AirAsia/Capital A:
The Power of Imagination Jan/Feb 2024

From its base in Malaysia, it has expanded its brand throughout ASEAN through with subsidiary or affiliated airlines in Thailand, Indonesia and the Philippines.

It has been profitable: for most of the 2010s it had been able to generate underlying operating margins averaging 23%, and net margins of 15%.

Yet it always seems to be in search of a new strategy.

Simplicity lacking

The basis of AirAsia’s success was adapting the Ryanair model to the Asian market, initially using the expertise of Conor McCarthy, formerly COO at the Irish airline. But AirAsia has deviated from one aspect of the Ryanair KISS (keep it simple stupid) model: it has ignored simplicity.

Ryanair’s Michael O’Leary has created a wild, sometimes obnoxious, persona for public consumption, but when it comes to Investor Days or analyst briefings, he is razor sharp in explaining Ryanair’s strict adherence to its core strategy, its operations and plans, and, importantly, how precisely these are represented in the airline’s accounts. He and his team have a mastery of detail and the ability to present clear unambiguous numbers, which give investors confidence. Tony Fernandes, despite his undoubted charisma, does not.

Similarly, Ryanair’s published accounts are standard, austere and useful, whereas AirAsia’s annual reports are overloaded with glossy photos, irrelevant adverts, long on detail, short on meaning, and seem designed to obfuscate.

Part of the difference might be attributed to culture. Malaysia stands ranked third (high is bad) after Russia and the Czech Rebublic on The Economist's “crony-capitalist” list; 57th (low is bad) on Transparency International’s Corruption Perception Index (CPI).

Then there is Tony Fernandes' career history. As a former auditor at Virgin Atlantic, financial controller at Virgin Communications, before moving on to Warner Music in Malaysia, he perhaps models his persona on Richard Branson rather than O’Leary. (The AirAsia affiliates and subsidiaries, as well as separately quoted AirAsia X, are covered by brand licence agreements).

More can be explained by the fact that ASEAN, despite previous political attempts, does not have a single aviation market. There is a freedom of access to routes, but a disparate treatment of ownership and control rules.

As a result, AirAsia’s expansion in the region has had to be constructed through convoluted ownership structures, local partnerships in local AOCs, dubious official levels of control and separate local share listings. In the chart we show a simplified corporate structure for the AirAsia Group which officially changed its name to Capital A Group in 2021. Also shown are three failed subsidiaries.

Strategic meandering

Maybe Tony Fernandes gets bored, and tempted by latest trends.

When aircraft outsourcing appeared fashionable, AirAsia established a leasing company, Asia Aviation Capital Ltd (most of the equipment being leased to AirAsia companies). In 2018 it decided to go “asset-light” and sold it to entities controlled by BBAM.

At the same time Big Data emerged, and the Group decided to “go digital”. During the pandemic lock-down, Tony Fernandes accelerated investment in the digital space, possibly inspired by the massive market values placed on ASEAN digital unicorns — Shopee, GoTo Gojek and Grab.

He set up AirAsia SuperApp, incorporating an online travel and lifestyle booking agency, a fintech payments system called Big Pay, a cargo logistics company called Teleport Anywhere (there’s nothing mundane about the choice of company names), duty free, food delivery, and ride share. It also set up an MRO business named AirAsia Digital Engineering.

In January 2022, AirAsia Group Bhd formally changed its name to Capital A Bhd. The change of name was to reflect the Group’s new core business strategy as “an investment holding company with a portfolio of synergistic travel and lifestyle businesses”. (This move incidentally provided it with the convenient excuse no longer to disclose the separate financial results of its airlines.)

Five year net losses: $2.6bn

AirAsia has been ravaged by the pandemic. In July 2020, with flying all but halted, its auditors questioned its ability to continue as a going concern.

By the end of 2020, after reporting annual losses of RM5.9bn (US$1.4bn) its net equity had turned negative to the tune of RM3.7bn (US$0.9bn) and Bursa Malaysia served the group with a PN17 notice, threatening to delist the shares from the exchange unless it produced within six months a viable plan to get its finances in order. AirAsia has successively appealed to have that deadline extended: it currently expires at the end of June 2024.

In 2021 the group raised a small amount of equity of RM336m (US$80m) through a private placement and held a rights issue to raise RM1bn in convertible unsecured Islamic debt securities (carrying an annual 8% “profit” in place of interest). But by the end of that year, following annual losses of RM3.8bn, the net asset deficit had widened to RM6bn.

Asia has been slower to recover from the pandemic than other parts of the world, and borders did not really start to open until early 2022. AirAsia had one advantage in Malaysia (and to a lesser extend Thailand): a strong market share in the domestic markets which it could exploit while its flag-carrier competitors were undergoing bankruptcy. Nevertheless, the group still lost another RM3.3bn in that year pushing the net asset deficit to RM9.4bn (US$2.1bn).

At least 2023 started off with the positive news that China had abandoned its zero-Covid policy, and traffic recovery could resume. Revenues more than doubled to RM14.8bn: this was 25% higher than that achieved in 2019, despite operating at only 80% of prepandemic levels. The group was able to generate an operating profit of RM280m for the year — its first such profit since 2018. The airline businesses accounted for 91% of total revenues.

By the way, it appears that “super-app” is no longer fashionable: Capital A has renamed its version to AirAsia MOVE.

Meanwhile, at the beginning of 2023 Capital A implemented a master brand licensing agreement between AirAsia Bhd (ie, AirAsia Malaysia) and AirAsia Aviation Group Ltd (which owns the investments in the other AirAsia operating airlines) and a sub-licensing agreement with Asia Aviation (separately quoted on Bangkok’s stock exchange) and its subsidiary Thai AirAsia.

By some accident, sleight of hand, or accounting quirk, Capital A is now able (or forced) to consolidate Thai AirAsia as a subsidiary. This resulted in an accounting gain of RM1.4bn to allow the group to publish a net profit of RM508m in 2023.

However, the transaction had a negative impact on the balance sheet and the equity deficit increased further to end the year at RM (10.5)bn. If intangibles — mostly dubious valuations of goodwill and landing rights — are excluded that deficit would rise to RM (15.2)bn.

In short, the accounts do not look very healthy.

Long-Haul Low Cost: seemed a good idea at the time

AirAsia X Bhd, was established in 2007, reputedly with backing from Virgin, Orix and others. It had some initial success and achieved a modest positive net result in 2012, the year before its IPO on Bursa Malaysia, and an operating margin of nearly 2% in 2017 and 2018.

In the ten years to 2019 it lost a total RM1.5bn — an average negative net margin of 5%. It ended 2019 with a fleet of 39 A330s, carried a total of 8.7m passengers (including 2.6m at its non-consolidated, 49%-owned associate company, Thai AirAsia X); and generated net losses of RM (0.5)bn on revenues of RM4.4bn.

With optimistic exuberance AirAsia X ordered 10 A350s in 2010 from Airbus. Then, in 2014 it placed an order for 55 A330-900s, later increased to 66. And then at Farnborough in 2018 it announced an additional 34, bringing its total commitment to 100 A330-900s. This made AirAsia X Airbus’s largest customer for the type, accounting for a third of the manufacturer’s backlog. In Paris the following year, AirAsia X ordered 30 A321neoXLRs, paring the A330 order back to a commitment for 78 aircraft.

And then the pandemic hit, and AirAsia X — long haul, widebody, international — had nowhere to fly and went into hibernation. It too was served with a PN17 from the stock exchange.

The results for the following three calendar years are somewhat meaningless. In a stroke of genius the company decided to have two extended financial years of 18 months each, while it went through a period of court supported debt restructuring, so that it could write off RM24bn (US$5.8bn) in one “financial year” and write back RM34bn ($8bn) the following.

As a result of the restructuring, those Airbus orders were cut: finally getting rid of the A350s, reducing the A330s on order to 15; and the A321XLRs to 20. A mooted rights issue never appeared — but the courts agreed to a capital reduction and share consolidation. The PN17 was finally lifted in November last year. The company raised RM49m in a private placement of new equity at the end of 2023.

AirAsia X started to come out of hibernation and resume passenger flights in the final (6th) quarter of FY 2022. The results for 2023 show revenues of RM2.5bn (still less than half the prepandemic level), operating profits of RM492m and net profits of RM366m; passenger numbers reached 2.8m for the Malaysian operation and 1.3m at the Thai. The Indonesian joint venture, being chased for underpaid taxes, has been dormant since the beginning of 2019.

These financials are somewhat unbelievable — the accounts show various levels of otherwise unexplained income (and display a remarkable inability to proof-read public statements) — but if true would represent the highest underlying income and margins in the company’s history. Excluding, that is, the extraordinary RM33bn (US$8bn) net profit it reported for FY2022, on revenues of a mere RM878m.

The numbers for Thai AirAsia X are also somewhat meaningless — nominally making a pretax profit in 2023 of RM2.1bn on revenues of RM1.5bn. But the Thai associate had applied for its own bankruptcy protection in 2022, emerging in late 2023, so there is undoubtedly some strange accounting. In any case, the Thai operation is not consolidated, being accounted for using the equity method (and the holding value in the books has been written down to zero); and AirAsia X’s share of the Thai profits will not be recognised in the accounts until they exceed accumulated unrecognised losses currently standing at RM285m.

Inspiration! Our brand is valuable: let’s sell the brand

It seems clear that Fernandes and Meranun have never wanted to dilute their control over AirAsia, but nor have they had the funds to provide the recapitalisation the airline group needs. Tan Sri Tony has perennially complained about the low valuation the local Malaysian markets have placed on AirAsia: Capital A Group has a current market capitalisation of RM2.89bn (US$600m); AirAsia X Bhd a mere RM670m ($140m) — in contrast to Ryanair’s €23bn market cap. Part of the reason may well be that the two airlines are the only ones quoted on Bursa Malaysia, whereas, Tony feels, the large number of airlines quoted on the US exchanges gives rise to a greater market understanding of the sector, and a higher overall valuation.

Airlines are constrained by ownership and control rules, so the group could not reasonably attract a higher level of interest for investment in its airlines than the local exchange could provide. But maybe the AirAsia brand, built up over the past two decades, has unrealised value.

In December 2022, the AirAsia brand was independently valued at US$1.0-$1.3bn by UK-based Brand Finance plc. The valuation was based on an income approach, and specifically the royalty relief method: the net present value of future royalty payments.

As mentioned above, the group created the master brand agreements between the separate AirAsia AOCs. We now learn that the short-haul AirAsia airlines will be paying a royalty fee of 1% of revenues, AirAsia X Bhd 0.5%, Thai AirAsia X 1.5%; and Capital A’s “digital” offerings 0.5%.

Last November, the group announced its intention to merge some part of its Capital A’s operations with NASDAQ-listed SPAC, Aetherium Acqusition Corp. This materialised in February. The details, unsurprisingly, are complicated, involving a newly incorporated Cayman Islands-registered subsidiary Capital A International (CAPI) and its Delaware-registered subsidiary Aetherium Merger Corp, Inc. Capital A’s recently formed subsidiary Brand AA — “the registered proprietor for all the rights in the AirAsia trade name and brand image” — will be transferred to CAPI and Capital A will get $1.15bn from the SPAC in newly issued shares. The group envisages a capital reduction and a transfer of half of those shares to existing Capital A shareholders — and that following the transaction Capital A Bhd will hold 46.1% of the CAPI (to be listed on NASDAQ), Capital A’s shareholders 47.9%; and Aetherium’s current shareholders 6%.

However, there is a risk that the deal may not proceed. Aetherium got into trouble with NASDAQ and was threatened with having its shares delisted. Apart from other small matters, such as forgetting to file quarterly returns, it had fallen foul of NASDAQ’s listing rules on SPACs. It is appealing the decision.

As a result of the proposed transaction, CAPI and Brand AA will be deconsolidated, becoming associate companies for accounting purposes. The net effect, so goes the announcement, could be to reduce Capital A’s equity deficit by RM2.5bn.

Inspiration!
Let’s sell the airlines

In January 2024 Capital A announced that has offered to sell its airlines — the Malaysian AirAsia Bhd and AirAsia Aviation Group Ltd, the investment vehicle holding the shares in the other AirAsia airlines — to AirAsia X Group Bhd.

Why? “To streamline the Company and its group of companies’ core business activities to focus on aviation services and digital businesses which are essential and complementary to the passenger airlines business”.

The real reason, more likely, is that Capital A Group “... is expected to record gain on dilution of interest... and deconsolidation... and thereby is expected to improve the shareholders’ equity of the Group in its effort to regularise its financial conditions”.

Accountancy wizards can do magic with numbers, so it may be feasible that this transaction could eradicate more of the RM10.5bn equity deficit in Capital A’s accounts.

In February, Fernandes held a big party at the AirAsia HQ in Kuala Lumpur to celebrate a visit from Christian Scherer, the recently promoted CEO of the Commercial Aircraft business at Airbus, and used the occasion to try to put some strategic logic behind the plans.

Tan Sri Tony effusively praised the historic relationship with Airbus, saying: “Our commitment to Airbus never faltered, even through the pandemic. As one of their biggest customers, we have an orderbook of 647 aircraft consisting of 612 A320 Family and 35 A330 Family aircraft with another 362 A321neo, 20 A321XLR and 15 A330neo to be delivered over the next decade as we set our sights on growing bigger than ever in the future.” A bit of hyperbole perhaps: Christian Scherer is unlikely to have forgotten the intense fight when AirAsia X cancelled orders for ten A350 and 63 A330neos during its restructuring.

He also came up with a representative route plan (see map), stating that “with Airbus support we want to create the world’s first low-cost network carrier... operating a hub and spoke model with a number of additional virtual hubs spanning Asia, Europe, Africa and the US in the future”.

The vision seems to include using the A330neos, fed by the short haul airlines, to reopen routes to Europe, the obvious places including London and Paris (last operated, unprofitably, in 2012 using A340s) — but also, bizarrely, Bratislava — and tagging on routes from London, Paris and Manchester to the US West Coast; east-bound across the pacific return to Hawaii (which it used to fly to, pre-pandemic, from Osaka), and target new routes to Vancouver, San Francisco and Los Angeles (from Japan).

Admirable ambition perhaps, but not exactly simple. Hub and spoke networks are complicated beasts to manage, requiring waves or banks of inbound and outbound flights to maximise seamless connections of passengers and their luggage; connecting passengers at hubs can provide some of the lowest level of prorate fares on short haul feeder routes, but provide a large boost to profitability on long haul segments. Missed connections are honoured with a booking on the next available flight.

That model doesn’t quite work well with point-to-point ticketing in the traditional LCC model.

Tagged routes, assuming the route rights would be available, add another high level of complexity — for crew rostering, and hotacc costs, let alone ticketing — and, importantly, have constraints on load factors.

And AirAsia X has yet to prove that a long haul low cost airline model is really viable. The strategic vision is almost a complete reversal of the European network model which uses loss-making short haul service to feed a profitable long haul operation.

Perhaps Fernandes thinks he can continue as currently. AirAsia already offers a “Fly-thru” product, which provides through ticketing and luggage transfer on certain select routes (but not all possible connections).

It also allows “self-connection”: separately booked flight segments that might provide a connection opportunity. But on self-connecting flights the passenger has to collect their luggage on landing, go through immigration where necessary, and check-in airside for the next flight. In these cases the airline is under no obligation to provide onward carriage: failure to check-in on time (for example because of a delayed inbound flight) results in a no-show.

The idea that the vision could incorporate a multi-hub strategy may be a bit of an exaggeration. The largest of AirAsia’s operations are in Kuala Lumpur and Bangkok — both have their limitations — and the next largest, Manila is crowded, and Jakarta or Bali would be difficult, and Kota Kinabulu irrelevant. However, following a recent visit to Bangkok, Fernandes was quoted as saying “we want to make Bangkok the next Dubai in terms of being a global aviation hub” (somewhat ignoring Dubai’s advantage of geographical location).

The airline sales latest

As far as the airline sales proposal, is concerned Tan Sri Tony and Datuk Kamarudin have stated that they will continue to abstain from deliberating and voting on the proposed sale and acquisition at relevant Board meetings of Capital A and AirAsia X, but then that probably doesn’t mean much. And Thai AirAsia X may not be released from the obligations under its bankruptcy reorganisation plan until 2025.

Strangely, there was no mention of these deals, their structure or implications, no discussion of any changes to operational strategy in the publications of fourth quarter and full year results, nor the accompanying analysts' results presentations published by either Capital A Bhd or AirAsia X Bhd at the end of February.

Maybe they forgot to tell the investor relations teams.