Why are MAS shares on cheap sale?

(This post was originally published at The Malaysian Insider)

As a long term serious investor, I have taken a closer look at the cheap share price of Malaysia Airlines (MAS). Why is it selling at 33 sen, about one third of its par value?

Many market analysts have already covered MAS and Idris Jala has said that the company should be sold off as soon as possible.

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My intention for writing this piece is to help the government decide on putting in the final nail to bury MAS to save taxpayers’ money.

Obviously, the government did not see my previous article “Why MAS is still flying” which I published about a year ago. It is important and worthwhile to include some of the points I mentioned earlier in my previous article.

The latest 1st quarter 2013 ending March results shows that MAS lost RM279 million. In 2012, 2011 and 2010 the company lost RM433 million, RM2.424 billion and RM234 million, respectively.

As usual, there are the incorrigibly optimistic cheerleaders for the airline who are unable to see the writing on the wall. These “experts” are still touting that the company is in recovery mode and will soon be returning to profitability.

The market, however, sees the prospects for the airline differently. During the past few days the airline’s shares have been trading at around the 35-sen level. This is about the lowest share price that the airline’s shares has recorded in many years. Without the support of government-linked funds and left to market forces alone, it is possible that the share price of MAS will drop even more.

The recurring losses of MAS are a great mystery especially when they are compared with the performance of Singapore Airlines (SIA). In 1972, Malaysia-Singapore Airlines (MSA) broke up to become MAS and SIA. In the last 10 years, from 2002- 2011, SIA reported a total pre-tax profit of Singapore $13,992 million, averaging S$1.4 billion per year.

Should the government continue to bail out MAS?

The most recent losses bring the total losses of MAS to at least over RM3 billion. In any normal business, any company incurring large and sustained losses would have closed down or gone into bankruptcy. This has not happened to MAS yet, but I think the time is right – many observers will say, long overdue – for the government to withdraw the open cheque book extended to MAS.

When planning the future of MAS, it is important that the government avoids not only the past mistakes but also takes a rational approach based on economic fundamentals. One line of simplistic thinking is that there is a bright and profitable future for MAS since the number of air travelers continues to increase by about 5-7% per year.

But if you look at the history of airline industry profitability, this is not the case for airlines worldwide. The fact is the airline industry requires huge capital and produces poor returns on capital employed. Hence, year after year, many airlines produce poor profit margins or outright losses.

Why is it that an industry with year-on-year rises in sales cannot generate good returns to shareholders?

It all comes down to the economic structure of the industry. One of the forces that limit profitability is the intensity of the rivalry between the leading airlines. There is over-supply leading to pressure on prices. This is exacerbated by a high degree of freedom for new competitors to enter the industries.

If, say, an airline route between two destinations is found to be reasonably profitable it is not long before new entrants move in or current airlines simply move their planes to this profitable route.

It is truly an industry governed by the principle of “survival of the fittest”.

The ego and elections factor

It would seem that every developing nation wanting to show off to the world its progress MUST have its own airline, regardless of the impact on an industry already grossly over-supplied, and regardless of whether they have the ability to manage efficiently. So, there is a regular stream of announcements of new airline ventures.

The next logical question to ask is why doesn’t the Malaysian government allow MAS to fold up or go under?

There are two main reasons: Firstly, the perennial optimism of managers and shareholders.

“Just one more chunk of money will see us break through into profitability as we rout the opposition!” seems to be the credo of these parties based on their self and not national interest.

Secondly, there is government interference. This factor, however, is less found now as many governments have learnt not to come to the rescue of their airlines.

Malaysia has not learnt these lessons – initially for reasons of national pride tied to the ego of leaders but now increasingly apparently to save jobs and to prevent the retrenched employees from voting for the opposition. This may make sense politically but it is poor economics.

Let MAS fly or crash without further interference or delay is the only way forward in the national interest especially since Idris Jala has said that the company should be sold off as soon as possible!

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