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ENGINEERING ECONOMICS
 OVERVIEW
ENGINEERING ECONOMICS

• DEFINITION OF

D E P R E C I AT I O N

• T Y P E S O F D E P R E C I AT I O N

• METHODS USED IN FINDING

D E P R E C I AT I O N C O S T

• SAMPLE PROBLEM
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 • the decrease in the value of
property, such as machinery,
equipment, building, or other
structure, due to the passage
ENGINEERING ECONOMICS

of time
EXC L U D ED :

• properties whose values

increase with time such as
antiques, paintings of the
masters, rare stamps and
coins, jewelry, land

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 Depreciation must always 1.
be included in the cost of
production of any product • The replacement of the
services to provide: equipment either at the end of its
ENGINEERING ECONOMICS

physical or economic life or at the

time when its operation no longer
results in a satisfactory profit.
2.
• The maintenance of capital to
replace the decrease in the value
of equipment caused by physical
or functional causes.
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 PHYSICAL AND ECONOMIC LIFE
OF AN EQUIPMENT
• Physical life of equipment – • Economic life of the
the length of time during equipment is the length of
which it is capable of time during which it will
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performing the function for operate at a satisfactory

which it was designed. profit.

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 TYPES OF DEPRECIATION
1 . P H YS I C A L D E P R E C I AT I O N C AU S E D BY T H E
F O L LOW I N G :

a.) deterioration due to the effects of various

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chemical & mechanical factors on the materials

composing the property. (rusting of metal parts,
wood decay, etc.)
b.) wear and tear due to abrasion, friction
between moving parts of equipment, impact,
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vibration or fatigue of the materials in the property
 TYPES OF DEPRECIATION
2 . F U N C T I O N A L D E P R E C I AT I O N W H I C H I S D U E TO A
DECREASE IN THE DEMAND FOR THE FUNCTION OF THE
E Q U I P M E N T F O R W H I C H I T WA S D E S I G N E D. S U C H
D E P R E C I AT I O N I S C A U S E D B Y T H E F F :
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• a) Inadequacy of the equipment

• b) Obsolescence caused by the invention of more efficient equipment
& machines to perform the same task
• c) changes in methods of production
• d) changes in styles & designs of the goods produced

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 TYPES OF DEPRECIATION
• 3. Changes in the price levels of similar properties. If
price levels rise during the life of a property, even if the
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original investment has been recovered through a

proper depreciation procedure, the recovered capital
will be insufficient to provide an identical replacement.
Thus, it is the capital that has depreciated and not the
property.

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 DETERMINATION FIRST COST OF
OF LIFE ANY PROPERTY
•is dependent to a great •includes the original
extent upon the purchase price, freight and
transportation charges to
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experience of the men the site, installation expenses,

managing the enterprise initial taxes and permits to
in the use of similar operate, and all other
equipment expenses needed to put the
equipment into operation
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 METHODS USED IN FINDING
DEPRECIATION COST
1. Straight-Line Formula – considered to be directly proportional to
the age of the property
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- simple and is more widely used

- doesn’t need an annuity table or computing machines for
using it
- acceptable to the Bureau of Internal Revenue (BIR)
- doesn’t take into account the interest or profit earned on the
accumulated depreciation fund.
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 METHODS USED IN FINDING
DEPRECIATION COST
- Operation and maintenance costs are disregarded
Straight-Line Formula
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• d = (Co – Cn )/ n

• Dm = md = (Co – Cn ) m/ n

• Cm = C o - D m

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 METHODS USED IN FINDING
DEPRECIATION COST
• n = useful life of the property
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• m = age of the property at any time less than or equal to n

• d = annual cost of depreciation
• Dm = accrued or total depreciation up to m years
• Co = original or first cost of the property
• Cm = book value of the property @ the end of m years
• Cn = book value of the property at the end of n years (salvage or
scrap value)
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 METHODS USED IN FINDING
DEPRECIATION COST
2. Sinking Fund Formula - assumes that a sinking formula is established
in which funds will accumulate for replacement purposes and will bear
interest.
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• - also, relatively simple

• - gives a uniform annual charge
• - a sinking fund is created in which funds accumulate for replacement
purposes
• - all amounts in the sinking fund earn interest
• - the amount in the fund earn interest
• - generally, the method used for economic purposes

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 METHODS USED IN FINDING
DEPRECIATION COST
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 METHODS USED IN FINDING
DEPRECIATION COST
• n = useful life of the property
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• m = age of the property at any time less than or equal to n

• d = annual cost of depreciation
• Dm = accrued or total depreciation up to m years
• Co = original or first cost of the property
• Cm = book value of the property @ the end of m years
• Cn = book value of the property at the end of n years (salvage or
scrap value)
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 SAMPLE PROBLEM
Problem: A contrac tor impor ted cons truc tion
equipment, paying P1.2M to the manufac turer. Freight
and insurance charges amounted to P20,000; cus toms,
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and broker’s fees, P10,000; t a xes, permits, and other

expenses, P30,000.
If the contrac tor es timates the life of the equipment
to be 10 years with a salvage value of p25,000,
determine the book value at the end of 6 years, using
A) s traight -line formula
B) sinking fund @ 8%
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 SOLUTION USING
STRAIGHT-LINE FORMULA :
GIVEN:
CN = ₱25,000; N= 10 YEARS; M = 6 YEARS
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CO = 1,200,000+20,000+10,000+30,000
= ₱1,260,000

REQUIRED: BOOK VALUE, C6 AT THE END OF 6

YRS.
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 SOLUTION:
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D = (C O – C N )/ N
= (1,260,000 – 25,000)/10
D = 123,500

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 D M = D 6 =MD = M[(C O – C N )/ N]
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D 6 = 6(123,500) = P741,000

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 CM = CO - DM
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= 1,260,000 – 741,000

C 6 = P 519,000.00
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 SO L UTION USI NG SI NKING FUND @ 8%:
• Given:

• Cn = ₱25,000; n= 10 years; m = 6 years; i =.08

J E W E L R Y
F I N E

• Co = 1,200,000+20,000+10,000+30,000
• = ₱1,260,000

• Required: Book Value, C6 at the end of 6 yrs

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 F I N E J E W E L R Y

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= ₱85,251.42
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 •Cm = C6 = Co – D6
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= 1,260,000 – 625,398.357

• C6 = ₱ 634,601.643
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 METHODS USED IN FINDING
DEPRECIATION COST
• 3. The Matheson Formula – the basic assumption for
this method is that the annual cost of depreciation is
a constant percentage of the salvage value at the
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beginning of the year.

• The annual depreciation charges, different each year,
decrease from year to year, greatest during the first
year and least in the last year of life of the property.
• With this formula, however, a property can never
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depreciate to zero value.
 3. THE MATHESON FORMULA
•This method assumes that the annual cost of
depreciation is a fixed percentage of the book
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value at the beginning of the year.

Let :
•k = ratio of the depreciation in any one year to
the book value at the beginning of that year.
This is constant throughout the life of the
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 3. THE MATHESON FORMULA
• The formulas are:
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dm = k Cm-1
Cm = Co (1 – k)m
Cn = Co (1 – k)n

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 4. THE SUM OF THE YEARS–
DIGITS (SYD) METHOD
•It provides very rapid depreciation during the
early years of life of the property and therefore
enables faster recovery of capital.
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•It is easier to use than the Matheson Formula.

•Properties can be depreciated to zero value
•The basic assumption for the method is that the
value of the property decreases at a decreasing
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 THE SUM OF THE YEARS–
DIGITS (SYD) METHOD
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 THE SUM OF THE YEARS–DIGITS
(SYD) METHOD
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 THE SUM OF THE YEARS–
DIGITS (SYD) METHOD
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 THE SUM OF THE YEARS–DIGITS
(SYD) METHOD
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Annual depreciation charge gradually decreases as

the property gets older. Depreciation 1st year = n times
the depreciation charge for the last year.
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 Problem: A contractor imported a construction
equipment, paying P1.2M to the manufacturer.
Freight and insurance charges amounted to
P20,000; customs, and broker’s fee, P10,000; taxes,
permits, and other expenses, P30,000.
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If the contractor estimates the life of the

equipment to be 10 years with a salvage value of
P25,000, determine the book value at the end of 6
years, using
a) SYD Method
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 GIVEN:

•Cn = ₱25,000; n= 10 years; m = 6 years

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•Co = 1,200,000+20,000+10,000+30,000
• = ₱1,260,000
• Required: Book Value, C6 at the end of 6 yrs

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 SOLUTION USING SYD:
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 GIVEN:

•Cn = ₱25,000; n= 10 years; m = 6 years

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•Co = 1,200,000+20,000+10,000+30,000
• = ₱1,260,000
• Required: Book Value, C6 at the end of 6 yrs

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 SOLUTION USING MATHESON
FORMULA:
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0.3243

C6 = Co(1 – k)6 = 1,260,000 (1 – 0.3243)6

= 119,925.69
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