Assignment TwoNaomi Taylor

12051794CQUniversity

STEP 7: CONTRIBUTION MARGINS

Contribution margin is a product’s price minus all associated variable costs, resulting in the profit earned from each unit sold. This profit then gets put back into the fixed costs of the business. These include building fees, rent, Sydney airport is an international airport which provides a range of services to customers and businesses. According to Sydney’s 2018 annual report, Aeronautical Services producing the most amount of revenue with it sitting at 46%. This is flowed by Retail at 23% and Property, Car, Rental and Hotels are 15%.

Product Selling price Estimated variable cost

Contribution margin

Runway fee for the landing of planes

$9,500 (per single plane landing)

$5,700 $3,800

Parking (domestic terminal) $62 (per 24 hours)

$49.60 $12.40

Leasing an area within the airport to a business

$1,000 (per month)

$700 $4300

When first deciding on what ‘products’ I was going to choose to find the contribution margin, I had to do some further research in order to understand my company and their products/services more in-depth.

Runway fee for the landing of plansAs I dived in to research regarding products sold by airports, I was surprised by the fact that there is a runway fee for when planes land. This is when the airport charges a fee which is paid by the aircraft landing their aircraft. As I dived into this concept now, it had come to my attention that the price varies depending on the size and type of aircraft, the haul distance and runway area. After understanding the different variables, I came across an average price

Property, Car, Rental and Hotels

Aeronautical ServicesRetail

which airports would charge each airline for the airline fee. This was $9,500. To estimate the variable cost, I had to think about the percentage and how much that would be. I came to the conclusion of 60%. This is because the runways don’t have as high volume as other ‘products’. Calculating the runway fee contribution margin can be shown below:

Selling price = $9,500Variable cost = 0.6 x 9500 = $5,700Contribution Margin = selling price - variable cost = 9,500 – 5,700 = $3,800

The original selling price of $9,500 may not be exactly the same to the actual selling costs for Sydney airport but through the research that I conducted before hand, I believe it is extremely close to. Also as the variable costs is a complete estimate, 60% seems to be the most practical amount. All selling prices, variable costs and contribution margins will of course be unique to each Airport. The contribution margin for Sydney Airport of $3,800 will go back into the fixed costs of the bills costs to run the runways such as power, rent, the costs of the employees, the costs to run the machines to help the planes land.

A constraint for the Runway fee, could be not as many flights landing and leaving to generate revenue.

Parking fee (in particular domestic airport parking fee)Parking is an essential when it comes to airports. They charge a fee based on the amount of time a car is parked. There are different fees also for different airports and whether it is the international or domestic parking. To find the selling price for Sydney airport, I simply went onto their website. For every 24hrs spent parking in the domestic airport parking, customers had to pay $62. I then had to estimate the variable cost. To do this I simply had to account for the fact that parking at an airport is extremely high in volume as there are many, many carparks offered by Sydney Airport. Because of this the variable percentage is 80%.

Selling price = $62

Variable cost = 0.8 x 62 = $49.60Contribution Margin = selling price - variable cost = 62 – 49.6 = $12.40

This contribution margin will be returned into, once again, the airports fixed costs. This will include the costs for the parking building and the wages and fees the airport will have to pay for employees to manage the carparks.

Constraints for the parking fee in Sydney airport is the demand for parking. If the demand for paid parking decreases then there are carparks not being used and paid for. Basically, making it a dead cost to the business.

Leasing an area within the airport to a businessBusinesses within airports are essential to the overall revenue of the airport but also the experience for the customers. The amount and type of businesses within an airport are completely subjective to each induvial airport. For example, I live in Mackay (a considerably rural town) therefore within the Mackay airport, there a café, restaurant, tech businesses, currency conversion business and a little souvenir travel shop. Because the airport is so small there isn’t as many businesses. I had to do a little bit of research as to how much airports charge for businesses to lease an area within and I came to the estimated average of $1,00 per month. This is the amount I have used to calculate the variable cost and contribution margin for Sydney airport. I have estimated a variable percentage of 70% in regard to the pervious other two products. Businesses leased within Sydney airport will have a lower volume than parking spaces but will higher volume than the amount of aeroplanes landing.

Selling price = $1,000

Variable cost = 0.7 x 1000 = $700Contribution Margin = selling price - variable cost = 1000 – 700 = $300

There are other factors and variable costs that contribute to the contribution margin which are not factored in to the equation above. Airports also make a commission off how much the businesses make. All this is returned into rent, power and other bills the airport has to pay for what the businesses use.

Constraints include the businesses inside the airport are not generating enough revenue to pay its expenses. Also, all businesses have competition therefore if there are too many businesses with close competition, revenue won’t be generated evenly from all businesses.

STEP 8: RATIO ANALYSIS

Profitability Ratios

Net Profit Margin:Net profit margin is used to find, once expenses are removed from the revenue, to calculate the company’s profitability. It would be obvious then to have a high-profit ratio as it would mean the businesses could turn income into profit. Sydney Airports net profit margin has been decreasing at a steady pace the last four years. In 2015, Sydney Airport had the highest profitability percentage with it being 23.9%. this was closely followed by 23.7% in 2016. Not much has changed between these years. After that in 2017 there a 2.8% decrease from the previous year then a 4.6% decrease between 2017 and 2018.

Return on Assets: The return on assets is calculated by dividing the net profit after tax by the average total assets. This simply means how much profit a company’s assets are making. Sydney airport all in all have a decreasing trend once again. In 2014 the company is sitting on 2.4% then increases .2% in 2016 then continues to fall after this. Once again, like the net profit margin, there is a considerable amount decreased between 2017 and 2018. This is to be expected due to the exact reasons for the downward trend for the net profit margin.

Efficiency Ratios

Days of inventory: Efficiency ratios are used to see whether a company is using their assets efficiently. company’s ideal efficiency is ideal when a company is nor overworking or underworking their assets. The days of inventory shows how long a firm turn their inventory into a profit. Sydney Airport does not any inventory because the airport is a service firm. I know this because my firm does not provide any figures or explanation of inventory in their financial statements or annual report. This is because Sydney airport earn their revenue completely through different services. I found this really odd at first and questioned whether I was on the right track. I had to ask other peers in my class and my lecturer as to if I was correct to state that my company has no “days of inventory”.

Total Asset Turnover Ratio:The total asset turnover ratio shows how efficiently can company can turn every dollar of their assets into sales. Sydney Airports ratio is quite consistent. The ratios are not generating much income as for every $1 in 2018, the airport made $0.12 in profit. This is really not much at all. On a positive note though, the figures are at an upwards trend but very slowly from 2015 – 2018, the ratio has only increased by 0.02. although this is not more, it is increasing and it is steady. It is far better for a company to be increasing at a steady pace rather than an abrupt pace as that is not efficient and sustainable.

Liquidity Ratios

Current ratio:Liquidity ratios measure whether a firm can pay their short-term debits. Basically it find whether a firm has enough cash and whether their short term assets have enough to pay its short term liabilities. It is ideal for a firm to have a 1:1 ratio of assets and liability. Sydney airport shows interesting ratios from 2015-2018. The trend is overall increasing although in 2017 the ratio plummets with the 2016 ratio is 0.89 then decreasing to 2017 with 0.60. All the years (besides 2018) the airport would have not been able to pay their debits as their liabilities were high than their assets. This is concerning although in the recent year of 2018 their ratio increases dramatically. In 2018 their ratio was 1.4 which is more than enough to pay the debits required. Hopefully in 2019’s reports, we will continue to see this either stay the same or increase.

Financial Structure Ratios

Has a firm predominately funded their assets with debt (external borrowing such as a bank) or has the company funded predominately funded their assets with owner generated fund

(such as shares).Debt/equity ratio:When I was filling out my debt/equity ratio, I became really confused, really quickly. I was wondering as to why my percentage was so much higher than Marias in her video. I understood that both our companies were in different industries but I still didn’t understand why mine was so high. After listening to Maria’s videos again I realised that the debt/equity ratio figure was in ‘cents’ so I immediately converted ‘18056.1 cents’ (2018’s figure) into dollars. This calculated to be $180.56. This is how much a bank puts in per $1 an owner puts in. Once I saw this written down I realised how normal it was. My company is an airport

therefore there are huge costs involved. The trend of this ratio throughout 2015-2018 is increasing quite a bit as well as 2017’s figure spiking then dropping back down in 2018 to continue to remain constant

Equity Ratio:Equity ratio shows how much a shareholder has put into a firm to fund its assets. These figures are generally pretty straight forward in comparison to the debit/equity ratio. The equity ratio for Sydney Airport is trending in a decreasing way quite a lot. Years between 2015-2017 the figures are 10.9%, 8.8% and 5.1% which are dropping about 2% each year then in 2018 the figure plummets to 0.6% which is about 4% difference.

Debt Ratio:The debt ratio shows the opposite to the equity ratio. It shows much external sources (such as banks) put into a firm to fund its assets. Equity and debt ratios, if calculated correctly, should add up to be 100%. This would mean 2018 would have the highest debt ratio. After reviewing the figures, it shows that all the years do in fact equal to 100%. The trend is increasing too. I fully understand these figures and the meaning behind them. It is not the best to see that Sydney Airport’s assets are predominately funded by outside sources. Although this might be the case for all airports and this particular industry. I will have to do further research on this to understand more.

Market Ratio

Earnings per Share (EPS):Earnings per share shows that for how much a company earns from that. Having to locate the correct share price for each year took me a long time. I could not find it on the annual reports to save my life. I eventually asked my lecturer and other peers to get some clarity which helped a lot. The trend for Sydney Airports EPS between 2015-2018 is decreasing. In 2016 there was a slight increase for it then to abruptly fall back into a decrease in 2017. It is interesting to know that Sydney Airport only made 11c from their shares in 2018. By not doing this unit understanding these concept, I would have not had any idea about earning per share and how Sydney airport really isn’t earning much for each share.

Dividends per Share (DPS):Dividends per share show how much a company actually pays back (from their earnings per share) to their shareholders as dividends. Sydney Airport did not pay anything to their shareholders from their earning per share. This is pretty common for businesses unless the business specialises in paying back large amounts of dividends.

Price Earnings RatioThe price-earnings ratio is an indication of a firms share value within the market. This can be helpful for future investors and even managers of a company. For shareholders, it would be more ideal to have a lower ratio whereas firms would rather see a higher ratio. This is because the lower the ratio, the shorter amount of time it will take for the investor to receive earnings back on that share. In comparison to firms who’d rather that higher ratio because it demonstrates that the firm has potential due to the higher figure. In 2015 and 2016, Sydney Airport a significantly lower price-earnings ratio. Then in 2017 and 2018 the ratio increases by about 10%. In the earlier years, it would have been ideal for investors to buy shares because it would only take them 7.66 years (in 2015) and 5.75 years (in 2016) to make a profit. In 2017 and 18, the price-earnings ratio would be attractive to the firm itself as it shows the potential in growth for the company.

Ratios based on Reformulated Financial Statements

Return on Equity:

The return on equity ratio tells us how much of a company’s income is given to its shareholders. It is ideal for a company to have a higher return as it shows that the company is able to generate profit well. The return of equity for Sydney Airport is trending in an increasing direction. Especially in 2018, the figure increases by 309.82%. This is a significant increase as the years before that were increasing at a steady rate. I would assume this is because the total equity for 2018 in my restated financial statements is significantly lower than the other years. This all in all is good for the Airport, hopefully this trend continues.

Return on Net Operating Assets (RNOA):

Return on net operating assets shows how much operating income will be generated from a company’s operating assets. This ratio can be compared to the return on assets ratio as they are very similar. Although, what is different about each ratio is that if the RNOA is higher than the ROA, then the company is in a good position rather than if it was lower. In terms of Sydney Airport, the return on net operating assets for all four years are higher than the return on assets. It is only higher by about 4%, therefore suggesting that the company has a good return rate.

Net Borrowing Cost:The net borrowing cost can be described as the interest rate a company is obligated to pay due to their debts. The way I was able to understand this was to think of it as an interest rate that would be paid overtime when buying a car. For example, if a car had a deal for a

3.5% interest rate each year that would become additional to the original costs of the car. In regard to Sydney Airport, the trend is pretty constant whilst also decreasing, which of course for interest rates, that it positive. In comparison to the debt ratio, it follows the same trend and differences with figures between years. This is to be expected as the company would be paying back an ‘interest rate’ to the external sources (such as banks).

Profit Margin:The profit margin shows the profit minus the financial expenses. This is because the profit margin is formulated from the restated financial statements. Because of this, the ratio shows how a company’s expenses from its operations impact its profit. It can show if companies can remain stable in economic downturn and can pay its shareholders and debts therefore a company would rather a higher PM. Often, the profit margin and net profit margin are compared. In regard to Sydney Airport, the profit margin is significantly higher than the net profit margin. This is because the airports operations contribute a lot to the company, more than their finance side of expenses. The highest profit margin for all the years was in 2015 with 47.01%. the highest net profit margin for all the years is 23.9% in 2015. Although this is overall more than the NPM, the trend is still decreasing so regardless that is a negative sign as that means less profit. Asset Turnover (ATO):Asset turnover shows how efficiently a company is using their net operating assets to generate sales. Therefore, it shows how often a company is turning over the dollar value of their operating assets to sales. With Sydney Airport, in comparison to its total asset turnover ratio (TATO) and asset turnover ratio, the figures are incredibly similar. The TATO for 2015 is 0.10 and the ATO for 2015 is 0.14. There is not much difference with these figures although the ATO figures are slightly higher which is positive. The trend is also increasing at a steady, constant pace which is also very positive.

Economic Profit:The economic profit (or in some cases, loss) the difference between the revenue of a company and its opportunity costs. Opportunity costs refers to the benefit that is missed or given up when a company chooses one alternative over another. The difference between accounting profit and economic profit is that economic profit accounts in the opportunity costs to formulate the profit. The economic profit is calculated with the return on net operating assets (RNOA) take away the cost of capital. Then this figure is times by the net operating assets (NOA). These are the three key drives to understand and find a firm’s economic profit. In regard to Sydney Airports economic profit, all four years are negative. The first indicated that this would be the case is the fact that the RNOA is lower than the weighted average cost of capital (WACC). The WACC for Sydney airport is 10% where the RNOA is, in 2018 for example 6.35%. This is what brought the economic profit into a negative. Technically, having this low of an economic profit means the company short re-

evaluate their opportunity costs. Although Sydney Airports economic profit is negative, the company is in a positive financial positive as it is generating sales which allows the business to continue to be sustainable and stable.

STEP 9: CAPITAL INVESTMENT DECISION

Expansion of the Sydney Airport Ibis Hotel

Expansion of the T1 International Airport

Original Cost -$11 Million -$17 MillionEstimated Useful Life 10 years 10 yearsEstimated Future Cash Flows31 December 2020 $1 Million -$3 Million31 December 2021 $1 Million -$1 Million31 December 2022 $1 Million $2 Million31 December 2023 $2 Million $3 Million31 December 2024 $2 Million $3 Million31 December 2025 $3 Million $6 Million31 December 2026 $3 Million $8 Million31 December 2027 $5 Million $10 Million31 December 2028 $5 Million $11 Million31 December 2029 $6 Million $13 Million

Sydney Airport are wanting to upgrade their facilities and was wondering which out of two upgrades they should consider. These include expanding their IBIS Hotel and Expanding their TI International Terminal.The first option, expanding the IBIS hotel will allow for more rooms and facilities for travelling guests. This will help provide extra area for the increasing number of travellers who flight into Sydney Airport. The expansion will be adding to the already established hotel.The second option, expanding the TI International airport would be similar to option one in regard to expanding facilities. This option though will increase lounge areas, toilets and even a possible eating/drinking area. Expanding this area will bring more space and comfort for travellers flighting internationally and international travellers arriving to Sydney Airport

Option 1: Expansion of the Sydney Airport Ibis Hotel There is $4.09 million of Net Present Value (NPV) if Sydney Airport invested in an expansion of their IBIS Hotel. The Internal Rate of Return (IRR) is 16% for Option 1. The payback period for Sydney Airport is 6 years and 4 months in order to regain the initial cost for this expansion.

Option 2: Expansion of the T1 International Airport There is $6.70 million of Net Present Value (NPV) if Sydney Airport invested in the expansion of their TI International Airport.The Internal Rate of Return (IRR) is 14% for Option 2.

The payback period for Sydney Airport is 6 years and 10.5 months in order to regain the initial cost for this expansion.

Option 1 Option 2

NPV $4.09 million $6.70 millionIRR 16% 14%PP 6 years 4 months 6 years 10.5 months

After analysing both option 1 and 2, I recommend to Sydney Airport to undergo the expansion of option 2. Initially when I was comparing the figures, I thought option 1 would be preferable because the IRR was higher and the PP was shorter. Also, both IRR’s are greater than the discount rate of 10% therefore it was difficult at first to understand which option is more desired. But after re-watching Marias lecture videos, it came to my realisation that when there is a confit between the NPV and IRR between both options, that it is more profitable to consider the NPV as it is the preferred measure. Also, there are only 6.5 months between both option 1 and 2 as to when Sydney Airport regain its initial cost for this expansion. This is not too much time to consider option 2 over option 1. Overall, it will be more profitable for Sydney Airport to invest in an expansion of their TI International Airport rather than an expansion to their IBIS Hotel.

STEP 10: PROVIDING AND RECEIVING FEEDBACK

My commentsStep 7

Identify three products or services of your firm Estimate selling price, variable cost & CM Commentary – contribution margins

My commentsStep 7

Identify three products or services of your firm Estimate selling price, variable cost & CM Commentary – contribution margins Constraints – identify & commentaryStep 8

Calculation of ratios Ratios – commentary (blog) Calculate economic profit Commentary – drivers of economic profit (blog)Step 9

Develop capital investment decision for your firm Calculation of payback period, NPV & IRR Recommendation & discussionStep 10

Individual feedback with other studentsOverall ASS#3

Constraints – identify & commentaryStep 8

Calculation of ratios Ratios – commentary (blog) Calculate economic profit Commentary – drivers of economic profit (blog)Step 9

Develop capital investment decision for your firm Calculation of payback period, NPV & IRR Recommendation & discussionStep 10

Individual feedback with other studentsOverall ASS#3