Wednesday, March 26, 2008

Report: Japan Airline vs Nippon Airline

Executive Summary

Japan Airline Corporation (JAL) and All Nippon Airline (ANA) are two major players in air transportation in Japan. They are competing with each other in air transportation, travel services and airline-related businesses, which are their major businesses. Both of them face difficulties of the airline industry in general but JAL’s business has fluctuated much more than ANA has in recent three years. Even though the two companies have set up medium-mid term business plans to 2007 and stressed the priority to maximize the benefits of shareholders, it is risky to invest in their projects. Based on the financial statement analysis, we recommend investors to invest in ANA.

1. Business Overview

1.1 Japan Airline Corporation (JAL)

Being established quite recently, in 2004, JAL Group is a holding company, which comprises of 288 subsidiaries and 96 affiliates which are diversified into four segments: air transportation, airline-related, travel services, and others. The holding company develops Group’s targets and strategies, and defines the optimum allocation of management resources in order to maximize corporate value.

Air transportation:

The air transportation segment involves 11 consolidated subsidiaries, which are dislocated all over Japan’s important geographical areas and economic zones.

Airline-related business:

Airline-related businesses include passenger services and cargo handling, in-flight catering, aircraft and ground equipment maintenance, and aviation fuel supply, involving 105 subsidiaries and 74 affiliates.

Travel services:

A total of 53 subsidiaries and 3 affiliates are engaged in the travel services business, developing and marketing travel packages which include air travel on the 11 air transportation subsidiaries.

Other businesses:

• Hotel and resort business

• Credit card and leasing business

• Commercial, distribution and other business

1.2 All Nippon Airline (ANA)

Starting from 1952, All Nippon Airways Co., Ltd. (ANA) is the world’s 10th largest airline, with more than 48 million passenger turnover a year. Likewise JAL Group, ANA is functioning in following four main businesses.

Air Transportation:

Experiencing 865 flights a day on 132 domestic and 488 flights a week on 35 international routes ANA serves annually 44.5 million passengers and 4.1 million passengers accordingly. Company has a market share of about 50% in domestic flights and is a leading member of Star Alliance, the world’s largest airline alliance. ANA transports annually 510,000 tons of cargo and mail on domestic market and 250,000 tons internationally.

Travel Business:

ANA developed Hallo Tour overseas travel packages and ANA Sky Holiday domestic travel packages. It uses its advantage having hotel chains and transportation facilities.

Hotel operations:

The Company manages hotels, centered on major cities in Japan, and provides hotel chain management support.

Other businesses:

In other businesses, ANA’s operations are principally related to air transportation, including information and telecommunications, trading, retailing, real estate and building maintenance, ground transportation, distribution and aircraft equipment repair.

2. Brief analysis of common sized financial statements

ANA plans to cut costs by ¥13.0 billion, and, to build a corporate constitution that is less susceptible to changes in the operating environment, so it will reduce indirect fixed costs and continue to maintain a strong focus on cutting costs where appropriate.(see Appendix 1)

[Table-1] Key ratios of JAL

















Current ratio




Return on sales




Debt-to-liabilities ratio




Debt+ current liabilities/assets




Coverage ratio




Having analyzed key financial ratios of JAL Group we can see that situation in JAL Group is not financially stable. ROE and ROA fluctuates within 3 years rapidly as they had huge loss in 2004 amounting 84 billion yen. This loss also influenced on many other ratios as well. Although JAL Group has recovered from 2004 year’s loss and stabilized its EPS ratio, it is too early to decide whether we can invest in this company or not.

[Table-2] Key ratios of ANA

















current ratio




return on sales




Debt-to-liabilities ratio




Debt+ current liabilities/assets




Coverage ratio




The situation with ANA looks promising. Also ANA acknowledges fall in sales, key ratios of the company look quite stable. Stability in growth and improvement are evidenced by recovering and constant increase in ROA and ROE ratios throughout three years. The Company managed to increase EPS to 17.26 and return on sales to 2.09%. Looks as though ANA is getting rid of bulky debt burden by constantly reducing its Debt-to liabilities ratio.

3. Revenue Growth

The revenue figures in Graph-1 come from the operating revenue figures in Consolidated Statement of Operations provided in JAL and ANA’s websites. For both airlines, the operating revenue includes revenue from passengers, cargos, and other revenues. From the graph, we can see that from 1995 to 2005 both airlines have stable and increasing trend of revenues. Although JAL seems to have more revenues compared with ANA, it doesn’t certainly mean that JAL has more profit than ANA. JAL has more assets than ANA; conversely JAL also has greater operating expense than ANA does. Please refer to Graph-1 in the Appendix 4.

In overall, JAL’s revenue increase from 1995 to 2005, except year 2002 and 2004. This fluctuation might be caused by decreased revenue from international air transportation business due to terrorisms on September 11(2001), SARS (2002), and war in Iraq (2004).

4. Cash flow analysis

4.1 Primary sources of cash and their stability

In terms of both companies, primary sources of cash and their stability are almost identical. Primary sources are: passenger revenue, and incidental and other revenues from investing activities; proceeds from sales of property and equipment and collection of long term loans receivable from investing activities; proceeds from long term loans and proceeds from issuance of bonds from financing activities. Moreover, JAL has one more additional primary source of cash from investing activities, collection of long term loans receivable.

Except proceeds from sales of property and equipment, these primary sources of cash are stable in terms of both companies. Primary sources of cash are illustrated in Appendix 3.

4.2 Primary uses of cash

Primary uses of cash are slightly different from each other in terms both companies.

1. JAL- Primary uses are: wages, salaries and benefits, aircraft fuel, landing fees and other rent, incidental and other expenses, interest paid from operating activities; purchases of property and equipment from operating activities; repayment of long term loans, redemption of bonds from financing activities.

2. ANA- Primary uses are: wages, aircraft and flight operations, flight control and ground handling, reservations, sales and advertising from operating activities; purchases of property and equipment from operating activities; repayment of long term loans, repayment of bonds from financing activities.

Primary uses of cash are illustrated in Appendix 4.

4.3 The main differences in cash flow statement between the two companies

As for JAL, it has been consuming relatively more cash in wages, salaries and benefits, and charged cash in redemption of bonds. As for ANA, it has been using relatively more cash in aircraft and flight operations, and charged cash in repayment of bonds as opposed to redemption of bonds, the case of JAL.

For further details of cash flow sources and uses in figures please refer to Appendix 5 and 6.

5. Accounting policy

5.1 Basic of Presentation

Basically, ANA and JAL have the same accounting policies on their major business (passengers and cargos). The differences between these policies do not influence the comparison of the two companies. The two companies have the same basic of the presentation policy of their consolidated financial statements. This policy includes:

- Consolidated Financial Statements (CFS) are prepared on the basis of accounting principles generally accepted in Japan, which are different in certain respects as to the application and disclosure requirements of International Financial Reporting Standards

- CFS are complied with the Financial Service Agency as required by the Securities and Exchange Law of Japan

- Additional financial information are added for readers outside Japan

However, JAL has an additional policy, which states that the amounts less than 1 million Yen have been omitted on CFS.

5.2 Revenue Recognition, cash equivalences, depreciation

The two companies have the same revenue recognition policy, which states that Passenger revenues, cargo and other operating revenues are recorded when services are rendered. They also have the same cash equivalents policy, in which cash equivalents are defined as highly liquid, short-term investments with an original maturity of 3 months or less. They share the same policy on bond issuance costs, which are principally capitalized and amortized over a period of 3 years, and the same depreciation methods for main Property, Plant and Equipment.

5.3 Inventory

ANA’s inventory policy states that inventory includes aircrafts, spare parts, supplies and stock in trade of consolidated subsidiaries. This policy considers that cost-flow is determined by the moving average method for aircrafts and spare parts and the FIFO method for miscellaneous supplies. However, there is no information about the inventory policy and cost-flow assumption available on JAL’s annual reports.

5.4 Securities

Both companies also have the same securities policy that includes the main points below:

- Securities are classified trading, held-to-maturity, other securities

- Trading securities are carried at fair value

- Held-to-maturity securities are carried at amortized cost

- Marketable securities classified as other securities are carried at fair value with changes in unrealized holding gains or losses, net of the applicable income taxes, included directly in shareholders’ equity

- Non-marketable securities classified as other securities are carried at cost

Beside these points, JAL has an additional point stating that cost of securities sold is determined by the moving average method.

5.5 Other policies

The two companies differ in the policies on foreign currency, derivatives, pension and retirement benefits and leases because they have different minor businesses.

6. Risks

6.1 Business risk

Both ANA and JAL have the same business risks. The first risk they face is strong competition in international routes around the world in coming time. Since international routes are their major business, this competition will make their overall business vulnerable. Furthermore, they will face stiff competition from airlines in Asia such as Singapore Airline and Cathay Pacific Airways. Both have positioned China as the most profitable and major pillar of future growth. To achieve this goal, they need to compete more with Asian airlines who also want to tap prospect Chinese markets. Another potential business risk is unpredictable events such as terrorism, war, outbreaks of diseases and natural disasters. Recently, the airline industry has experienced serious losses due to SARS disease, the terrorism attack in America Sept. 11, 2001 and the war on Iraq. Those unpredictable events might happen any time and therefore make the airline industry go bankrupt if airline transportation demand falls down seriously. Thus, ANA and JAL should well prepare for such risks with solid operation strategies.

6.2 Operation risk

Both companies are facing and will face continuous increase in fuel price. The war on Iraq has made crude oil prices surge significantly in the past 2 years and the rise in fuel price is predicted to continue fluctuating in coming time. This fluctuation will be a serious effect on their operating activities because operation costs will increase in proportion with the increase in fuel price but the service price can not increase proportionally. Therefore, the fluctuation of fuel price is a major operation risk that they face and will face.

Beside, the two companies face a risk of foreign currency exchange rate fluctuations. Because the purchase of fuel is paid on foreign currencies, the depreciation on Yen will have significant effects on their profits. ANA faces a rise in landing, navigation and other airport usage fees.

6.3 Financial risk

6.3.1 Short-term solvency risk

There is a risk of short-term solvency at ANA because its current ratios have been decreased from 1.12 in 2003 to 1.05 in 2004 and 0.83 in 2005. While there is probably no risk at JAL since its current ration have increased from 0.86 in 2003 to 0.93 in 2004 and 1.20 in 2005 (see Table 1 and 2).

6.3.2 Investment risks

There are potential risks of uncollectible loans and losses on investments because both firms have very low ROA and return on sales ratios. The ROA of ANA in recent 3 years increased from -1.9% to 2.55% that of JAL fluctuated significantly. The return on sales of ANA in recent 3 years increased from -2.32% to 2.09% and that of JAL fluctuated dramatically. It means that these companies have a large assets, low earnings and intense competition. From lenders’ point of view, there is a high risk of uncollectible loans. The ROE of ANA in recent 3 years increased from -21.7% to 22.21% and that of JAL fluctuated significantly from year to year. Those low and fluctuated ROE indicate that shareholders take a high risk of losing money on their investment in JAL and might have potential risk in investing in ANA. In other words, it is risky to invest in JAL and ANA and even more risky to invest in JAL.

6.3.3 Long-term solvency risk:

There is probably no long term solvency risk at ANA and JAL. The long term debt-to-equity ratios of ANA in recent 3 years decreased from 0.69 to 0.55 and that of JAL increased and remained stable at 0.55. The long term debt + current liabilities over total assets of ANA in recent 3 years decreased from 0.91 to 0.86 that of JAL increased from 0.79 to 0.81. We can see clearly that JAL has lower long term debt-to-equity and long term debt + current liabilities-to-total assets ratios than ANA but both of them face no long-term solvency risk since their assets and equity are greater than their long term liabilities.

7. Strategy

7.1 JAL Group Strategy

Management Strategy:

JAL Group has prepared its 2005–2007 Medium-Term Business Plan laying out three strategies: restructuring its international passenger business, revamping cost structures, and aggressively expanding growth markets. The Group has defined clear setting in order to achieve corporate value and profitability.

Operations strategy:

The Group will focus resources on high-profitability and high-growth routes, while eliminating low profitability ones, reallocating resources to build a profit-oriented network. Also it will expand JAL’s ways, where operating costs are nearly 10% under JAL’s, from 120 flights per week (20%) in fiscal 2004 to 180 flights (27%) per week in fiscal 2007, thereby improving profitability on fast growing routes.

Fleet Efficiency:

JAL will fly fewer models and configurations, reducing the number of configurations in our fleet from 32 to 25. It will pursue fleet downsizing, reducing the percentage of Boeing 747s, 747-300s, and 777-300s from 62% to 54%.

Sources of revenues:

1. Restructure international passenger operations

According to the 2005–2007 Medium-Term Business Plan, JAL will restructure international passenger operations. The Group is recovering from recent falls in international passenger business. It will start a positive feedback loop involving restructuring, recovering funds, reducing debt, and speeding up fleet modernization, thereby further improving our cost competitiveness.

2. Revamp cost structure

The second restructuring initiative is on the cost side. It can be broadly divided into two categories: structural reforms that will yield ongoing benefits and emergency measures such as cutting salaries and general expenses. In fiscal 2005, emergency measures will contribute more than structural reforms, but as the effect of the structural reforms gradually make themselves felt we expect a ¥75 billion impact in fiscal 2007, growing to more than ¥100 billion.

3. Aggressively develop growth markets

In addition to the two structural reforms presented thus far, the 2005–2007 Medium-Term Business Plan calls for a focus on expanding growth markets. The Group believes it will tailor its strategy here for each segment of the business, aggressively expanding our business in China and other Asian countries, where rapid growth of the business is expected, improving convenience for domestic passengers by improving service, and aggressively developing growth markets within the cargo business.

Product Mix strategy:

In the airline-related business, the recovery in demand boosted sales at in-flight catering companies, and the Narita-area auxiliary power unit business performed strongly based on increased sales to foreign carriers. Revenues for the airline related business thus amounted to ¥293.7 billion, with operating income reaching ¥5.3 billion.

Demand for travel services rose sharply over the previous year for all regions with the exception of Europe and Oceania. Domestic tourism demand also remained strong. As a result, the travel services business reported sales of ¥424.5 billion, with a ¥0.2 billion operating loss.

Other businesses:

In other business segments, primarily hotels and duty-free shops, The Group has benefited from recovering demand. Credit card business revenue increased as the number of JAL Card cardholders grew, as did revenue at Blue Sky shops and restaurants at domestic airports. Revenues from related operations as a whole thus amounted to ¥268.0 billion, with operating income of ¥10.0 billion.

7.2 ANA Strategies

Financial Strategies:

ANA's profitability indicators such as ROA and the operating income margin, are aimed at bringing it to a level that will enable us to compete with the top airlines in Asia, such as Singapore Airlines and Cathay Pacific Airways. It will improve our balance sheet and accumulate profits so that our debt/equity ratio improves to about four times by the fiscal year ending March 2008. Also, it will work to meet the expectations of shareholders, further enhance ANA’s enterprise value, and continue to provide stable dividend payments in the fiscal year ending March 2006 and thereafter.

Operation strategy for international and domestic routes:

At Narita Airport, the company will leverage the opportunity presented by the likely increase in the number of slots over the next three years and bolster its own network. In the development of routes to Europe, the United States, and Asia, it will strategically select bases that are highly profitable and enable it to maximize the advantages of Star Alliance. And ANA will reinforce its China network to center on Narita, Kansai, and Centrair.

Under the new mid-term corporate plan, ANA assumes that demand on domestic routes will basically remain flat. To bolster its ability to compete with other companies, it will implement a range of differentiation strategy measures. One example is an integrated transportation strategy, under which the company will strengthen the tie-ups with ground transportation companies. In conjunction with the December 2004 opening of the second terminal at Haneda Airport, ANA began new services in line with the concepts of “simple,” “convenient,” and “focus on the individual” principles. Super Seat Premium, which enables passengers to experience air travel that is more comfortable and relaxing, is an ANA’s original service. ANA expects the effects of this differentiation, such as an increase in frequent flyers, to lead to a steady improvement in The Company’s results. By the end of March 2006, it will expand the number of Super Seat Premium available seats to 2.5 million, 2.5 times the number available currently.

Cargo services:

ANA will bolster cargo operations as its third core area of business, following domestic and international passenger services. In the fiscal year ending March 2006, it will expand to several Boeing 767-300 freighters and reinforce our operations on domestic and international routes. China has become Japan’s largest trading partner, and it is believed that the Chinese market will record further growth. ANA’s network of routes between Japan and China aims for ¥100.0 billion in revenues by the end of March 2008.

Cost cutting initiatives as part of operations strategy:

A key part of ANA’s efforts to reduce costs is the steady execution of our Fleet Strategy and Human Resource Strategy in the medium to long term. We will also trim variable operating costs by reevaluating the routes, and improving the productivity of ANA Group companies.

8. Recommendation for Investors

Based on the revenue figures, both JAL and ANA seem to have stable and increasing revenue. But, according to the financial statement analysis, we recommend investors to invest in ANA, rather than in JAL. Although JAL has better current ratio indicators, it is obvious that ANA’s income is more stable within last 3 years and its return on sales is increasing steadily. On the contrary, JAL’s return on equity is fluctuating significantly in aforesaid period of time. Because ANA’s coverage ratio is higher than JAL, the safety of investment money in ANA is better than that in JAL. Moreover, ANA’s market capitalization is approximately 1.5 times higher than JAL’s according to our independent research.

In conclusion, ANA has more stable business, better financial ratio growth and more favorable investment perspectives for potential shareholders. ANA also has better management quality and risk hedging strategies which may lead to more efficient operation cycle and cash flow. Therefore, we recommend investors to invest in ANA.

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