Lecture 13

Hello and welcome once again to the course Principles of Construction Management under the MOOCs initiative of the Government of India. Today we are on lecture 13 in this series and our focus will be on the basic question of construction equipment i.e. Question of Construction Equipment. Naturally the discussion will be on depreciation. And construction equipment is just an example. Depreciation can happen on any asset and we will talk about construction equipment. The modules of the course in which we are discussing are given here and this is our discussion under this module Construction Economics. The first question that comes to our mind is that why do we discuss depreciation under construction economics? So let us think about it a little. First of all, it should be understood that in modern projects, Mechanization and use of heavy construction equipment has become an important part in India. If you go to any big project site, you will see a lot of machines, whether it is an excavator, a crane, a bulldozer, or tunneling equipment to bring ready mix concrete. Be it mixer trucks etc., impact on productivity and total cost play an important role in the selection of equipment and equipment are assets of the manufacturing company. Their book value changes with time. If we want to understand this, then keep in mind that we are in any company. Assets are taken into account in cash books which are financial statements. Now assets can be of many types. Assets can be cash which will be in the company's account, it can be buildings, it can be land and it can be equipment. All these are those things which have a value, by selling which one can earn something, what is their current value, what was the value earlier, what will be the value in future, there are different ways of calculating them and they are discussed more in accounting. We should know a very simple principle to understand depreciation, so when we buy any equipment or a company buys equipment, what happens is that at that time t e 0, if we consider then there will be cash, let's say 10 lakhs and equipment. If it is his first equipment then it will be visible there as zero but if the equipment is purchased for Rs 5 lakh then what will be seen in his financial statement it will be seen that only Rs 5 lakh is left in cash but if equipment is added Rs 5 lakh then in a way this total asset will be Rs 10 lakh. Its form changed, its composition changed, which was only cash, now it has changed into cash and equipment. The question arises that when the equipment is bought for Rs 5 lakh, will it be worth Rs 5 lakh continuously during the service life of the equipment or even after that? We use the concept of depreciation to discuss whether the value will remain the same or will change. It is a sure thing that whatever equipment or anything we buy, the initial value will change over time. Its value keeps decreasing, we buy a new car, we buy a new equipment, we use it for several years, then if we go to sell it, its value decreases. By how much does it decrease, at what rate does it decrease? All this happens every time. It may be different for whether this value becomes zero, it is possible that it will have no value left, we will have to sell it only as a scrap or we will have to remove our asset from our account books, then understand this clearly. It should be understood that when we talk about depreciation, we will talk about book value, that is, we will not talk about the useful life of that equipment or its utility, we will talk about book value, what is the book value of that equipment, maybe the entire service. Even after life, we can use that equipment but its book value will be zero. What is the implication of all these things? How we use it is a different thing, we will discuss that separately. Our focus today is depreciation. Let us move ahead and see a table of common equipment used during construction. Crane for hoisting and loading, clam shell, drag line, back hoe, pile driver, shell, etc. All the equipment are given. I am giving you a I want to give homework. Make a list of the equipment or tools used in big construction work. Who is the manufacturer of the equipment given in that list? How many people in the world make that type of crane or that type of bulldozer? Look at this and what is their cost, whether it is of Rs 10 lakh or Rs 10 crore, that will give you an idea of ​​what kind of capital investment we are talking about, what kind of money we are talking about. We are talking about some lakhs, some are talking about crores, some are talking about 10 crores and so on. Let's go ahead and when it comes to investment in equipment, when the company decides that we need to invest in a big investment. Crane is required, we will buy it, what are the considerations at that time, construction equipments are very expensive and when it comes to purchasing those equipments, capital investment is demanded by the companies i.e. capital investment is done on construction equipments in large numbers. They are not sold like mobile phones, they are sold in thousands, cranes, bulldozers, ready mix concrete trucks or ready mix concrete plants, they are not sold like that, they are not sold like that, it often happens that After the company places the order, their manufacturing starts or their assembly starts, then it takes time for their service life i.e. during the lifetime, they are used at many sites. The company also sees that if we buy one crane today. If we buy it in this project in which we will use it immediately, then that project may be completed in one year, two years, three years, but will we make such a big investment for this project or will we get that crane or other equipment? Will help in the construction works also, if it will help then we will have to see what percentage of that cost we would like to recover from this project and what percentage we would like to recover from the rest of the projects to calculate all these things or to make an estimate. For this, we can use the concept of depreciation. When it comes to the cost of equipment, we can look at it in two ways, one is how much is the equipment worth when it arrives at the site or how much is it worth in the factory. So what is the difference between the equipment which is in the factory, transportation i.e. it will have to be transported, there will be insurance etc. So by adding these expenses, the cost of the equipment coming to the site and the cost of that equipment in the factory may be different, so it is a small difference. There is a detail, there is a detail which we should keep in mind. Now what is depreciation? The decrease in the value of any asset due to wear and tear and non-use during its service life is called its original loss or depreciation. These values ​​are shown in a picture. Don't worry about these numbers. Do n't worry about the years given here. Just observe that the initial value gradually decreases. It is possible that if we If we use the equipment more then its depreciation or its value decreases rapidly. If we use it properly and maintain it well then it can be useful to us in future. Being useful is a matter of utility but Whether there will be depreciation or not is an accounting matter. We are currently discussing it in this lecture from the accounting perspective. Also see some other definitions. Service life is the period of use of the equipment in operation, in other words from the time of purchase to We call the period between the time of sale and the service life of the equipment. This is a financial definition and not a practical definition. I am constantly reminding you that if we use a practical definition i.e. operational definition then it is till We are using that equipment in the financial or accounting definition, whereas we take depreciation and take it to scrap value. There is a difference between the two, beyond that we will discuss it later through the example of initial cost. We will discuss this a little later. As we have already discussed, it is the capital investment required to own the equipment which includes purchase cost, sales tax, transportation cost involved in bringing the equipment to the company's storage yard, cost of installation and installation. What is Salvage Value? This is the estimated value that we will get at the end of the sale of that equipment or equipment. This usually does not include the cost of dismantling and removal. So if we have a site where we have this equipment that we want to sell for scrap. Now this equipment is sold on as-is-as-is basis, that is, the buyer is told that he can take the equipment as it is, cut it into parts, beat it up, and pay the cost of transportation from there. The price you set should include Maintenance Cost. This is the cost incurred in carrying out repairs and maintenance which includes the cost of replacement of parts, labor charges and all other costs incurred during storage. Keep in mind that the asset should be decommissioned after its service life. Maintenance costs may vary over time and generally increase as the vehicle gets older. Consumables, repairs, breakdown costs are all considered part of the maintenance cost if If a company has to buy or replace expensive equipment in a given year, then it cannot be advisable to buy it from the profits of the same year. It is necessary that there should be a pool in which every year the company puts a sum of money and that The pool must contain enough money at the end of an equipment's service life to be able to replace or replace that equipment, provided that the equipment is not actually retired at the end of its service life or we may still use it after that. If you use it then its continued use will be considered a bonus. In the above concept the idea of ​​inflation or change in cost of equipment over time can also be taken into account with appropriate modifications. So if an equipment is worth Rs 5 lakh today and Rs 4 lakh How much will it be worth after a year? So one idea is that we should assume only Rs 5 lakh and start collecting that Rs 5 lakh in the pool that is there in 5 years. The second idea is that we should assume that it will be worth Rs 5 lakh. If the equipment will be worth Rs 6 lakh after 5 years or if it will be worth Rs 7 lakh, then we try to collect not Rs 5 lakh but Rs 6 lakh or Rs lakh in that pool. Then we can use these things by understanding the concept of depreciation properly, then depreciation. Again it is the same thing that the decrease in the value of an asset due to wear and tear and non-use during its service life is called depreciation and it is shown in this picture. Now we will see how to calculate this depreciation. Which models are mostly used? Among those models, there is Straight Line Method in which we take linear depreciation, Sum of Fears Method, Sinking Fund Method and Declining Balance Method. So today our discussion will be on these four methods. So let us first try to understand linear depreciation. In straight line method or linear depreciation, the cost of fixed capital is kept equal over the life of the equipment i.e. p - s / n. This is a formula in which i.e. Annual Basic RAS Annual Depreciation will be calculated. Seeing this, P is our initial cost, S is our salvage value and N is our number of years. Now if we start from here, we have P is our initial cost, S is our salvage value and A is our number. If it is of years then it is a straight line depreciation i.e. its value is decreasing with time in a straight line. We can see how much value is decreasing every year from p - s / n and because it is a straight line then hence This stop will be equal every year, that is, the depreciation or original profit will also be considered equal every year. When it is considered equal, then how much will our book value be reduced from that p? One depreciation in the first year, second depreciation in the second year, three depreciations in the third year. Thus, after n years its book value will be s. We call this Linear Depreciation or Straight Line Method. The second method we take is Sum of Years Method in which the original profit is higher in the first few years as compared to the later stages. Sum of What is meant by Yers method is that we say that if 4 years is its A i.e. the service life is f years then we add one, two, three and four, this is the service life of four years, we add it, the sum is 10, first of this 10. Depreciation is taken at the rate of 4 per 10 in the first year, 3/10 in the second year, 2 per 10 in the third year and finally 1/10 i.e. at 40, at 30 at 20 and at 10. This is the Sum of Years Method. Now if we see in the same example, we take linear depreciation, then our depreciation is 1/4 i.e. at 25 every year, so in the 1st year, here it is 40, 30, 20 and 10. In comparison, the linear depreciation is continuously 25, so here which is It has been said that the depreciation in the initial years is more as compared to the later years, here it is 40 and 30 while it is 25 and in the later years it is 20 and 10. It is true that the total depreciation is It is a constant. After all, the item purchased at P will go to A. So P minus A. This is a constant. The time taken to go from P to S is fixed. In this case, we have taken four years. The rate at which it will go is changing every time in linear depreciation. In Sum of Years Depreciation at year 25, 40, 30, 20 and 10, if we look at this in the formula, it is given here that dt-2425 In this idea, a sum of money is deposited in a sinking fund during the useful service life of the asset. And this amount earns interest. At the end of the useful service period, such an amount is accumulated that the asset can be rebuilt or purchased, i.e. the asset can be replaced. So the simple thing is this. That during the service life, we put such an amount in a pool called A in the sum fund method every year so that at the end of the service life, so much money is accumulated in this pool that we can replace that asset, now it is a natural thing. What we put in it will earn interest. We have to accept the rate of interest. So let's go ahead and look at it in the form of a formula. The basic meaning of depreciation in the year TT is P minus A. That is, the difference between the initial cost and the salvage value and this formula, if you remember, is the same formula which we saw in this model that we calculate an amount A times A in years and if the rate of interest is Rs. F So the end result of doing this is F i.e. how much amount will be deposited. This factor which is obtained from this part is the interest which is earned on our every installment A every year. It is natural that if we do this A many If you keep depositing repeatedly or for many years, then this part will earn interest for so many years, this part will earn interest for so many years, this part will earn interest for so many years and the last part will earn interest only for one year, so let's move ahead and Let us see that to find out the book value, we subtract this basic juice figure from the value of its previous year which is its book value of last year, then we get the book value of this year, so this is the sinking fund method. Increase in Declining Balance Method: In this method, the original profit of a given year is obtained by multiplying the book value of that or previous year of the asset by a certain rate. If we look at the formula, then double declining method. It is shown here that double means that here we have taken two or there is no need to take two. If we want to decline with any other factor then we can do that also. The thing to be noted in this is that it should be 2 or 2. Be it / A, we calculate the basic profit of that year by multiplying it with the book value of the previous year. You will see that this method makes the basic profit very fast in the beginning i.e. depreciation happens very fast in the initial years and also in the year T. The book value of BVT can be obtained by deducting the basic profit of that year from the book value of the previous year. What are these four methods, we have discussed this today in the next class, we will discuss by taking an example that we can apply these four methods in How to implement the four methods and by which method, how much more or less is the Mool Ras when calculated or found? The useful books given here will help you not only in today's lecture but also in all the topics covered in this module. It will prove helpful in understanding the topics. Namaskar Jai Hind, we will meet you again in the next lecture.