Case Study

Depreciation at Delta Singapore Airlines. 16-Sep-2009 EPGP± 09-10

Airline

and

Submission Date Class Subject

Financial Reporting and Analysis

Submitted by       Abhishek Pangaria Mandeepak Singh Rajendra Inani Saravanan Logu Tarandeep Singh Vivek Edlabadkar

Table of contents
Objectives ....................................................................................................................... 2 Depreciation in airline industry ....................................................................................... 2 Case Background ............................................................................................................ 2 Test Case Question 1 ....................................................................................................... 3 Test Case Question 2 ....................................................................................................... 4 Test Case Question 3 ....................................................................................................... 6 Test Case Question 4 ....................................................................................................... 7 Test Case Question 5 ....................................................................................................... 7

Page 2 of 7 . as prior financial Statements are not restated. By increasing the estimated residual value and extending the estimated useful life of its aircraft. It changed its depreciation calculation method in 1989. It changed its depreciation method in financial statement twice between 1989 and 1993. an airline¶s aircraft depreciation expense is derived by initially estimating both the useful life and the residual value or the perceived fair market value of the aircraft at the end of its estimated useful life. Depreciation in airline industry Typically. In this case study we are going to analyze there financial statements and figure out the rational behind these changes. future earnings may be adversely impacted from this change as the reduced depreciation expense leads to higher reported aircraft values and. an airline company would prospectively record a lower depreciation expense on its income statement and a higher value for each aircraft on its balance sheet. While near term earnings would be boosted by the reduced depreciation expense. Singapore Airlines a major passenger airline in Asia. if upon disposition of the aircraft the book value is in excess of the realizable value. To determine the periodic depreciation expense that reduces the value of the aircraft on the company¶s balance sheet while increasing operating expenses the total cost of the aircraft is reduced by the estimated residual value and that sum is divided by the estimated useful life. Consequently. the airline would receive a boost to earnings in all future periods and a boost to earnings growth during the four quarters following the change. In both times it increased the useful life of aircraft and once decreased the residual value. losses will be incurred.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Objectives To understand the different depreciation methods used by Delta Airlines and Singapore Airlines during the period of 1989-1993. Case Background Delta Airline is one of the major passenger airlines in US. It increases its aircrafts usage life and increased the residual value. with almost $12 billion in annual revenues.

Depreciation = (Asset value ± Residual Value) / Asset life Fixed Asset Price $100 Delta Airlines Prior to July 1. 1993 Onward 5% 20 $4.25 After April 1. 1989 20% 10 $8 Residual Value Asset Life Depreciation Page 3 of 7 . 1993 10% 15 $6 April 1. 1989 10% 8 $11.1986 and March31.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Test Case Question 1 Calculate the annual depreciation expense that Delta and Singapore would record for each $100 gross value of aircraft.1986 Residual Value Asset Life Depreciation 10% 10 $9 Between July 1.75 Singapore Airlines Prior to April 1.

Type of fleet ± There has been several technological advancements in airline industry. 4.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Test Case Question 2 Are the differences in the ways that two airlines account for depreciation expense significant? Both of the Airlines use Straight Line Method of Depreciation. On the other hand the residual value of Delta was much less than Singapore airlines. The Salvage value and Asset Life of both Delta and Singapore Airlines is different at different point of times. It needs to be noted that there has been more depreciation assumption changes by airlines during rough or loss making times of airline industry. Airbus and Boeing introduced aircrafts that they claimed to have higher periods of operation compared to previous ones. Usage and Maintenance . On occasions and data provided in the case we can conclude that Delta had much higher average asset life compared to Singapore Airlines. 1992-1993) Page 4 of 7 .Based on the lesser usage and higher maintenance of an aircraft. Various airlines have different depreciation methods based on type of fleet and business objectives 2. Another important reason prima facie is to show more profits due to less depreciation. 3. (e. the company may decide to increase its average usage period and so lower depreciation rate.g. Why would the companies depreciate aircraft using different depreciable lives and salvage values? What reasons could be given to support their differences? 1. The newer aircrafts added to fleet of any airline can give them an option to depreciate the fleet over longer period of time.

Page 5 of 7 . It changed to an estimated useful life of 30 years from 25 years on newer model planes the Company has recently purchased. which ranks as one of the most conservative in the industry. Inc.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Is the different treatment proper? Yes. Based on company's objective the treatment is proper. Example of recent changes Continental Air Lines. Some haven¶t changed Alaska Airgroup Inc. Every company may have its own reasons to calculate depreciation on its own premises and rationales. Southwest Airlines Company: Effective January 1. 1998. has maintained constant its depreciation policy at eight to 20 years for aircraft. 1999 extended the depreciable lives of its 737-300/500 airplanes to 23 years from 20 years. increased its estimated useful life on certain new generation aircraft and increased the residual value on all aircraft on January 1.

0125 115.2 How much more or less will its annual depreciation expense be compared to what it would be were it using Singapore¶s depreciation assumption? Year Flight equipment owned Flight equipment under capital leases Total Equipment Diff in depreciation value Total change 1993 9043 173 9216 0.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Test Case Question 3 Assuming the average value of flight equipment that Delta had in 1993.25/100 * 9216 = 115.2 Year Value of Flight equipment owned Flight equipment under capital leases Total Equipment Diff in depreciation value Total change 1993 9043 173 9216 0. 1993 make ? Depreciation value difference is of (6 ± 4.52 Page 6 of 7 . So for 9216 it will be 1.0325 299.75) at $100 value. how much difference do the depreciation assumptions it adopted on April 1.

there will be less tax because of low income. 2.Case Study ± Depreciation at Delta Airlines and Singapore Airlines Test Case Question 4 Singapore Airlines maintains depreciation assumptions that are very different from Delta¶s. They sell a significant aircraft as can be seen from Exhibit 1. How does this relate to company¶s overall strategy? The above strategy of reselling the aircraft relates to the company's overall strategy of maintaining newer aircraft in their feet. So savings on tax can be a gain. There will be low net income as the depreciation amount is higher. Page 7 of 7 . We can see that relative proportion of sale of flight equipments is higher for Singapore Airlines as compared with Delta Airlines. Besides this. What does it gain or lose by doing so? How does this relate to company¶s overall strategy? 1. Test Case Question 5 Does the difference in the average age of Delta¶s and Singapore¶s aircraft fleets have any impact on the amount of depreciation expense? No there is no direct relation of average age of Delta¶s and Singapore¶s aircraft fleets and amount of depreciation expense. They target to sell the aircraft at fair market value which will be obviously much higher than 20% residual cost after 10 year.

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