Thesis: Financial Analysis of International Airlines Group

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Financial Analysis of International Airlines Group

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Today, the aviation industry is faced with skyrocketing energy costs, the lingering aftereffects of the Great Recession of 2008 and the looming threat of ongoing terrorist activities in many regions of the world. In this environment, identifying opportunities for air carriers to achieve a competitive advantage through improved administrative and operational practices represents a timely and valuable enterprise. Therefore, the purpose of this study was to provide a review of the relevant peer-reviewed, scholarly and industry literature concerning these issues and to calculate and benchmark relevant financial analyses of International Airlines Group (IAG) compared to three of its competitors, Turkish Airlines, Finnair and Jet Airways. This analysis was used to provide a summary of issues faced by IAG followed by an evaluation of the steps that can be taken by IAG o improve its position including M&a opportunities, equity and debt capital raising options.

Table of Contents

Chapter 1: Introduction

Statement of the Problem

Purpose of Study

Rationale of Study

Overview of Study

Chapter 2: Review and Discussion

Chapter 3: Methodology

Description of the Study Approach

Data-gathering Method and Database of Study

Chapter 4: Data Analysis

Chapter 5: Summary and Conclusions

British Airways is currently owned by a holding company by the name of International Airlines Group, a group that also owns Iberia, an air carrier in Spain, with a merger between the two airlines expected to receive formal approval in the very near future. At present, International Airlines Group (IAG), through its subsidiaries, provides international and domestic air passenger and cargo transportation services throughout North and South America, Europe, Africa, Asia, Australia and the Middle East. Notwithstanding this far-flung global presence, the aviation industry continues to struggle with skyrocketing fuel costs, heated collective bargaining negotiations and cut-throat competition from regional carriers that can make profitable operations a challenge enterprise for larger carriers in particular. In this environment, providing Financial Analysis benchmarks for major carriers such as the still emerging IAG represents a timely and valuable enterprise, which is the problem considered by this study which is discussed further below.

Statement of the Problem

In an action that has been described by some analysts as "two drunks holding each other up," the merger between Iberia and British Airways will inevitably have some significant effects on the group's overall financial performance in ways that are difficult to predict, but which can be evaluated to some extent through an analysis of existing performance data, an enterprise that represents the purpose of this study and which is discussed further below.

Purpose of Study

The purpose of this study was two-fold as follows: (a) to review the relevant peer-reviewed, scholarly and industry literature and (b) to calculate and benchmark relevant financial analyses of IAG compared to three of its competitors, Turkish Airlines, Finnair and Jet Airways provide a summary of issues faced by IAG followed by potential steps to improve its position including M&a opportunities, equity and debt capital raising options

Rationale of Study

Analysts typically use two components of a company in evaluating its capital funding: cost of debt and cost of equity (McClure, 2010). The salience of using these two metrics to achieve the above-stated research purpose is congruent with one financial analyst who emphasizes, "Lenders and equity holders each expect a certain return on the funds or capital they have provided. The cost of capital is the expected return to equity owners (or shareholders) and to debtholders, so WACC tells us the return that both stakeholders - equity owners and lenders - can expect. WACC, in other words, represents the investor's opportunity cost of taking on the risk of putting money into a company" (McClure, 2010, para. 2). Moreover, analysts who are interested in valuation employ the WACC method as well as for applications of the discounted cash flow analytical method (McClure, 2010). In addition, the WACC metric can be used as a benchmark to compare return on invested capital performance as well as in economic value added (EVA) analyses (McClure, 2010). According to one industry analysts, "Investors use WACC as a tool to decide whether to invest. To be blunt, the average investor probably wouldn't go to the trouble of calculating WACC because it is a complicated measure that requires much detailed company information. Nonetheless, it helps investors know the meaning of WACC when they see it in brokerage analysts' reports" (McClure, 2010, para. 3).

Overview of Study

This study used a five-chapter format to achieve the above-stated research purpose. Chapter one of the study was used to introduce the topics under consideration, provide a statement of the problem of interest as well as the purpose and importance of the study. Chapter two of the study presents a critical review of the relevant and peer-reviewed literature, and chapter three describes more fully the study's methodology, a description of the study approach, the data-gathering method and the database of study consulted. Chapter four is comprised of an analysis of the data developed during the research process and chapter five presents the study's conclusions, a summary of the research and salient recommendations.

Chapter Two

Review and Discussion

Global Aviation Industry Market Overview and IAG's Competitive Position.

In their report of the global airlines' premium traffic performance in November 2011, the International Air Transportation Authority (IATA) noted that demand for premium travel had increased slightly; however, it remained slower than the benchmarked year-to-date growth rate. By contrast, demand for economy class travel was on the rise, indicating a weaker passenger yield mix (Emsellem, 2011). The key route regions relevant to the Asia Pacific airlines, Europe-Far East premium traffic increased a modest 3%, which was regarded as a bright sign but which still was far below what IATA projected for this period (Emsellem, 2011). Generally speaking, the IATA currently projects limited growth in premium traffic in the near future characterized by the following trends.

1. Global premium traffic growth picked up in Nov, up 2% year-to-year compared to no growth in October; however, this rate was still less than the year-to-date growth of 6% year-to-year.

2. The level of premium traffic has also fallen 3% below its 2011 peak in May 2011, driven by the reduction in business travel on the back of weaker economic conditions and passengers switching from premium to cheaper economy class travel.

3. Economy travel did better, rising 3% year-to-year and has generally done better than premium demand in the second half of 2011, indicating weaker passenger yields for the airline sector.

4. Premium traffic growth within Far East routes (which accounts for 11% of global premium traffic and 6% of revenue) stalled in Nov, versus. its 4% year-to-year growth in Oct and 9% growth year-to-year year-to-date, which was disappointing. Premium traffic on Europe-Far East routes (10% share of global premium traffic and 16% of revenue) rose 3% year-to-year, ahead of its 1% growth in October but weaker than its 9% growth year-to-year year-to-date which is surprising given Europe's economic issues but IATA expects "export activity from Central & Northern European markets to drive some of the premium travel strength" on this route.

5. Premium traffic growth accelerated on North and Mid-Pacific routes (6% share of global premium traffic and 13% of revenue), up 5% year-to-year in Nov vs. its 2% rise in Oct and 4% growth year-to-year year-to-date which is positive.

6. Premium traffic on North Atlantic (Europe-America) routes (16% share of global premium traffic and 24% of revenue) was steady year-to-year in Nov vs. its 2% decline in Oct and 7% growth year-to-year year-to-date.

7. Overall, IATA expects little further growth in premium travel in the next few months which underpins their view that yields will likely decline in 2012 and the below-consensus earnings forecasts for most of the Asian airlines (Emsellem, 2011, p. 5).

The trends in premium and economic class for January 2003 through August 2011 upon which these IATA projects are based are depicted in Figure 1 below.

Figure __. Premium and economic class trends: December 2003 through August 2011

As noted in the introductory chapter, although the situation is highly dynamic, at present, British Airways is owned by International Airlines Group, a holding company called that also owns Iberia in Spain (Evans, 2011). The current situation has three main airline groups in place in Europe: (a) British Airways/Iberia, (b) Air France/KLM and (c) Lufthansa (Evans, 2011). In the future, though, current signs indicate that International Airlines Group will purchase additional aircraft for British Airways as well as Iberia but it remains unclear where these additional aircraft will be maintained and serviced (Evans, 2011). The current situation also shows that International Airlines Group is among the world's largest airline groups with 348 aircraft servicing 200 destinations and carrying more than 50 million passengers annually (About IAG, 2012). In addition, based on revenues, IAG is currently the third-largest airlines group in Europe and the sixth largest in the world (About IAG, 2012). Both British Airways and Iberia belong to the one-world alliance (About IAG, 2012).… [END OF PREVIEW]

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