1.6 Industry Structures and Segments
1.6.2 Segments
The relative economic importance of selected industry segments is illustrated in Fig.1.19, the trend lines of which provide long-range macroeconomic perspectives of travel industry growth patterns relative to personal-consumption expenditures.
These patterns then translate into short-run financial operating performance, which is revealed in Table1.6showing revenues, pretax operating incomes, assets, and cash flows for a selected sample of major public companies. This sample includes an estimated 75 % of the domestic transactions volume in travel-related industries and provides a means of comparing efficiencies and growth rates in various segments.36
Figure1.20, meanwhile, illustrates how airlines have come to account for the largest share of intercity travel at the expense of travel by cars, buses, and rail. The percent of PCEs going toward foreign travel by US citizens is then seen in Fig.1.21.
35The Herfindahl–Hirschman Index (HHI)—used by the Department of Justice in determining whether proposed mergers ought to be permitted—is calculated as the sum of the squared market shares of competitors in the relevant product and geographic markets:
HHI¼Xn
i¼1
S2i
whereSis the market share of theith firm in the industry andnequals the number of firms in the industry. Generally, near-monopolies would have an HHI approaching 10,000; modest con- centrations would fall between 1000 and 1800; and low concentration would be under 1000.
For airlines, Hanlon (2007, p. 62) notes that, “[E]ven where increasing concentration is simply the result of efficient firms becoming more dominant, once they achieve this greater dominance they will enjoy a greater degree of monopoly market power, which they may then use to raise prices.” Williamson (1968) had earlier shown how the balance between market power and efficiency depends on the price elasticity of demand for the particular goods or services, with the degree of monopoly market power of a firm represented by its price-cost margin, which is (price minus marginal cost)/price. Firms with no monopoly power (i.e., operating under textbook definitions of perfect competition) would have a ratio of zero.
TheGini coefficientor Gin index, originated by sociologist Corrado Gini in 1912 to measure income inequality, is also used to express concentration in markets. When everyone has the same income or share, the coefficient is zero. And when there is maximal inequality, the coefficient is one (or 100 %). On a graph, using income distribution, the cumulative share of peoplefrom lowest to highest incomes goes from left to right on thex-axis and the cumulative share ofincome earnedappears on the y-axis. A 45-degree straight line indicates perfect equality.
36For example, airline segment operating income had grown nearly twice as fast as hotel segment operating income between 1993 and 1998 (not shown) and also faster than for hotels between 2010 and 2014.
More immediately, it can be estimated form Table1.6that major travel industry segments generated revenues of more than $500 billion in 2014 and that annual growth between 2010 and 2014—a period following the deep economic recession
0.20 0.40 0.60 0.80
59 69 79 89 99 09
%
hotels & motels
- 0.25 0.50 0.75 1.00
59 69 79 89 99 09
%
casinos Amusement/theme parks
- 0.25 0.50 0.75
59 69 79 89 99 09
%
airlines (a)
(b)
(c) Fig. 1.19 PCEs of selected travel categories as percentages of total PCEs for (a) airlines, (b) hotels and motels, and (c) casinos and theme parks, 1959–2014
1.6 Industry Structures and Segments 33
of 2008–2009—was at least 6.0 %. It can also be seen that over the same span total operating income growth was 15 %, even as assets and operating cash flows grew more slowly at 2.3 % and 9.5 % respectively.
Cash flow is so important because it can be used to service debt, acquire assets, or pay dividends. Representing the difference between cash receipts from the sale of goods or services and cash outlays required in their production, operating cash flow is usually understood to be operating income before deductions for interest, Table 1.6 Travel industry composite sample, 2010–2014
Revenuesa Operating incomea Margin % Assetsa Operating cash flowa
2014 510,373 44,498 8.7 692,400 71,639
2013 493,306 34,204 6.9 672,111 63,887
2012 474,023 26,090 5.5 662,032 55,404
2011 450,961 30,729 6.8 666,934 52,118
2010 403,573 25,440 6.3 632,471 49,856
Compound annual growth rates (%): 2010–2014 Industry
segment
No. companies
in sample Revenues
Operating
income Assets
Operating cash flow
Avg, op margin (%)
Airlines 15 5.3 13.8 0.7 8.0 4.3
Bus 2 4.3 (4.8) (0.7) (2.3) 5.5
Car rental 2 11.7 126.8 11.2 17.3 3.2
Cruise lines
3 3.9 (1.1) 3.4 1.5 11.0
Gaming (casinos)
17 9.7 45.6 1.3 24.1 11.5
Hotels 25 4.5 18.3 0.4 11.5 10.3
Travel Agencies
6 8.6 4.1 10.1 9.4 5.7
Theme parks
6 8.7 10.5 6.5 (12.0) 18.1
Total 76 Avg margin¼ 8.7
Total composite Pretax return (%) on
Revenues
Operating income ($
millions) Assets
Operating cash flow Revenues Assets
2014 8.7 6.4 510,373 44,498 692,400 71,639
2013 6.9 5.1 493,306 34,204 672,111 63,887
2012 5.5 3.9 474,023 26,090 662,032 55,404
2011 6.8 4.6 450,961 30,729 666,934 52,118
2010 6.3 4.0 403,573 25,440 632,471 49,856
CAGRb: 6.0 15.0 2.3 9.5
a$ millions
bCompound annual growth rate (%) Sources: Company reports
depreciation, and amortization (EBITDA) and, more recently and alternatively, operating income before depreciation and amortization (OIBDA).37
Although it has lost analytical favor in recent years, cash flow (EBITDA) so defined is often used as a valuation metric for all kinds of hotel, airline, media, and entertainment assets because the distortional effects of differing tax and financial structure considerations are stripped away. A business property can thus be more
- 0.3 0.6 0.9
59 69 79 89 99 09
%
Air
Bus Rail
Fig. 1.20 Percent of PCEs for travel by air, bus, and rail, 1959–2014
0.3 0.7 1.1 1.5
59 69 79 89 99 09
%
Foreign travel by U.S. Citizens Fig. 1.21 Percent of PCE’s
for foreign travel by US citizens, 1959–2014
37OIBDA eliminates the uneven effect across company business segments of non-cash depreci- ation of tangible assets and amortization of certain intangible assets that are recognized in business combinations. The limitation of this measure, however, is that it does not reflect periodic costs of certain capitalized tangible and intangible assets used in generating revenues. OIBDA also does not reflect the diminution in value of goodwill and intangible assets or gains and losses on asset sales. In contrast, free cash flow (FCF) is defined as cash from operations less cash provided by discontinued operations, capital expenditures and product development costs, principal payments on capital leases, dividends paid, and partnership distributions, if any.
1.6 Industry Structures and Segments 35
easily evaluated from the standpoint of what it might be worth to potential buyers.38 Also, a trend of declining EBIT margins (i.e., EBIT/revenues) always has stock- price forecasting implications because it suggests that companies are finding it more difficult to convert revenues into cash—a situation that if sustained leads ultimately to lower share valuations.
By and large, the weak growth of cash flows relative to earlier periods suggests that it will be more difficult and costly for travel firms to finance new asset additions and equipment and infrastructure replacements through borrowings and/or sales of equity (i.e., shares of stock). Further consolidation through heightened merger and acquisition activity ought to be expected if overall growth were to remain subdued over an extended period.
Nevertheless, a thorough analysis of the composites shown in Table1.6would require consideration of many features of the business environment, including interest rates, antitrust policy attitudes, the trend of dollar exchange rates, and relative pricing power. This last factor is illustrated by Fig.1.22which compares the rise of airfares and lodging prices against the average of all items for all urban consumers (CPI-U). From this, it can be seen that since the early 1980s, prices in both segments have been rising faster than the average rate of inflation.
Finally, an indexed comparison of the percentage of personal-consumption expenditures going to different segments reveals the effects of changes in technol- ogy and in spending preferences. Two such trends are reflected in Fig.1.23in which the indexed percentage of total PCEs going to airlines and hotels is illustrated.
Interestingly, the effects of airline price-deregulation of around 1980 can be seen, with the airline index losing altitude relative to the hotels segment index. At the time, hotels benefited from relatively improved pricing power as a result of the
0 75 150 225 300 375
80 90 00 10
CPI-U Air
Lodging Fig. 1.22 Consumer Price
Index inflation-rate comparisons for all urban consumers (CPI-U) and selected industry segments, 1980–2014.Source: Bureau of Labor Statistics
38Enthusiasm for the use of EBITDA as an important metric of comparison has waned in light of the accounting scandals of the early 2000s. Increasingly, investors appear to favor measures of free cash flow and net earnings, especially now that the rules for writing down goodwill have been changed (see Chap.4) and given that EBITDA does not indicate the detrimental effects of high and rising debt obligations on balance sheets and rising interest expenses on net earnings.
increased demand that was stimulated by newly deregulated airfares. Meanwhile, a similar index of spending on casinos (not shown) is now approximately fifteen times the level of 1959.