Investors Take Note: Here Is Why Airlines Are Such Bad Businesses

airplane plane wing in the sky fly

Did you notice something major happening to the airline industry in Southeast Asia recently? Turns out, Malaysian Airline System Berhad (better known as “MAS”), which is listed in the Malaysia Stock Exchange, would be taken private by its largest shareholder, Khazanah Nasional.

After years of losses and the recent unfortunate incidents concerning its flights MH370 and MH17, MAS is slated to undergo a full restructuring which would take place away from the view of the public markets.

Although this is an event which happened across the Singapore-Malaysia border, it actually tells a lot about the airline industry. It also paints a picture to describe why Singapore-listed carriers such as Singapore Airlines Ltd. (SGX: C6L) and Tiger Airways Holdings Limited (SGX: J7X) might be fighting a war in which their best possible outcome is not dying.

An opponent who would never quit

MAS’s current difficulties would not be news to long-time observers of the company. It fell into losses during the Asian financial crisis in the late 1990s, and also bled red ink in 2005-2006, just prior to the Global Financial Crisis. The company was able to stay solvent largely due to new funds from its shareholders.

What this means to better managed airlines, such as SIA, is that they have to constantly compete with competitors who can afford to lose money and are surviving only through the grace of their shareholders. In  such an environment, being the most efficient operator might not be enough to win.

Although there are some grounds to feel that poorly-managed carriers should be forced into bankruptcy sooner rather than later and that the airline industry should consolidate, it also pays to bear in mind that the industry is somewhat politically sensitive. It’s almost impossible to see an airline from Country A assume the role of national carrier for Country B – can you imagine MAS buying over SIA and thus become the anchor carrier for Singapore one day?

Earlier, I also hinted at the illogicality of investors in keeping a poorly-run airline afloat by supplying capital. But, there’s a nuance to that seemingly illogical move. Despite making losses, a country’s airline might still be providing a vital service which will bring in huge opportunities and profit for the country – a country’s airline is after all, a main conduit from which tourists, business people, and investors can gain access to it. Without an airline, a country might miss out on many opportunities to participate in international growth.

From that vantage point, investors in an airline with a concern for the bigger picture could be seen to be making a logical investment in a loss-making airline. With governments around the world being major investors in their respective countries’ airlines, that could explain why airlines often receive unwavering support from their investors – governments after all, see the biggest picture. Khazanah Nasional, MAS’ largest investor, is perhaps unsurprisingly the investment arm of Malaysia’s government.

There’s still hope

I might have painted a very gloomy picture for the airline industry. But, not all hope is lost. Low cost carriers such as Southwest Airlines Co and Ryanair Holdings PLC – the former’s based in the US, the latter in Ireland – have shown us that value can still be created for shareholders in this industry.

They show that instead of focusing on selling only seats to customers, airlines should rethink their business model and dream up ways to provide more products and services (collectively known as ancillary revenue)  to travelers while they are a captive audience up in the air. SIA has been very active recently on that front, but only time will tell if its efforts in that area can make up for all the collective bruises the airline has sustained in fights against opponents who would never quit.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Stanley Lim doesn't own any shares of companies mention above