I have some comments from a reader which I will try to answer:
felicity, I benefited from reading your blog articles, so here's my take on AirAsia.
1. Look at their free cash flow http://www.marketwatch.com/investing/stock/airasia/financials/cash-flow
Taking a long-term perspective, return to shareholders is simply discounted sum of free cash flow. Profit is an opinion, cash is real.
I have been a proponent of free cashflow in my blog and did I change my strategy and investment methods. No. It is accurate that Airasia has not been strong in its cashflow department over the last few years but if one is to read further, Airasia has been on growth path before and they have actually slowed down their growth since 2015. For 2015, one will see a net free cashflow of more than RM1 billion and that is before they have started to fully enjoy the much lower fuel price. Most airlines (except for many American airlines) had yet to enjoy the lower fuel costs. 2016 will be year where the lower fuel will start to provide the additional profits. Airasia's business generates real cash.
2. AirAsia has over $11B ringgit in debt. http://www.airasia.com/my/en/about-us/ir-5-year-financial-highlights.page
Sure, they have plenty of planes. But planes can't be sold otherwise, they would have to close shop. Even if they reduce their planes, they probably won't get a good price (see point 3).
Debt is definitely high. They have to work on it before it becomes overly burdensome. However, they are not in the business of selling planes but seats. Most tend to think what if it closes down. It is a business. They do sell old planes and buy new ones. On that part the narrow body planes are much better situation than wide body planes. Example A380 or B777 will have problem to be sold, not so A320.
3. There is a overcapacity in the airlines industry currently (as MAS's new CEO pointed out during a recent interview).
Wonder why you think AirAsia should be worth US$10B someday? Did you do a discounted free cash flow analysis or just compared them to valuations of other budget carriers?
I am the bullish one of course and most analysts provide a higher valuation than its current price. I myself think it should be higher, but of course its my opinion. Analysts tend to take the safe way out as by putting a much higher price, they are taking risk of being considered irrational. I can be irrational. If I think Airasia is worth $2 billion then for it to reach $10 billion is a multiple of 5x. I also do not think dollar will be 4.3x RM in the long run, hence valuation of say RM35billion does not sound too expensive anymore. But of course, many would think I am crazy as Airasia is only priced at RM3.7 billion today. That's 10-20 years down the road. If one is to look at the trajectory of successful and top low costs carrier, Ryanair, Easyjet and Southwest, they have that kind of trajectory over 15 years especially during growth to maturity period.
Today LCC are competitive (even have RayaniAir - hmmm sounds like RyanAir isn't it) but small ones will fizzle out. I am always the proponent of full fledged low costs - not the Singapore model such as Tiger and Scoot where they are owned by SIA. It is hard to have 2 models unless they are independent. I also like the management of Airasia (many will not agree with me) as they are positioned to be successful and grow. Some of the LCCs are positioned to be "jaguh kampung". Airasia is not although they do face huge challenges as we see it when moving overseas. Thailand though is one success story.
I however think SIA's subsidiaries like Tiger will give Airasia a run for their money overtime as SIA is a bigger parent than Airasia has. (Singapore by the country is also more focus, unlike Malaysia whom is trying to kill Airasia and in the process, affecting its own tourism business. I hope overtime they will realise that a strong LCC would bring benefit to the country especially when forex is important to Malaysia)
Also note that as it is Tiger being valued more than SGD1 billion is a sign than a struggling low costs such as Tiger is worth something and not as per what Airasia is valued at today. Check news on SIA's offer for Tiger!
On having a DCF, it is preposterous as DCF model can be out of whack easily. Nobody can predict the cashflow future correctly. These are meant for financial people whom only uses excel well.
On overcapacity, its real and the one who blink first is MAS, right? Them cutting capacity brought some benefits to Airasia and other airlines like Emirates. The data is already been provided by Malaysia Airport whom reports on traffic monthly. The traffic since MAS had its cut brought traffic to KLIA2 significantly. Airasia is by far the biggest user of KLIA2.
In the long run, both LCC and full fledged will see competitions but the next decade will be decade for LCC than the one MAS, Emirates are focusing on. SIA (and I trust the data crunching from Singapore) has already foreseen that. I am seeing also that Airasia is in right position and will be there to ride the wave, But it has to be diligent and careful.
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When I bought this low costs airline at RM1.12, many thought I was crazy. It is a difficult sector - I agree. Warren Buffett said no, where many American airline companies went bankrupt before. Many Asian airlines went bankrupt as well and needed rescue by their government. Among them Japan Airlines, Thai Airways, Qantas (in trouble) and of course every now and then MAS had that problem and it may not just end.
Why? Because these are national airline companies and (as I have mentioned before), no country would allow their national airlines to be taken off the sky. That was how it was deemed before. Today, many countries still support their national airline, but that thought of supporting the national airline company - at all costs - is being less considered or shall I say is less important.
I would consider having an airline company to a country as like a country having a football team. No country that is able, would not NOT have a national football team - and believe me except for several very strong national teams, for most countries, these are a costly affair. One cannot however say due to this, we should not have a national football team. This is also why the current suspended FIFA president, Sepp Blatter has been in power for 5 terms. He knows what a poor country needs and through FIFA's financial strength, he supports them albeit the many corruption scandals as well.
Back to airline
So when all these countries fight, in a competitive world, most cases there is 1, 2 or at best 3 winners while all the rests would lose - badly. Until 10 years ago, in this region these winners were SIA, to some extent Cathay. The rest were losers that went bankrupt and relived through government rescue. Then came airlines from oil rich countries whom have nothing else to do but to continue throwing oil revenues into their own airlines. These countries supported Emirates, Qatar, Etihad and had seemingly unlimited cash so much so it seems that they are the one until today whom are supporting the Airbus 380 initiative. Without them and originally SIA, A380 would never had gone off the tarmac.
About 20 to 30 years ago, it was also the time where low costs airlines just about were getting traction. First, it was Southwest (in US), in the process killing several full-service airlines in US indirectly. Then of course were Ryanair and Easyjet in Europe. These airlines thrive on deregulation of the air passenger business in their own country (for Southwest) and continent (for Ryanair and Easyjet). If you study, how would an Irish based company (Ryanair) and a Texas based company (Southwest) thrive against competition which are based from higher traffic cities such as New York, Los Angeles, London, Rome, Paris etc? Where they are operated from, these are not the most high traffic places.
These low costs airlines do not follow the usual (past) airline business convention. To be able to compete on price and other means such as efficiency is their business model, with the main intention to carry people point to point - at very affordable price. Prices which were unimaginable, are now possible for mass public to be transported. It is not that we are better off that we are able to fly more often. Our ability to fly is due to there is a big shift in how this sector has changed. Flying should not be a luxury anymore.
Back to Airasia
Where Airasia is operating and competing and driving, it is the same as where Ryanair has been so controversially despised by many of their customers, partners etc. But think about it, they revived many of the smaller or older airports, making commuting easier and faster. Of course, at the same time, making themselves very rich. (Micheal O'Leary, Ryanair's brash CEO is one of the richest person in Ireland). You can also see that Airasia sort of made Malaysia Airport what it is today - that's why Tony Fernandes is furious with KLIA2 and KKIA more recently.
Companies such as Airasia and Ryanair of course changed the landscape of the airline business, pushing hard for deregulation - an area where they will thrive. Of course, Airasia is still fighting hard against MAS in Malaysia, Thai Airways in Thailand, Garuda in Indonesia and many other countries. But their business model is different, so much so that sometimes these airlines do not know how to react - to a low costs competitor. For MAS (where they had done), it cannot afford to compete on prices relying on the operational platform they are in. When it competed on prices, it lost more than RM1 billion in 2014, injuring Airasia as well. In the end, it was MAS whom surrendered first, although Airasia was also badly hurt. Think about it, should it not be a private company that is more seriously hurt competing against a government behemoth?
Ironically from there, Khazanah appointed Christoph Muller. In his resume, he was acclaimed as the turnaround specialist whom made it happened for Aer Lingus, the national Irish airline. He is expected to do the same for MAS.
No article in Malaysia carries his work in Ireland and mentioned whom he was up against. The fact is, he was against Ryanair. He did not really try to compete head-on with Ryanair as I would think he knows he would have lost. As in what we have seen in Malaysia where has been trying to do onto MAS, he made Aer Lingus more agile and smaller - and focus on what a full-service airline would do.
As in most turnaround stories, a person is considered successful if he is able to do complete the turning around, but in most cases, the winner is still your competitor - Ryanair in his case. He did not make Aer Lingus very profitable. Aer Lingus stopped bleeding - and that's success. I am expecting the same to happen in Malaysia. MAS would go smaller, while Airasia will be the one transporting more Malaysians. In Ireland that is the same, so much so that Micheal O'Leary would argue that Ryanair should be the national airline of Ireland rather than Aer Lingus as they transport more Irish than the flag carrier.
Where Airasia has gone regional
We have also seen Airasia is not just a carrier whom are operating off Malaysia. It is going after the regional business, much more difficult but needed. Why?
Flying in most part of Asia, it is not about inter cities within the same country but also between countries. In this sense, Airasia should seek to expand (as it already does) as it does not carry the baggage of a national airline where in Asia especially is a no no for one country's airline to be doing well in other people's country. It is much harder for SIA to propose holding stakes in another country's airline company as compared to Airasia, I would think - although SIA does own stakes in some other Asian countries. For SIA I would think, it is their national duty to bring more traffic into their own country rather than making strategic investments in another country's airline. That is also probably why SIA has offered Tiger Airways shareholders and making the Singapore based low costs airline go private. There must be strategic reasons from this and I am speculating that, the future growth of the business is low costs.
For Airasia, as it is going into many other countries such as Thailand at first, Indonesia, Japan, Philippines, India - it is not without challenges. In each of these countries there are already their incumbent. These are Lion Air, CebuAir, Indigo etc. and they are probably given preference by their own government. This is also why Airasia, as you have seen are facing countless challenges - but these are challenges it must overcome and learn from mistakes.
What investors today is expecting is Airasia to be profitable immediately from these ventures - so much so that there are negative valuations provided for these overseas investments. In actual fact, it should not be. If Airasia's venture is to be valued individually in their respective countries, there would be different value provided added up for Airasia as a group.
The fact is the international investments is pulling Airasia's value down as a whole. Are we saying that Airasia should stop holding stakes beyond Malaysia? Is we say no, that's what today's valuation is however telling us. (as an analyst, we are taught sum of parts - where we break up individual business or investment and value them separately. After that, we will tally them up into one valuation for the group. No analyst has done that for Airasia. If I were to ask to have the exercise differently, just value Airasia's Malaysian operation, what should be the value?)
Today, Airasia is being priced at below RM4 billion - i.e. not even USD1 billion. For the first ever low costs airline in Asia and how much it has done to achieve to where it is today, do you think it is worth less than USD1 billion? Of course, no PE ratio or dividend yield or even NTA would have provided a good valuation threshold. This is because Airasia is continuing to invest in overseas where it will create negative valuation to the group as a whole. People is putting huge value on hope and based on aggressive investments into Amazon and Alibaba (and Lazada, Snapdeal) - all e-commerce - for example but not on hope for a low costs airline business where there is also tremendous growth opportunities as well.
What Airasia needs to do is continue to push and survive during bad times while it grows in times - like now - where low oil price is beneficial for all airlines. If it wins in Asia (that means largest low costs airline in Asia), I am sure it will be a USD10 billion company in 10 or 20 years time - where I see a more open Asian skies.
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Why? Because these are national airline companies and (as I have mentioned before), no country would allow their national airlines to be taken off the sky. That was how it was deemed before. Today, many countries still support their national airline, but that thought of supporting the national airline company - at all costs - is being less considered or shall I say is less important.
I would consider having an airline company to a country as like a country having a football team. No country that is able, would not NOT have a national football team - and believe me except for several very strong national teams, for most countries, these are a costly affair. One cannot however say due to this, we should not have a national football team. This is also why the current suspended FIFA president, Sepp Blatter has been in power for 5 terms. He knows what a poor country needs and through FIFA's financial strength, he supports them albeit the many corruption scandals as well.
Back to airline
So when all these countries fight, in a competitive world, most cases there is 1, 2 or at best 3 winners while all the rests would lose - badly. Until 10 years ago, in this region these winners were SIA, to some extent Cathay. The rest were losers that went bankrupt and relived through government rescue. Then came airlines from oil rich countries whom have nothing else to do but to continue throwing oil revenues into their own airlines. These countries supported Emirates, Qatar, Etihad and had seemingly unlimited cash so much so it seems that they are the one until today whom are supporting the Airbus 380 initiative. Without them and originally SIA, A380 would never had gone off the tarmac.
About 20 to 30 years ago, it was also the time where low costs airlines just about were getting traction. First, it was Southwest (in US), in the process killing several full-service airlines in US indirectly. Then of course were Ryanair and Easyjet in Europe. These airlines thrive on deregulation of the air passenger business in their own country (for Southwest) and continent (for Ryanair and Easyjet). If you study, how would an Irish based company (Ryanair) and a Texas based company (Southwest) thrive against competition which are based from higher traffic cities such as New York, Los Angeles, London, Rome, Paris etc? Where they are operated from, these are not the most high traffic places.
These low costs airlines do not follow the usual (past) airline business convention. To be able to compete on price and other means such as efficiency is their business model, with the main intention to carry people point to point - at very affordable price. Prices which were unimaginable, are now possible for mass public to be transported. It is not that we are better off that we are able to fly more often. Our ability to fly is due to there is a big shift in how this sector has changed. Flying should not be a luxury anymore.
Back to Airasia
Where Airasia is operating and competing and driving, it is the same as where Ryanair has been so controversially despised by many of their customers, partners etc. But think about it, they revived many of the smaller or older airports, making commuting easier and faster. Of course, at the same time, making themselves very rich. (Micheal O'Leary, Ryanair's brash CEO is one of the richest person in Ireland). You can also see that Airasia sort of made Malaysia Airport what it is today - that's why Tony Fernandes is furious with KLIA2 and KKIA more recently.
Companies such as Airasia and Ryanair of course changed the landscape of the airline business, pushing hard for deregulation - an area where they will thrive. Of course, Airasia is still fighting hard against MAS in Malaysia, Thai Airways in Thailand, Garuda in Indonesia and many other countries. But their business model is different, so much so that sometimes these airlines do not know how to react - to a low costs competitor. For MAS (where they had done), it cannot afford to compete on prices relying on the operational platform they are in. When it competed on prices, it lost more than RM1 billion in 2014, injuring Airasia as well. In the end, it was MAS whom surrendered first, although Airasia was also badly hurt. Think about it, should it not be a private company that is more seriously hurt competing against a government behemoth?
Ironically from there, Khazanah appointed Christoph Muller. In his resume, he was acclaimed as the turnaround specialist whom made it happened for Aer Lingus, the national Irish airline. He is expected to do the same for MAS.
No article in Malaysia carries his work in Ireland and mentioned whom he was up against. The fact is, he was against Ryanair. He did not really try to compete head-on with Ryanair as I would think he knows he would have lost. As in what we have seen in Malaysia where has been trying to do onto MAS, he made Aer Lingus more agile and smaller - and focus on what a full-service airline would do.
As in most turnaround stories, a person is considered successful if he is able to do complete the turning around, but in most cases, the winner is still your competitor - Ryanair in his case. He did not make Aer Lingus very profitable. Aer Lingus stopped bleeding - and that's success. I am expecting the same to happen in Malaysia. MAS would go smaller, while Airasia will be the one transporting more Malaysians. In Ireland that is the same, so much so that Micheal O'Leary would argue that Ryanair should be the national airline of Ireland rather than Aer Lingus as they transport more Irish than the flag carrier.
Where Airasia has gone regional
We have also seen Airasia is not just a carrier whom are operating off Malaysia. It is going after the regional business, much more difficult but needed. Why?
Flying in most part of Asia, it is not about inter cities within the same country but also between countries. In this sense, Airasia should seek to expand (as it already does) as it does not carry the baggage of a national airline where in Asia especially is a no no for one country's airline to be doing well in other people's country. It is much harder for SIA to propose holding stakes in another country's airline company as compared to Airasia, I would think - although SIA does own stakes in some other Asian countries. For SIA I would think, it is their national duty to bring more traffic into their own country rather than making strategic investments in another country's airline. That is also probably why SIA has offered Tiger Airways shareholders and making the Singapore based low costs airline go private. There must be strategic reasons from this and I am speculating that, the future growth of the business is low costs.
For Airasia, as it is going into many other countries such as Thailand at first, Indonesia, Japan, Philippines, India - it is not without challenges. In each of these countries there are already their incumbent. These are Lion Air, CebuAir, Indigo etc. and they are probably given preference by their own government. This is also why Airasia, as you have seen are facing countless challenges - but these are challenges it must overcome and learn from mistakes.
What investors today is expecting is Airasia to be profitable immediately from these ventures - so much so that there are negative valuations provided for these overseas investments. In actual fact, it should not be. If Airasia's venture is to be valued individually in their respective countries, there would be different value provided added up for Airasia as a group.
The fact is the international investments is pulling Airasia's value down as a whole. Are we saying that Airasia should stop holding stakes beyond Malaysia? Is we say no, that's what today's valuation is however telling us. (as an analyst, we are taught sum of parts - where we break up individual business or investment and value them separately. After that, we will tally them up into one valuation for the group. No analyst has done that for Airasia. If I were to ask to have the exercise differently, just value Airasia's Malaysian operation, what should be the value?)
Today, Airasia is being priced at below RM4 billion - i.e. not even USD1 billion. For the first ever low costs airline in Asia and how much it has done to achieve to where it is today, do you think it is worth less than USD1 billion? Of course, no PE ratio or dividend yield or even NTA would have provided a good valuation threshold. This is because Airasia is continuing to invest in overseas where it will create negative valuation to the group as a whole. People is putting huge value on hope and based on aggressive investments into Amazon and Alibaba (and Lazada, Snapdeal) - all e-commerce - for example but not on hope for a low costs airline business where there is also tremendous growth opportunities as well.
What Airasia needs to do is continue to push and survive during bad times while it grows in times - like now - where low oil price is beneficial for all airlines. If it wins in Asia (that means largest low costs airline in Asia), I am sure it will be a USD10 billion company in 10 or 20 years time - where I see a more open Asian skies.
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Airasia's results seems about right although I expected its operating profit to be better due to the downsizing of its main competitor - MAS and lower oil price.
Anyone that has a quick look at the results would be shocked as it reported a net loss of RM406 million. However, before one trembles, take a look at what caused these losses. It absorbed RM625 million in losses mainly due to the conversion of Indonesia Airasia's owings into shares - to reverse the negative shareholders funds as required by the regulators in Indonesia. This shall I say is already expected and announced.
However, what's exciting and as happened to most of the other airlines is that the low oil price is now allowing them to really make money despite the stiff competition. For the quarter, Airasia achieved a RM166 million Net operating profit. If you looked at the poor Ringgit strength, it seems that its forex losses seems to be cancelled by the gain from amount due from associates and jointly owned entities. It however hit them harder on the finance costs as lower Ringgit may costs them higher interest payment.
What's key in the results
One of the things that's noticeable is the challenges it faces in the newer markets that it has gone to - Indonesia, Philippines and India. As a result, do not expect these new ventures especially India and Japan to be profitable fast.
Airasia has also started to publish results for all its markets and provide its consolidated report. Notice the low right number of RM64.91 million...That's consolidated number in the event it is assumed as it has control over those companies.
Another point to note is that with oil price at around USD42- 45 per barrel, there is still room for Airasia to enjoy better margin due to low fuel price. For the quarter, its average price was USD77. I would expect it to be below USD 60 by 2016. Most airlines have hedged a significant part of their fuel causing them to still buy fuel at higher than spot prices. Most of them has lessen their hedges for 2016. (Notice that fuel still comprise of 38% of the total costs, hence making it the single highest costs element for Airasia and in fact for all other airlines)
All in all, while most may just be looking for a single headline, as shown below, if we look deeper, there are many positives especially for one of the largest airline in Asia and with such a deep discounted price.
Anyone that has a quick look at the results would be shocked as it reported a net loss of RM406 million. However, before one trembles, take a look at what caused these losses. It absorbed RM625 million in losses mainly due to the conversion of Indonesia Airasia's owings into shares - to reverse the negative shareholders funds as required by the regulators in Indonesia. This shall I say is already expected and announced.
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| 3Q15 Income Statement |
What's key in the results
One of the things that's noticeable is the challenges it faces in the newer markets that it has gone to - Indonesia, Philippines and India. As a result, do not expect these new ventures especially India and Japan to be profitable fast.
Airasia has also started to publish results for all its markets and provide its consolidated report. Notice the low right number of RM64.91 million...That's consolidated number in the event it is assumed as it has control over those companies.
Another point to note is that with oil price at around USD42- 45 per barrel, there is still room for Airasia to enjoy better margin due to low fuel price. For the quarter, its average price was USD77. I would expect it to be below USD 60 by 2016. Most airlines have hedged a significant part of their fuel causing them to still buy fuel at higher than spot prices. Most of them has lessen their hedges for 2016. (Notice that fuel still comprise of 38% of the total costs, hence making it the single highest costs element for Airasia and in fact for all other airlines)
All in all, while most may just be looking for a single headline, as shown below, if we look deeper, there are many positives especially for one of the largest airline in Asia and with such a deep discounted price.
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