the exit of malaysia airlines from competitive market s by haris awang
TRANSCRIPT
The Exit of Malaysia Airlines from Competitive Market 1
The Exit of Malaysia Airlines from Competitive Market
A. HARIS AWANG
A. HARIS AWANG MBA2016-04-1001 MBA 6063 Managerial Economics
Assignment: Part 4
Submitted to: Assoc. Prof. Dr. Abdul Rahim Abdul Samad
Department of Economics,Faculty of Economics and Management,
Universiti Putra Malaysia15th Oct, 2016
ASIA METROPOLITAN UNIVERSITY
Managerial Economics (MBA 6063)
Contents
CHAPTER 1: INTRODUCTION....................................................................................................1
Shutdown vs Exit.........................................................................................................................1
Market Entry and Exit formula and curves..................................................................................2
CHAPTER 2: LITERATURE REVIEW.........................................................................................4
Perfect Competitive Market.........................................................................................................4
Financial Performance.................................................................................................................6
The Restructuring, the Bailout and the Exit..............................................................................11
Economic Exit of MAS.............................................................................................................12
CHAPTER 3: DISCUSSION AND CONCLUSION....................................................................13
Did MAS Really Exit.................................................................................................................13
Implications on Exit...................................................................................................................13
REFERENCE................................................................................................................................16
APPENDIX....................................................................................................................................17
The Exit of Malaysia Airlines from Competitive Market i
CHAPTER 1: INTRODUCTION
While other airlines from the same region were making profits, Malaysia Airlines (MAS)
continued to make losses prior to the 2014 double disasters where flight MH370 from KL to
Beijing was lost and flight MH17 was shot down in Ukraine during its flight from Amsterdam to
KL. MAS was in the red for three years in a row prior to the disasters and suffered another year
of loss in 2014.
If MAS suffered a streak of losses and disasters why is it still operating today? Has it not faced
with the decision to exit? Did the situation raise a red flag to call for MAS to quit?
This paper is written from the context of MAS at its turning point after the double disasters in
2014. What happens now is a different story as it has undergone a transformation to a newly set-
up company with a big capital injection. The purpose of this paper is to look at the situation from
the economic perspective whether MAS made an exit and if it did, whether the action conforms
to the theory of long-run exit by taking into consideration the economic revenue, costs and
profits.
First, let’s take a look at the theory of long-run exit.
Shutdown vs Exit.
While shutdown is a short-run decision not to produce anything because of market conditions,
exit is a long-run process of reducing production in response to a sustained pattern of losses
which eventually leads to a long-run decision to leave the market. A firm that shuts down
The Exit of Malaysia Airlines from Competitive Market 1
temporarily must still pay its fixed costs. A firm that exits the market does not have to pay any
costs at all, fixed or variable.
Market Entry and Exit formula and curves.
In the long run, a new firm will enter the market if it is profitable to do so: if TR > TC.
Divide both sides by Q to express the firm’s entry decision as: Enter if P > ATC
MC
MRATC
profit
Costs, P
Q
P
As there’s profits to be made in the short run, more firms enter the market driving profits to zero
and restoring long-run equilibrium.
On the contrary, if a firm exits the market, revenue falls by TR, costs fall by TC. So, the firm
should exit if Total Revenue, TR < TC, Total Cost.
The Exit of Malaysia Airlines from Competitive Market 2
Divide both sides by Q to rewrite the firm’s decision as: Exit if P < ATC
MC
MR
ATC
loss
Costs, P
Q
P
Firms that suffer losses in the long run exit the market, driving profits to zero and restoring long-
run equilibrium.
The theory applies to firms that are under perfect market competition where there are many
buyers and many sellers, the goods offered for sale are largely the same and firms can freely
enter or exit the market.
The Exit of Malaysia Airlines from Competitive Market 3
CHAPTER 2: LITERATURE REVIEW
Perfect Competitive Market
Zhang and Czerny (2012) in their research on economics of transportation cite that airlines at
major hub airports usually are not atomistic and hence price-takers.
To see which type of market (Perfect Competitive, Oligopoly, Monopolistics or Monopoly)
under which MAS is operating, its characteristics have to be examined as in table 2.1 below.
Perfect Monopolistic Monopoly Oligopoly AirlinesIndustry
No. of sellers Many Many One Few ManyFree entry & exit Yes Yes No Yes YesLong run economic profits
Zero Zero Positive Depends on behavior*
Zero
The products firms sell Identical Differentiated No comparison
Identical Identical
Firm has market power None, price taker
Yes Yes Depends on behavior*
None, price taker
D curve facing firm Horizontal Downward sloping
Downward sloping
Depends on behavior*
Horizontal
Close substitutes Many Many None Limited ManyImportance of strategic interactions between firms
Low Low None Depends on behavior*
Low
Likelihood of fierce competition
High High None Low High
Table 2.1. Today’s airline industry is a perfect competitive market. *Oligopolies can end up looking like monopolies or like competitive markets, depending on the number of firms and how cooperative they are.
The operation of MAS has to be looked from the global perspective instead of local. Locally, it
appears to be a market with very few players i.e. MAS, Air Asia and Malindo but on the global
The Exit of Malaysia Airlines from Competitive Market 4
scale, there’s many players. MAS is also an international airlines operating across continents and
it serves not only the Malaysian market but also international. During the 2014 disasters, most of
the passengers affected were foreign nationals.
Table 2.1 illustrates that the airline industry under which MAS is operating is a perfect
competition market. The main characteristics that set it apart from other markets is the zero long
run economic profit as well as the price-taker or no market power in deciding price. Another
characteristic is that there are many players in the market, not only network airlines but low-cost
carriers (LCCs) as well. Although there are several reasons for losses suffered by MAS along
with other major Southeast Asia airlines, they are partially the result of the development of the
Middle East Big Three (Emirates, Etihad, and Qatar), the increasing penetration of low-cost
carriers (LCCs), and slowly spreading liberalization. (Pearson et al, 2015). Furthermore, Roy
(2015) states that MAS faces stiff competition in the international sector from rivals such as
Singapore Airlines, Thai Airways, Emirates, United Airlines, Lufthansa, British Airways, Virgin
Atlantic, Garuda, Cathay, China Eastern and China Southern. It is also noted that bargaining
power of buyers is strong with a number of airlines offering similar routes and services meaning
the industry is highly competitive and is likely to yield low returns. Based on the above
comparison and the nature under which MAS is operating, it is neither monopoly, monopolistic
nor oligopoly but a competitive firm operating in a perfect competitive market.
Under the competitive market, the long-run exit theory as explained in Chapter 1 can be applied
to MAS.
The Exit of Malaysia Airlines from Competitive Market 5
Financial Performance
After the downing of MH17 in Ukraine, MAS executives were focusing on finding a way to save
the company. Bankruptcy is one option. Taking the company private is another. Staying put,
however, is not an option. “In the current form, I firmly believe Malaysia Airlines won’t be able
to survive,” Mohshin Aziz, an analyst at Malayan Banking, told Bloomberg. “They will largely
exhaust all their capital and won’t have any money left to continue flying by the middle of next
year.” Hong Leong Investment Bank analyst Daniel Wong questioned whether the airline will
have the funds to endure two disasters in just four months. In the first quarter of 2014, MAS had
a cash-flow loss of RM350 million ($110 million) and RM2.3 billion ($726 million) in cash on
hand. Those dismal numbers included two months before the first disaster, the disappearance of
MH370, began hurting business. “With the expected worsening load factor and lower yields for
the remaining 2014, we believe MAS may need to raise fresh capital to keep MAS afloat by
2015,” wrote Wong. Hong Leong expected the airline to lose RM1.39 billion on sales of RM16
billion in 2014, following a loss of RM1.17 billion in 2013. And there’s no profit in sight for
Malaysian Airlines, with Hong Long estimating more losses next year and the year after.
(Einhorn, 2014).
Christoph Mueller, the newly appointed CEO in 2015 stated that, “We are technically
bankrupt… The decline of performance started long before the tragic events of 2014.” (Topham,
2015). His initial plan was to “stop the bleeding” in 2015, stabilize the business in 2016 and look
for growth in 2017. Unfortunately, he himself made an early “exit” in less than a year later,
citing personal reasons. (Wikipedia, 2016).
The Exit of Malaysia Airlines from Competitive Market 6
For three years in a row MAS registered after tax losses with 2011 being the worst at RM2.52
billion followed by RM431 million in 2012 and RM1.17 billion in 2013. (See table 2.2).
Table 2.2 MAS three-year financial performance 2011-2013. Source: Malaysia Airlines (2014).
A comparison with other neighboring Southeast Asia airlines is necessary to see if only MAS
alone suffered the consecutive losses. These other airlines are also subject to continuous
downward pressure on yields especially on competitive international routes and markets attacked
by low-cost airlines which destabilizes the process of matching supply and demand profitably.
Falling yields can be offset, where possible, by further reductions in unit cost levels. When this is
not possible then airlines must push up their load factors to compensate for the fact that they are
receiving less per passenger or per ton carried. It is when airlines lose control of this dynamic
process of matching yields, unit revenues and load factors that they start making losses.
(Doganis, 2010). Since these airlines are operating in the same industry, same region and
therefore subject to similar markets, the comparison is justified.
The Exit of Malaysia Airlines from Competitive Market 7
Table 2.3. Singapore Airlines three-year financial performance. (*Fiscal year ending 31, March). Source: Singapore Airlines (2014).
For approximately the same period*, Singapore Airlines registered an after tax loss of S$694.1
million in 2012, and after tax profits of S$390.2 million and S$538.5 million in 2011 and 2013
respectively as shown in table 2.3.
Table 2.4. Thai Airways three-year financial performance. Source: Thai Airways (2014).
Thai Airways registered net losses of 12 billion Baht in 2013 and 10.2 billion Baht in 2011.
However, in 2012 it registered a profit of 6.5 billion Baht as in table 2.4.
The Exit of Malaysia Airlines from Competitive Market 8
Table 2.5. Garuda Indonesia three-year financial performance. Source: Garuda Indonesia (2014).
Garuda Indonesia on the other hand, registered positive net incomes (profits) for the three
consecutive years of the same period. (Table 2.5).
Compared to other neighboring airlines that operate from the same region, MAS fared worst. To
compare the performance among airlines, ratios of (Loss)/Profit as a % of Revenue are
summarized as in table 2.6 and figure 2.1. It can be observed that while other neighboring
airlines are making profits, MAS continued to make losses with 2011 being the worst. Each
airline has its share of ups and downs but unfortunately MAS looks as though it was headed for a
nose dive.
The Exit of Malaysia Airlines from Competitive Market 9
Table 2.6. Performance comparison among four neighboring Southeast Asia airlines. Figures are in respective local currencies, conversion factors and annual reports.
Figure 2.1. (Loss)/Profit as % of Revenue of four neighboring Southeast Asia airlines.
The Exit of Malaysia Airlines from Competitive Market 10
The Restructuring, the Bailout and the Exit
The nation's state investment firm, Khazanah Nasional, which controls nearly 70% of Malaysian
Airline System Bhd., in August 2014, disclosed a $430 million plan to take the airline private, a
first step toward a restructuring exercise that aims to strengthen its financial. The government
injected more than five billion ringgit ($1.56 billion) over the last decade just to keep the airline
flying, and the double disasters were devastating blows. (Ng, J, Venkat P.R & Raghuvanshi, G.,
2014).
The next step by MAS was to cut 6,000 jobs, or about 30 percent of its work force. It also
received a bailout of RM6 billion from the Malaysian government as announced by Azman
Mokhtar, the managing director of Khazanah Nasional. (Fuller, T & Clark, N., 2014). By the end
of 2014, MAS shares were taken off of the Malaysian stock exchange.
In July 2015, under a recovery plan initiated in September of the previous year, Khazanah set up
a new company, NewCo, to take over all of the airline’s operations with 4,000 supply contracts
to be renegotiated and 6,000 employees due to be laid off. A new chief executive, former Aer
Lingus head Christoph Mueller, was appointed to head MAS. (Kumar, PP., 2015).
Christoph Mueller who later resigned less than a year after being appointed, in an interview with
German broadcaster Deutsche Welle (DW), pointed out several problems that have plagued
MAS for many years. Many of the 20,000 employees were “doing nothing”. “Despite all the
announcements by the government, a turnaround wasn't initiated by the time I became CEO. In
fact, when I walked through the hangars, people were sleeping.” MAS was also plagued by poor
personnel management and a bloated workforce. Mueller said MAS also suffered from a bloated
and overpriced supply chain, partly because the airline bought products from suppliers at prices
20 to 25 percent higher than the market value. “Everything from pens to US$200-million aircraft
were purchased at these rates. I am not saying that we were bad negotiators, and in any case
corruption is punishable also in Malaysia.” Mueller also pointed out that MAS had about 20,000
suppliers and, as a result, the glut made it difficult for the airline to get a volume discount from
anyone. (Malaysiakini, 2016).
The set-up of a new company NewCo marks the exit of MAS from the competitive market.
Profitability could not be sustained despite a decade long of government support. Despite bearing
The Exit of Malaysia Airlines from Competitive Market 11
the same brand, the new company under the bailout is another story and will not be covered
under this paper. Technically, MAS was bankrupt and has exited the competitive market.
Economic Exit of MAS
This section will discuss the economic theory with regard to the exit of MAS from the
competitive market. When Total Revenue, TR is more than the Total Cost, TC (TR > TC), it is a
signal for firms to enter the competitive market. When it is the other way around (TR < TC), it is
a signal for a firm that suffer losses to exit the market. For MAS it falls under the exit category.
From its annual report for 3 consecutive years prior to the double disasters and the restructuring,
MAS was running at a loss. Its total revenue has always been lesser than the expenditure. In
other words, MAS spent more than what it made. Even without going through economic
calculations, we can see that MAS was not financially healthy. If fact, it was technically
bankrupt and should be closed for good. From the economic point of view, it can be shown that
TR < TC, an exit signal which warranted for its exit. By 2014 it should have exited had it not
been a firm supported by the government bailout.
Profit = Total Revenue – Total Cost
Total Cost = Total Revenue – Profit
Profit = After Tax Profit + Tax,
(Note that the profit is actually Before Tax Profit)
Total Cost = Total Revenue – (After Tax Profit + Tax)
The Exit of Malaysia Airlines from Competitive Market 12
Calculating each year’s Total Cost using data from MAS Annual Report 2013 (Table 2.2, in
RM’000):
TC2011 = 13,901,421 – (-2,521,325 + 8,441) = 16,414,305 (> 13,901,421)
TC2012 = 13,756,411 – (-430,738 + 5,937) = 14,181,212 (> 13,756,411)
TC2013 = 15,121,204 – (-1,168,839 + 16,051) = 16,273,992 (> 15,121,204)
The Total Cost for each year is bigger than the Total Revenue for each year, (TC > TR). So,
based on the calculations, the exit of MAS from the competitive market is supported by the
economic long-run exit theory.
CHAPTER 3: DISCUSSION AND CONCLUSION
Did MAS Really Exit
Technically, yes. MAS exited the competitive market in July 2015 when Khazanah set up
NewCo to take over all of its operations. The present firm, Malaysia Airline Bhd. is a new set-up
operating under government bailout that inherits the old MAS’ assets, employees and culture.
The performance and the direction of the new MAS is beyond the scope of this paper. A research
is recommended to study if the new MAS is headed toward the right direction and whether it can
be as competitive as other airlines.
Implications on Exit
Had MAS really made the exit for good with no bailout, no NewCo or no government support
what will be the consequences or implications on consumers, markets and employees? This
The Exit of Malaysia Airlines from Competitive Market 13
section will discuss the implications with the assumption that there’s no more MAS old or new in
the market.
Musa M.B. (2014) pointed that, “Malaysia does not need MAS to project the nation’s image
abroad. Besides, the image MAS now projects is of the worse kind. Malaysia also does not need
MAS to bring in tourists. The other airlines including Air Asia do a fine job at that, and at no
cost to the government. Malaysians do not need MAS for their international travels. You can
choose from a dozen airlines to fly from Kuala Lumpur to San Francisco.”
In term of economics, the exit of MAS will shift the supply curve to the left which increases the
price and decreases the number of leisure travelers as the group is more sensitive toward price
changes compared to business travelers. The impact will be temporary as there will be other
firms entering the market to gain the market share vacuum left by MAS as the market proves to
be profitable.
P2
PRICE
QTY
S2
D1
S1
P1
Q1Q2
Table 3.1. The shift in supply when upon MAS exit from competitive market. Price goes up, travelers go down.
The Exit of Malaysia Airlines from Competitive Market 14
The exit would have cost 20,000 jobs which is a big loss to individuals’ economy. As technical
knowledge and skills related to the airline industry is not easily transferrable, employees may
find a hard time looking for jobs in other industries. Moreover, the airline industry in Malaysia is
very limited which makes it even harder for laid off employees to get back into the same
industry. A hard time for laid off employees means difficulty in maintaining financial
commitments and obligations which is a serious consideration that has to be looked into at the
governmental level.
In conclusion, there’s always reasons why MAS did not exit completely and instead rely of
government’s support. MAS has been a symbol of pride in Malaysia and closing it down is like
closing down a part of the country. But opinions may differ.
The Exit of Malaysia Airlines from Competitive Market 15
REFERENCE
Al Jazeera. (2015). Malaysia Airlines lays off 6,000 employees. Retrieved 09 October, 2016, from http://www.aljazeera.com/news/2015/06/malaysia-airlines-lays-6000-employees-150601105838604.html
Awang, A.H. 2009. Japan Trip. Photo for front cover.
Doganis, R. (2010). Flying Off Course: Airlines Economics and Marketing. (4th ed). UK: Routledge.
Einhorn, B. (2014). Bloomberg. Retrieved 11 October, 2016, from http://www.bloomberg.com/news/articles/2014-07-24/will-double-disasters-put-malaysia-airlines-out-of-business
Fuller, T & Clark, N. (2014). The New York Times. Retrieved 14 October, 2016, from http://www.nytimes.com/2014/08/30/business/international/malaysia-airlines-to-cut-30-of-work-force.html
Kumar, PP. (2015). Anadolu Agency. Retrieved 10 October, 2016, from http://aa.com.tr/en/economy/second-phase-of-malaysia-airlines-bail-out-announced/70542
Malaysia Airline System Bhd. (2014). Annual Report 2013. Selangor DE: Rizani bin Hassan (LS 0009520).
Malaysia Kini. (2016). Outgoing CEO: Many MAS employees were doing nothing, some sleeping. Retrieved 10 October, 2016, from https://www.malaysiakini.com/news/345682
Musa, M.B. (2014). Malaysia Today. Time to Sell or Liquidate Malaysia Airlines. Retrieved 10 October, 2016, from http://www.malaysia-today.net/time-to-sell-or-liquidate-malaysia-airlines/
Ng, J, Venkat P.R & Raghuvanshi, G. (2014). The Wall Street Journal. Retrieved 14 October, 2016, from http://www.wsj.com/articles/malaysia-airlines-set-for-buyout-1407467385
Pearson et al.. (2015). Competition between Asian Network Airlines and Low-Cost Carriers: Strategic Analysis. Journal of the Transportation Research Board, 2501, 56-65.
Roy, A. (2015). What determines airline profitability: Industry conditions or firm level capabilities? Academy of Taiwan Business Management Review, 11(2), 17‐23.
Samuelson, W.F & Marks, S.G. (2012). MANAGERIAL ECONOMICS. (7th ed.). US: Wiley.
The Exit of Malaysia Airlines from Competitive Market 16
Sidhu, BK. (2016). The Star. Retrieved 12 October, 2016, from http://www.thestar.com.my/business/business-news/2016/09/13/mas-picks-up-market-share/
Singapore Airlines. (2014). Annual Report FY 2013/14. Singapore: Ethel Tan.
Thai Airways. (2014). Annual Report 2013. Bangkok: Suvimol Bualerd.
Topham, G. (2015). The Guardian. Retrieved 12 October, 2016, from https://www.theguardian.com/business/2015/jun/01/malaysia-airlines-technically-bankrupt-christoph-mueller-cuts-boss
Wikipedia. (2016). Christoph Mueller. Retrieved 12 October, 2016, from https://en.wikipedia.org/wiki/Christoph_Mueller
Zhang, A & Czerny A.I. (2012). Airports and airlines economics and policy: An interpretive review of recent research. Economics of Transportation, 1, 15–34.
The Exit of Malaysia Airlines from Competitive Market 17
APPENDIX
Assignment: You are required to choose a topic from the course outline. Relate the topic to a
real issue and discuss it in three chapters. Chapter one should contain the theoretical explanation
of the topic. Chapter two should present the real issue. While chapter three should focus on the
main discussion of the real issue with policy implications.
END
The Exit of Malaysia Airlines from Competitive Market 18