Financial Decision Making in Easyjet Uk Finance Essay

Easyjet is a U.K based low-cost airline offering services on 500 routes between 118 European, West Asian and North African airports using fleet size of 182 aircrafts. Unlike its biggest competitor Raynair, Easyjet uses primary airports to operate its services in off-peak time to avoid high airport fees. In 2007/08, despite the economic downturn and high fuel prices the company managed to increase its revenue as compared to last year with an increase load factor of about 85%. However the company failed to increase its profit margin for the share holders in 2008. While writing this report I find out the following key findings about the financial position of the company in 2008. The company is not facing any liquidity problems, possessing a strong cash position and ample amount of short term investments. The gearing level of company is relatively lower than Ryanair; due to this low leverage level it has the advantage over Ryanair to raise the external fianc© easily in future if needed. The company has increased its efficiency to utilize the resources more effectively as compared to last year in 2007 but still lag behind Ryanair in overall efficiency to utilize the company recourses i.e. debtor and creditor days. In 2008 profitability remained the main problem of the company with low profit margins and Low ROCE in comparison with the previous year and with its main rival, Ryanair.

Since the aviation deregulation came into force in 1990's, the two lower cost carriers Easyjet and Ryanair emerged into pierce competition with each other. Before the deregulation, these low-cost careers were in competition with their peers but then because of the increasing pricing war, they had started competing with rails and trains as well. Let's conduct a brief PEST analysis in order to understand the nature and competition level in this Low-cost carrier business. Mainly the two suppliers i.e. Air bus and Boeing, supply air-crafts to airline industry thus the competition between these two allows low-cost airlines to get low prices and reliable services. Airport is another supplier to the airlines; To avoid high fee charges, Ryaniar usually operates on regional airports closer to metropolitan areas with low bargaining powers where as Easyjet uses major airports but fly at off-peak time to avoid high fee charges of the airport. The bargaining power of the customer is high, to attract customers the Low cost Airlines offer low prices with the use of web technology which is cheap and easier way for the customer to buy or exchange the flights with no extra costs.

Due to capital-intensive nature of the industry and the presence of key players, possibility of new the entrant is usually very low in aviation industry. The threat of a substitute is high; with the emergence of new and fast rail connections with low fare throughout the Europe might pose a threat to lower-cost airlines in future. The competition among rivals in this field is particularly strong. A price war is a routine activity in this business to attract customers by sacrificing its profit margin but keeping the price lower to attract the customers. Easyjet has rapidly expanded since its establishment in 1995. Due to acquisition and base expansion, Easyjet has become the 2nd largest low-cost airline in U.K behind Ryanair with 184 aircrafts and having 20 bases throughout the Europe. In fact the Easyjet business model is based on the original low-cost carrier model (see appendix A),except that Easyjet has stretched the model further by introducing "no-frill" concept( no free food and refreshment during the flight), and unlike other low-cost airlines it uses primary airports for its flights operations. The financial year 2007/08 of Easyjet was effected by its acquisition of GB Airways worth 103.5 M in which £11.5M was held in escrow as a security in that year while on the other side the fuel prices were increased from $643 in 2007 to $1070/metric ton.

If we look at the above income statement of Easyjet, the 1st thing we will notice is the increase in Total revenue of the company from £1,797.2 in 2007 to £2,362, in 2008 giving 31% rise in the figure, which is possibly contributed by GB airway acquired by Easyjet in 2008 as mentioned above. But down further in the income statement the net profit of the year 2008 has dropped to £83.2M from £152.3M in the year 2007 giving 45% fall in the net income for 2008 despite the high revenue. In fact this increase in total revenue is devoted to the cost of revenue which can be seen in the income statement, only the fuel charges has increased by 66% excluding all the other expenses. The increase in non- current assets (specially the intangible assets that are increased by 41.42% in 2008) can also be seen on the balance sheet along with a noticeable increase in the current and non-current liabilities. Overall the balance sheet is looking very stable and strong with solid cash and cash equivalent assets and a significant increase in total equity and liabilities (23% increased). It means that the business is still in the position to attract creditors and investors.

The trade creditor day's ratio of Easyjet shows an increase of about three days only, in 2008(13 Days) as compared to last year i.e. 2007(9.45 Days) but shows a significant improvement in debtor days on the other hand, that has decreased from 39.2 in 2007 to 28.9 Days in 2008. Here Easyjet shows a better efficiency as compared to its last year, but in comparison with Ryanair it is still far behind. Ryanair has creditor's day increased (23.61 Days in 2008) by double of the last year (12 Day in 2007) while debtor days is almost the same as last year i.e. 6.50 days on average. As a whole, the efficiency of Easyjet in terms of debts and credits has improved by reducing the debtor days as the company has more trade receivable than the amount of trade payable. By scrutinizing the efficiency for both the companies further, we will notice that the sales revenue per employee ratio of Ryanair is higher than Easyjet, but Easyjet scores on Ryanair in turnover/aircraft; it is because of the new aircrafts in the fleet and higher load factor in 2008. The asset turnover ratio of Easyjet shows an increase from 0.77 in 2007 to .84 in 2008, reflects the better utilization of assets in operating the company to generate the revenue as compared to the asset turnover ratio of Ryanair which is .45 in 2008, raised up from .43 in 2007. By studying the overall asset turnover ratio of both the companies, Ryanair's asset turnover is more stable and consistent as compared to Easyjet.

Financing analysis

The capital structure of Easyjet is not highly geared but mostly dependent on the contribution from its shareholders however, the long term liability or borrowings in the balance sheet is up for 2008 as compared to 2007 as a result the gearing ratio for Easyjet is increased to 30.84% in 2008 from 29.34% in 2007. It is definitely because of the acquisition of GB airways as the cash was used, therefore they needed long-term debt to cover the other expenses. The gearing ratio for Ryanair holdings has been increased significantly from 39.85% in 2007 to 43.1% in 2008. The Inertest covering ratio of Easyjet has decreased from 4.83 in 2007 to 2.6 in 2008, one reason of this is because of the low operating profit and the other reason is the increase in long term debts but still the strong cash position, short term investments and low gearing ratio, Easyjet has net interest income of 17.3M in 2007 and 21.1M in 2008 which make it easy for it to pay the interest on the long-term borrowings. On the other hand Ryanair has net interest expense of 18.9M in 2008 and 20.8M in 2007 as a result the Ryanair has to pay more interest out of its profit as compared to Easyjet.

Liquidity Analysis

The current ratio of Easyjet in 2007 was 1.87 that has been reduced to 1.55 in 2008, this is because the increase in current liabilities of the company, although the total current assets of the company have increased by 21% but the total current liabilities has increase by 46% in 2008. The current maintence provision is increased from 2.8M to 49 M in 2008 where as the trade payable has increased from 39.6M to 77.5 M in 2008. On the other hand the current ratio of Ryanair has dropped from 2.1 in 2007 to 1.53 in 2008; it is because the increase in current liabilities by almost 40% but only 1.3% increases in current total assets. In case of liquidity Easyjet scores on Ryanair.

Profitability Analysis

The gross profit margin which highlights the trading performance of a company has declined from 14.9% in 2007 to 7.55% in 2008 indicating a significant increase in cost of revenue of Easyjet plc. In case of Ryanair, the same ratio shows an increase from 25.77 in previous year to 26.36 in 2008. The Operating profit margin of Easyjet shows a decline from 9.52% in 2007 to 3.84% in 2008 although the operation cost seems to be less in 2008 as compared to that in 2007. This decline in operating profit margin is actually the result of a heavy fall in gross profit of the company in 2008. Operating profit margin, being one of the functional components (other one is Asset turn over) of ROCE, the reduction in this has also reduced the overall ROCE of Easyjet from 10.4% in 2007 to 4.91% in 2008. This decline in ROCE is really an alarming signal for the company's profitability as it indicates the return on long-term capital employed by investors. Such a reduction in this figure is quite enough to scare off the investors. One the other hand again the ROCE of Ryanair has increased by almost 1%. From the discussion so far it is clear that a significant part of revenue has been dedicated by Easyjet to meet its direct and indirect operating expenses. Adrian (2009) shows in the following table, how both of the no-frill companies (Ryanair and Easyjet) carry out their costs in 2008.

Conclusion and Recommendations

From the above discussion, I reached to the conclusion that it is unlikely for the Easyjet be affected adversely from the economic downturn in short-run as shown by higher load factor and consistent increase in revenue throughout the past years. However if the company keeps failing to control the direct and indirect costs relating to revenue, which results in decreasing the overall profit margin of the company will lead to a situation where investors will think 100 times before investing in the company. By nature, the low-cost airlines (as the name indicating) achieve the high profit margin by reducing its costs, in fact the survival of such airlines depend on keeping their operational cost low. Following are some measures I will like to recommend to Easyjet that might be able to control the overall operational cost of the company. By increasing the ancillary revenue to offset the cost of income arising in generation of operational revenue The company should review its strategy of operating only from primary airports; I think Easyjet should consider the use of secondary airports with low bargaining powers. The number of flights should be decreased in off-peak seasons to avoid both employee costs and aircraft operating cost. Keeping the crew size to minimal number and also the company should review the current pay structure of the staff that is looking higher in the industry. The company should adopt a better hedging strategy in order to cope up with the future increase in fuel prices or currency exchange rates. Easy jet should give special attention to minimize the advertise expenses. To achieve the objective of being No.1 airline, Easyjet should minimize its overall operational costs. Note: The main sources of my research that I have carried out to complete this report are the official websites of both the companies as they are the primary source of financial information relating to their businesses.

Cite this page