Solution for 733N1 Accounting and Finance for Managers

 

 

Accounting for Decision Maker

Air China Limited

 

 

 

 

 

ABSTRACT
Financial Ratios are used to analyze the financial performance of a firm as compared to other firms or the same firm over the course of different years. Financial ratios are used even in the modern finance to make decisions regarding the optimal project for the company. Financial ratios only provide the analysis on the basis of past financial data. Hence this method is not much feasible in predicting the future financial performance of the company. But the efficiency of this method in comparing a firm’s performance with the industry averages can’t be ignored.  This report also includes the financial analysis of Air China company which is a multinational Airline having it’s headquarter residing in the Beijing, China.  The financial analysis is mainly based on financial ratios. This was clear from the financial analysis that the company has the potential to perform best in the industry of Airlines. The company’s assets are increasing over the year with the decrease in the liabilities, which shows that the company’s efficiency is increasing over the years.

 

 

 

Table of Contents
Introduction:................................................................................................................................... 4
Strengths of Financial Ratios:........................................................................................................ 4
Weaknesses of Using Financial Ratios:.......................................................................................... 5
Company under Study:................................................................................................................... 5
Financial Performance of Air China over different years:................................................................. 6
Year 2014:................................................................................................................................... 6
Year 2013:................................................................................................................................... 7
Year 2012:................................................................................................................................... 7
Year 2011:................................................................................................................................... 8
Year 2010:................................................................................................................................... 9
Financial Analysis on the basis of ratio Analysis:............................................................................. 10
Current Ratio:........................................................................................................................... 10
Debt Ratio:............................................................................................................................... 11
Earnings per Share:................................................................................................................... 12
Turnover:................................................................................................................................. 13
Conclusion:.................................................................................................................................... 14
Bibliography.................................................................................................................................. 15

 

 

 

Introduction:

Financial ratios are one of the most common methods in measuring the financial status of an entity. As these ratios helps the users to measure the real potential of the company as compared to their competitors.Financial ratios also play an important role in assisting the decision making process while elaborating the outcomes of all the possible projects and hence declaring the most optimal project. Financial ratios can be categorized into two parts while considering their purpose of use. As the Financial ratios can be used for both, to measure the financial progress of a single firm over the course of different years or to compare the progress of a firm with that of its competitors(Delen and Kuzeyb, 2013). One of these types is called as trend analysis, in which the performance of one company is judged over the course of different periods whereas in the other type the progressof one company is compared with the other competitors in the market. Both of these methods have their importance depending upon the results; the manager wants to analyse(Renzetti, 2015).
Financial ratios also count great importance even in the modern finance; as this basic method of measuring the financial position of a company cannot be ignored in any situation. Apart from providing the basic analysis of a firm, financial ratios also hold the users from observing various other aspects of a firm. With the use of financial ratios, analysts are also able to compare the firms of different sizes, having different sales volume. In order to analyze the different aspects of the firm, different types of ratios can be used like liquidity ratios, asset management ratios, leverage ratios, profitability ratios and valuation ratios(Glantz, 2015).

Strengths of Financial Ratios:

Every type of ratio only measures the specific aspects of a firm. Like liquidity ratios determine how liquid the assets of firms are. Liquidity can be described as the easiness to convert any asset into cash; whereas asset management ratios (efficiency ratios) can be used to analyse the efficiency of the firm in using the assets to create sales. Some firms may have a large volume of sales, but they may have used greater assets to afford those sales. Hence, the efficiency of a firm depends both on the asset consumption and sales generation(Friederich and Payne, 2015).

 

Weaknesses of Using Financial Ratios:

All these financial ratios have their strengths at one hand and the weakness at the other hand. Financial ratios make the calculation simple and effective, as the analysts can use these ratios to compare their company’s performance with their competitors in the industry. Apart from the simplicity and effectiveness, financial ratios also have certain setbacks. Due to the inflation financial statements may be affected but this affect is not incorporated in the financial ratios (Huang et al., 2015). As the firm may maintain a constant volume of sales but this volume may be overstated in the financial ratios for not considering the inflation into account. Furthermore, there are many companies that have different divisions of work, and hence it becomes difficult for them to calculate the industry average of their particular divisions. Seasonal factors may also have an impact on the volume of business, but this affect is also not counted in the financial ratios. As the calculation of financial ratios is only based on the current values(Huang et al., 2015).
Any financial ratio cannot be declared as good or bad without comparing it with the other ratios (Which may be of other company or the same company but previous years). Due to the limitations of financial ratios, they are not considered as absolute; rather they are used to frame just an estimate. With the advancement in the financial analysis, the importance of financial ratios have battered as compared to that of past. As in the modern finance, most of the decisions are based on the calculation regarding the future prospects of the company. But this future forecasting is not possible with the financial ratios; as the financial ratios use the data of previous years to portray the status of the company so that it may be compared with the others to see where it stands. Hence, financial ratios cannot be used to make absolute forecasts for the company(Cheng, Dhaliwal and Zhang, 2013).

Company under Study:

In order to make use of financial ratios to measure the performance of the company, we have chosen “Air China Limited”. Air China is a multinational airline and is the biggest airline within the People’s Republic of China (Air China Limited, 2014).Air China has it’s headquarter residing in Beijing, China. This company is working under the parent company of National Aviation Corporation and has also established many subsidiaries like Shenzhen Airlines, Air Macau, Air China Cargo, Tibet Airlines, Dalian Airlines and Shandong Airlines. This company is also well established in London and also listed on London stock exchange. In the near past the company has brought 67 new aircrafts which included A320,A330, B737-800, A330, B777-300ER and B777F, and dropped out 24 old aircraft, which included, B737,B767-300ER, B747-400, A340-300 and B757-200. On 31 December 2014, the Group had a total of 540 aircraft, with an average age of 6.08 years (excluding aircraft under wet leases). Air China has distinguished itself in the airline industry due to its better quality and Customer care. The Company has the financial cycle that ends on 31st of December every year. Thus, the latest of the financial statement is the one published on 31st of December 2014.(Air China Limited, 2015).

Financial Performance of Air China over different years:

Year 2014:

According to the report the company has adopted the Hub Network Strategy to expand the volume of Company’s earnings. Under the implementations of this strategy,the company has initiated several international routes which include Beijing to Washington, Vienna, Barcelona, Yangon and Jeju. Furthermore, the Shanghai international gateway has also launched a long haul route to Munich, increasing the number of its direct European Destinations to four. As on 31st of December 2014, the number of passengerroutes was reached 322 with an increase of 24 as compared to the year 2013. Furthermore in order to make the sales and marketing of Air China more precise, the company has made an extensive use of Customer Relations Management (CRM) system. All these strategies enabled the company to maintain an average of 8% increase in revenue on year to year base(Air China Limited, 2014).
The company has also introduced various customer care services like in-flight internet connections, Boeing 747-8 aircraft, in order to increase the brand value of thecompany. Air China has also adopted efficient strategies to control the key costs of the company to save much of the revenue as profit. As a result of such strategies, the company has reduced 7.2% of its expenses in 2014 as compared to 2013 (Air China Limited, 2014). Furthermore due to the advancement in customer care service and cost-reduction strategies, the company has become able to increase its revenue by RMB 3144 Million or 76.34%. The company has also increased its efficiency to convert the assets into revenue that is also called as turnover of the company, by RMB 7704 million or 7.86% as compared to the year 2013. Apart from the overall reduction in expenses the company has seen an increase of 4.85% in its operating expenses. The total assets of the company at the end of 2014 have also increased by 2.06% as compared to the previous year that constitutes 10.06% of current assets and 89.94% of the non-current assets. The company’s equity investment has decreased by 18.39% as compared to the year 2013. The liabilities on the company have also increased as compared to the previous year, by 1.81% due to which the gearing ratio of the company decreased, but only with a small fraction from 71.94% to 71.76%.(Air China Limited, 2014).

Year 2013:

In the year 2013 the company made changes in the various financial policies as while making the financial statements the company would include the foreign currency (other than the entity’s functional currency) at the exchange rate of the transaction rather than the current exchange rate. In the year 2013 the company’s current assets were increased by 16.09% as compared to the year 2012. Moreover the cash and cash equivalents of the company were increased by 39.8% as compared to the previous year. Whereas the non-current assets of the company were decreased by 90 % that lead to a 0.58% increase in total assets of the company in 2013 as compared to 2012. Apart from the current assets the liabilities of the company which were reported on 31st of December 2012, were increased by 1.18% as compared to year 2012; whereas, the equity of the company was also decreased by 1.269%. Apart from this the revenue of the company was also decreased in 2013, with an amount of 0.289%. This shows that the company did not perform well in year 2013 as compared to previous years as it reduced its revenue, increased its liabilities and also incurred an increase in operating loss by 56.17%.(Air China Limited, 2013).

Year 2012:

The volume of Air China’s financials has seen a rapid increase from the year 2012, as it has increased its volume of assets, liabilities and equity by an average of 25%. In the year 2012 the company has successfully decreased its unit operating cost while ensuring an increase in its yield per unit. In the 2012 the company saw an increase in the Hub network with the addition of flights from Beijing to Wuhan, Hangzhou, Chongqing and many other destinations. As the result of efficient marketing strategies, the company maintained its revenue growth on 9% per year; whereas, due to increase in direct sales throughthe internet the company assured 39% growth in revenue. The company recorded an increase of 31.16% in operating profit in 2012 as compared to the previous year. Apart from this the company reduced the profit attributable to share holders from RMB7, 082 million to RMB4, 637 million and also the earning per share from the amount of RMB0.58 per share to just RMB0.38 per share(Air China Limited, 2012).
The company has also ensured an increase in turnover by 2.475 or RMB2, 428 million. In the year 2012 the company’s operating expenses also increased by 0.52% thatis resulted by increasing the number of flights from Beijing to other destinations and also due to an increase in jet fuel cost. The total assets of the company were increased in 2012 by 6.68% constituting 88.04% of non-current assets and 11.965 of current assets. Company’s equity also saw an increase of 4.78% in its volume while the total liabilities of the company increased by 6.11%. Gearing ratio of company was decreased in 2012 by 0.39 points from 72.52% to 72.13% whereas the working capital of the company was also decreased in 2012 by the amount of RMB 1, 073 million as compared to previous year.(Air China Limited, 2012).

Year 2011:

In 2011, Air China introduced 58 new aircrafts that included 4 B777-300ER, 19 B737-800, 5 A330 and 23 A320 series while it retired 19 old aircrafts that included B757-200 and B737-300. The efficient Customer Service Management (CSM) system of Air China, which enabled the company in attracting the greater number of customers by increasing the customer related services. This system was also initiated in 2011. The company was able to earn greater revenue from its alliances. As the Star alliance revenue was increased by 9% in the year 2011 from the previous year. The company earned an operating profit of RMB6,259 million and the profit attributable to equity holders of RMB7, 082 million.Furthermorethe earnings-per-share of the company was RMB0.58 despite the continued recession in the air cargo.Whereas, the company’s turnover was increased by 19.30% in 2011 from the previous year.(Air China Limited, 2011).
Apart from this the company incurred greater operating expenses in 2011 as compared to 2010. This increase in operating expenses was lead by 28.77%. In 2011, the Company’s share in the profits of its associates was RMB1,329 million, as compared with RMB3,375 million in 2010, mainly due to the recognition of gains on investment in Cathay Pacific of RMB959 million in this reporting period compared to RMB3,003 million in 2010. The total assets of the company were also increased by 10.76% in 2011 which constituted current assets of 13.28% of the total assets and non-current assets of 86.72% of the total. A considerable increase in cash and cash equivalent assets of the company was ensured in 2011, as the cash asset of the company was increased by 7.33% as compared to the previous year. The total equity volume was also decreased by 5.58% in 2011 due to the depreciation of Hong Kong dollars against RMB. Contrary to increase in assets the company has incurred more liabilities in the year 2011 as compared to 2010.  As the liabilities of the company was increased by 8.63% in 2011 as compared to the previous year. The gearing ratio was also decreased by 1.42ppts from 73.94% to 72.52% due to increase in liabilities. Like the gearing ratio, the current ratio of the company was also decreased by 6ppts from 0.44 to 0.38 in 2011.(Air China Limited, 2011).

Year 2010:

In 2010 due to rapidly increasing demand in the aviation market in 2010, the company was able to seize the majority of market share by introducing additional capacity in a timely manner. The company increased its capacity of passengers by 33.92% in the year 2010 as compared to the previous year. Furthermore, the company was also listed in “World’s Top Five Hundred Brands” having the brand value of RMB 40,629 Million. Air China introduced many cost control initiatives which efficiently decreased the operating cost of the company. The company remained successful in implementing the cost control strategies even after 40% increase in Jet fuel cost. It became able to generate RMB 10,928 Million of profit from its operation, RMB 12,005 million of profit attributable to the owners of the company and RMB 1.03 earnings per share. The company earned a great increase in its turnover that became 62.63% more than the previous year(Air China Limited, 2010).
Operating expenses of the company also increased in 2010 by 55.93%. Apart from the expenses the company was able to create 41.72% more assets than the preceding year. This year company had the current assets of 14.47% while non-current assets of 85.53%.The equity investment of the company was increased by 16.43% in 2010 as compared with 2009. Liabilities also increased in that year as much as by 39.82% constituting 44.62% of the current liabilities and 55.38% of non-current liabilities. Due to a considerable increase in liabilities, the gearing ratio of the company was decreased by 3.86 percentage points from 77.8% to 73.94% by the 31st of December 2010. Contrary to decrease in gearing ratio the company managed to increase its current ratio by 0.21 from 0.23 to 0.44 by the end of the year 2012(Air China Limited, 2010).

Financial Analysis on the basis of ratio Analysis:

Current Ratio:

(Amount in Millions)

Current Ratio

Years

2010

2011

2012

2013

2014

Current assets

22979

23353

22440

31333.43

21053

Current Liabilities

52389

61332

59346

59940.26

60483

Current Ratio

0.438623

0.380764

0.378122

0.522744

0.348081


It can be seen from the above table that the current ratio that is (Current Assets over the Current Liability) of Air China is decreased since year 2010 except the year 2013 in which the company sold 90% of the non-current assets. The decrease in current ratio can become a sign of company’s incurring greater debt but in case of Air China it maintained the current ratio in a secure range.

Debt Ratio:

(Amount in Millions)

Debt Ratio

Years

2010

2011

2012

2013

2014

Total Liabilities

117403

127525

135313

160250.5

150201

Total Assets

158774

175850

187591

211057

209311

Debt Ratios

0.739435

0.725192

0.721319

0.759276

0.717597


Debt ratio of a company can be described the one which measures the proportion of company’s assets which are financed by short term debts or liabilities.As per the above table Air China was able to maintain its assets by incurring the same liabilities, this shows that the company has incurred greater liabilities in order to maintain greater assets. This ratio is decreased in the previous year’s except 2013 in which the company has to sell assets and incur greater liabilities.

Earnings per Share:

Earnings per Share

Years

2010

2011

2012

2013

2014

EPS

1.03

0.62

0.4

0.27

0.31


Earnings per share is the ratio that is most considered by the shareholder and which also impacts the share holders decision regarding their investment in the company. Keeping the above table of EPS, it can been seen that Air China has continuously decreased the earnings per share which illustrates that the company has kept on discouraging the Equity Investment in the previous years.

 

 

Turnover:

(Amounts in Thousands)

Turnover

Years

2010

2011

2012

2013

2014

Turnover

80402846

95820643

99472780

98180790

105884322

% Increase

36%

16%

4%

-1%

7%


The turnover determines the company’s efficiency in creating the revenue while incurring the expenses. The turnover of Air China is kept on increasing in the previous year’s except the year 2013 in which the company turnover was decreased. This increase in the turnover of the company shows that the company is strengthening with every passing year. (Air China Limited, 2010).

Conclusion:

From the above analysis and the particular financial ratios, it can be analysed that in the current position the company is maintaining a greater market share, lesser equity investment and has greater turnover with the increased current ratio. The company did not perform well in the year 2013, but it regained the brand value of the company in last year. Furthermore, this company is now in a good position to succeed and grow in the upcoming years. The assets of the company have increased over the years while the liabilities of the company are decreased with the passing years. This gave the company enough stability to not only survive but also compete in the market of Airlines.

 

                                                                                                                               

 

 

 

Bibliography

 

Air China Limited (2010).Annual Report. Retrieved from:http://www.airchina.com.cn/www/en/html/index/ir/announcement_news/announcement/1
Air China Limited (2010).Annual Report. Retrieved from: http://www.airchina.com.cn/www/en/html/index/ir/announcement_news/announcement/1828/C9865259557EE1CC315EDCCE40151223.pdf
Air China Limited (2011).Annual Report. Retrieved from: http://www.airchina.com.cn/www/en/html/index/ir/announcement_news/announcement/4059/ANNUAL%20REPORT%202011.pdf
Air China Limited (2012).Annual Report. Retrieved from: http://www.hkexnews.hk/listedco/listconews/SEHK/2013/0425/LTN201304251378.pdf
Air China Limited (2013).Annual Report. Retrieved from: http://www.hkexnews.hk/listedco/listconews/SEHK/2013/0909/LTN20130909887.pdf
Air China Limited (2014).Annual Report. Retrieved from: http://www.airchina.com.cn/en/investor_relations/images/financial_info_and_roadshow/2015/04/23/769BFB1B8FEBE54A57FFCF70FFC49322.pdf
Air China Limited (2015).About Us. Retrieved from: http://www.airchina.com/index.shtml
Cheng, M., Dhaliwal, D. and Zhang, Y. (2013). Does Investment Efficiency Improve after the Disclosure of Material Weaknesses in Internal Control over Financial Reporting?Journal of Accounting and Economics, 56(1), 1–18.
Delen, D. and Kuzeyb, C. (2013). Measuring Firm Performance Using Financial Ratios: A Decision Tree Approach.Expert Systems with Applications, 40, 10.
Friederich, S. and Payne, R. (2015). Order-to-trade Ratios and Market Liquidity.Journal of Banking & Finance, 50, 214–223.
Glantz, M. (2015). Chapter 4 – Ratios Every Business Should Monitor.Navigating the Business Loan, 55–80.
Huang, P., Guo, J., Ma, T. and Zhang, Y. (2015). Does the Value of Cash Holdings Deteriorate or Improve with Material Weaknesses in Internal Control over Financial Reporting?Journal of Banking & Finance, 54, 30–45.
Renzetti, M. (2015). Corporate Finance: Financial Control.International Encyclopedia of the Social & Behavioral Sciences (2nd e.d), 927–931.

 

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