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Global Air Lines David Marti Sandy Schatz Roshan Mann Eric Yung. Agenda. Industry Introduction Singapore Airlines Introduction Financials Hedging Strategy Southwest Airlines Introduction Financials Hedging Strategy. Goals. Find out what risks the airlines currently have
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Global Air Lines David MartiSandy SchatzRoshan MannEric Yung
Agenda • Industry Introduction • Singapore Airlines • Introduction • Financials • Hedging Strategy • Southwest Airlines • Introduction • Financials • Hedging Strategy
Goals • Find out what risks the airlines currently have • Find how these risks are hedged • Find out if the hedges are successful • What is successful?
Air Lines The worlds first airline was in 1909 (Deutsche Luftschiffahrts-Aktiengesellschaft) Airlines provide air transportation for cargo and for passengers The cumulative net profit of all airlines put together since 1909 is negative Positive externalities Airlines are highly leveraged
Air Line Alliances • Star Alliance, Sky Team, Americas and Oneworld • Cost Reduction • Sales offices, maintenance facilities • Traveler benefits • More departure times • Optimizes transfers • Traveler disadvantages • Less competition
How do airlines become profitable? Revenues are from ticket sales and shipping Costs Fuel Costs Labour Fleet Management Financing Costs Profitability is cyclical and follows the economy
Airline Owners Public-Southwest, WestJet, Delta Private- Indo China Airlines Government owned- Aerolineas Argentinas, Czech Airlines and Air India.
Risk For Airlines Strategic risk Business design choices Financial risk Variability of revenue and costs Operational risk Tactical aspects of running the business Hazard risk Safety of physical assets
Singapore Airline Company Introduction Financials Risks and Hedging Strategies
General Information • Founded in 1947 as Malaysian Airlines • SIA’s passenger network covers 61 cities in 34 countries • Own parts of • Singapore Airlines Cargo (100%) • SIA Engineering Company (SIAEC) (81.9%) • Singapore Airport Terminal Services (81.9%) • SilkAir (100%) • Singapore Flying College ( 100%) • Virgin Atlantic Airways Limited (49%)
SIA Facts • Founded in 1972 • Provide world-class customer service • Most modern and comfortable aircraft • SIA Group employs 28,343 staffs • SIA’s passenger network covers 64 cities in 35 countries • SIA Cargo offers a network linking 68 cities in 36 countries, making it the 2nd largest international cargo airline
Marketing and Branding • Company slogan “A great way to fly” • Singapore emphasis their staff • Singapore Girls
Awards • Singapore airlines claims to be “Worlds Most Awarded Airline” • Zagat Survey • Placed first in premium and economy classes for comfort, service and food • Fortune • Was ranked 33rdWorld’s Most Admired Companies rankings in 2009 by Fortunes
SIA Hedging Philosophy • The Group operates globally and generates revenue in various currencies. The Group’s airline operations carry certain financial and commodity risks, including the effects of changes in jet fuel prices, foreign currency exchange rates, interest rates and the market value of its investments. • The Group’s overall risk management approach is to moderate the effects of such volatility on its financial performance. The Group’s policy is to use derivatives to hedge specific exposures. • As derivative are used for the purpose of risk management, they don’t expose the Group to market risk because gains and losses on the derivatives offset losses and gain on the matching asset, liability, revenue or costs being hedged.
Accounting Principles of Financial Instruments • Financial assets are recognized on the balance sheet when, and only when, the Group becomes a party to the contractual provisions of the financial instrument. • When financial assets are recognized initially, they are measured at fair value, plus, in the case of financial assets not at fair value through profit and loss, directly attributable transaction costs. • A financial asset is derecognized when the contractual right to receive cash flows from the asset has expired. • All regular way purchases and sales of financial assets are recognized or derecognized on the trade date, i.e., the date that the Group commits to purchase or sell the asset.
Accounting Principles of Financial Instruments There are two sub-categories: • 1. Financial Assets as fair value through profit or loss at inception. A financial asset is classified in this category if acquired principally for the purpose of selling in the short term. Derivatives are also classified under this category unless they are designated as hedging derivatives • 2. Financial assets held for trading. Assets in this category are classified as current assets if they are either held for trading or are expected to be realized within 12 months after the balance sheet date.
Accounting Principles of Financial Instruments • Non-derivative financial assets with fixed or determinable payments that are not quoted in an active market are classified as loans and receivables. Such assets are carried at amortised cost using the effective interest method. Gains and losses are recognised in the profit and loss account when the loans and receivables are derecognised or impaired, as well as through the amortisation process.
SIA Derivative Instruments And Hedging Activity • The Group uses derivative financial instruments such as forward contracts, interest rate swap contracts, jet fuel options and jet fuel swap contracts to hedge its risks associate with foreign currency, interest rate and jet fuel price fluctuations. • Any gains or losses arising from changes in fair value on derivatives that do not qualify for hedge accounting are taken directly to the profit and loss account. • The fair value of forward currency contracts is determined by reference to current forward contracts with similar maturity profiles. The fair value of interest rate contracts is calculated using rates assuming these contracts are liquidated at balance sheet date. The fair value of jet fuel swap contracts is determined by the reference to available market information and option valuation methodology.
SIA Financial Risks • Main Risks • Jet Fuel • Foreign Currency • Interest Rate • Other Risks • Market Price Risk • Liquidity Risk • Credit Risk
Jet Fuel Price Risk Risk Exposure:The Group’s earning are affected by changes in the price of jet fuel. Strategy:Provide the Group with protection against sudden and significant increase in the jet fuel price. Derivative Instruments:The group manages this fuel price risk by using jet fuel swap and option contracts and hedging up to 18 months, as well as gasoil swap hedging up to 24 month.
Foreign Currency Risk Risk Exposure: The Group is exposed to the effects of foreign exchange rate fluctuations because of its foreign currency denominated operating revenues and expenses. Strategy: The Group manages its foreign exchange exposure by a policy of matching, as far as possible, receipts and payments in each individual currency. Derivative Instruments: Surpluses of convertible currencies are sold, as soon as practicable, for USD and SGD. The Group also uses forward foreign currency contracts and foreign currency option contracts to hedge a portion of its future foreign exchange exposure. Such contracts provide for the Group to sell currencies at predetermined forward rates, buying either USD or SGD depending on forecast requirements, with settlement dates that range from one month up to one year.
Interest Rate Risk Risk Exposure:The Group’s earning can also be affected by changes in interest rates as they have expenses from short term deposits and other interest bearing financial assets that are at a variable rate. Also, they earn variable rates on some financial investments. Strategy: The majority of the Group’s interest-bearing financial liabilities over a year are either offset by financial investments or have been initiated at a fixed rate. Derivative Instruments: Interest rate swaps and interest rate cap contracts are used when liabilities are not at a fixed rate or offset.
Interest Rate Derivatives • Interest Rate Cap • Have a strike price of 6.5% and mature in 7-10 years • Interest Rate Swap • Exchanged for fixed at 3%-4.95% maturity march 2014-2016
Market risk Sensitivity analysis • Sensitivity report looking at increase or decrease of .01% on market interest rates
SIA Stock Options SIA Share Option Plan • The Singapore Airlines Limited Employee Share Option Plan, which comprises the Senior Executive Share Option Scheme and the Employee Share Option Scheme for senior executives and all other employees respectively, was adopted in 2000.
SIA Stock Options Cont. Restrictions on Stock Options • No options have been granted to controlling shareholders or their associates, or parent group employees. • No employee has received 5% or more of the total number of options available under the Plan. • The options granted by the Company do not entitle the holders of the options, by virtue of such holding, to any rights to participate in any share issue of any other company.
SIA Stock Options Cont. All Stock Options • Have a term no longer than 10 years from the date of grant • Exercise price will be the average of the closing prices of the Company’s ordinary shares on the SGX-ST for the five market days immediately preceding the date of grant • Options will vest • For employee – two years after the date of grant • For senior executive - one year after the date of grant for 25% of the ordinary shares subject to the options. - two years after the date of grant for an additional 25% of the ordinary shares subject to the options - three years after the date of grant for an additional 25% of the ordinary shares subject to the options - four years after the date of grant for the remaining 25% of the ordinary shares subject to the options
The Restricted Share Plan (“RSP”) and Performance Share Plan (“PSP”), share-based incentive plans forsenior executives and key senior management
