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Bloomberg
How do airlines make money?
You might be tempted to answer, “by selling plane tickets.” But it’s rarely as simple as that. Take AirAsia Bhd., the Malaysian budget carrier that reported third-quarter results on Thursday.
It’s become so dominant in Southeast Asia that rivals have started ganging up on it. Yet you have to go back as far as December 2010 if you want to find a quarter when seat sales covered operating expenses. Costs have exceeded ticket revenue by an aggregate 4.94 billion ringgit ($1.1 billion) since then.
Perhaps it’s all those outrageous baggage and other random fees where AirAsia’s making its money? Not really. Adding in such charges certainly improves the picture, but still leaves the company posting losses in all but three quarters of the past five years.
In fact, AirAsia only breaks even when you factor in passengers’ spending on in-flight meals, duty-free, reserved seats, cancellations and other sundries. If you’re looking to see where the serious money is made, you’re better off regarding the entire enterprise not as an airline per se, but as an unusual segment of the aircraft-leasing business.
The way this works is relatively simple. AirAsia is the single largest airline customer of Airbus Group SE, with 575 planes ordered. Some 401 of them have yet to be delivered — the second-biggest outstanding request after India’s InterGlobe Aviation Ltd., or Indigo — giving AirAsia huge bargaining power in negotiating prices and tailoring aircraft to meet its requirements.
All that makes for a rather neat source of additional revenue. Aircraft lessors such as General Electric Co.’s GECAS and BOC Aviation Ltd. typically can’t get the discounts that airlines can screw out of the big manufacturers, so whenever AirAsia feels it’s got too many planes on its own balance sheet, it can sell them to a lessor, lease them back, and book the premium over its own purchase price as income.
Net out AirAsia’s expenses on such operating leases against its income from selling its order book over the past few years, and you’ll notice that even after all those charges for in-flight trays of Hainanese chicken rice, the company as a whole typically makes more money from selling and leasing aircraft than it does from flying them.
That makes plans by Group CEO Tony Fernandes to sell this golden goose rather unsettling.
The unit could be separated as soon as December, he said earlier this year, and may fetch as much as $1 billion.
There would be some definite benefits. Investors have often looked askance at AirAsia’s leasing business, particularly because many of its sale-and-leasebacks have been not to lessors but to its own affiliates in Indonesia, Thailand, the Philippines and India. AirAsia’s stock shed more than half its value in less than three months last year after GMT Research issued a report criticizing the accounting used in such deals, though it has since more than recovered what was lost.
Putting the leasing unit at arm’s length will both help Fernandes pay down debt, and remove the shadow GMT’s report cast. While AirAsia’s return on equity of 26 percent is close to its low-cost peers Ryanair Holdings Plc and Southwest Airlines Co., on 29 percent and 30 percent respectively, its blended forward 12-month price-earnings ratio of 6.88 is barely half their 12.48 times and 12.90 times valuations.