Appraisal is a method of accessing the value of equipment or methods of setting the cost per hour of utilizing a plant. It is actually used in the billing for job.
The methods of appraising cost of construction equipment include:
Straight line method
Interest on capital outlay method
Annual depreciation of the yearly book value approach
1. Straight line method: Straight line basis is a method of calculating depreciation and amortization. It is the simplest way to work out the loss of value of an asset over time. It is calculated by dividing the difference between an assest’s cost and its expected salvage value by the number of years it is expected to be used.
Example
If the initial cost of an equipment is N 50 x 106 (50,000,000). It has an expected life span of 5 years. The expected operational period is 75% of the 48 weeks of a year. The salvage value at the end of usage = N 1 x 106 (1,000,000). Determine the hourly value of the equipment.
Solution
Working periods in the year include:
8 hours per day or 40 hours per week (@ 5 days per week)
48 weeks per year
Total hours worked per year = 48 x 40 = 1920 hours per year
Number of hours worked in 5 years = 1920 x 5 = 9600 hours
If 75% of the hours were worked = (75/100) x 9600 = 0.75 x 9600 =7200 hours
Note: 48 weeks per year is the acceptable number of hours for work in Nigeria. However, these 48 weeks may not be feasible especially in southern part of Nigeria where rain falls much. Again, in road construction projects and other works that is well disturbed by rain, the 48 weeks may still not be feasible. Therefore, ideal times would be anticipated for the equipment. This is the reason for the 75% used against the feasible number of hours worked in a year.
Using the Straight line method,
The cost of equipment per hour = (initial cost – salvage value)/total number of hours worked
= (50,000,000 – 1,000,000)/7200 = 49,000,000/7200 = N 6805.56/hour
2. Interest on Capital Outlay method
Assuming we want to apply interest on capital outlay method on the same scenario and assuming an interest on capital of 20% per annum (per year),
The sum cost of the equipment = P (1 – I)n where Interest, I = 20% = 20/100 = 0.2; number of years, n = 5 years
The sum cost of equipment at the end of the five years = 50 x 106 (1 – 0.2)5 = N 16,384,000
The salvage value at the end of five years = N 16,384,000
The cost of equipment per hour = (Initial cost – salvage value + 6% of initial cost of equipment as insurance)/total number of hours worked = (50,000 000 – 16,384,000 + 3,000,000)/7200 = 36,616,000/7200 = N 5085.56
3. Annual depreciation of the yearly book value approach: This method is used by some companies to determine the book value of their plant or equipment. It means that on daily basis, the plant is depreciated.
If the initial cost of equipment = 50 x 106 and estimated lifespan = 5 years. If annual rate of depreciation is 25%, determine the annual book value of the equipment and the salvage value.
1st year
Initial cost = N 50 x 106
Less 25% of value due to depreciation = (25 x 50,000,000)/100 = N 12,500,000
Book value at the end of 1st year = N 37,500,000
2nd year
Value of plant at the beginning of second year = N 37,500,000
Less 25% of value due to depreciation = (25 x 37,500,000)/100 = N 9,375,000
Book value at the end of 2nd year = N 28,125,000
3rd year
Value of plant at the beginning of 3rd year = N 28,125,000
Less 25% of value due to depreciation = (25 x 28,125,000)/100 = N 7,031,250
Book value at the end of 3rd year = N 21,093,750
4th year
Value of plant at the beginning of 4th year = N 21,093,750
Less 25% of value due to depreciation = (25 x 21,093,750)/100 = N 5,273,437.5
Book value at the end of 4th year = N 15,820,313
5th year
Value of plant at the beginning of 5th year = N 15,820,313
Less 25% of value due to depreciation = (25 x 15,820,313)/100 = N 3,955,078.3
Book value at the end of 5th year or the salvage value = 15,820,313 – 3,955,078.3 = N 11,865,234.7
The cost of equipment per hour = (Initial cost – salvage value)/total number of hours worked
= (50,000,000 – 11,865,234.7)/7200 = 38,134,765.3/7200 = N 5296.50/hour
Note: The real cost of the equipment at the end of each year should be equal to operational cost + insurance (%) + running cost + overhead cost + maintenance cost. However, only operational cost was used in our analysis. The percentage of insurance is gotten from the book value of each year. Insurance is per annum and it decreases as the book value of the machine decreases. Insurance cost is usually 5%.
