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Valuation Ratios in the Airline Industry

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Valuation Ratios in the Airline Industry Hari Stirbet Tammy Cheung Shelly Khindri Parmjit Marway Agenda Industry Overview Financial Theory American Airlines Skywest ... – PowerPoint PPT presentation

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Title: Valuation Ratios in the Airline Industry


1
Valuation Ratios in the Airline Industry
  • Hari Stirbet
  • Tammy Cheung
  • Shelly Khindri
  • Parmjit Marway

2
Agenda
  • Industry Overview
  • Financial Theory
  • American Airlines
  • Skywest
  • Delta
  • Southwest
  • Class Exercise
  • Summary

3
Industry - Overview
  • 1978 deregulation of US Airline Industry
  • Mid-2001
  • industry dominated by long-haul small carriers
  • Many non-stop regional commuter carriers

4
Industry Financial State
  • First cyclical downturn in 2001
  • Air travel demand declined prices softened
  • ROE had declined to 12 v.s. 25
  • P/B ratio declined to 2 v.s. 2.8
  • P/E ratio was negative

5
What does this all mean?
  • To maintain long term competitiveness and
    sustainability, an airline needs to have both
    global scale, strong presence and a cost
    efficient strategy.

6
Future Trends?
  • Passenger traffic on a steady increase since 2002
  • Airlines operating under cost cutting strategies
  • A trend towards globalization
  • Increased influence of alliances Star, SkyTeam
    and One World

7
Industry Analysis
  • Threat of New Entrants (LOW)
  • High startup costs
  • Limited Hub Access
  • Post 911 environment
  • Rivalry Among Existing Firms (HIGH)
  • Route Sharing
  • Hub Competition
  • No Frill Airlines
  • Bargaining Power of Buyers (MODERATE)
  • Price
  • Convenience
  • Service
  • Bargaining Power of Suppliers (HIGH)
  • Boeing Airbus
  • Bombardier Embraer
  • Threat of Substitutes
  • Short Haul (MODERATE-HIGH)
  • Long Haul (LOW- MODERATE)

8
Airline Model Comparison
National Regional
Long haul domestic international services Economies of scale (long flights) Hub-and-spoke networks High fixed costs Low marginal costs Use alliances to strengthen international presence Non-stop short haul services Many affiliated with long-haul carriers Low bargaining power Non-unionized no frills airlines Technologically advanced Serve mainly domestic market
9
Company Strategy Current Performance
  • Company strategy drives
  • Earnings growth
  • Growth in ROE
  • Growth in equity

10
Financial Theory
  • P/E increases as Earnings grow
  • P/E decreases as CEC increases
  • ROE is based on Dupont
  • (Earnings/Equity)
  • If ROE lt CEC then P/B decreases

11
American Airlines
  • Very competitive domestic market
  • Competition in long-haul, regional cargo
    service
  • Many other airlines on same routes
  • Relatively new aircraft
  • Unionized labour force

12
American Airlines Strategy Impacts
  • ROE 12 - (declining from 21)
  • Earnings Growth Loss (slow growth)
  • Assets Growth 6
  • Net Operating Profit Margin 5 - (declining
    from 8)
  • Forecast

13
Skywest Airlines
  • Founded in 1972
  • Relationship with Delta Airlines United
    Airlines LT revenue
  • High competition with regional airlines, low fare
    carriers major airlines

14
Skywest Strategy Impacts
  • ROE 18
  • Earnings Growth High (Long term
    Sustainability??)
  • Assets Growth 20.1
  • Net Operating Profit Margin 9 (declining)
  • Forecast

15
Delta Airlines
  • Founded in 1924
  • Highly competitive in domestic market growing
    competition
  • Low switching costs
  • Unionized labour force
  • Average asset growth

16
Delta Airlines Strategy Impacts
  • ROE Fluctuates between 17 - 30
  • Most recent 8
  • Assets Growth 12.4
  • Net Operating Profit Margin 6 (declined from
    9)
  • Forecast

17
Southwest Airlines
  • Flexible non-unionized workforce
  • Use of same aircraft across routes
  • Low cost airports
  • No lock-in to standard banking services
  • ROEgt CEC (21 vs. 12.5) gt P/B gt 1

18
Southwest Airlines Strategy Impacts
  • ROW 21
  • Earnings Growth Very High
  • Assets Growth 15.4
  • Net Operating Profit Margin 11 - stable
    (highest in the market)
  • Forecast

19
Recall Financial Theory
  • P/E increases as Earnings grow
  • P/E decreases as CEC increases
  • ROE is based on Dupont
  • (Earnings/Equity)
  • If ROE lt CEC then P/B decreases
  • Assumption CEC 12.5 industry wide

20
Other Things to Consider
  • Company Strategy
  • Operating Model
  • Growth Plans
  • Access to Capital
  • Company Industry Trends

21
Valuation Multiples
Airline P/E P/B Your Guess
A 7.5 0.8 ?
B 6.8 1.2 ?
C 16.8 3.1 ?
D 26.8 4.9 ?
22
Our findings
  American Delta Southwest Skywest
ROE Low Average High High
P/E Low Low High High
P/B Low Low to Average High High
  (ROEltCEC) (P/Blt1) P/B 1 Sustained Growth Growth ? P/B gtgt 1
23
Valuation Multiples
Airline P/E P/B Our Guess
A 7.5 0.8
B 6.8 1.2
C 16.8 3.1
D 26.8 4.9
24
Summary
  • Difference in performance/strategy can affect the
    valuation multiples
  • Rank companies based on strategy analysis
  • Value of the company is NOT only numbers
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