Units of Production Method of Depreciation

In units of production method of depreciation, depreciation is charged according to the actual usage of the asset. In units of production method, higher depreciation is charged when their is higher activity and less is charged when there is low level of operation. Zero depreciation is charged when the asset is idle for the whole period. This method is similar to straight-line method except that life of the asset is estimated in terms of number of operations or number of machine hours etc.

Such a method is useful where a company has many fixed assets with varying usage.

Formula

The following formula is used to calculate depreciation under this method:

Depreciation = Number of Units Produced × (Cost − Salvage Value)
Life in Number of Units

Example:

Example 2: A plant costing $110 million was purchased on April 1, 2010. The salvage value was estimated to be $10 million. The expected production was 150 million units. The plant was used to produce 15 million units till the year ended December 31, 2010. Calculate the depreciation on the plant for the year ended December 31, 2011.

Solution:
Depreciation = (15/150) × ($110 million - $10 million) = $10 million

Example 1: A coal mine was purchased by X Corporation for $16 million. It was estimated that the mine has capacity to produce 200,000 tones of coal. The company extracted 46,000 tones during its first year of operation. Calculated the depreciation.

Solution:
Depreciation = (46,000/200,000) × $16 million - = $3.68 million

Written by Irfanullah Jan