Accounting Changes and Error Analysis

Airline X depreciates its airplanes over a 15-year period and estimates a salvage value of 10% of the cost of the plane. At the same time, Airline Y depreciates identical airplanes over a 25-year period and estimates a salvage value of 15% of the cost of the plane. As expected, these different assumptions resulted in different operating results. For example, if an airplane costs $ 10 million, Airline X will depreciate $ 260,000 more per year for 15 years than Airline Y.

Which company’s estimate of useful life more closely reflects reality? Will you feel comfortable as a passenger in a 25-year old airplane? Does the fact that Airline Y subsequently went out of business provide any information as to why its estimates were so substantially different from those of financially sound Airline X?

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