A Discount Carrier Spreads Its Wings

Air Asia is going international, and rivals are scrambling

After nearly two years of shaking up Malaysia's domestic airline industry with his no-frills Air Asia, aviation entrepreneur Tony Fernandes is ready to broaden his horizons. In early August, Air Asia won landing rights at its first three international destinations: the resort islands of Bali in Indonesia and Phuket in Thailand and the Thai capital, Bangkok. After butting heads with regulators seeking to protect their national flag carriers, Fernandes is now closer to fulfilling his dream of importing the discount-airline model to Southeast Asia. "We've got lots of balls in the air right now," Fernandes says. "Really exciting things are happening."

Fernandes' new international profile will put growing pressure on rivals. He is setting up a hub at Senai airport in Malaysia's Johor State, a short $2.40 bus ride from Singapore. He won't announce a starting date for the new routes until September, but Fernandes already knows the fare: Round-trip to Bali for $118, compared with $406 on Singapore Airlines Ltd. Fares to Phuket could be even lower, says Fernandes, the CEO and controlling shareholder of Air Asia. And he also hopes to offer flights to India soon.

Fernandes' challenge is already shaking up Southeast Asia's airline industry. Malaysian Airline System has cut domestic fares in half and is throwing in cut-rate hotel rooms in an attempt to regain ground lost to Air Asia. Industry sources say Thai Airways International and Hong Kong's Cathay Pacific Airways Ltd. are weighing responses to Air Asia's expansion, although spokesmen declined to comment. Singapore Airlines is devising a new business plan to cope with the changing industry (no details have been released). And a former Singapore Airlines CEO, Lim Chin Beng, is setting up a new budget carrier called ValuAir. "The one thing that makes an airline a threat to everybody is to go international," says Lew Roberts, an aviation analyst in Hong Kong.

Not long ago, Fernandes wasn't a threat to anyone in the airline business. Until May, 2000, he worked as managing director of Warner Music's operations in Malaysia. When Time Warner Inc. announced its merger with America Online Inc., Fernandes had an uneasy feeling. So he cashed in his stock options and started looking for a way to spend the money. Air Asia, an insolvent subsidiary of the deeply indebted Hicom conglomerate, caught his eye. The airline had only two planes and flew to just five destinations from Kuala Lumpur, but Fernandes saw potential. So he assembled a small group of investors and bought the carrier in December, 2001, for a token 27 cents -- although he had to assume its $11 million in debt. An airline run by a 39-year-old accountant from the music business -- in effect a Malaysian version of Virgin Atlantic Airways Ltd. founder Richard Branson? "Everybody was laughing at them," says Manfred Kurz, managing director of Diethelm Travel Malaysia, the local subsidiary of a German travel agency. "No one took them seriously."

Few are laughing now. Air Asia today has 18 Boeing 737s flying a dozen routes with one-way fares as low as $16 for flights from Kuala Lumpur to the port of Penang -- cheaper than a bus. It keeps costs down by selling tickets only over the Internet and offering no free meals. Fernandes grills ground crews on how to shorten turnaround time between landing and takeoff and confers with mechanics on how to coddle spare parts so they last longer. His chief engineer, Wan Hasmar, once told Fernandes the tires on the landing gear, which cost $6,000 per six-wheel set on a Boeing 737, would last longer if the pilots took a shallow approach on landing. Fernandes immediately issued orders for pilots to sweep in low, short-circuiting the airline's chain of command. "We allow people to think," says Fernandes. Now the tires last 180 landings, up from 70 before the change.

That kind of efficiency translates into profits. In 2002, Air Asia reported earnings of $8 million on sales of $66 million, the most recent results available. The airline is planning a $39 million bond issue and in June sold a 26% stake to three investors for $26 million. "Air Asia is one of the most dynamic, fascinating investments we saw out here," says David Hund, a New York-based fund manager for Crescent Venture Partners, one of the new investors. Next up for Fernandes: taking the carrier public. With its growing international network and Fernandes' ambition, Air Asia could turn out to be one high-flying stock.

By Michael Shari in Singapore

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