Air New Zealand Limited - Business Risk Analysis - Case Study Example

AIR NEW ZEALAND LIMITED: BUSINESS RISK ANALYSIS Name Name of Class Name of Professor Institution Affiliation City and State Date Executive Summary Every organization is exposed to some level of risks. Failure to effectively manage these risks may contribute to undesired business outcomes such as financial losses and negative business reputation. It is thus important for businesses to identify the risk factors that are common in the industries. The buck should not stop with identifying the risk, but organizations should go further and assess how these risks directly affect the organization. The organizational objectives should also reflect the organization’s commitment to protecting itself from the different risks it is exposed to. This report presents the risk analysis of Air New Zealand, identifying the different risks airlines all over the world face and the extent to which the airline has been affected by the different categories of risks. The report indicates that the main risks Air New Zealand faces today are operational risks and compliance risks. Introduction Air New Zealand is an international airline, which provides international travelling services to and from different countries and regions including New Zealand, Australia, Asia and North America (Airnewzealand, 2016). The airline offers both cargo and passenger services and is listed on the Australian stock exchange. The company has a big operating fleet of over 100 planes. The airline offers a wide range of services, including baggage services, on board flight services and special assistant services for pregnant women and disabled individuals (Airnewzealand, 2016). Besides, the company provides package holidays to clients, where it offers services such hotel and car booking. The airline also provides ground handling and engineering services (Airnewzealand, 2016). Just like other industries, the aviation industry has its fair share of risks including operational and financial risks. In order to minimize the impact of these risks, aviation companies have to evaluate their risks constantly and incorporate risk management into the businesses’ core infrastructure. The following report presents Air New Zealand’s risk analysis and an audit strategy. Background Air New Zealand was established in 1940 and its headquarters are in Auckland, New Zealand. The company operates in different regions including Asia, North America and Europe (Airnewzealand, 2016). It also runs domestic operations in New Zealand, serving a couple of cities. The New Zealand government has the largest stake in the airline at 76%. The company describes its main activity as being “the operation of domestic and international passenger transport and cargo (Airnewzealand, 2016).” The airlines vision is to be the leader in every market they operate through the creation of a work environment where workers are committed towards the customers. The company’s main strength lies in its focus on delivering quality services to its customers. However, the nature of the industry means that the company has to overcome many risks and challenges in its delivery of services. The airline industry has become very competitive. The entry of major players into new markets as well as the emergence of low-cost airlines has piled a lot of pressure on many national careers including Air New Zealand (Cederholm, 2016). Apart from having to find new ways of minimizing costs brought about by increasing competition, airlines also have to identify and address the risks that emanate from the complex structure of the aviation industry. Despite the existence of many factors that contribute to organizational risk in the aviation industry, most of the risks can be identified and properly managed (Cederholm, 2016). Risk analysis does not only involve the identification of business risks, but also requires the concerned stakeholders to develop an understanding of the risk. During the risk analysis process, activities include identifying and understanding the cause and sources of risk, the positive and negative implications of the risks, as well as the probability of the said consequences happening. As pointed out earlier, the aviation industry is exposed to a wide range of risk factors. They include financial risks, operational risks, strategy-related risks, political risks, labour related risks as well as capacity and utilization risks. Whether an airline will be successful in both the long and the short run depends on whether it is able to identify these risks early enough and set up effective strategies to mitigate the impact of the said risks. Failure to manage risks in the aviation industry might lead to huge financial losses. Circumstantial Information Economic factors in the airline industry The airline industry has played a vital role in the globalization campaign. The industry has made it possible for goods and services to be moved over long distances, thereby breaking the time barrier as well as distance barrier. In its annual report about industry performance, The International Air Transport Association (IATA) reports that new destinations went up by 1.7% in 2015. The upturn of the economic cycle starting from 2010 has greatly contributed to the accelerated rates of air travel. The growth is also being driven by other economic factors, including expansionary monetary policy as well as the easing of fiscal austerity measures in many countries. Besides contributing to the global economic development by facilitating fast transportation of goods and people, the airline industry also makes a significant contribution to national GDP through the generation of tax revenues. The increased airline activities over the past few years have also contributed to increased availability of jobs. According to IATA (2015), the estimated number of new jobs that the global airline industry created as of 2012 was 58.1 million. Fuel price is another significant economic factor that has affected the airline industries. The declining prices of fuel over the past few years mean that companies are spending less on jet fuels (IATA, 2015). Competition has also increased over the past few years, owing to the emergence of low-cost airlines as well as increased presence of leading airlines in markets they had previously not entered. With increased competition, many airlines have been forced to come up with attractive packages to maintain their customers and attract new customers (Cederholm, 2016). Stage of company’s lifecycle Air New Zealand was established in 1940 and up to date, it has expanded its operations into other regions of the world including Europe, Asia and North America. Since its establishment, the airline has continued to add new destinations and according to Brockett (2016), the company is in expansion mode. This is reflected in its new destination in the America’s, Asia and Pacific Rim as well as increased domestic capacity. With this expansion, the airline experienced a 154% increase in net income in the last half of 2015. During the same period, Air New Zealand raised its first-half dividend from 6.5 cents per share to 10 cents per share. Thus, it can be argued that the company is at the expansion stage of the business lifecycle. This stage is characterized by growth into new markets and focus on new revenue channels. The main challenge at this stage of the business lifecycle is that it requires the same level of research and planning as at the embryonic stage. Business Success Factors Flouris and Oswald (2016, p.16) describe key success factors as those factors that positively influence a company’s chances of prospering in the marketplace. Competition in the airline industry has become very stiff, and for Air New Zealand to remain successful, it needs to take into consideration several factors. These factors include the workforce, management, strategic partnership, route organization, in-flight services and service promotion. Air New Zealand’s success can be attributed to the strong management team and practices that have has ensured that the airline pursues its objectives in an effective manner. The company’s management is no only productive, but it is also has inclined ranks. Being a service industry, the airline industry requires highly qualified and competent employees. The airline has to ensure that its employees have the necessary skills and abilities required to serve customers in the most satisfactory manner. How an airline organizes its routes is also an important success factor. Customers would prefer an airline whose routes are well organized and in which flight delays are minimal. The cross-border nature of the airline business requires companies to form strategic alliances with other airlines. Through strategic alliances, airlines are able to gain access to markets dominated by other players. Notable Accounting Issues in the Airline Industry The demand for air transport has gone up due to increased globalization. This increased demand has also resulted in a higher number of financial transactions in the industry. This means that the airline industry now faces more challenges as far as the recording and interpreting of the many financial transactions is concerned (PWC, 2016). Mauro (2013) points out that revenue recognition is one of the most important accounting policies for airlines given the low revenue margins that are inherent in the industry. Some of the accounting issues that have emerged in the airline industry in the past few years include travel agencies’ commissions and discounts, unredeemed tickets, fuel surcharges, taxes and airport charges as well as disclosures. Starting with disclosures, different airlines present varying types of disclosures on their financial statements, a factor that makes it quite difficult for accurate comparisons to be made. This is because of the variation in the policies that different airlines adopt. According to Mauro (2013), having policies that significantly differ from each other might have a far-fetching impact on the financial, accounting as well as managerial performance. Reporting unredeemed and non-refundable tickets is another important accounting issue in the airline industry. Some tickets that airlines sell can be used for over a period of one or more years. Most of the times, holders of such tickets cannot be refunded when they fail to use them. The main accounting issue that arises out of this is the timing of recognizing the revenue earned from the unredeemed and non-refundable tickets. With regard to fuel surcharges, the main issue is that airlines now recognize fuel surcharges as being a component of the ticket price. Changes in the oil and fuel prices also lead to changes in the ticket prices. However, the ticket fare is acknowledged as revenue only when the passengers are in the air. Legal/ Regulatory Issues of Concern The airline industry is highly regulated compared to many other industries. Cederholm (2014) reports that the industry is highly impacted by restrictions and regulations linked to a number of issues including international trade, competition as well as tax policy. The EU and US regulatory framework have been singled out as the ones with the most significant influence in the global airline industry (Cederholm, 2014). The U.S and E.U regulatory policies that affect the airline industry are mainly driven by domestic political concerns. Increased terrorist threats as well as break out of pandemics have also led to increased focus on regulation in the past few years (Cederholm, 2014). The trend towards strict regulations as well as standardization of services in the airline industry is likely to continue over the coming years. Apart from security and health, the regulations and standardization directives in the industry relate to consumer rights, the conservation of the environment, as well as finance and accounting (WNS, 2016). Most of the regulations are aimed at ensuring that both the customers and airline staff are safe and that the airline business continues to be stable. However, many airlines have reported an increase in the total operational costs because of the many regulations (WNS, 2016). Internal Information and Company’s Position Air New Zealand is an international airline, which provides international travelling services to and from different countries and regions including New Zealand, Australia, Asia and North America. The airline offers both cargo and passenger services and is listed on the Australian stock exchange. The company has a big operating fleet of over 100 planes. The airline offers a wide range of services including baggage services, on board flight services and special assistance services for pregnant women and disabled individuals. Besides, the company provides package holidays to clients where it offers services such hotel and car booking. The airline also provides ground handling and engineering services Air New Zealand was established in 1940 and up to now, it has expanded its operations into other regions of the world including Europe, Asia and North America. Since its establishment, the airline has continued to add new destinations and according to Brockett (2016), the company is in expansion mode. This is reflected in its new destination in the America’s, Asia and Pacific Rim as well as increased domestic capacity. With this expansion, the airline experienced a 154% increase in net income in the last half of 2015. During the same period, Air New Zealand raised its first-half dividend from 6.5 cents per share to 10 cents per share Performance Trends and Financial Strength The airline has been experiencing a positive growth in terms of performance over the past five years. Between 2011 and 2015, the company’s revenues have constantly been increasing. The year on year growth in revenue for the fiscal year ending June 30, 2015, was 5.87%. The company’s net income also improved by 24.33% between the year 2011 and 2015. In terms of earnings per share and dividends per share, the company reported a 23.01% and 60% increase respectively. The Financial Times (2016) reports that this increase in dividend payments is worth noticing since very few players in the airline industry pay dividends. Compared to other players in the industry, the airlines’ growth in dividend payment was the highest. Air New Zealand’s half-year 2016 results released in February indicated that the airline’s financial performance was still positive (Scoop, 2016). The company reported a 132% increase in its earnings before taxation and a 154% increase in net profits after taxation. This was a strong growth compared to the previous periods. Strong growth in passenger’s revenue and lower fuel cost were identified as the main contributor to the strong performance (Scoop, 2016). The positive financial trend is a clear indicator that the airline’s performance has been improving over the last five years. Air New Zealand continues to expand its operations, both domestically and internationally. Within New Zealand, the airline has increased its domestic capacity, while internationally, it continues to expand into other markets. Source of Capital Just like any other business entity, Air New Zealand has many possible sources of funding. It is a publicly traded company in the Australian foreign exchange meaning that issuing of shares is one of the important sources of finance. Companies that have gone public such as Air New Zealand issue ordinary share capital. Those who purchase the shares get a stake in the company; sharing in the profits after all the debts have been cleared. Another important source of finance capital for the airline is financial institutions. They include commercial banks, insurance companies, trusts and pension funds. The government, through its offering of grants, is another important source of funding for the airline. Retained earnings are another source of business capital. This is the portion of the net earnings that a business retains after paying dividends to shareholders. Other sources of capital include public deposits, lease financing and commercial papers. Comparison to the Rest of the Industry Compared to other leading airlines on the globe, Air New Zealand has been performing extremely well. The airline has been able to increase its destination and has been able to enjoy quite a long period of financial success. Between 2011 and 2015, the company’s revenues have constantly been increasing. The year on year growth in revenue for the fiscal year ending June 30, 2015, was 5.87%. The company’s net income also improved by 24.33% between the year 2011 and 2015. In terms of earnings per share and dividends per share, the company reported a 23.01% and 60% increase respectively. The Financial Times (2016) reports that this increase in dividend payments is worth noticing since very few players in the airline industry pay dividends. Compared to other players in the industry, the airlines’ growth in dividend payment was the highest. The following figures show the company’s financial ratios Source: http://quotes.wsj.com/NZ/AIR/financials Source: http://quotes.wsj.com/NZ/AIR/financials Apart from the outstanding financial performance, Air New Zealand has been able to perform very well in terms of service delivery. This has seen the airline being rated by AirlineRatings.com, as the Airline of the year for 2014 and 2015. The company was recognized for its outstanding financial performance, quality of service and with respect to how the company motivates its employees. The airline was also praised for its commitment to environmental sustainability as well as a young fleet. Risks in the Airline Industry The risks that airline companies can be placed in four main categories namely operational risks, strategic risks, financial risks and compliance risks. Operational Risks Operational risks are brought about by failed or inadequate procedures, policies or systems. Operational risks have a wide range of causes including natural disasters, system failure, errors committed by employees as well as criminal activity. Failure to manage operational risks properly may contribute to reputational damages as well as financial losses. Other causes of operational risk include accounting control systems, supply chain issues, equipment issues, technological constraints as well as employee activities such as strikes. Strategic Risks Strategic risks are those that affect an organization’s strategy. This type of risk also comes about in the course of strategic decision-making processes (Andersen & Schrøder, 2010). Many organizations across different industries have made it a priority to manage strategic risks because the impact of such risks can be felt much faster compared to the three other types of risks (Ristuccia et al., 2016). Those responsible for making strategic decisions are never sure that the strategies will work as expected. For an airline business, failure to take into account strategic risk may have a long lasting and devastating impact. There are many sources of strategic risks, and they include unplanned expenditure, pricing shifts, ineffective planning, the emergence of non-traditional competitors as well as alliance problems. Compliance Risks Compliance risks are those that have to do with regulatory and legal requirements. Compliance risks increase if an organization fails to comply with the current laws and regulations (Steinberg 2011, p.35). The airline industry is heavily regulated. The global regulations in the aviation industry have increased. This means that the probability of encountering a compliance risk is high. Just like other risks, improper management of compliance risks might result in financial losses as well damaging of an organization’s reputation (Steinberg 2011, p.35). To counter or eliminate compliance risks, businesses have to ensure that they observe the proposed best practices as well as internal policies. For an organization to be able to overcome compliance risks, they have to include compliance risk exposure into their risk assessment procedures (Steinberg 2011, p.35). Financial Risks Financial risks are those that affect the financial performance of an organization. Financial risks largely involve the management of capital and cash in an organization. Financial risks are because of a combination of a number of factors including interest rates, credit, inflation, depression and liquidity (Silvia 2011, p.45). Apart from these, other factors that contribute to financial risks include foreign exchange fluctuations, management of revenue as well as defaulting on credit (Horcher 2011, p.78). For airline companies, exposure to great financial risks negatively affects different organizational activities including marketing, remitting of salaries and even hiring. Airlines exposed to more financial risks are often not able to perform well since inadequate funds correlate to poor services. Audit Strategy and Forensic investigation High-Risk Areas of the Business Operations Airline companies engage in many activities and utilize many systems. For each activity and system, success is not always guaranteed. For Air New Zealand, activities that pose a high risk for to the business include the IT system, the airlines’ fleet and equipment, third party suppliers of goods and services as well as natural disasters. For the IT system, the framework is constantly under threat by hackers who have malicious intentions. An IT system failure can have a devastating impact on the organization and endanger the lives of people. Ensuring that the airlines’ IT framework is secure at all times would ensure that the threat posed by hackers is significantly lowered. The airplanes and other equipment might fail while in use, thereby exposing the airline to a big operational risk. Planes accidents or equipment failure during critical moments might affect the airline negatively. Although the plane accidents are rare, many lives are usually lost when they occur. Failure by third party supplier of goods and services to meet their obligation is another high-level risk that the company might have to face. The suppliers are important components of the supply chain, and their failure to deliver as promised can negatively affect the airlines’ operations. Compliance Many laws and regulations govern the aviation industry. Failure to abide by these laws and regulations may result in long court battles, which will eventually portray the airline in bad light. The company will also spend a lot of money in court battles. Complying with the different laws and regulations is a high-risk area given the complex nature of these regulations. Similarly, some laws and regulation differ from one region to another, a fact that might make it difficult for the company to comply fully. Improper management of compliance risks might result in financial losses as well damages to the airlines’ reputation. To counter or eliminate compliance risks, the business has to ensure that it observes the proposed best practices as well as internal policies. Additionally, the airline has to include compliance risk exposure into its risk assessment procedures. Low-Risk Areas of the Business Finance The airline strong financial performance over the last five years means that it faces very little financial risks. The airline has been able to maintain high accounting standards, which is not only beneficial to the company, but also other stakeholders such as shareholders and tax authorities. The low levels of financial risks also mean that the company can invest more resources into improving its fleet and expanding its human resource. Exemplary financial performance allows the airline to compensate its employees adequately. Employees who are adequately compensated are more productive that those who are under-compensated. Increased productivity translates to better quality services and a stronger brand name. Air New Zealand also boasts of low debt levels. This means that the risk of financial performance being affected by fluctuations in interest rates is very low. The company has also insured most of its operations from financial risks and has also pursued contingent financing and debt equity offerings. Low financial risk also means that the company can expand into other markets with ease. Strategic Planning So far so good, the airline’s management has made the right strategic decisions. This has played an important role in ensuring the Air New Zealand continues to perform well even in the face of increased competition. The strategic plans implemented in the past have proved to be successful. Moving forward, the company’s leadership is more confident about its strategic plans. Thus, it can be argued that strategic planning is a low-risk area. For any business to be successful, it requires a good strategic plan. Air New Zealand’s strategic plan is contained in its vision, which is to be the leader in every market they operate through the creation of a work environment where workers are committed towards the customers. The company’s strategic plan has so far succeeded in ensuring that the airline grows, as evidenced by its improved performance and continued expansion into other markets. Air New Zealand continues to attract new customers as shown by the constantly increasing volume of customers who now prefer the airline both domestically and internationally. The company has been able to create a culture that focuses on both the customers and the employers successfully. This has seen the company being voted as the best airline on Airlineratings for two consecutive years. Conclusion Businesses are exposed to numerous risks. In the airline industry, these risks might have greater implications than in other industries. Air New Zealand provides international travelling services to and from different countries and regions including New Zealand, Australia, Asia and North America. The company faces a host of risks that are common in the airline industry. These risks fall into four main categories namely financial risks, operational risks, strategy-related risks, political risks, labour related risks as well as capacity and utilization risks. The success of most companies in the industry on whether they are able to identify these risks early enough and set up effective strategies to mitigate the impact of the said risks. Failure to manage risks in the aviation industry might lead to huge financial losses. For Air New Zealand, operational and compliance risks emerged as the most important areas that management should focus on. On the other hand, the organization has been able to manage its financial and strategic risks successfully. References List Airlineratings, (2015). Air New Zealand wins 2015 Airline of the Year. [online] Airlineratings.com. Available at: http://www.airlineratings.com/news/400/air-new-zealand-wins-2015-airline-of-the-year [Accessed 29 Apr. 2016]. Airnewzealand, (2016). Company Profile. [online] Airnewzealand.co.nz. Available at: http://www.airnewzealand.co.nz/corporate-profile [Accessed 29 Apr. 2016]. Brockett, M. (2016). Air New Zealand First-Half Profit Soars as Expansion Pays. [online] Bloomberg.com. Available at: http://www.bloomberg.com/news/articles/2016-02-24/air-new-zealand-first-half-profit-soars-as-expansion-pays-off [Accessed 29 Apr. 2016]. Cederholm, T. (2016). 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