Tony Fernandes and AirAsia's nightmare

On January 11 2007 Bloomberg reported:

AirAsia Bhd., Asia's biggest discount carrier by fleet size, will stop making bets on the price of oil, after incorrect forecasts contributed to a 16 percent slide in shares over the last month.

``It's a nightmare because the volatility is crazy,'' Chief Executive Officer Tony Fernandes said in a Bloomberg Television interview yesterday. ``We took a bet that oil won't go above $90 a barrel and it has and it's staying there.''


Crude oil rose to a record $100 a barrel earlier this month instead of falling as AirAsia had predicted. If the price of oil remains at that level, earnings could fall by $2.6 million a month because of speculative hedging, according to Christopher Eng, an analyst at OSK Research Sdn. in Kuala Lumpur.

``There has been significant selling from AirAsia's foreign shareholders,'' Eng wrote in a Jan. 9 report. The drop is ``related to AirAsia's fuel-hedging policy, which some parties considered excessively speculative.''


(http://www.bloomberg.com/apps/news?pid=20601087&sid=awrmaa4rin3o&refer=home)


The 9 January 2007 OSK report has been uploaded by Rocky Atan on his blogspot,
http://rockybru.blogspot.com/2008/01/tony-fuel-going-private-talk.html.

The report actually states:

If oil were to sustain at USD 100 per barrel, AirAsia could be looking at a RM 100 million loss per annum.



Tony's nightmare does not however end there. Speculating on oil contracts and their derivatives was a major component of AirAsia's earnings for the quarter ended 30 June 2007.


In the quarter ended 30 June 2007 AirAsia's profit after tax of RM 130 million comprised a gain from the sales of swaps of RM73 million which was included in other operating income.

The notes to the earnings statement released to the KLSE and brought to readers attention in my email of 31 August 2007 state:

The Group recorded revenue of RM432 million for the quarter ended 30 June 2007 ("4Q07"), 38% higher than the revenue of RM314 million recorded in the quarter ended 30 June 2006 ("4Q06"). The Group's profit before tax improved by 838% to RM130 million as compared to the restated profit before tax of RM14 million achieved in 4Q06.



5. Unusual items due to their nature, size or incidence
The Group had disposed of 19 interest rate swaps on 12 June 2007 resulting in a gain from the sales of these swaps of RM73 million which is included in other operating income. As of the end of the financial year 30 June 2007, the Group has a total of 41interest rate swaps.


(Source: AIRASIA FOURTH QUARTER REPORT ENDED 30 JUNE 2007)

The problem now, apart from the potential losses on oil contracts, is sustaining earnings growth without resorting to trading in derivatives. Put in another way, how is AirAsia going to even maintain earnings given that past earnings have been boosted by trading in derivatives which are now to be discontinued?

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