JetBlue Airways Corporation Essay
JetBlue Airways Corporation was formed in August 1998 as a low-fare. low-cost but high service rider air hose functioning choice United States market. JetBlue’s operations scheme was designed to accomplish a low cost. whilst offering clients a pleasing and differentiated winging experience. JetBlue has had a successful concern theoretical account and strong fiscal consequences during that period. and performed good in comparing to other air hose companies in the US during the period between 2000 and 2003. It had been the merely other air hose apart from Southwest air hoses. to hold been profitable during the wake of the September 11. 2001 onslaughts on World Trade Center. and at a clip when the full air hose industry was sing losingss.
The nucleus of JetBlue’s scheme was low operating cost achieved through a smaller and more productive work force ; using aircraft expeditiously ; better usage of engineering to accomplish lower distribution cost i. e. usage of electronic ticket as against paper ticket ; usage of trade name new individual theoretical account planes that reduced care costs and preparation costs at the same clip. However. traveling into the growing stage. JetBlue was contemplating enlargement with the debut of a new theoretical account of planes. i. vitamin E.
Embraer E190. that are smaller than the A320s that they were utilizing. These planes were to be utilized for perforating mid-size metropoliss and besides during off-peak times on bing paths. The company defined these markets as finish with 100 to 600 local riders per twenty-four hours each manner. compared to the much larger markets that the company was functioning with its A320s. This had possible deductions for its low-priced scheme.
Jetblue’s enlargement required investings in countries other than merely new aircraft. Owen needed to make up one’s mind how to raise extra capital to fund the company’s growing. Investing bankers had presented two funding proposals ; a new public equity offering and a private arrangement of exchangeable unsecured bonds. Own needed to make up one’s mind which proposal. if any. to urge to the board.
In early 2003. JetBlue continue to see chance to turn by adding both new market and new flight to bing finish. One of such new market where the company believed there was attractive chance was the mid-sized market section which comprised of finishs with 100 – 600 local riders per twenty-four hours each manner. To suit this growing. the company is seeking to buy 65 new Airbus A320. with an option to purchase extra 50 new aircraft. and besides committed to buy 100 Embraer E190 aircraft. with the option to buy 100 extra 1s. Jetblue had embarked on a $ 6. 8 billion plane acquisition plan that would increase its aircraft fleet from 45 to 252. including bing aircraft purchase committedness.
The company needs therefore to believe about a manner to finance those acquisitions. every bit good as other needed investings such as trim parts. new engines. extra airdocks and a flight preparation Centre
JOHN OWEN THE CFO OF JETBLUE IS TRYING TO DECIDE WHICH OF TWO Financing PROPOSALS ( NEW PUBLIC EQUITY OFFERING AND A PRIVATE PLACEMENT OF CONVERTIBLE DEBENTURE ) TO PURSUE. A consecutive equity issue will thin his chief shareholders’ ownership. but favored a conservative capital construction that would assist to guarantee JetBlue’s fiscal flexibleness. entree to capital and a favourable loaning rate. On the other manus. a exchangeable debt option seems less dilutive. and cheaper. but brings with it an increased hazard of default and fiscal jobs.
The funding determination taken by the CFO is of import because of the positive impact it is expected to hold on the current and future public presentation of the JetBlue. The considerations as respects impact of the funding determination are discussed ;
Impact ON CURRENT PERFORMANCE OF THE COMPANY
It is expected that the new capital would ease Jetblue’s ability to finance its short term duties as JetBlue does non hold a line of recognition. or short-run adoption installation. Therefore. the company depends on its operating hard currency flow to finance its short-run duties
The new capital will be required to finance working capital demand of Jetblue. Working capital is the short term resources that are used to pull off the concern on a day-to-day footing. This is otherwise referred to as current plus.
The funding determination which is aimed at procuring the purchase of the new 100-seat Embraer E190 aircraft would let JetBlue to come in smaller markets while keeping low operating costs. and increase flight frequence on bing paths. The low menus offered by JetBlue would let it to pull new riders who might otherwise non wing. Net incomes from this market section is expected to lend to the profitableness and positive fiscal public presentation of the company
Impact ON FUTURE PERFORMANCE OF THE COMPANY
The extra capital is expected to beef up the company’s balance sheet at a clip when JetBlue will be shouldering a important sum of debt related to new aircraft bringings.
The determination on funding method would ensue in a strong capital construction for Jetblue which would guarantee that the company would go on to turn while avoiding fiscal jobs.
The new hard currency influx which is directed at guaranting JetBlue achieves its enlargement activities. It is expected that the company will be in a place to buy larger volumes of jet fuel and would therefore hold more purchase in securing fuel than today. The company will therefore endure comparatively less from fuel deficits and the negative impact a rise in fuel has an operating income
John Owen the CFO of JetBlue by and large favored a conservative capital construction. A conservative support scheme is when a house finances both its seasonal and lasting demand with long term debt.
The standard which John Owen used to measure his determination on the appropriate capital construction and manner of funding to back up the enlargement thrust of the concern are ;
FINANCIAL FLEXIBILITY: This refers to the firm’s ability to take advantage of unanticipated chances or their ability to cover with expected events depending on the firm’s fiscal policies and fiscal construction. A house with a high debt duty and weak solvency and liquidness is non financially flexible.
FAVORABLE Lending Rate: The loaning rate to a concern varies straight with the hazard associated with any given fiscal construction which can be accessed by purchase analysis. It is expected that a higher purchase ( as a consequence of accepting debt offering ) tends to magnify a firm’s predictable concern swings i. e. associated hazard. This inclines to increase imparting rate to the house and finally consequence in an unfavourable loaning rate.
Control: The funding strategy of a company can connote alterations in control constrains on the house. this can be indicated by per centum distribution of portion ownership and construction of debt compact. There is a high opportunity that the board of managers will non prefer the equity offering as they were sensitive about the dilution ( i. e. control dilution ) that an equity offering would do to bing stockholders.
Income: This compares financing tactics on the footing of their consequence on value creative activity and distribution i. e. the impact on Net incomes per portion ( EPS ) and Return on equity ( ROE ) . The debt option limited the ability of Jetblue to pull off one of the airline’s chief hazard ; lifting fuel monetary values. As discussed above. the debt offering afforded Jetblue less fiscal flexibleness. If fuel monetary values rose out of the blue. runing income will worsen therefore aching JetBlue’s ability to run into the extra debt service payments.
Other standards John Owen could utilize to measure his determination on the appropriate capital construction and manner of funding are ;
Timing: This considers whether the current capital market environment is the right clip to implement any alternate fiscal construction and what the deduction for future funding will be if the proposed construction is adopted. Fiscal market status frequently favour one or another sort of funding.
Others: This is the consideration of the impact of the alternate funding pick on other issues and frailty versa. An illustration is the ability to utilize collateral to cut down the costs and hazard of debt funding and the consequence of assorted financing tactics on the liquidness of investing.
REASONS WHY JOHN OWEN SHOULD PROPOSE THE EQUITY FINANCING OPTION
From the above analysis. it can be deduced that utilizing equity funding option minimizes the company’s weighted mean cost of capital. therefore maximizes the overall stock monetary value of the company and the shareholders’ wealth.
The NPV of the company is higher under the equity funding option
JetBlue. as any air hose company has a debt to equity ratio of 61. 21 % and incurs really high fixed costs as a consequence of high value runing belongings and equipment. An equity offering would increase the fiscal flexibleness of the company.
The company has a really high operating purchase as a consequence of variableness in fuel monetary value. This exposes the company to the hazard of hard currency flow projections mistakes in instance it does non run into the projected grosss figures. Any fluctuation in the estimated grosss. might take the company to a place where it could non run into its fiscal duties related to debt. From this point of position. JetBlue needs to procure its hard currency flows. This can be achieved utilizing equity funding.
The loaning rate to a concern varies straight with the hazard associated with any given fiscal construction which can be accessed by purchase analysis. Publishing equity will cut down the purchase of concern and cut down imparting rate.
Other funding option I would wish to urge to the board and John Owen are ;
JetBlue can see some other options as good. Indeed. the company can publish some preferable stock. This stock might be considered as equity in accounting. to beef up the balance sheet of the company. but will at the same clip suit the board members’ concern about dilution.
Another option might be the issue of simple corporate bonds. The voucher rate for those will nevertheless be higher than the 3. 5 % of the exchangeable bonds. This option will therefore be more for JetBlue than exchangeable bonds
Aviation fuel cost is the 2nd largest runing cost in the air hose industry after paysheet. this has important impact on operating and funding hazards of a company.
IMPACT ON OPERATING Hazard:
In 2002. JetBlue’s fuel cost amounted to $ 76 million or 14. 4 % of operating cost. In the event that fuel monetary values rises. there will be a important bead in runing income and higher exposure to runing hazard ( hazard created by runing purchase ) . Operating purchase is the magnification of the top half of the income statement. it measures how EBIT changes in response to alterations in sale. and the relevant cost is the fixed cost of runing the concern. It is expected that as operating purchase addition due to gush fuel addition. the operating hazard of the concern likewise additions.
Impact ON Financing Hazard
In the event that jet fuel rises. it is expected that operating net income will drop and runing purchase would increase. This will besides ache JetBlue’s ability to run into the extra debt service payment i. e. it may confront hazard of default or possible fiscal loss which is known as fiscal hazard. Financing hazard is the hazard associated with funding and its created by fiscal purchase. Fiscal purchase is the magnification of the bottom half of the income statement. it measures how EPS ( net incomes per portion ) alterations in response to alterations in sale. and the relevant cost is the fixed cost of funding. in peculiar involvement.
The operating and funding hazard exposure of JetBlue through lifting fuel monetary value of JetBlue has being managed in the past through fudging 75 % of its fuel utilizing a combination of CALL OPTIONS. SWAPS AND COLLARS fudging instrument.
Fuel hedge is a contractual tool some big fuel devouring companies such as air hoses ( JetBlue ) usage to cut down their unmasking to volatile and potentially lifting fuel cost. A fuel hedge contract allows a big fuel devouring company to lock in the cost of future fuel purchase. leting an increasing figure of air hoses to avoid surprises from unanticipated cost fluctuations. The hedge could be done via a trade good barter or option. One of the basic grounds why a company enters into fudging contract is to extenuate their exposure to future fuel monetary values that may be higher than current monetary values and/or to set up a known fuel cost for budgeting and predictability of net incomes.
PRINCIPAL WAYS JETBLUE HAS BEING USING HEDGING TO MANAGE FUEL Pricing Hazard:
Jetblue is a little air hose which had less purchase in securing big volume of jet fuel in order to extenuate hazard of volatility or deficit of jet fuel. In order to extenuate fuel pricing hazard. Jetblue used a combination of fuel call option. barters and neckbands fudging instrument. From clip to clip Jetblue has merely bought call options which tend to be at least $ 5 per barrel.
HOW THE HEDGING INSTRUMENT WORKS
The fudging instrument largely used by JetBlue is the call option.
Call Option: This is a fiscal contract between two parties. the purchaser and the marketer of this type of option. The purchaser of the option has the right but non the duty to purchase an in agreement measure of a peculiar trade good ( jet fuel ) from the marketer of the option at a certain clip ( the termination day of the month for European call option or at any clip during the life of the option for American call option ) for a certain monetary value ( the work stoppage monetary value ) . The marketer is obligated to sell the trade good ( jet fuel ) or fiscal instrument should the purchaser so decide. The purchaser pays a fee called a premium for this right. In the instance JetBlue. the premium it pays is at least $ 5 per barrel.
Barter: Barters are seamster made hereafters contract whereby an air hose exchanges payment at a hereafter day of the month ( which can be in jet air power fuel and could be farther into the hereafter into the hereafter than possible through trade good exchanges ) . based on the fuel or oil monetary value. There could be an agreement with a provider such as Air BP. The air hose would purchase a barter for a period of say one twelvemonth at a certain work stoppage monetary value for a specified sum of jet fuel per month. The mean monetary value for that month is so compared with the work stoppage monetary value. and if it exceeds it the counter-party would pay the air hose the difference times the sum of fuel. However. if it were lower. so the air hose would pay the difference. They lock in a given monetary value. as with forward contacts.
Collar: This is a combination of a call and a put option. The call protects the holder from inauspicious monetary value additions above its work stoppage monetary value. at a cost of the option premium that would be paid in any event. The holder of this call besides writes a put option that limits the advantage it can take of monetary value decrease below its work stoppage monetary value. The entire cost of taking the two options is the call option premium paid less the put option premium received. A collar limits the bad hazard to a little scope of monetary value moves and locks in the monetary value that will be paid for fuel between two known values.