Key Financial Ratios to Analyze Airline Companies

The advent of the airplane has drastically changed the way individuals live and encounter the world, more than nearly any other invention. Improved approaches to composition and construction of aircraft were driven forward throughout both World Wars by demand and government subsidies. As of 2015, traveling by air is a household concept. It has affected every part of the way individuals function, including conducting business, visiting family and friends, and any number of other reasons people have to move from one place to another quickly.

According to the U.S. Department of Transportation, or DOT, the industry has four basic categories: international, national, regional and cargo flights. International flights generally carry more than 130 passengers from one country to another. National flights typically seat about 100 to 150, fly anywhere in the United States and generate revenues close to $1 billion annually. Regional flights stay local to one area. Cargo airlines are responsible for transporting goods.

Competition is high among airline companies. It is a highly seasonal industry, and profit can be affected drastically by fluctuations in energy prices or economic downturns. For investors, it is important to know where to allocate money. Important financial metrics for analyzing firms in the airline industry examine short-term liquidity, profitability and long-term solvency. Key financial metrics commonly considered by market analysts or investors are the quick ratio, return on assets, or ROA, and the debt-to-capitalization ratio.

Analysts utilize the quick ratio to measure an airline’s short-term liquidity and cash flow. Essentially, it reveals if a company can cover all of its short-term debt obligations with its liquid assets, otherwise defined as cash or quick assets. Quick assets can be converted into cash quickly in an amount comparable to their present book value.

The quick ratio formula for calculation divides the company’s liquid assets by its current liabilities. This metric acts as an indicator for the overall financial strength or weakness of a company. It reveals the amount of a company’s short-term obligations that can be satisfied with readily available liquid assets. This financial ratio is particularly useful for analyzing airline companies because they are capital-intensive and have significant amounts of debt. The higher the quick ratio, the better. Any value below one is considered disadvantageous. Alternate metrics to the quick ratio include the current ratio and the working capital ratio.

The return on assets ratio, or ROA, can be successfully utilized to measure an airline company’s profitability as it indicates per dollar profits a company earns on its assets. Because an airline company’s primary assets, its planes, function to generate the overwhelming bulk of its revenues, this metric is a particularly appropriate profitability measure for evaluating airlines.

The formula used to calculate return on assets divides yearly net income by total assets. The resulting value is expressed as a percentage. Because airline companies own very substantial assets, even a relatively low ROA value represents substantial absolute profits. Alternative profitability ratios investors may consider are the operating profit margin and the earnings before interest, taxes, depreciation and amortization, or EBITDA, margin.

The total debt-to-capitalization ratio is a vital metric for analyzing airline companies because it adequately evaluates the debt position and overall financial soundness of companies with significant capital expenditures. For analysts and investors, this financial metric can be very useful in evaluating companies within an industry that often have to be able to withstand extended economic or market downturns and resulting periods of revenue losses or diminished profit margins.

The debt-to-capitalization ratio is calculated as total debt divided by total available capital. Analysts and investors generally prefer to see ratios that are lower than one, as they are indicative of an overall lower level of financial risk for the company. Alternative ratios for evaluating long-term financial solvency include the total-debt-to-total-equity ratio and the total-debt-to-total-assets ratio.

In addition to these key financial ratios, there are a number of specific airline industry performance metrics that investors may examine. These points of performance analysis include available seat miles, cost per available seat mile, break-even load factor and revenue per available seat mile.