Fair Depreciation: A Shapley Value Approach
20 Pages Posted: 8 Apr 2008
Date Written: 2008
We adopt the Shapley value approach to examine the fair allocation of the depreciation and amortization charges among the time periods of the asset's useful life. Essentially, the allocation under the Shapley value solution rewards each time period of the asset's useful life with a share of the earnings that corresponds to its responsibility in the earnings-generating process. The latter is thus consistent with the recent developments in accounting standards, which maintain that the depreciation and amortization methods should reflect the pattern in which the asset's economic benefits are consumed by the enterprise. Interestingly, we show that the Shapley value solution always conforms to a set of fundamental accounting requirements such as the matching principle and the impairment test. Moreover, we show that, unless the asset is associated with constant revenues and/or extremely profitable investments, the Shapley value solution can never coincide with the prevalent straight-line depreciation method. Finally, we identify the family of earnings patterns for which the Shapley value solution coincides with the equal surplus and the economic depreciation methods. Depreciation and amortization in this study apply to all types of assets (tangible and intangible); however, they are particularly significant for costly investments such as real estate, machinery, and customer relations.
Keywords: depreciation, amortization, Shapley value, straight-line, cooperative game, fairness
JEL Classification: M41, M44
Suggested Citation: Suggested Citation