This article first appeared in The Edge Malaysia Weekly, on October 12 - 18, 2015.

GIVEN the sharp plunge in AirAsia Bhd’s share price, many say it would be a “no-brainer” decision for the controlling shareholders to take the low-cost carrier (LCC) private.

Interestingly, speculation is rife that the co-founders, Tan Sri Tony Fernandes and Datuk Kamarudin Meranun, are working on a privatisation plan. According to Reuters, the LCC’s top executives had made a trip across the Causeway to meet bankers for funding and the founders were sounding out investors on taking the airline private in a management-led buyout.

AirAsia issued a statement that the meeting with bankers was to seek funds for the carrier’s proposed share buy-back scheme. But both Fernandes and Kamarudin have yet to respond to the privatisation talk. The duo collectively own 19% in AirAsia through Tune Air Sdn Bhd.

The rumour has set tongues wagging in the investing fraternity — debating whether a privatisation exercise makes commercial sense and whether there would be a back-to-back deal after AirAsia is taken private.

While investors are guessing about what is in the minds of the two men, AirAsia’s share price has bounced back from a multi-year low of 78 sen. Even if a 30% premium over last Friday’s closing of RM1.31 was paid, it would still be a steal for the controlling shareholder.

According to a fund manager, the budget carrier’s salvage value is about RM3 billion in the worst-case scenario that it does not recoup its investments in the operations in Indonesia, the Philippines and Thailand.

Based on this calculation, at the current market capitalisation of RM3.67 billion, AirAsia’s business (without assets) is valued at only RM670 million.

That looks like a pittance considering AirAsia’s operating profit for the half year ended June 2015 (1H2015) was RM516.9 million.

The co-founders probably know the maths even better.

So far, 2015 hasn’t been a good year for AirAsia (fundamental: 0.20; valuation: 1.20), in terms of share price performance at least. The aviation stock has lost its footing since April. It tumbled from a peak of RM2.60 in April to a low of 78 sen last month.

Apart from the worldwide rout in the third quarter of this year, the LCC’s share price was dragged down by concerns over its financial accounts after a GMT Research report commented that AirAsia’s business model is not sustainable, plus its whopping foreign exchange losses.

Based on last Friday’s close of RM1.31, back-of-the-envelope calculations show that the remaining 81% stake that Tune Air does not own is valued at RM2.95 billion.

Maybank Investment Bank Research estimates the privatisation could cost RM2.84 billion. It has a target price of RM2.05 on the stock, valuing the company at RM5.7 billion in total (see comparison table).

AirAsia’s enterprise value, a theoretical takeover value, comes to a whopping RM14.2 billion due to a more than RM12 billion debt.

The debt is largely the result of the company gearing up to buy aircraft, which it leases back to its associates — PT Indonesia AirAsia (IAA), AirAsia Inc (Philippines) and AirAsia India Pte Ltd — while waiting for them to turn around.

For the financial quarter ended June 30 (2Q2015), lease income from the three companies plus Thai AirAsia, the one operation that is profitable, totalled RM234 million.

Currently, AirAsia’s earnings are derived from its Malaysian and Thai operations, with the other three still in the red.

AirAsia’s net profit in 1H2015 fell 22.6% year on year to RM392.4 million on lower average fares while revenue was flat at RM2.6 billion.

A key factor to turn the tide for the carrier is its Indonesian operations, which AirAsia targets to turn around this quarter.

While IAA should make financial improvements, analysts, however, remain sceptical.

“I’m not optimistic about IAA breaking even this quarter, although 4Q2015 is typically good. But that is not convincing enough. It has to be profitable every quarter,” says Maybank IB Research’s aviation analyst Mohshin Aziz.

But if the founders are confident of such a turnaround, what better time to privatise a company?

“A privatisation would give them the flexibility to do what they want, maybe restructure, without so much scrutiny. Then, they could just wait for the market to improve and list at better valuations. It is a very commercial idea if you take a long-term view on the company,” says Mohshin.

In fact, the privatisation rumour has brought back the memory of the share swap deal in late 2011, which failed to take off, between Khazanah Nasional Bhd, which then controlled about 69% equity interest in Malaysian Airline System Bhd (MAS), and Tune Air. Under the agreement, Tune Air would have taken a 20.5% stake in the national carrier and Khazanah, 10% in AirAsia.

Four years later, Khazanah has taken MAS private and is in the process of reviving the ailing national carrier.

It is worth noting that the LCC proposed a share buy-back scheme last month.

“The buy-back scheme indicates that the company is undervalued. This is in line with the privatisation motive, as typically, founders privatise when a company is undervalued,” another fund manager says.

A share buy-back scheme would actually weigh in favour of the controlling shareholders who want to take the company private.

“A share buy-back would reduce the number of shares floating in the market using the company’s balance sheet. As such, those interested in privatising the company don’t need to fork out as much. In addition, it allows for shares to be withdrawn from the market without showing that the major shareholder is buying, thereby triggering suspicions that privatisation is imminent,” Alliance Research analyst Tan Kee Hoong tells The Edge.

“That said, this route is typically undertaken by companies that have a high cash balance and strong cash generative ability. AirAsia does not fit the bill, and there is no indication that AirAsia will undertake a share buy-back in a big way after the proposed scheme is approved by the shareholders,” he notes.

But Mohshin points out that in the current tight lending environment, Fernandes and Kamarudin would have a hard time finding the right partners with deep pockets who wouldn’t set conditions and limitations.

“Malaysian banks might not be so keen right now, so they would have to seek foreign lenders who do not mind being invested in a Malaysian stock for two to three years. Even private equity money has not gone into the aviation sector much in the last few years,” he adds.

While funding may prove an issue, a fund manager warns that the co-founders will also have a difficult time trying to privatise the company below a cost of RM2 per share — the entry cost for many investors.

Note: The Edge Research’s fundamental score reflects a company’s profitability and balance sheet strength, calculated based on historical numbers. The valuation score determines if a stock is attractively valued or not, also based on historical numbers. A score of 3 suggests strong fundamentals and attractive valuations. Visit www.theedgemarkets.com for more details on a company’s financial dashboard.

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