About the company:-
JetBlue Airways corporation was formed in Aug.1998.. by DAVID NEELMAN , a veteran in low fair airline industry, with providing low fair ,low cost, but high service passenger airline serving in US market. The initial investors provided amount of $175M in start up equity capital. JetBlue began flying in FEB-2000. & $158M additional capital was raised through its IPO in April 2002 .Due to strong financial results & good value of their shares, Jet blue perceived successful business model. On 30 June 2003, JetBlue’s shares closed at $41.98
Operations: JetBlue’s operation were deigned to achieve low operating cost and give pleasant flying experience to customers through Utilizing aircraft efficiently- JetBlue operated its aircrafts average 12.9 hrs a day rather than 9 hrs as competitor done, it generate more revenue per plane. Operating one type aircrafts- JetBlue used single type of Airplane, that’s why it reduced maintenance cost, lowered required investment on parts and lower training cost. Developing more productive work force- JetBlue’s have multitasking employees, they could perform multiple task , so fewer employees were needed in comparison of other airline companies with more restricted work rules. Lowering distribution cost- JetBlue didn’t provide paper tickets. It provided through web site, by this it reduce printing and back office operation cost. The company also focused on improving the flying experience for its customers through more comfortable and additional things.
to fly densely populated cities ( metropolitan cities) where JetBlue’s low air fares stimulate new demand from passengers.
the time of 2000-2003 when US carriers struggled and giant players were demolished, at that time JetBlue posted strong revenue growth and became more profitable airlines.
Growth opportunities In early 2003 , JetBlue tends to grow by adding both new markets(middle cities-100 to 600 passengers per day) and new flight to existing destination. JOHN OWEN, Chief Financial Officer of JetBlue at time of expansion of business, sign contract to purchase additional new aircraft from Airbus and Embraer ,the main features were For purchasing of 65 new airbus A320 (120 seats) aircrafts delivered till 2011,which costs $2.5 b. For purchasing 100 Embraer E190 (100 seats) aircrafts delivered from 2005-2011 which costs$ 3b.
For purchasing of these aircrafts company needed $5.5b. for which John Owen got two suggestion from investor bankers .which were- 1. Offering a new public equity of 2.6 m shares at an estimated $42.50 per share. It enabling to raise $110.5 m. 2. Issuing $150m in a private placement of 30 years convertible debentures which have coupon rate of 3.5% and it will be convertible into share of JetBlue @$63.75 per share.
Financial alternatives According to company’s policy it has option to choose secured debt or operating leases. Owen believed that there were some reasons to raise additional capital 1. New capital would ease JetBlue’s ability to finance short term obligations. 2. Additional capital would strengthen the company’s balance sheet at time when JetBlue’s would be carrying amount of debt for new aircraft. Equity and Debt consideration Owen assembled a financial forecast for JetBlue’s and considered financial policies appropriate for company in the future. When Owen go for the equity then it get financial flexibility but it will make adverse effects on BOD because they sensitive about dilution of shares. Now Owen moves to the debts options ,JetBlue’s investment banker had proposed private placement of convertible debt ,it will make happy BOD who were particular concern about dilution but it would be unsecured and subordinated to the company’s existing secured debt.
• Describe the existing business and future prospects of JetBlue?
1.Net income($ thousands)-55315 2.Net revenue($ thousands)-461831 3.Operating 73 flights per day. 4.Useing in single type of airplane, that’s name is airbus-A320, which has 120 seats. It provide high service at low cost. It focuses on highly condensed populated area.
Increase the no. of planes( from 45 to 252)and flight, 2. Targeting new customers by giving more facilities. 3. Focusing on new middle segment market or small cities , with Embraer E190 (100 seats capacity) In small cities where 100-600 passengers travelled daily. 4.Increasing no of employees and enhancing the skills of existing staff.
Future prospects of JetBlue:-
Need of financing
1.To increase its aircraft fleet 2.To maintain operational expenses 3.To raise Additional capital
4. 5. 6.
1 . To incre ase aircrafts fle e t(4 5 to 252)
To accommodate the company’s growth opportunities Adding new markets (mid sized market segment) Adding new flights to existing destinations
Airbus Aircraft Purchase (2004 to 2011) Embracer Aircraft Purchase(2005 to 2011 ) Airbus A 320 Embracer E190 Estimated value (millions)
Firm orders 65
Orders on option 50
2. To Maintain Operational
in spare parts New hangars Flight training center Skilled employees Marketing campaigns
To raise additional capital
New capital would ease its ability to finance its short term obligations Strengthen the company’s balance sheet
Equity vs debt consideration
Equity consideration $ 110.5 million Distributio n o f Owne rship Dividends / floating rates Low cost Growth in its share price Good balance sheet will attract subscription to equity It will help in expansion of business Enhance financial flexibility Availability of liquidity for shareholders Debt consideration $ 150 million Remain same Interest 3.5% * Burden of regular interest Adverse Effect of hiking fuel prices Due to market interest prevailing rates on higher side can affect the subscription of debentures on comparatively low rate Less financial flexibility Money is blocked for 30 years for the holders
Financial Forecast prepared by Morgan Stanley 2003 2004
1397 1,144.9 252.1
(in $ millions)
Operating revenue 999.5 Total operating 822.1 expenses EBIT 177.4
1846.7 1,846.7 333.3
Market interest rats as of June 30, 2003 30 years Treasury bonds @ 4.70% Corporate bonds AA @ 5.19% A @ 5.35% BBB @ 6.84%
Positive and negative points of equity
Raise $110million Dividends Retained earnings Past performance of share price Financial forecast Finanacial flexibility
Distribution of ownership Retained earnings
Positive and negative points about debt consideration
Low interest rat Unsecured Convertible debentures Ownership will remain same 30 years maturity date Conversion at $63.56
High market interest rates less financial flexibility Burden of regular interest
Q.Which proposal should be preferred ?
Mr. Owen should go for second proposal because….. 1.Board of directors are highly sensitive about dilution so they would not prefer equity consideration. 2.“Retained earnings” or no dividend is the major reason which can let down the firs proposal. 3.In the second proposal investors will a have an option to convert it into shares, this gives an edge to second proposal over first. 4.For acquiring assets long term borrowings are preferred. 5.Although second proposal seems good but it will reduce financial flexibility of firm because
Quantitative analysis. 1. net income approach
Cost of capital
Degree of leverage This approach says cost of debt is lesser than cost of equity , so this approach supports second proposal
Mm hypothesis and NOI approach Ke
Cost of capital
degree of leverage
This approach says that cost of equity increases with increase in degree of leverage (debt equity ratio) , so firms financing should look this issue that equity share capital is slightly more risky and costly while debt is safer and cheaper.
ke= dividend per year * 100/market value of share
kd= interest paid per year * 100/market value of debt
for the firm
As funds are needed for working capital and acquiring assets, a single method would not be fruitful because Ø equity will not get right valuation , Ø on the other hand debt consideration will reduce financial flexibility Ø so the company should go for the mixture of both thing i.e. working capital should be acquired by equity and for purchasing planes debt should be considered.