Easyjet Financial Reporting Recent History Regarding Corporate

easyJet Financial Reporting

Recent History Regarding Corporate Accounting Policy

The recent corporate accounting practices of easyJet Airlines reflects financial accounting policies at the company, which were in disapproval by Sir Stelios Haji-Ioannou, founder -- easyJet (Waller, 2008) . The Board of Directors are responsible for drafting and adopting of company accounting policies. Sir Stelios' rejection of the boards annual accounts is reflective of the agency/principle problem such that the board is now potentially viewing the corporation in a different light than from the founder.

The founder proclaimed the accounting policies adopted by the board of easyJet to be inaccurate and not reflective of the "current commercial realities and the macro-economic climate" says Sir Stelios (Waller, 2008). Stelios recommends changes to the policies in place and suggests appointment of two directors of non-executive capacity to serve on the board to provide financial accounting insight into the policies established and set forth by the board.

Stelios' refusal to sign off on the accounting policies ostensibly arises from the policies inability to provide the confidence or the returns necessary for the board to vote to provide a dividend or increase the rate of growth of the company or its stock to the shareholder. According to Waller, (2008) "The figures themselves show the effect of high oil prices with underlying pre-tax profit down from £191 million to £123 million." (Waller, 2008)

According to Walsh (2008), "easyJet has yet to say if it will accede to Sir Stelio's wish to have two existing employees appointed to the board. However, legally, the company's accounts can be passed without Sir Stelios' approval." (Walsh, 2008) In fact, the accounts were passed by the rest of the board and by easyJet's auditor PwC. One must ask whether the founder is in the wrong or in the right. History shows that founders are inherently right about their organizations.

The specific argument, according to Walsh (2008), "His criticism of the board's accounting policies centres around the other directors' decision to regard the company as a "single cash generating unit" rather than as a series of businesses, as rival Ryanair does. He believes the value put on landing slots at Gatwick acquired with GB Airways a year ago is "based on optimistic assumptions about future revenues, particularly in the current economic climate. Sir Stelios also thinks the aircraft acquired with GB Airways -- seven with one more to be delivered in future -- should be written down in the accounts to their estimated market value." (Walsh, 2008)

However, Andy Harrison, the CEO of easyJet, explains Stelios disenchantment to the accounting policies in place. According to Walsh (2008), "The concerns Stelios has raised in his letter are not new news. They have been fully considered by management, the audit committee and by the auditors. The issues that Stelios has raised are non-cash items, they are non-trading items and therefore have no impact on the value or commercial strength of the company. The board's view is that it's just premature to be talking about dividends at the point in the cycle where we are now. The board had no "point of principle" against paying a dividend when the airline was sufficiently profitable." (Walsh, 2008)

The company's auditor PwC had given easyJet an unqualified report, which is synonymous with a passing accounting standards report rendering the accounting practices in line with the International Financial Reporting Standards or IFRS. According to the 2008 annual report, the audit report produced by PwC reported the following.

According to the PwC report, "the Group financial statements give a true and fair view in accordance with IFRSs as adopted by the European Union, of the state of the Group's affairs as at 30 September 2008 and of its profit and cash flows for the year then ended. The parent company financial statements give a true and fair view, in accordance with IFRSs as adopted by the European Union as applied in accordance with the provisions of the Companies Act 1985, of the state of the parent company's affairs as at 30 September 2008 and cash flows for the year then ended." (PricewaterhouseCoopers LLP, 2008)

The accounting policies were in accordance to the reporting standards in 2008. In 2010, the accounting policies included the accounting details that Sir Stelios felt were missing from the 2008 audit. According to the 2010 annual report, "Section 23: Financial risk and capital management included explanations regarding easyJet's exposure to financial risks including fluctuations in exchange rates, jet fuel prices and interest rates. Financial risk management aims to limit these market risks with selected derivative hedging instruments being used for this purpose, easyJet policy is not to trade in derivatives but to use the instruments to hedge anticipated exposure." (Annual Report, 2010)

Value of Segmental Information to Shareholders

In general, the value of segmental information as a reporting measure for shareholder benefit is to enable greater transparency and hence greater accountability to the business units within the parent corporation. EasyJet is a relatively small airline company and does not have the multiple business units generally associated with much larger companies. As mentioned by the CEO in the previous section, easyJet does not have multiple lines of business and is a rather simple cash generating airline.

Geographical segmentation however, does provide insight into potential strategy, micro and macro-economic insight, and a clear means to differentiate routes of high/low revenue/expenses that provide value and generate profit for the company. Additionally, the risks associated with various routes can be projected based on geopolitical and global economic activity.

Geographic segment is a function of the routes easyJet has secured throughout the world. Should geopolitical risk causes energy prices to rise, the shareholders can view the geographic regions where the spike in price will most hurt the airline. Getting fuel to certain airports where the airline operates will have a different expense base due to the number of flights the airline runs from each route. Certain routes will have a higher expense per passenger than other routes. Shareholders will be able to see the profitability of routes and the risks associated with each as well.

Key Ratios for easyJet

The key ratios for easyJet include the current ratio, which is the total current assets divided by the total current liabilities. Current ratio (Harrison, Horngren, Thomas, 2010) is a measure of how liquid a company is in terms of liquidating current assets to pay off current liabilities to remain in business if necessary. In 2010, the total current assets for easyJet

was 1,514.9 and the total current liabilities were (1,064.6). The current ratio is 1.42, which indicates easyJet can pay current liabilities if these expenses were demanded upon request.

The debt ratio is a measure of the amount of corporate assets that are funded by debt. A high debt ratio indicates the company is highly leveraged and has to pay interest on the financed debt and therefore needs to have a strong return to render the decision to undergo extreme debt financing as a sensible bet. The debt ratio is measured by dividing total liabilities by total assets. Total liabilities is (1,437.2) and total assets is (1514.9) The debt ratio for easyJet is 0.949.

The next key ratio is the Acid-Test Ratio, which tests for the ability to pay off current liabilities, however does not include such measures as inventory in the calculation and is hence, more stringent than the current ratio. The acid-test ratio is calculated by adding cash + short-term investments + net current receivables / total current liabilities. Cash + short-term investments + net current receivables is 1,441.7 and total current liabilities is (1,064.6). The acid-test ratio is 1.35.

The next key ratio is Earnings per Share or EPS, which tells the investor how much of a premium they are paying to own the stock. A stock with a P/E of 15 means the investor is paying 15x's earnings to own the stock. The EPS is calculated by dividing the earnings of the last quarter or the future projected earnings of the upcoming quarter by the number of shares outstanding. The EPS or easyJet is 28.4

(pence).

Corporate Governance Issues

Corporate Governance issues are not clearly described in the literature generated internally from the company or by the company auditor, PwC. However, Dow Jones & Company (2010) reveals additional information regarding the case initially presented between the board, CEO and the 'rogue' board member who also happens to be the founder and majority shareholder.

According to Dow Jones & Company (2010), "EasyJet PLC said Monday it has resolved a brand-license dispute with easyGroup IP Licensing Ltd. Under which the low-cost airline will keep its "easyJet" name and founder Stelios Haji-Ioannou will lose the right to appoint himself to the carrier's board EasyJet Chief Executive Carolyn McCall said the airline spoke with major shareholders about the deal over the weekend. Ms. McCall said they were "supportive" because the deal creates more corporate governance flexibility at easyJet. However, Ms. McCall said she couldn't provide shareholders any guarantees regarding the company's future dividend policy." (Dow Jones & Company, 2010)

Further evidence of increased focus to corporate governance issues and added flexibility with adapting to measures consistent with effective corporate governance is provided by The Safety & Health Practitioner (2004). According to The Safety & Health Practitioner (2004), "Andy Shaw from Easyjet will look at boardroom management, corporate governance demands, and legal and social pressure. Boardroom risk management becoming a focal point following a number of high profile business disasters." (The Safety & Health Practitioner, 2004)

These advances are a move from the turmoil the company faced with the founder and the rest of the board at a disagreement regarding the accounting policy direction the company needs to adopt to provide shareholder value more rapidly. According to Rogers (2002), "Much has been written on the etiquette of corporate governance that prevented Haji-Iannou from maintaining the dual role of majority shareholder and an impartial chairman, as easyJet becomes an established public company." (Rogers, 2002)

Change to the corporate governance structure was inherent during the early 2000 as a 'house cleaning' was in order. According to FT (2003), "This included the departure from the chairmanship and from the board of Easyjet of Mr. Haji-Ioannou and his replacement a year ago by Sir Colin Chandler, a former chairman and chief executive of Vickers and a man of the UK corporate establishment." (FT, 2003)

Since the disagreements between the founder and the board, there have been relatively no issues that threaten corporate governance or to undermine internal control. Internal auditing procedures are clearly documented in the annual report and no glaring omissions or errors were observed.

Significance of Audit Reports to Stakeholders

The audit report provides detailed information regarding the reliability of the internal record keeping and accountability of internal reporting of financial information. For potential investors, this form of disclosure is critical to rendering a decision regarding whether the financial reports are representing the underlying financial picture of easyJet, accurately.

Investors will not choose to buy shares of a company whom is deceptive regarding their auditing practices. PricewaterhouseCoopers has a strong reputation in the accounting industry and given the collapse of Arthur Anderson to corruption and fraudulent activity, the importance of ensuring financial transparency and integrity in reporting is heightened.

The audit reports provide a valid and trustworthy opinion delivered from a reliable and knowledgeable specialization firm that understands accounting procedures under the IFRS. Additionally, it is understood that the auditing firm can spot fraudulent activity and will detail such activity within the report. Shareholders are able to see that the company is continuing to not misrepresent earnings or expenses or create erroneous assets or inflate revenues and deflate costs, invent inventory numbers, and other accounting atrocities that can leave shareholders holding the bag.

The audit report to employees is not as important and is actually somewhat meaningless unless one is contemplating to leave the company and perhaps work elsewhere in the industry and is trying to obtain specific information. However, when compared to shareholders and investors, employees clearly do not have the requirement of reviewing the auditing report as does the aforementioned two parties.

easyJet Performance: 2010

The operating year 2010 for easyJet airlines was notably better, much improved over performance in 2009. The results according to the 2010 annual report indicate the following:

Source: http://2010annualreport.easyjet.com/2010-in-brief.asp

The management in alliance with the policies derived by the board have enabled the company to achieve strong profits before taxes and double digit growth in total revenue. Such growth at this stage in the airline industry is not an easy feat to achieve. The return on capital employed more than doubled year over year from 2009 to 2010, which is the equivalent of achieving double the output from the same set of inputs.

The return on equity is equally impressive, as 3.1ppt represents strong growth in a highly competitive market. The Pre-tax margin increased significantly in 2010. Such an increase in the operating margin allows a company to move away from operating at the margin, which is an area all too many airlines tend to operate these days. These metrics collectively indicate easyJet is a prime takeover target and the likely candidate of merger and acquisition activity from a buyer with cash or with a high enough stock price to absorb easyJet and obtain the company's routes and underlying business.