Financial Analysis Assignment: Impact of Borrowing Cost CapitalisationOnAirAsia Group Berhad

Question

Task: Prepare a financial analysis assignment discussing how COVID-19 Impact of borrowing costs capitalization (MRFS 123) in AirAsia Group Berhad either directly or indirectly, risk may have significant consolidated financial statements implications.

Answer

As per the investigation on financial analysis assignment, one of the most affected industries amid the covid-19 situation was Travel Industry. As we know, air travel had taken a major halt during the spread of Covid-19 as international travel was restricted for many months. Both within and outside commute via Air was halted during this time. Due to this, the airline industry had to suffer at large. The company Air Asia Group Berhad had reported that its net loss for the quarter ending September 2020 was $3347.08m. There have been huge impacts on the financial statements due to the hit of the pandemic which can be seen from the financial performance of the company and its cash flows. Even the going concern probability is uncertain in the case of Air Asia Group Berhad due to its sharply risen losses. In a similar period last year, the loss was $317.28m. This shows the company has been severely affected by the pandemic. The total revenue earned as of 30.09.2020 was $2611.967 m while it was $8752.88m in a similar period last year (Air Asia 2020). This has been a major contributor to the heavy loss incurred by the company.

The MFRS-123 ‘Impact of Borrowing Cost
Capitalisation’ suggests that where the borrowing costs are incurred directly in relation to the purchasing or acquiring or constructing of a qualifying asset, then such costs or expenses should be capitalized along with the cost of the asset. Other borrowing costs are to be considered as an expense when these are incurred. The borrowing costs eligible for capitalization are those which could have been avoided if the specific asset was not purchased or acquired or constructed for which the amount has been borrowed (KMPG 2020). The borrowing cost incurred once the asset is put to use is not to be capitalized but incurred in the Profit & Loss statement. The existing impacts on the financial performance of the company were that the company could not avoid the majority of its operating expenses and therefore ran into huge accumulated losses. Few services have to be kept operational even if the airline activities are interrupted. So during the Covid-19 situation, the airlines had to spend the unwanted cost to keep the operations on a roll. This was because the Government can anytime have instructed the airline companies to restore their services. For example Like Salary and Maintenance costs. Other unavoidable costs included borrowing costs which were interest charges on the existing and new loans of the company. In the unaudited financial statements of the company for the quarter ended September 2020, there is no mentioning of waiver of interest charges during the Covid-19 shut down period. The impact of Covid-19 is still present in the airline industry as only very limited people are travelling by air and the same revenue is not being generated which was there in the pre-covid 19 periods. The uncertainty of revenue generation has created a risk to the company as it would not be able to meet out its recurring expenses if the income is not certain. This would lead the company towards liquidation as no financial institution would advance loans to a loss-making company (KMPG 2020).

The financial situation of the company can be assessed by the fact that it has sold its aircraft under the leaseback and sales transaction and then met out its various expenses. The Net Gearing Ratio has increased to 10 times as of 30th September 2020 as compared to 2.3 times as of 30th September 2019.The company did not make any capital expenditure till the quarter ended 30th Sep 2020. Had the company would have made any capital expenditure say on the purchase of Aircraft just before the Covid-19 situation. The company would have required adding the related borrowing cost of airlines to the respective aircraft as per the guidelines of MFRS-123 ‘Impact of Borrowing Cost Capitalisation’. The Interest cost incurred before the asset is put to use is to be added to the asset cost as a capitalization of borrowing cost (Sherman 2015). Impact of Borrowing Cost Capitalisation would be that the cost of the asset acquired increases but the recurring cost would reduce by that amount (Pucheta-Martiinez& Garcia-Meca 2019). One of the rarest situations occurred when the major countries were locked down to stop the spread of Covid-19 disease. So as per our study paper, the company had to incur expenses till the quarter ending 30.09.2020. Situation post-September quarter are not good even, as there is not much clarity on the usage and availability of vaccine for common masses. The Loss of revenue will take at least 2 or 3 years of substantial profits to cover the losses. The Losses have taken over the equity of the company.

The Net Shareholders funds as of 31.03.2020 have been $ (-979.77) m as compared to $2910.74m. This is quite a serious situation for the company. As of now, the company will be required to infuse fresh equity in the company (Air Asia 2020). The effect of Covid-19 on the airline industry has been devastating, to say the least. The worst is not over yet also. Companies across the globe are asking for tax benefits and waiver of interest etc. The Malaysian Government has and will further issue benefits for airline companies. The Airline industry has always been considered a Capital Intensive industry (Carlon 2019). The companies have spent excessively in buying Aircraft which is recovered in future years. Hence big equity and debt are required to start an Airline business. The companies were already under pressure before covid-19 due to the global slowdown. Countries like Malaysia are Tourist oriented and tourism and travel is one of the major sources of Income which has taken a big hit (Air Asia 2020).

We suggest measures like benefits of paying taxes, waiver of interest payments, the enhanced grant of borrowings to the airline companies, and deferment of Monthly loan EMI. The economies across globe are yet to come out of the covid-19 pandemic. Countries such as USA, Europe, and India still face Lockdowns and restrictions in some parts of the countries. Hence concluded that the effect of Covid-19 on the Airline industry has been excessive and severe which shall take quite some years to recover.

References
Air Asia. (2020). AirAsia Group Behard third quarter 2020 financial result. Retrieved 25 February 2020 from https://newsroom.airasia.com/news/aagb-3q20-financial-result#:~:text=The%20Consolidated%20Group%20posted%20a,of%20RM691%20million%20in%203Q2019. &text=AirAsia%20Digital's%20performance%20for%20the,%25%20YoY%20and%2013%25%20QoQ

Carlon, S.(2019). Financial accounting: reporting, analysis and decision making. 6th ed. Milton, QLD John Wiley and Sons Australia, Ltd

KMPG. (2020). How might capitalisation of borrowing costs be affected Financial analysis assignment Retrieved 25 February 2020 from https://home.kpmg/xx/en/home/insights/2020/04/covid-19-financial-instruments-2f.html
Pucheta-Martiinez, M. & Garcia-Meca, E. (2019). Monitoring, corporate performance and institutional directors. Australian Accounting Review, 29(1), 208-219. doi:10.1111/auar.12262
Sherman, E. (2015). A manager's guide to financial analysis : Powerful tools for analyzing the numbers and making the best decisions for your business (6thed) Ama Self-Study