In the Air But Grounded

Last December 28 AirAsia Flight 8501 left Surabaya in Indonesia bound for Singapore with 162 passengers and crew on board. An hour from takeoff the plane disappeared from radar, and five days later searchers found the wreck in the Java Sea. There were no survivors. AirAsia is one of the global airline industry’s great success stories. It was founded in 2001, when CEO Tony Fernandes, a former music company executive, bought the struggling company for $0.39. By 2014 he had made it into one of Asia’s largest discount airlines. Flight 8501 was AirAsia’s first fatal accident. With the untimely death of so many people and the shocked grief of so many families and friends, the loss of Flight 8501 is above all a tragedy. For AirAsia’s lenders and investors it’s also a major risk event and a test of management’s ability to meet the challenges rising from that event. We see meeting challenges to be one of the key factors in evaluating management and its impact on a company’s risk. By challenges we mean problems that go way beyond the ordinary operational and financial difficulties of running a business. They can range from integrating big acquisitions, to far-reaching business turnarounds, to comprehensive financial restructurings. Challenges also include responding to major product recalls, natural disasters, and accidents. There are two dimensions to meeting any event risk challenge: operational and financial. For AirAsia the operational tasks are to find the plane, recover the bodies, analyze the accident, and keep it from happening again. Of course, where human suffering occurs there is an added responsibility to comfort the injured and bereaved. AirAsia’s...

What’s That Burning at Tesla?

We blogged about Tesla just over a year ago, looking at what we called the company’s “liquidity burn.” We thought they only had about a year’s worth of liquidity left. Since then, burning through liquidity hasn’t been Tesla’s biggest problem. Instead, Tesla’s troubles have been with burning cars. Three of its sleek Model S cars have caught fire recently, and that may hurt sales or force a recall. Can Tesla afford it? A slowdown in sales or a recall would hurt cash flow, which has been improving lately. Free cash flow was $25.8 million dollars in the third quarter this year, driven by the success of the Model S. If cash flow falters, Tesla’s next line of defense will be its liquidity reserves, which also have grown a lot in 2013. Tesla used to keep about $200 million in liquidity in the form of cash and short-term investments. But in May 2013 the company raised $660 million in the convertible bond market and $617 million in the equity markets, using $452 million to repay its loans from the U.S. government and $178 million to hedge the convertible bonds. Tesla used the remaining $647 million to recharge its liquidity reserves. At the end of September 2013, they stood at $795 million. Is that enough? The size of a liquidity reserve should be based on the company’s ability to generate free cash flow and its vulnerability to event risk. Event risk is the unexpected need for cash caused by natural disasters, accidents, and product recalls. The cost to Toyota for its 2009 recall of 8.1 million cars for faulty break pedals was...