W5_OAN_Comparison of Depreciation Methods

  1. Problem Definition

As NOC, storage tank is our main asset. We plan to build a 10.000 Kl storage tank, it will cost $ 1.300.000. The asset will be used for 20 years, and the SV at the end of useful life is $ 65.000.

In this week blog posting, Author wants to know the best depreciation method for the company, in order to reduce our income tax.

  1. Development of Feasible Alternatives

Alternatives for depreciation method are:

  1. Option 1 : Straight Line (SL) method
  2. Option 2 : Declining-Balance (DB) method
  3. Option 3 : DB with Switchover to SL Depreciation
  4. Option 4 : Sum of the Year Digits (SYD) method
  5. Option 5 : Modified Accelerated Cost Recovery System (MACRS)

3. Possible Solution

Option 1: SL Method

In this method, we assumes a constant amount is depreciated each year over the useful life of the asset.

Table 1 : SL Method

Option 2: DB Method Using 150% DB Equations

 

DB Method assumes the annual cost of depreciation is fix percentage of the BV at the beginning of the year.

Table 2: DB Method

Option 3: DB with Switchover to SL Depreciation

DB with Switch over to SL Depreciation assumes that the DB Method never reaches a BV of zero; it is permissible to switch from DB to the SL method so that an asset’s BV will be zero (or some other determined amount such as its SV at year k).

Table 3: DB with Switchover to SL

Option 4: Sum of the Year Digits (SYD) method

SYD methods assume that assets are generally more productive when they are new and their productivity decreases as they become old.

Table 4: SYD Method

Option 5: MACRS Method

MACRS is unique to the United States Tax Code. Depreciation rates are set by percentages allowed under the U.S. Tax Code.

Based on IRS Publication 946 table B-2, Storage Tank class life is 14 years, and GDS 7 years.

Table 5: MACRS Method

  1. Selection Criteria

Our selection criteria will be the depreciation method that have the biggest impact on reduce taxable income for company.

  1. Analysis and Comparison of the Alternatives

Table 6: Comparison of Depreciation Method

Table 6 shows that the MACRS Method results in a larger share of the depreciation being charged during the earlier years of the asset’s life than others depreciation method.

  1. Selection and Preferred Alternatives

Figure 1: Depreciation Comparison

Depreciation expense will reduce company’s taxable earnings. The larger depreciation expense, the lower taxable income. Those will lower company’s tax payment.

As shown in figure 1, MACRS method generate the biggest depreciation in early years. Therefore, this method will generate the lower taxable income for company.

  1. Performance Monitoring and the Post Evaluation of Result

MACRS method is unique to US Tax code. For Indonesian company, we must exclude MACRS method from our analysis, and use the acceptable depreciation method that follow Tax system in Indonesia.

Refrences

  1. Sullivan, William G., Wicks, Elin M. & Koelling, C. Patrick. (2014). Engineering Economy 16th edition Chapter 7 page 332 – 354, England: Pearson Education Limited.
  2. Module 06-5 Acquiring Equipment for the Project.
    Retrieved from http://www.planningplanet.com/guild/gpccar/acquiring-equipment-for-the-project
  3. Publication 946 : How to Depreciate Property (2016)
    Retrieved from https://www.irs.gov/pub/irs-pdf/p946.pdf
  4. W18_RM_Comparison of Depreciation Methods (2016)
    Retrieved from https://goldenaace2015.wordpress.com/2016/05/13/w18_rm_comparison-of-depreciation-methods/
 

W5 – ABM- Assessment of Productivity and Learning Curve for Trestle Barrier Wall Construction at SPJ – 12B

  1. PROBLEM DEFINITION

Construction of Reinforced Concrete Barrier wall has commenced along trestle deck at SPJ – package 12B. Work scope includes erection of steel formwork barrier, installation of cast in items and steel angles, casting of concrete and stripping of forms. Rebar is already installed by separate crews working in advance.

Casting works commenced on the 12th August with an initial target completion date of 1st December  (15 weeks) however Subcontractor has constructed only 30Lm of wall since the 12th August and it appears that the Subcontractor will struggle to achieve his average target production of 90Lm/week however subcontractor is still very much in a learning curve phase and work force levels have not reached planned targets as such, rate of production (units / week) is expected to increase over time as crews become more familiar and numbers increase.

Works scope / details are as follows

We must now determine if the Subcontractor will be able to meet the programme using an analysis of his production to date whilst making  allowances for anticipated increases in productivity obtained through repetition and learning curve phases.

2. FEASIBLE ALTERNATIVES

Using data from the last 2 weeks and with consideration of improvements expected as more units are produced, we will assess the cumulative average time to complete each unit/ wall section and compare against his planned figures.

From there will look at whether the current programme and manning levels are realistic and will result in the barrier being completed in time. From this we develop an action plan based upon the following alternatives;

  1. Do nothing. Barrier can be completed by the specified dates
  2. Increasing manpower in current crews (current planned – 10 men)
  3. Increasing overtime / hours worked each day
  4. Extending the programme/ time for completion.
  5. Adding a separate crew and operating with 2 work fronts

3. DEVELOPMENT OF OUTCOMES

 Do Nothing. Production of crews will achieved necessary production and dates

Using the predicted total man hours per section we can estimate the total manhours to complete all 67 sections. Based on current planning the Subcontractor will take 8,643 hours or 90 working days to complete the works.

Extending Manpower in current crews

Increasing manpower may be considered up to a point, there will come a point that more men will not increase production and may in fact reduce output as resources become more and more inefficient. Subcontractor plans to use a 10 man crew to erect formwork, install cast in items, cast concrete and then strip.

Increasing Overtime / hours worked each day

Similar to manpower increases, crews will lose productivity when hours worked are extended.

Standard working hours on site are already 7am to 6pm Monday to Saturday and 7am to 4pm (58 hours/week).

These working hours are considered standard for Malaysia construction industry and not considered excessive. Labour and fatigue guidelines required under projects head contract stipulates that workers cannot work on average more than 75 hours / week.

Whilst previous estimates of productivity losses due to excessive overtime are based on 40 hours weeks (refer to November, 2001 issue of The Revay Report “Calculating Loss of Productivity Due to Overtime Using Published Charts – Fact or Fiction” by Regula Brunies, FPMI, CCC, CQS and Zey Emir, P.Eng, MBA Revay and Associates Limited ), It is proposed to adjust for local standards but maintain similar productivity loss increments as the quantity of worked hours increase.

  • going from a 58 hour work week to a 70 hour workweek we lose on average 10% productivity;
  • going to a 75 hour workweek we drop 17% to only 83% from the base productivity and
  • Max hours worked will be capped at 75hours/week as per contract.

Extending the programme/ time for completion.

The current target date for completion is the 1st December however prior to this date, 75% of the entire trestle length is to be handed over to Mechanical contractor on the 10th November. i.e 1330Lm x 75% = 998Lm by 10th November.

These works were provided to the Subcontractor as a variation to the main scope and do not include penalties for late completion. Planned target dates are included within the variation order to which the Subcontractor has accepted.

In the event the subcontractor does not complete at least 75% of the planned total by the 10th November, it is likely that the interface issues with the mechanical contractor will arise when conveyor works commence however a detailed assessment of co ordination and interface issues will need to be considered before accepting or discounting this option.

Adding an additional Crew

The inclusion of an additional work crew may be considered where the above 3 options are not determined to be unfeasible however such an option would require the following considerations;

  • Fabrication of new steel formwork system (Minimum 4-6 weeks)
  • Recruitment of new team and skilled foreman (timeline unknown)
  • Learning phase allowances for new crew

4. SELECTION CRITERIA

The option which results in completion of at least 75% of the trestle (or as close to) and there after the earliest completion date for the entire length of the barrier wall. Dates are as follows,

  • 75% completion by the 10th November 2017
  • 100% completion by the 1st December 2017

 5. ANALYSIS OF THE ALTERNATIVES  

The Learning curve analysis will be based on crews achieving an 80% learning curve slope and will assess the following aspects;

  • Manhours it will take to cast the last unit (unit 67)
  • The total manhours required to assemble all 67 units
  • The estimated cumulative average manhours for all 67 units

We will commence Assuming a proportional decrease in barrier construction time for output units between doubled quantities, the total manhours needed to construct the last section of barrier wall is calculated by;

 

 From the above table and graph, the cumulative average man hours for the construction of each wall barrier section is 172.15 hours however the planned weekly average man hours for the barrier is estimated as only 129.9 man hours.

This implies that over the 67 units scheduled for construction, there will be a deficit in man hours of (172.15 – 129.9) x 67 units = 2830.75 man hours, which equates to an additional time of 4.88 weeks ( 30 days) of production based upon an 10 man crew working a total of 580 hours / week.

Another way to assess the delay is to consider the SPI. Refer to following table which considers SPI and determines the total forecast duration to be an additional 31 days.

Based on the above, option 1 of the feasible alternatives i.e Do nothing  cannot be considered and an action plan must be developed to determine the correct solution.

In next blog we will analyse and assess alternatives 2 and 3 to increase production levels and satisfy current TARGET dates.

Final Blog will assess alternative 4 – Extend programme and compare all alternatives with final selection of action

Performance Monitoring

Subcontractor will be monitored for the next 2 weeks to further assess their conformance with assumed  learning curve parameters of 80%.

References

  1. Sullivan, G. W., Wicks, M. E., & Koelling, C. P.(2014). Engineering economy 16th Edition. Chapter 3 – Learning and Improvement., pp.110-112.
  2. Humpreys, G. C. (2011). Project Management Using Earned Value (2nd ed.). Chapter 22 Learning Curves. Humpreys & Associates, Inc.
  3. Chapter 11.5 Managing Project Data Basis  – Guild of project controls compendium and reference (CaR) | Project Controls – planning, scheduling, cost management and forensic analysis (Planning Planet). Retrieved from http://www.planningplanet.com
  4. Chapter 9.5 Project Performance Forecasting – Guild of project controls compendium and reference (CaR) | Project Controls – planning, scheduling, cost management and forensic analysis (Planning Planet).  Retrieved from http://www.planningplanet.com