Malaysia Airlines, the ailing 5-star airline

By Chan Quan Min

Malaysia’s flag carrier is in crisis – yet again. Losses over the past five years have been heavy and belie the airline’s standing as a 5-star airline. Throughout the years the airline has seen a failed privatisation, three corporate restructurings and a catastrophic crash in market value. Will it make it this time around?

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Flag carrier Malaysia Airlines is struggling to pull itself out of the red. For the third time in a little over a decade, the airline is attempting an ambitious corporate turnaround.

Profits remain elusive. But since the start of his current term in September 2011, Malaysia Airlines CEO Ahmad Jauhari Yahya has proven himself capable of paring down losses and increasing passenger numbers.

But that is just a start in a long-haul attempt to pull the airline out of its morass and make it sustainably profit-making. Considering the many failures by the wayside, that’s no easy task.

There is no doubt the national airline is in a precarious position. Operational profitability – three out of the last four quarters registered small operating profits – is marginal. This puts Malaysia Airlines in a position where it is extremely sensitive to price shocks, such as an unanticipated spike in the price of jet fuel.

Ahead, Malaysia Airlines faces new challenges. The aviation industry is flying into a new reality of open competition and open borders. The national airline must prepare itself for new market entrants when Asean Open Skies comes into place in 2015.

Critically, the next few years, if not the next few months, will determine the fate of the airline. Big changes could be on the way. There is talk that the government’s investment arm, Khazanah Nasional might place control of the airline with a willing private sector buyer.

A subsequent article in this  series on Malaysia Airlines by KiniBiz will look into possible ownership changes as a means of turnaround.

Jauhari has pledged to deliver profits by end-2014. He has big shoes to fill. One of his predecessors is none other than Idris Jala, now in charge of the Performance Management and Delivery Unit or Pemandu, of the Prime Minister’s Office. Jala oversaw a dramatic and calculated 2006 – 2008 corporate turnaround that earned him a reputation for turnaround — and transformation.

Malaysia Airlines – two decades of ups and downs

Malaysia Airlines has a long, tumultuous history stretching over 66-years of existence, the first 26 as Malayan Airways and Malaysia-Singapore Airlines. But it is during recent years that the airline has seen the most dramatic changes.

Over the past two decades, the airline has gone through a failed privatisation, wild swings in profitability, three business turnaround plans and a procession of CEOs, all of them government appointed.

Until the late 90’s, Malaysia Airlines was operating in a sheltered domestic market – the only Malaysian airline of significance for much of its early years of operation. But not for long…

Competition came unexpectedly, in the form of a daring new budget airline in striking red.

It may be a stretch to say that AirAsia was a catalyst for change in the aviation industry. But there is no doubt that from then on the aviation landscape has been in a constant state of flux. Gradually, barriers to open competition were broken down.

During the hazy days of the Asian Financial Crisis back in 1997/1998, Malaysia Airlines, then in private hands, suffered massive losses, the airline’s first serious bout of unprofitability in recent history.

A victim of economic decline, the national carrier continued to be unprofitable several years on, even as the sky cleared and the economy began to get back on its feet. In an effort to restore profitability, it was decided in 2001 that Malaysia Airlines had to be bailed out by the government, at that time led by former Prime Minister Dr Mahathir Mohamad.

In a deal that attracted controversy, the flag carrier was promptly nationalised and placed back in government control.

Tajudin Ramli the flamboyant CEO and 32% equity owner of Malaysia Airlines between 1994 and 2001 would later allege that the government never relinquished effective control of the airline, with Tajudin merely holding shares of the airline in trust.

Regardless, Tajudin, who is said to be closely linked to former finance minister Daim Zainuddin was offered a good price for this shares; RM8.00, the same price he paid to buy the shares in 1994. On the open market, Malaysia Airlines shares were worth only half that.

The Asian Financial Crisis clipped the wings of many a corporate high-flyer, and Tajudin Ramli of Malaysia Airlines was no different.

In the ensuing years up to the year 2004, the airline gradually cut down losses by shedding its flying assets in a restructuring plan with the uncanny acronym of WAU, standing for both Widespread Asset Unbundling and the airline’s stylised kite logo.

With much of the airline’s multi-billion-ringgit debt burden, approximately RM7 billion shifted to a new government entity, Penerbangan Malaysia, Malaysia Airlines quickly soared to record profits in 2004.

Unfortunately, this new found profitability was not to last as the very next year the airline posted a sharp loss. The situation called for desperate measures.

In a departure from the government’s usual practice of handpicking Malaysia Airlines CEOs from government-linked companies, a new CEO was roped in from the private sector and promised free-reign to turn around the airline.

Idris Jala started this first day at Malaysia Airlines at the crack of dawn, in a telling sign of things to come, as people close to the man recount of the early days of his Business Transformation Plan (BTP).

Jala got to work immediately, guiding the national airline back to profitability with perhaps the most comprehensive and detailed, publically available restructuring plan known to corporate Malaysia.

One of the articles in this series will look into Jala’s BTP in greater depth, comparing it to Jauhari own ‘Business Plan’.

While Jala managed to address some of Malaysia Airlines’ systemic problems, he was also criticised by his detractors for raising cash the easy way – selling off the company’s prize assets. But proof of operational profitability was evident in improving core profit and passenger yields, a measure of revenue per passenger-kilometre unit.

Global air travel, a natural barometer of macroeconomic trends, slumped during the 2008 Global Financial Crisis (GFC). Likewise, Malaysia Airlines began to reverse gains made during the early part of Jala’s term.

Unlike its regional competitors, however, Malaysia Airlines has been unable, to this day, to bounce back from the GFC induced dip in passenger yield and revenue.

A 5-star airline

Importantly, and despite the airline’s financial troubles, Malaysia Airlines has never failed its loyal passengers. The national carrier has an unparalleled safety record, with the cabin crew on several occasions voted among the best in the world.

In June this year, Malaysia Airlines was awarded the prestigious Skytrax ‘5-Star Airline’ rating for the second consecutive year, joining the likes of Singapore Airlines, Cathay Pacific and Qatar Airways.

This was not an isolated occurrence. In addition to the last two consecutive years, Malaysia Airlines has held a spot on the 5-Star Airline list for the last seven out of eight years.

The 5-Star Airline rating by Skytrax is one of the most comprehensive and well regarded in the industry, “based upon a detailed quality analysis of, more than 800 different items of airline front-line product and staff service standards,” according to the organisation’s website.

Malaysia Airlines’ status as a 5-Star Airline, belies the airline’s inability to stay above the red.

An airline with a long history of delivering a quality product in a booming Asia-Pacific aviation market such as Malaysia Airlines ought to be able to turn a profit.

Mismanagement at the top?

This leaves mismanagement at the top as perhaps the only plausible cause of Malaysia Airlines’ poor performance. Indeed, history has shown that this is likely to be true.

Malaysia Airline’s financial performance has more often than not tracked the ambitions and abilities of its senior management team in charge.

Political intervention is another drag on the carrier. Being the flag carrier can mean taking instructions to fly routes that are not viable. In good times this may be acceptable, in bad times it has shown to exacerbate losses.

Mid-year report card

Malaysia Airlines as a whole may not be profitable as yet but the airline has managed to cut losses and post a small RM8 million operating profit, latest quarter (2Q13) financial results reveal.

Drilling down into the company accounts, the 2Q13 reported net loss of RM176 included RM94 million in one-off paper gains from the disposal of aircraft by Penerbangan Malaysia (PMB), the government owned aircraft-leasing special purpose vehicle, as CIMB analysts noted in an Aug 21 report.

Worse still, second-quarter core net loss, already higher than the same time last year could have been higher if fuel prices did not move lower in the past year.

There has been a massive ramp up in capacity in the year to date, in line with similar capacity increases at the AirAsia group and the new market entrant this year, Malindo Airways.

Coinciding with the expansion in capacity, yields for both Malaysia Airlines and AirAsia have nose-dived, suggesting that both airlines have continued to pursue a ‘load active, yield passive’ strategy.

That’s analyst jargon for an attempt to fill up the plane by dropping fares, a common but unsustainable strategy when capacity expansion is rapid. This needs to be quite rapidly replaced with a strategy where due respect is given to getting fair fares.

At Malaysia Airlines, passenger yields, which reflect fares for paid seats only, have fallen 14% year-on-year. RASK or revenue per available seat kilometre (a capacity unit) decreased by a smaller proportion, 6% over the same period.

Passenger yields and RASK are related measures of revenue per given capacity unit. While passenger yields only measures revenue over the number of paying passenger-kilometres, RASK is calculated as revenue over the total value of seat capacity, whether that seat is filled by a paying passenger or not.

In layman’s terms, while Malaysia Airlines ticket prices have fallen – as tracked by passenger yield, the airline is also filling more seats than ever before. Therefore the drop in RASK was not quite as severe as that for yield.

That reflects greater capacity utilisation or higher load factor. But the fact remains that while load factors are increasing rapidly, the overall revenue increase is not quite as much and that may need to be reversed for future sustained profitability.

Tomorrow: Malaysia Airlines can gain lots from revenue management.