used straight-line depreciation to account for the loss in value of that [Straight line on a value/time graph]

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smelting Factory but under double declining balance depreciation systems

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the deduction rate is essentially double the straight-line amounts it's still the

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same total amount of deduction it's not like the value of the tractor factory

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changed either at purchase time or scrap time but the speed and timing of the [Timeline of depreciation]

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depreciation changed to favor high depreciation in the early years giving

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the company lower profits but also lower taxes [The first 5 years on the timeline are highlighted]

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well the accounting rationale follows suit the utility or value of the asset

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is in fact not declining in true market value in a steady state straight-line [Stop sign appears over the value graph]

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over twenty years try to convince a buyer that your car

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has depreciated only five percent in value a year after you bought it new [Car for sale on eBay]

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yeah not happening depreciate way more than that so in double declining balance

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depreciation instead of deducting four-and-a-half million bucks a year the

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company would deduct nine million a year each year with some adjustments along

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the way and yes we're way over generalizing on that statement until [Overgeneralizing flashing red]

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that smelting Factory was fully deducted away to whatever terminal salvage value

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or scrap value they predicted it would then sell [Factory value declining]

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for that is if a normal depreciation was taking four-and-a-half million bucks a

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year for 20 years or four-and-a-half percent of the total initial cost then [Straight line depreciation per year]

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double declining balance depreciation would take double that number or nine

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percent of the hundred million dollars in year one

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so they deduct nine million right upfront and your one right goes from 100

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to ninety one on the sheets and in reality that's probably a lot closer to [Price tag decreasing]

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what the actual loss and market value of the smelting machine and would look like

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all right well then in year two double declining balance depreciation would

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again take double the flat rate of that four inhabitant they double it to nine

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percent of the remaining book value of the smelter or nine percent of the

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remaining 91 million that it's worth or about 8.2 million in incremental [Double declining balance depreciation per year]

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depreciation for that year leaving the value ninety one - 8.2 or eighty two

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point eight million dollars in year three the value of the shelter would

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drop another nine percent to about seventy five point four million say we

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did all the math therefore there no extra charge and in year four down nine [Post it note showing the calculation]

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percent again to around sixty eight point six million dollars so up to this

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point the set of deductions would look like this there we go all that stuff you [Amount depreciated in the first 4 years is shown]

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notice that as we've gone along here we've taken the beginning of the year

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book value of the smelter as the starting point against which to take our

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nine percent deduction if we take nine percent always well we'll never get to

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zero or rather to the scrap value target there of ten million bucks right nine [The value in the 20th year is shown]

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percent and keep just being a tiny tiny amount on those out years so in practice

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at some point when companies have depreciated the crap out of their

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capital assets well then they switch to straight-line depreciation in this case

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after say year five our smelter would be valued at sixty two point four million

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dollars ish with fifty two point four million left to depreciate to hit that

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ten million dollar scrap value for about three point five million a year for the [Calculation of loss per year is shown]

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remaining fifteen years until finally yes Bessie is a put out to pasture the [The factory is thrown into the trash]

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gist of double declining balance sheets appreciation is to let companies pay

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less in taxes early in their history having more cash to

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build their businesses and grow faster at the price of showing lower accounting

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earnings and that's just okay with Wall Street so yeah here's to hoping they [Someone doing an okay sign next the Wall St. sign]

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deploy that cash into after know something a little more fun [Money going down a water slide]

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