Accounting
Operating income it typically defined to include all operating expenses other than depreciation and taxes (Investopedia, 2011). Because the airplanes are leased, there is no depreciation for West Coast Airlines to take into consideration anyway. The operating income is as follows:
Revenue
AVG Passengers
Variable fuel
Revenue/pass
Food & Beverage
F&B/pass
Fixed Lease
Ground Services
Flight Crew
Operating Income
The company right now is losing $31,012.50 on every one-way flight to Fiji.
If the company lowers the cost of the flight in order to generate an increase in volume, the operating income figures will look as follows:
Revenue
Avg Passengers
Variable fuel
14000
Revenue/pass
Food & Beverage
F&B/pass
Commission
Fixed Lease
53000
Ground Services
Flight Crew
Operating Income
-28924
By these figures, Fiji Air loses $28,924 per one-way flight with the lower ticket price and the higher average number of passengers. The bigger issue is that even under this scenario, the company loses an incredible amount of money per flight. It would appear that the bigger problem is the lease per flight. The lease is a fixed cost, but right now the company is treating it like a variable cost. What the company needs to do is realize that it either needs to add more flights to bring the average cost of the lease per flight down to a level where these flights can be profitable, or it needs to use a smaller aircraft. Given that the load factor on these flights under the first scenario is a paltry 53.8%, the latter option should be utilized, providing that the airline can find an aircraft capable of making this flight that comes with a smaller capacity and more importantly a smaller price tag.
3) With the Travel International offer, there are a few changes to the income statement. The first is that the food & beverage and fuel costs will be removed, since TI is paying those. The lease amount per flight will remain the same, since in total Westcoast Air is running the same number of flights. Additionally, the commission paid to the travel agents must be removed, since the agents are not involved in selling these tickets. The other assumption is that the number of passengers in total is not going to change. Westcoast Air should take Travel International up on its offer. The TI deal has an operating income of $7,500 per flight. So while Westcoast Air will still lose money overall, these flights are profitable, something that cannot be said of the rest of Westcoast Air’s flights.
Charter Flights
Revenue
1,800,000
Flights
24
Ground Services
180000
Flight Crew
168000
Fixed Lease
1272000
Operating Income
180,000
per flight
Another factor in making this decision is the impact that TI’s flights will have on the regular Westcoast Air flights. If no cannibalism is assumed, the regular Westcoast Air demand of 36,400 will be dispersed among 184 flights instead of 208, giving the airline an average of 197.8 passengers per flight. This would mean that the losses on the regular flights would be lower than at present, although Westcoast would still be losing money on those flights.
Question 3)
Own Flights
Revenue
11834420
Avg Passengers
Variable fuel
2576000
Revenue/pass
Food & Beverage
145654.4
F&B/pass
4
Commission
1183442
Flights (own)
Fixed Lease
9752000
Ground Services
1380000
Flight Crew
1288000
Operating Income
-4490676
Charter Flights
Revenue
1,800,000
Flights
24
Ground Services
180000
Flight Crew
168000
Fixed Lease
1272000
Operating Income
180,000
per flight
Combined operating income
-4,310,676
Thus, Westcoast Air still has a problem with its own flights and how they lose money. The company will still have capacity issues. However, the TI deal should be accepted because it improves the operating income of the company. Furthermore, if the cannibalism rate is anything less than 100%, then Westcoast Air will see an improvement on the operating income of its own flights, because its passengers will be forced to take a different flight than they otherwise would, increasing the average number of passengers on the regular flights.
References:
Investopedia. (2011). Operating income. Investopedia. Retrieved February 8, 2012 from http://www.investopedia.com/terms/o/operatingincome.asp#axzz1lna6LUYy
No author. (2012). Break-even point. Accounting Coach.com. Retrieved February 8, 2012 from http://www.accountingcoach.com/online-accounting-course/01Xpg01.html
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