Depreciation Policies of Aviator Airways Ltd and Eagle Airlines Ltd

Abstract

Depreciation policies differ from one company to another. They are often provided on the Notes to Financial Statements section of each company’s annual reports. Each company provides its own depreciation policies to reflect true, fair and just financial position of the company, especially regarding depreciation of fixed assets. For instance, this case study report indicates that Eagle Airlines Ltd and Aviator Airlines Ltd have different operations which have led to different residue value and useful life estimations of each company’s fixed assets. As a result, both companies provided depreciation policies to show how the two companies arrive at their depreciation expenses. This case study also uses Air China’s depreciation policies as an example which shows that the company uses a straight line method of calculating depreciation. Furthermore, the paper contains reflective notes on the importance of working in a group to tackle a given task.

Depreciation Accounting Policies of Aviator Airlines Ltd and Eagle Airlines Ltd

The depreciation accounting policies of Aviator Airlines Ltd and Eagle Airlines Ltd differ in some ways and are similar in some other ways. One of the similarities of the depreciation accounting policies for the two companies is that they both use straight line method to calculate depreciation of fixed assets. However, Aviator calculates its depreciation and amortization of fixed assets by valuing its assets and subtracting their residential value while Eagle calculates its depreciation by writing down the cost of assets to their residual values after their economic life. Aviator depreciates its aircraft, spares and engines over 18 years to estimated residual value percentages of 20%.

On the other hand, Eagle Eagle Airlines Ltd depreciates its aircraft, spares and engines over a period of 15 years of economic life to a residual value percentage of 12%. The approaches of these companies are only different on the costs and valuation of fixed assets but the method of calculating depreciation are similar. The value of total aircraft and engines at cost for Aviator and Eagle are $ 13,358.9 and $17,718.1 respectively while the value of their total aircraft spare parts at cost are $750.7 and 1,306.1 respectively. This has led to accumulated depreciation of aircraft and engines for Aviator and Eagle to become $3,989.1 and $5,848.8 respectively.

Accumulated depreciation of Aircraft spare parts for the two companies are $366.8 and $710.9 respectively. It is clear from these figures that the value of Eagle’s fixed assets is higher than that of Aviator. Since their method of calculating depreciation for both companies is the same, the accumulated depreciation for fixed assets Eagle is also more than that of Aviator.

Operations of the Two Companies

The operations of Aviator and Eagle are also different in some ways. Aviator has larger operational flights domestically than internationally while Eagle has larger international than domestic operations. Therefore, Eagle is has more long-haul flights while Aviator has short-haul flight passengers. This explains why the estimated economic life of aviator’s fixed assets is larger than that of Eagle and the value of Aviator’s fixed assets is smaller than the value of Eagle’s fixed assets. The reason why the value of fixed assets of Aviator including aircraft, spare parts and engines is lower than that the value of those of Eagle is because the cost of wear and tear for aircrafts on a short-haul operation is higher than that the cost of wear and tear for aircrafts on long-haul operations. Another difference between the operations of the two companies is that the average fleet age of eagle airlines is smaller than that of aviator – 5 years for Eagle compared to 10 years for aviator.

Depreciation Expenses

Eagle Estimated Depreciation expense 2012

  At cost $m Residual value Depreciation Expense 2012
Total aircraft and engines 17 718.1 2,126.172 1,039.462
Total aircraft spare parts 1306.1 156.732 76.625

Workings

Residual Value

Total Aircraft and engines = 12% × 17,718.1 = $2,126.172

Total aircraft spare parts = 12% × 1,306.1 = $156.732

Depreciation expense

Total Aircraft and Engines = (17,718.1 – 2,126.172)/15 = $1,039.462

Total aircraft spare parts = (1,306.1-156.732)/15 = $76.625

  • Aviator Estimated Depreciation expense 2012
  At cost $m Residual value Depreciation expense 2012 ($m)
Total aircraft and engines 13,358.9 2,671.78 593.73
Total aircraft spare parts 750.7 150.14 33.36

 Workings

Residual value

Total aircraft and engines = 20% × 13,358.9 = $2,671.78

Total aircraft spare parts =20% × 750.7 = $150.14

Depreciation expense

Total aircraft engines = (13,358.9 – 2,671.78)/18 = $593.73

Total aircraft spare parts = (750.7 – 150.14)/18 = $33.36

Eagle Eagle Airlines Ltd Estimated Depreciation expense 2012 using useful life and residual value of Aviator

  At cost $m Residual value Depreciation Expense 2012
Total aircraft and engines 17 718.1 3,353.62 787.47
Total aircraft spare parts 1306.1 261.22 58.05

Workings

Residual value percentage of aviator = 20%

Estimated useful life of aviator = 18 years

Residual Value

Total Aircraft and engines = 20% × 17,718.1 = $3,543.62

Total aircraft spare parts = 20% × 1,306.1 = $261.22

Depreciation expense

Total Aircraft and Engines = (17,718.1 – 3,543.62)/18 = $787.47

Total aircraft spare parts = (1,306.1-156.732)/18 = $58.05

Aviator Airlines Ltd Estimated Depreciation expense 2012 using useful life and residual value of Eagle

  At cost $m Residual value Depreciation expense 2012 ($m)
Total aircraft and engines 13,358.9 1,603.068 783.722
Total aircraft spare parts 750.7 90.084 44.04

Workings

Residual value percentage of Eagle = 12%

Estimated useful life of Eagle = 15 years

Residual value

Total aircraft and engines = 0.12 × 13,358.9 = $1,603.068

Total aircraft spare parts = 0.12 × 750.7 = $90.084

Depreciation expense

Total aircraft and engines = (13,358.9 – 1,603.08)/15 = $783.722

Total aircraft spare parts = (750.7 – 90.084)/15 = $44.04

Comparative analysis

Estimated useful life and residual value percentage for Aviator Airlines Ltd are 18 years and 20% respectively while those of eagle are 15 years and 12% respectively. From the calculations above, it is clear that the depreciation expenses of Aviator using its own residual value percentage and estimated useful life are $593.73 and $33.36 for air craft and engines and aircraft spare parts respectively. On the other hand, the depreciation expenses of Eagle are $1,039.462 and $76.625 for Aircraft and engines and air craft spare parts respectively. In this case, higher residual value percentages and greater number of useful years are associated with smaller amounts of depreciation expenses (Baumol, 1986). Aviator estimates useful lives and residual percentages of its fixed assets at more highly than Eagles, hence producing lower depreciation expenses.

This is more illustrated when the estimates of useful life and residual value percentage of each of the airlines are used by the other airline to calculate its depreciation expense. For instance, when Aviator Airlines Ltd uses the useful life and residual value percentage of Eagle, its depreciation expenses for total aircraft spare parts increase from $33.36 to $44.04 because the useful life and residual value estimates of Eagle are lower. The depreciation expense for aircraft engines also increases if the useful life and residual value estimates of Eagle are used. On the other hand, the depreciation expenses of Eagle’s fixed assets reduce when it uses the residual value and useful life estimates of Aviator which is higher than its own estimates. Therefore, low residual value and useful life estimates lead to higher depreciation expenses while higher residual value and useful life estimates lead to lower depreciation expenses.

Depreciation policies of Air China

Air China is an international airline company listed in Shanghai Stock Exchange. It operates in many countries across the world including Australia. The company provided depreciation policies in its Notes to Financial Statements section under note 2, “Summary of Significant Accounting Policies” (Air China, 2013). Specific notes in depreciation policies are given in the section of property, plant and equipment and depreciation. The policies stipulate that property, plant and equipment other than construction in progress are valued at cost minus the accumulated depreciation and impairment losses. Furthermore, if any item classified as property, plant and equipment is held for sale or is part of a group of items held for sale, it’s not depreciated; instead, it is accounted for in relation to IFRS 5.

The company’s notes to financial statements regarding depreciation of property, plant and equipment also suggests that depreciation of such items is calculated using the straight line method in order to write off their cost to their residual values over given estimated useful life of each item. The estimated residual values and useful lives provided in the company’s 2012 annual report are as shown below.

Fig 1: property, plant and equipment (Air China, 2012)

The depreciation policies of the company also provide that if parts of an item of plant, property and equipment have different estimated useful lives, that item’s cost will be estimated on a reasonable manner and each part of the items is depreciated separately (Air China, 2012). The depreciation methods, residual values and useful lives of the company’s fixed assets are also adjusted at least after each financial year if there is need to do so. Furthermore, fixed assets of the company which are under a financial lease are depreciated similarly as self-owned fixed assets. However, if there is an assurance that the leased property can be transferred to the company after its lease period, the property may be depreciated over the term of the lease. Finally, the depreciation policies of the airline suggest that the carrying amounts of property, plant and equipment are evaluated for impairment if circumstances and events change such that the carrying amounts may be unrecoverable.

Significance of depreciation policy

The main importance of depreciation policy is that it ensures that the company observes generally accepted accounting standards (such as AASB/IASB) in order to provide fair and just financial reports and reflect the true picture of the company’s financial statements and rations. Depreciation policies of companies differ because of the different operations of such companies (Ernst & Ernst., & United States, 1977). The operations of one company may lead to more depreciation of its fixed assets than another company. Therefore, the company will need to estimate its useful lives and residual values of its assets based on the prevailing events or circumstances in the company’s operations so that the depreciation expenses of its fixed assets will represent a true and fair financial position of the company (Vasigh et al., 2010). For example, in the case study of Eagle Airlines Ltd and Aviator the operations of the company were different; Aviator Airlines Ltd operates more domestically while Eagle operates more internationally. This results in long-haul flights for Aviator and short-haul flights for Eagle Airlines Ltd. This in turn leads to different estimated lives and residual values; hence it is important to use different depreciation policies for each company.

Reflection

Discussing various depreciation policies of different national airline companies was an important part of my learning. I remember how all members of our group brainstormed various depreciation policies. I thought that I could understand issues individually. The experience of working in a group made me to understand that it was easier to understand and explain the depreciation policies of various companies on a group than working alone. The good thing about working in a group is that members give different opinions such that you can understand something that you could not if you worked alone. If I were to be put in the same situation again, I would go for a group discussion without hesitation. Indeed, discussion with group members is an important way of understanding issues and dealing with assignments.

 

References list

Air China (2012). Air China 2012 Annual Report. Accessed August 31, 2013 from             http://www.airchina.com.cn/www/en/html/index/ir/financial_informatio/4069/2011h.pdf.

Baumol, W. J. (1986). Microtheory: Applications and origins. Cambridge, Mass: MIT Press.

Bragg, S. M., & Bragg, S. M. (2007). Wiley GAAP policies and procedures. Hoboken, N.J: John Wiley & Sons.

Epstein, B. J., Jermakowicz, E. K., & Epstein, B. J. (2008). Wiley IFRS policies and procedures. Hoboken, N.J: John Wiley & Sons.

Ernst & Ernst., & United States. (1977). Study of common carrier depreciation rate practices and policies. S.l: s.n..

Ramachandran, N. (2008). Financial accounting for management. New Delhi: Tata McGraw-Hill.

Rich, J. S. (2010). Cornerstones of financial & managerial accounting: Current trends update. Mason, OH: South-Western/Cengage Learning.

Rodriguez, P. M., Rapti, R. S., & Groom, E. (2008). Accounting for infrastructure regulation: An introduction. Washington, DC: World Bank.

Vasigh, B., Fleming, K., & Mackay, L. (2010). Foundations of airline finance: Methodology and practice. Farham, Surrey: Ashgate Pub.

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