easy Jet: FINANCIAL PERFORMANCE ANALYSIS
INTRODUCTION
In any contemporary operating organisation, progress that the company is making is recorded as basis for, among a host of other essential things, decision-making and as a benchmark for measuring the firm’s performance for the period under scrutiny. A financial situation analysis is one such yardstick that documents current and future financial situation in an attempt to determine a financial strategy to help achieve organizational goals. As formally defined by Riahi-Belkaoui in 1998, financial analysis ‘is an information processing system used to provide relevant information for decision making’ (p. 1). The main sources of information for such analyses are published financial statements of the concerned company. Various accounts from published financial statements are evaluated in relation to each other to form performance indicators, which are then compared to ‘established’ standards. These performance indicators are better known as ratios, and constitute the main tools of conventional financial analysis. For the last several years, businesses have seen the rapid growth of the number of firms offering financial situation analysis services. This serves as a proof that more and more organisations are realizing the importance of the analysis of their financial situations in order to keep up with the demands of the business world nowadays.
This paper is an analysis of financial situation of easy Jet plc, one of the leading low-cost civil aviation companies in existence, operating in a very tough and highly competitive industry. The main purpose of this paper is to examine the financial statements of the company for the last twelve months by using tools such as Ratio Analysis to see how much growth easy Jet has been able to achieve and also to see what might be the other factors that can influence the company’s growth and its decision making and than to see the limitations of the financial analysis. These performance indicators are better known as ratios and constitute the main tools of conventional financial analysis. For the last several years, businesses have seen the rapid growth of the number of firms offering financial situation analysis services. This serves as a proof that more and more organisations are realising the importance the analysis of their financial situation in order to keep up with the demands of the business world.
ORGANISATIONAL BACKGROUND[1]
The Company was founded by Tselios Haji-loannou in 1995 who still is the major share holder of the business group, offering low cost scheduled flights mainly in the European Union territory. The company grew from there onwards, from only 2 leased aeroplanes to 75 aircraft presently and has operations in 38 airport destinations in Europe providing transportation services that includes both leisure and business customers. From the basic facts regarding the company, it can be surmised that easy Jet is one of the successful low cost airlines in Europe. easy Jet achieved its growth through number of different strategic and financial key decisions. In 1998 easy Jet acquired 40% stake in TEA which was a Swiss-based Chartered airline and re-branded into easy Jet Switzerland. In order to reduce its cost and increase its profitability easy Jet took drastic measures. For instance, the extensive use of IT services since 1998 that provided online ticket booking facility significantly reduced paper work. For the record, easy Jet is one of the largest on line retailers in continent Europe, where 90% of their seats are sold through their website to reduce distribution cost for travel and maximise utilisation of each aircraft to reduce unit cost. easy Jet also decided not to provide free catering services on board, not only it reduces cost but also avoid problems associated with it. In order to increase the awareness about the company and its operations and more importantly recognition of the brand among general public, another vital decision was made in the shape of successful prime time television programme called Airline during 1999. Another strategic decision was the merger with Go 2002, a company previously owned by British Airways that helped Easy Jet to launch new routes and expand its operations. easy Jet flies to main destinations airports throughout Europe and gain efficiency through rapid turnaround times and progressive landing charges agreement with the airports.
FINANCIAL RATIOS[2]
(2004) mentioned that by calculating a relatively small number of ratios, it is often possible to build up a reasonably good picture of the position and performance of a business. Ratios help to highlight the financial strengths and weaknesses of a business, but they can not, by themselves, explain why certain strengths or weaknesses exist, or why certain changes occurred. Just by details investigation will find the reasons. Ratios can be grouped into certain categories; each of them identifies a particular aspect of financial performance or, position. There are five broad categories which define as follows: (1) Profitability; (2) Liquidity; (3) Financial Leverage; and (4) Asset Management (1999).
PROFITABILITY RATIOS
The following ratios may be used to evaluate the profitability of the company:
Ø Return on ordinary shareholder funds;
Ø Return on capital employed;
Ø Return on assets;
Ø Net profit margin; and
Ø Gross profit margin
Each of them are calculated for easy Jet as follows:
TURNOVER
YEAR
TURNOVER (in £)
CHANGE
2006
1,619,700
21
2005
1,341,400
46
2004
1,091,000
29
2003
931,844
68
2002
551,844
-
From the said figures, easy Jet has achieved remarkable consistent growth in its overall sales turnover, with more than double in terms of percentage of change.
RETURN ON ORDINARY SHAREHOLDER FUNDS (ROOFS)
The ROOFS compares the amount of profit for the period available to the owners with the owner’s stake in the business. For a limited company the ratio is as follows:
Net profit after taxation + preference dividend
ROOFS = x 100
Ordinary share capital + reserves
RETURN ON SHAREHOLDER FUNDS (ROOFS) RATIO
YEAR
%
2006
10.1
2005
7.1
2004
5.3
2003
4.4
2002
9.4
From the above computation, it shows that the longer the company operates, the amount of profit percentage available to the shareholders increases as well in parallel. This is mainly due to the increase in the realisation of profits of the company, as it exercises a profit-sharing system.
RETURN ON CAPITAL EMPLOYED (ROCA)
The ROCA is a fundamental measure of business performance. This ratio expresses the relationship between the net profit generated by business and long-term capital investment in the business. The ratio is expressed as follows.
Net profit before interest and taxation
ROCA = x 100
Share capital +Reserves +Long-term loans
RETURN ON CAPITAL EMPLOYED (ROCA) RATIO
YEARS
%
2006
7.30
2005
5.60
2004
6.16
2003
5.94
2002
8.89
It is evident that as time passes, the return on capital employed by the business fluctuates and cannot be pinpointed to one pattern. This is largely due to the differences in the focus on capital investment as business activities progresses. At one point in time, the firm may be very active in business investment and other periods, it may be not very keen on investing.
RETURN ON ASSETS (ROAD)
The ROAD ratio measures the efficiency of the company to use its assets to generate profit. The figure shows what the company is earning against every pound invested in assets. easy Jet's performance is steady as compared to industry standards. The formula for computing the ROAD is as follows:
Net income
ROAD = x 100
Total Assets
RETURN ON ASSETS (ROAD)
YEAR
%
2006
4.43
2005
4.22
2004
4.69
2003
4.57
2002
6.72
From the previous results, it shows that easy Jet has managed to use their assets effectively to generate profits. It has been markedly decreasing in the last few years though, but so are the rest of the companies in the aviation industry, mainly due to the reverberations of the September 11 attacks in 2001.
NET PROFIT MARGIN (NP)
The net profit margin ratio relates the net profit for the period to the sales during that period. The ratio is expressed as follows:
Net profit before interest and taxation
NP =
Sales
PROFIT MARGIN/NET PROFIT MARGIN RATIO
YEARS
%
2006
12.63
2005
5.06
2004
5.70
2003
5.53
2002
12.97
The ratio of the net profit to the amount of sales is witnessed to decrease over time, as larger costs are experienced by the company, especially for easy Jet who belongs to the aviation industry, where overhead costs are said to go skyrocket high, mainly resulted from increase in oil prices worldwide, oil that is used in the flying of an aircraft but has witnessed improvement during 2006.
GROSS PROFIT MARGIN (GM)
The gross profit margin ratio relates the gross profit of business to the sales generated for the same period. This represents the difference between sales and the cost of sales. Therefore it is the measure of profitability in buying (or producing) and selling goods or services before any other expense are taking into account. The gross profit margin is calculated as a follows:
Gross profit
GM =
Sales
GROSS PROFIT MARGIN RATIO
YEARS
%
2006
13.75
2005
13.05
2004
14.82
2003
16.83
2002
25.12
The gross profit margin ratio of easy Jet shows that the price of purchasing aircraft and other direct machines and equipment used to deliver service to passengers increase their purchase value as time progresses.
LIQUIDITY RATIOS
Liquidity ratios show how quickly the company can meet its short-term obligations using its current assets. The following ratios are needed to determine the status of liquidity of the firm under analysis:
Ø Current Ratio; and
Ø Quick Ratio
Each of them are calculated for easy Jet as follows:
CURRENT RATIO (CR %)
The current ratio shows the ability of the company to pay its liabilities, i.e. debts and payables during the period. It is expressed as:
Current Assets
CURRENT RATIO =
Current Liabilities
CURRENT RATIO
Years
%
2006
4.17
2005
2.25
2004
2.18
2003
1.83
2002
2.01
It is evident in the computations that easy Jet was always in better position to meet its short-term debt as compared to those of rivals in a peruse of the rivals’ current ratios. This means that easy Jet is always bale to meet their current liabilities using their current assets (cash, inventory, receivables). The figures are not high so as to make the shareholders fear that the assets of the company are not working to grow the business, and not low so as to drive creditors away with respect to the level of risk present.
QUICK RATIO
As an alternative to the use of the current ratio, which may include financial statement items that are not easily liquidated and have uncertain liquidation values, the quick ratio does not include inventory in the computation of liquidity. In formula:
Current Assets – Inventory
QUICK RATIO = x 100
Current Liabilities
QUICK RATIO
Years
%
2006
2.43
2005
2.25
2004
2.18
2003
1.83
2002
2.01
Since quick ratios are perceived as a sign of the company’s financial strength or weakness, the figures in the previous table shows the relative stability of the financial strength of easy Jet. A higher number would indicate stronger financial performance, and a lower one means weaker performance. Although there was a decrease in the 2003 ratio, the following year already showed signs of recovery and has continued up to last year.
FINANCIAL LEVERAGE RATIOS
The high financial leverage ratios of a company provide an implication that the organisation is solvent in the long-term. The following ratios are used to determine the financial leverage of easy Jet:
Ø Debt Ratio; and
Ø Interest Coverage
Each of them are calculated for easy Jet as follows:
DEBT RATIO
The debt ratio shows the company’s position to meet it long-term obligation or liabilities. Debt ratios are dependent of the company’s classification of long-term leases and other items as long-term debt. This is the gauge with which the financial strength of a company is a sign of the ratio of capital that has been funded by liability, counting preference shares.
DEBT RATIO
Years
%
2006
53.72
2005
52.13
2004
59.58
2003
67.26
2002
68.31
The formula for the debt ratio is:
Total Debt
DEBT RATIO = x 100
Total Assets
A higher debt ratio (which means the company has low equity ratio) does not give the firm’s creditors the security they require from an organisation. The firm would, as a result, find difficulty in raising supplementary financial support coming from outside sources if the firm wishes to take such action. Therefore it reveals that the higher the debt ratio, the harder it is for the company to raise funds from the outside. The table previous table shows that easy Jet is decreasing their debt ratio as time passes, and that in itself is a positive indication for the credit standing of the company.
INTEREST COVERAGE
Interest coverage shows the company’s ability to pay the interest on its outstanding debts using the firm’s earnings. This is the number of times over that the company is able to meet its payments to their creditors. The figures to this ratio would imply the ability of the company to pay its obligations to external sources. The formula for its computation is shown below:
ABIT
INTEREST COVERAGE =
Interest Charges
INTEREST COVERAGE
Years
%
2006
4.89
2005
9.28
2004
24.04
2003
35.33
2002
14.69
ASSET MANAGEMENT RATIOS
A high turnover of assets means that the firm is able to use its assets efficiently to benefit the business. This has grave implications for stakeholders, as they would want the company’s assets to work for the business. The ratio used to determine the state of the asset management of easy Jet is:
Ø Fixed assets turnover
It is calculated for easy Jet as follows:
FIXED ASSETS TURNOVER (FAT)
The ratio for fixed assets determines easy Jet's ability to use its fixed assets in the generation of profits on a certain period of time. The formula for FAT is:
Sales
FAT = x 100
Net Fixed Assets
FIXED ASSETS TURNOVER (FAT)
YEAR
%
2006
1.56
2005
1.87
2004
1.70
2003
1.43
2002
1.02
The higher the turnover ratio for fixed assets, the more attractive the company is to investors, because it shows that the company is able to effectively use its fixed assets to generate profits for the shareholders. A too-low fixed asset turnover indicates that there may be assets owned by the company which could to be sold due to their apparent uselessness. The table shows that as years progresses, easy Jet is able to continuously use its assets to the best interest of those involved.
ACCOUNTING POLICIES
Accounting policies are the organisation’s unique set of principles with regards to its financial reporting practices. Based on general accounting conventions such as objectivity and prudence conventions, said practices must meet the terms of accounting standards such as the GAP and the International Financial Reporting Standard (FIRS). Starting 2005, all firms in the European Union are required to implement the FIRS guidelines when making their financial statements, which complements with national accounting legislation (Trill and McLane 2004). Easy jet plc applied the UK GAP prior to the EU directive to adopt the FIRS using the historical cost convention but immediately took measures to make sure that commencing financial year October 2005, the FIRS guideline is implemented. Some of the significant entries within the FIRS accounting policy are the value and the depreciation of easy Jet's aircrafts and the firm’s maintenance costs, among many others. Aircraft value was devalued over seven years to a residual value between ₤12million and ₤20million, depending on the type of aircraft. This basis on the historical cost convention takes into consideration a useful lifetime of twenty to thirty years for each of the company’s aircraft, and the high variance between the residual value of Airbus 319 and Boeing 737 resulted to more value mark down which has not been considered previously by easy Jet. Maintenance costs which are obligatory for aircrafts which are leased were estimated to the bets of knowledge of the organisation but could possibly fluctuate highly.
CONCLUSION
As a concluding note, annual impairment tests for sizeable fixed assets should lead to a better valuation of the business, which would result to a better view of the financial situation of the civil aviation company. Generally, the accounting policies of easy Jet meet the FIRS and the aviation industry standards as well. Notwithstanding several critical but otherwise minor entries, it can be sufficiently agreed upon that easy Jet's accounts “give a true and fair view of the state of affairs” and consequently ”have been properly prepared” (easy Jet 2006 p. 62). The results for the financial statements audit of easy Jet done by PricewaterhouseCoopers LIP were evidently well-planned and performed the audit so as to obtain all the information and explanations which were considered necessary in order to provide the auditors with sufficient evidence to give reasonable assurance that the financial statements and the part of the Directors’ remuneration report to be audited are free from material misstatement, whether caused by fraud or other irregularity or error. In forming the opinion in this paper, the overall adequacy of the presentation of information in the financial statements and the part of the Directors’ remuneration report to be audited are also evaluated.
Building on the above analysis, it can be summarily said that easy Jet is a company whose financial situation is stable and highly likely to improve in the years to follow. To sustain their development, the civil aviation firm should regularly assess the value of their portfolio of its business. They have to be positioned on fast-growing opportunities, whether geographically or by market segment through choosing to invest in businesses with long-term tail-wind profiles. If the current financial situation carries on consistently, easy Jet would well achieve their vision of becoming the leader in their industry and a major player in each of their market segments and key geographical markets. The comparison of the past and present performance helped in bringing out pertinent bits of information which led to the conclusion that the UK offices and laboratories of Bureau VERITAS adds value and contributes significantly to the progress of the firm as a whole.
[1] Information from this section came form the official company website unless otherwise indicated.
[2] Succeeding formulas come in part from http://www.hull.ac.uk/engineering/teaching/57048/exam/57048_0304.pdf.
0 comments:
Post a Comment