Fixed Assets & Depreciation

We need to determine a model for fixed assets of Caterpillar. This involves two decisions:

• Are fixed assets best modelled by assuming the critical model ratio is ‘Net FA / Sales’ or ‘Gross FA / Sales’? We have a slight predilection toward the former, as if depreciation has any economic meaning, then producing more sales should require more net fixed assets
• What is the applicable average depreciation rate?

Which Ratio?

Dealing with the first question:

There appears to be a slightly better connection between the Net PPE and Sales than the Gross PPE, and this is accordingly the value used in the model.

The average “NET FA / Sales” ratio over the 5 years is: 27.65% (see above for workings)

Depreciation

Dealing with the second question:

The Caterpillar annual report gives the approximate useful lives of the different fixed asset classes.

We can use a SUMPRODUCT to compute the weighted average depreciation rate for CAT.

Averaging these rates, we get to an average depreciation rate of 13.26% (see above for workings)