Units of Production Depreciation

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Units of Production Depreciation

Units of Production Depreciation Overview

Under the units of production depreciation method, you charge more depreciation in periods when there is more asset usage, and less depreciation in periods when there is less asset usage. Its use is limited to those assets to which some estimate of production can be attached. Units of production depreciation is especially favored by fans of activity-based costing, since it closely relates asset cost to actual activity.

To calculate units of production depreciation, follow these steps:

Estimate the total number of units of production that are likely to result from the use of the asset.
Divide the total capitalized asset cost, less any salvage value, by the total estimated production to arrive at the depreciation cost per unit of production.
Derive the total depreciation for the period by multiplying the number of units of actual production during the period by the depreciation cost per unit.

If there is a significant divergence of actual production activity from the original estimate, the depreciation cost per unit of production can be altered from time to time to reflect the realities of actual production volumes.

The units of production method can also be used with service hours as its basis, rather than units of production. When used in this manner, the method can be applied to a larger number of assets for which production volumes would not otherwise be available.

Units of Production Depreciation Example

ABC Company builds an oil derrick at a cost of $350,000. ABC expects to use the derrick in the extraction of 1,000,000 barrels of oil, which results in an anticipated depreciation rate of $0.35 per barrel. During the first month, 23,500 barrels of oil are extracted. Under this method, the resulting depreciation expense is:

= (cost per unit of production) x (number of units of production)

= ($0.35 per barrel) x (23,500 barrels)

= $8,225 depreciation expense

Similar Terms

The units of depreciation method is also known as the units of activity method.