By MUNGAI KIHANYA

The Sunday Nation

Nairobi,

26 April 2015

It is amazing how a simple question can lead to profound discoveries. Albert Einstein wondered whether it would be reasonable to expect a body to travel so fast that it takes zero time to traverse a given distance. Of course the answer was a resounding no! That answer led to the theory of relativity which produced the most famous equation of the 20th century: Energy = m.c².

Many centuries earlier, Greek philosophers had wondered what would happen if you started off with a solid block of any material and then you cut into two halves; then took one of the halves cut it into half and continued the process. Would you ever come to a point where you are not able to cut any farther? Not because of the limitations of your tools, but because you have reached the end of divisibility of matter?

The Greek philosophers concluded that such a limit must exist and they called it atomos – the “uncuttable”. Many centuries later, this idea entered mainstream science and the idea of the atom accepted.

I tell this tale because last week I wrote that “every year, the value of such software sheds 20 per cent of the purchase price. In five years, it is worth zero shillings!” That statement was challenged by several readers who argued that the value can never get to zero.

Reading between the lines of their emails, I realised that these readers were thinking about deducting 20 per cent of the remaining value each year. If we did that with software purchased at, say, Sh10,000, then after the first year, the book value would be Sh8,000.

Taking away 20 per cent of Sh8,000 in the second year leaves a value of Sh6,400. If we continue in that fashion, we will be left with software worth Sh3,277 after five years. But, in real terms, computer technology may very well have moved on making our software redundant and useless.

That is, we won’t even find anyone to sell it to! In that case, the Sh3,277 we have in our books is not realistic. For that reason, accountants use what is known as “the straight line” method when depreciating such assets.

In this method, we divide the purchase price of the item by the expected lifespan. Then, every year, we take away this amount from the book value. This is why I wrote that “the value of such software sheds 20 per cent of the PURCHASE PRICE”.

If the Sh10,000-software was purchased on 1st January 2015 with an estimated life of five years, then after one year (1 January 2016) it will be worth Sh8,000; then Sh6,000 in the second year…and zero shillings at the end on the fifth year (1st January 2020).

At that point, we can decide to through it away and buy a new one without incurring any monetary loss. That’s the genius behind depreciation: it spreads the loss over a period of time.