Reply To Comments On AirAsia Exceptional Losses

Posted yesterday Comments On AirAsia Exceptional Losses

Ah had a nice reply and it was nice for Ah to take the time and effort to reply me in detail.

Ah said...

• On deferred tax, I did mention that it should be excluded from core earnings :)
  
  You mentioned "No one asked AirAsia to hedge on oil and no one asked them to fiddle with complex stuff as interest rate swaps"
  
  Actually fuel hedging is VERY COMMON for airlines. Almost all airlines hedge their fuel consumption. And in fact, if you monitor airline news closely, not long ago several Airlines warned for huge unrealised hedging loss. Perhaps you might wonder, why isn't MAS and SIA reporting HUGE unrealised hedging loss (they only reported realised heding loss)? This is actually due to accounting policy. SIA charged the unrealised loss to their reserve directly, while MAS on the other hand does not account for any unrealised loss. Note that accounting of derivative is covered under FRS139, which is still not compulsary in Malaysia yet. And hence AirAsia does not need to recognised the unrealised loss too. Then the question is.. why unwind the contracts and suffer a loss? Isn't that stupid? The reason is simple. If AirAsia doesn't unwind the contracts, they will be effectively paying higher fuel cost in FY09. For example, current oil price is roughly between 35-40, but given that they have hedged a portion of their consumption, they effectively need to pay a higher price for it. But after unwinding it, they basically enjoy the spot price in FY09. That's why i said they are doing some sort of bloodbath in FY08, to make FY09 looks pretty!

On fuel hedges, you then said.

• You also quoted the news "AirAsia: No more bets on oil price" and wrote "January 2008 AirAsia siad no more bets on oil prices. November it took a rm218 million charges in losses. And yesterday it took another rm426 million hit!" If you recall, during that time AirAsia actually SHORT crude oil. I believe what the article meant was that AirAsia won't bet against the rise of oil price. And for FY08, they are actually hedging (long position)..not shorting.

Let me get this correct. I hope my understanding is correct on what you are saying here. Are you saying that AirAsia lost money SHORTING oil and they also lost money on the LONG side? That sums it up, doesn't it? Clearly the management does not know how to hedge their oil short or long. Would you agree?

Ok regarding the accounting treatment of the derivative. I am not an accountant so there is nothing much I can comment.

One thing though, MAS hedged its oil position at US$100 and on a Business Times article, MAS flies into turbulence

• The airline, which had hedged about half of its fuel requirements for 2008, succumbed to hedging losses of RM216 million and foreign exchange losses of RM54 million in its fourth quarter.However, it did not make hedging losses for the full year. MAS has hedged about 64 per cent of its fuel requirements for this year at US$100 a barrel.

See how MAS said they only hedge for half? Why was AirAsia so aggressive in their hedging?

In my flawed opinion, it's the desire to get the market share, the want to be the market leader that is root of the problem.

Isn't this what is happening?

For me, I would think so.

To get the market share, they needed to be aggressive, aggressive marketing, expand, expand and expand. Which means more planes are needed. More routes. More countries. And ultimately more borrowing.

This was their chosen strategy in my flawed opinion.

And to succeed in it, they needed to find cutting edges. This is where the fuel hedges and the IRS came into play.

Regarding IRS, one interesting point. As you already know, this was mentioned yesterday by AirAsia.

• The Group entered into interest rate swaps (some of which are capped) to hedge against fluctuations in the US-LIBOR on its existing and future aircraft financing for deliveries between Year 2005 and 2009. The effect of this transaction enables the Group to pay fixed interest rate of between 3.25% to 5.20% over a period of 12 to 14 years.

MAS on the other hand, reported the following. (see notes 10 b )

• As at 19 February 2009 the Group has entered into various interest rate hedging contract transactions for periods up to 13 December 2016 for a total notional amount of RM2,344million. The accounting policy adopted is to charge the related expenses against the underlying expenses being hedged. The fixed interest rates relating to interest rate hedging contracts as at 19 February 2008 vary from 2.15% to 5.00% per annum.