Overview of Australian Economy
Discuss About The Principals Of Financial Markets Group Assignment?
Economy of Australia is developed consisting of largest mixed market economy with a GDP of AUD$1.69 trillion in 2017 (Australia, 2010). Australia though a small nation is second wealthiest economy post Switzerland. Australia is rated as 14th largest economy according to its GDP. It has had stable GDP since a prolonged period of time and comprises of 20th largest exporter. In recent years Australia had experienced negative growth associated with slowing down of its housing sector and service sector growth. Primary contributor of Australian GDP are Services 61.1%, Mining 6.9%, Construction 8.1%, Agriculture 2.2% and Manufacturing 6.0%. Inflation recorded for the country is at 1.9% for its June quarter 2017 (Atkinson, 2007). The country has a stable currency Australian Dollars and a stable financial market. The country has approximately a labor force comprising of 12.6 million and unemployment rates are at 5.6%. Australian airline industry is vast sector that is dominated by two f its giant airlines Virgin and Qantas Airways. The industry is rapidly growing with growth in tourism segment and has attached several endeavors for customers for creating greater sphere of services. The Australian has provided various fundamental economic factors that has allowed growth and development in this segment of business (Ravenhill, 2007). The scope of the current study analyses industry prevalent conditions in airline industry and two ASX listed companies namely Virgin Airlines and Qantas Airways. Several micro and macro factors are considered within the economy that provides directional changes to it and also create value in its hare prices.
Virgin Australia Airlines Pty Ltd was earlier known as Virgin Blue Airlines, which was founded in 1999. It is considered second largest airline in Australia and is largest according to its current fleet size (www.virginaustralia.com, Retrieved on 14th September 2017). The Company was co-founded by Richard Branson and was previously based in Bowen Hills, Brisbane. Mission statement for the Company is to become Australia’s favorite airline. At The Company has several hubs spread across Australia, it primarily focuses on Adelaide Airport, Perth Airport and Gold Coast Airport with fleet size of over 115 covering 52 destinations. Current revenue earnings for the Company is AUD$ 4.7 billion whereas operating income is AUD$ - 49 million. The Company competes with Qantas Airlines and also several other airline operators from worldwide that operates in Australia.
Qantas Airways is the flagship carrier of Australia, which was founded in 1920 in Winton, Queensland, Australia (www.qantas.com, Retrieved on 14th September 2017). The airline covers multiple destinations across Australia and globally and its hubs are based in Australia. Mission of Qantas Airlines is lead being Australia’s premium airline and being always dedicated to the best. It has over 122 operating fleets covering 85 destinations globally. Its current headquarters is at Mascot in Sydney. The Company earned a revenue of AUD$15.8 billion in 2015, whereas its operating income was AUD$975 million. It has a large base of employees 28,622.
Virgin Airlines and Qantas Airways
Overall economic situation prevailing is bound to impact on a firm’s business growth and related activities. Top-down approach within an economy analyses larger picture by taking into consideration smaller elements (Böhringer, 2008). Investors, with a broader view of the economy, often select this process. It allows picking of stocks from emerging markets or from economic situations that are more prevalent to growth for companies. It diagnoses broader economic aspects for generating a worldview. The approach is focused on analysing macroeconomic picture at first then analyses industry specific condition. Australia offers a potentially attractive market with stable parameters that are conducive to its growth. In this approach GDP, trade balance, currency movements, interests rates and inflation along with other economic specific factors for analysis of trends in the economy.
The gross Domestic Product (GDP) for Australia is at 1204.62 billion US dollars, which comprises of 1.94% of the world economy (Dwyer, 2010). The sectors that contribute to the GDP of Australia has already been discussed above, which is expected to rise annually.
Figure 1: Australia GDP
Source: (tradingeconomics.com, Australia GDP, Retreieved on 14th Septemeber 2017)
Nominal GDP of Australia is $1.258 trillion and PPP adjusted GDP is at $1.187 according to IMF. Its GDP growth rate is at 1.8% annually and its per capita GDP is at $51,850 nominal with PPP adjusted GDP being at $48,899. It has gained per capita GDP rank of 12th world over. Primary dominance in the Australian sector is by services which occupies a 61.1% (Li, 2013). The stock exchange in the country is 16th largest in the whole world. It has some of the largest interest rate traded derivatives. Recently the GDP of the country has dipped which has resulted in low purchasing power amongst consumers. This has affected tourism sector in a large manner, especially the airline industry. Airline constitutes a large part of the service industry, which has been affected, leading to lowering of GDP (Garnett, 2008). Rising unemployment, rising population, lowered production in the country has tremendously affected output leading to drop in GDP. With rising of people losing job, less number of people now have purchasing power to fly by airline, which has in turn impacted airline industry in general.
Australian Dollar is relatively a stable currency, which is traded almost globally. Earlier trends depicts that Australian currency had a fairly fluctuating trend as compared to other countries but recently it has been able to stabilize its currency scenario.
Impact of Australian Economy on Airline Industry
It is though valid only in Australia and some parts of New Zealand (Borenstein, 2014). The currency trades at quite stable rates and rising exports with lowering of loans have made the currency stronger.
Figure 2: Australian Currency Rate
Source: (www.rba.gov.au, Retrieved on 14th Sepetember 2017)
Recent trends depict the currency growing weaker as compared to USD which has led to large number of passengers purchasing tickets from the airlines (Baker, 2015). Due to airline ticket becoming more affordable as compared to tickets of other airlines, more passengers are willing to buy tickets of Virgin and Qantas to fly to various locations. Similarly when the currency emerges o be stronger, then sales of ticket for the airline drops significantly.
Interest rates are a predetermining factors for economic growth and stability. Interest rates in Australia are determined by its Reserve Bank which has targets for its ‘cash rate’ for overnight funds. It is used as an instrument in the monetary policy which exerts control over cash rate and financial market operations (Oxenbridge, 2010). RBB in Australia makes decision regarding cash rate target for maintaining adequate liquidity in the market. Interest rate in Australia is maintained at levels to maintain liquidity and control rates of inflation. Though in the past Australia had experienced high rates of interest rates in recent years it has been psychology.
Interest rates in Australia had been significantly higher in the past compared to recent trends (De Neufville, 2008). Current trends in Australia depicts interests rates of the country to be around spread of 1.2%. - 1.7%.
Figure 3: Australia Interest Rates
Source: (www.businessinsider.com, Retreived on 14th Spetember 2017)
At such low interest rates, companies are able to raise capital in debt form more easily as compared to equity capital (Wiedmann, 2009). Low levels of interest rates are conducive to economic growth, stability and prosperity. Higher interest rates on the other hand reflect a debt-ridden economy. The scope of the current analysis depicts that Virgin and Qantas Airlines can easily raise debt capital at lower costs of capital, with lower servicing rates for their expansion or other endeavors.
Inflation determines purchasing power of consumers and needs to be assessed for determining relative effectiveness of the economy (Shahiduzzaman, 2014). Inflation is a determinant factor in the Australian economy that encompasses and assesses purchasing power. Australia has had tremendous number of immigrants in the past, but currently its population trends are declining and ageing population have relatively lower purchasing power as compared to younger generation. Unemployment has also seriously affected the economy leading to low purchasing power in people’s hands. Consumer prices is rising constantly in Australia to 1.9 %, which markets an era of a 2 year high range. Earlier inflation was around 2.2 %, market conditions as lowering demand in housing market and transport has led to such declining rates.
Current Economic Trends and Their Impact
Figure 4: Australian Inflation Rate
Source: (tradingeconomics.com, Australia Inflation, Retreived on 14th September 2017)
Increase in consumer inflation has been significantly lower in recent years with rise in job losses and outsourcing in the economy. Large amounts of Australian economy is facing significant run-down due to outsourcing of job offshore (Thurlow, 2007). With lowering of purchasing power in hands of consumers with similar outlook for the future, the economy is further expected to suffer. With low levels of purchasing power demand associated with airline ticket and associated businesses are expected to fall in the future. There is a negative outlook in the Australian economy for the future, especially in regards to consumer related demands. Macro-economic conditions are deterrent for any growth related factors in any sector especially in the service. As both the companies in analysis Virgin and Qantas airlines are present in Australia, within similar specific conditions both companies are estimated to be impacted in a similar manner. Australian markets are conducive for growth and development of airline industry and its businesses.
In a bottom-up analysis fundamental analysis for the Company is taken into consideration. It encompasses financial statements, security prices and other prospects for the company (Forsyth, 2008). As against top-down approach, in bottom-up approach it is assumed that companies will perform well. Bottom-up approach identifies industry related aspects as against those of the company for arriving at a recommendation. Australia airline industry has been through turbulent times with steady decline in international tourists. Post terrorists attacks international tourists has declined leading to traffic loss from all airlines globally. The industry has also undergone tremendous amounts of structural changes since 1990s with opening of Australian markets to international players. Earlier there were two airlines in the industry one being Qantas airways and another being Ansett Australia but with Virgin Blue and Impulse Airlines emerging, the industry has changed immensely. Qantas remains a dominant player in the market with Virgin having less than one third of the market share. Domestic airline industry in Australia largely remains unregulated with Australia’s International airline being regulated from Federal level. International airlines have capacity controls with long-established system of bilateral air service agreements (ASAs). The framework allows smooth and easy functioning of operations scheduled in international air service. The Commonwealth government has also adopted a series of measures in an attempt to rapidly develop low-cost airline segment at competitive rates. These policy changes have affected existing airlines and new airlines. Passenger share in the aviation industry largely remains affected with emergence of large number of carriers and international fleet in the market.
Inflation and Purchasing Power
Industry analysis according to bottom-up approach for airline industry in Australia with that of Qantas and Virgin Airlines is taken into consideration. Current market capitalization for Virgin Airlines is at AUD $1,565M with equivalent share 8,458 M. current price at which the stock trades is $0.185.
Figure 5: Virgin Airline Stock Price
Source: (investsmart.com.au, Retreived on 14th September 2017)
The Company has Earnings of 1.80 as against sector scenario of 1.06, its P/E Ratio is 0 as against sector ratio of 18.40 and P/B ratio is .00 against sector average of 1.82. It P/E growth ratio is 0 as against sector growth rates of 3.63 (Nimark, 2009). These data reflects that Virgin is though an established airline, it has barely been able to meet up with the standards prevalent within the industry. The Company neither has a P/E ratio, implying that it has not been able to deliver significant return on its share capital. The Company has not been able to generate earnings for its shareholders. The Company in order to establish and grow within the current industry needs to strive or extend several competitive advantages. The Company needs to expand its core advantages and provide more offering to its customers in order to attract more passengers. The airline industry is extremely competitive hence, in order to become competitive the airline needs to develop several advantageous prices or discounts or offers to generate more amount of sales as against its competitors.
Qantas Airways on the other hand has a market capitalization of AUD $10,470 M with equivalent shares of 1,808 M (Hazel, 2012). The Company has an Earning of 1.08 as against sector average of 1.06. It has a P/E ratio of 10.94 as against sector average of 18.40, its P/B ratio is 2.96 as against 1.82 sector average. Its P/E growth rate is 2.01 and sector average is 3.63.
Figure 6: Qantas Airlines Share Price
Source: (https://www.investsmart.com.au, Retreived on 14th September 2017)
Qantas Airways is a more profitable airline as compared to that of Virgin with more customer base. The Company has a relatively stable P/E ratio meaning that it can easily attract large investor base in case it wants to expand it company functions. Though the industry remains competitive, the airline needs to devise more strategies for attracting new customers and creating competitive advantages.
The competitive ambience and atmosphere of international airlines have led to airlines adopting low cost structures. For an airline company to remain competitive, it needs to adopt cost competency and also exert core competence by tie-up with online booking portals, hotels and travel agents. But analysis of stocks of Virgin and Qantas airlines has been conducted in bottom-up analysis and also top-down analysis manner. As both the airlines have hubs and are operating from Australia that offers stable atmosphere for conducting its business, bottoms-up analysis for both will be preferred. According to bottom-up analysis it can be deduced that Virgin is an emerging company whereas Qantas already have an established business. for the purpose of investment Qantas offers more lucrative opportunity as compared to Virgin airlines.
Interest Rates in Australia
Following discussion from analysis of macro-economic factors as well as industry specific factors, it can be said that it asserts immense influence on share prices and economic situation of the company. As Australia’s GDP is currently slowing, Airline companies are raising less capital from debt market for adding to their fleet size. Returns from stock prices of these companies are gradually declining. Inflation and currency though has been significantly stable in these markets providing substantial benefits to their businesses. Stability in interest rates and other macro factors has been conducive to growth and development of these business in the Australian markets. As scope of tourism industry is gradually expanding, it is offering more diversified opportunities to these companies who are making tie-ups with hotels, taxis and other facilities to provide their customers with a complete satisfaction experience. Micro factors as analysed form the companies reflect that Virgin and Qantas Airlines both have been operating at substantial profitability. However, current fluctuations in fuel prices has led to diminishing of their operational profitability leading to operational losses. These airlines are trying to hedge against such situations to provide profitability situation to the company. However, they are not able to cover their basic costs which are adding to significant burden. In order to overcome to current prevailing situations in the market and remain profitable, the airlines needs to adopt the following recommendations;
- These airlines needs to make tie-up with several global airlines and create flyer schemes that will allow reduce costs. Global carriers that do not operate in Australia can be made tie-up with these airlines for generating larger customer base.
- Airlines can have hedging for fuel prices such that they are able to tolerate any fluctuation in fuel prices that might affect their profitability. Planning ahead for tolerating any fluctuations will allow to undertake rapid strategic planning procedure.
- Low cost carrier is the new norm for airline industry to generate more sales volume, Sales is the key to generate more volumes and create continuous profitability by maintaining at par facility. Along with its luxurious segments, these airlines can operate in the low costs segment, which will allow it to develop more cost advantageous operations.
- Online booking facility has been adopted for most airlines globally. Such online bookings allow reducing costs related to operations and make extraordinary profits. These airlines can make tie-ups with several online travelling portals that offers lucrative deals to travelers by booking with them to generate more number of passengers
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