Even before the loss of its Flight MH370, Malaysian AirlineSystem (MAS) was bleeding cash, prompting talk that it may needanother financial rescue from state investor Khazanah Nasional Bhd,its majority shareholder.

The flag carrier's cash and short-term investments atend-December were close to $1.2 billion – less than its averageoperating costs of the two previous quarters, and a signal that itmay soon need fresh funding or bank loans.

MAS, Southeast Asia's fourth-largest airline by market value,has had negative operating cash flow for three years – which meansit is not generating enough cash to meet its day-to-day operatingcosts – and has had negative free cash flow – operating cash flowminus capital expenditure – for six years.

No one has yet calculated the cost to the airline of the lostplane, which is now assumed to have crashed into the Indian Oceanearlier this month with 239 passengers and crew on board. While theplane was insured, there will likely be compensation payouts to therelatives of those who died.

“What this accident is going to create is an acceleration of thedownward trend that we've seen at MAS for years, and the need torestructure,” said Bertrand Grabowski, who heads German bank DVB'saviation and land transport finance divisions.

“The only way out is shrinking, in terms of capacity and routenetwork.”

BOOKINGS SEEN DECLINING
MAS has based its recent strategy on having more plane seats filledby cutting ticket prices as it battles rivals AirAsia andIndonesia's Lion Air, which have expanded capacity. Bankers andanalysts say the loss of Flight MH370 will dent bookings at MAS,making a fresh capital raising more likely.

“Even assuming this is a one-off and the travelling publicrealizes it's out of (the airline's) control, we expect somequarters of declining bookings, further cuts in ticket prices and –without any change to its high cost base – MAS is likely to bleedeven more red ink than it did in 2013,” said Timothy Ross,Asia-Pacific transportation analyst at Credit Suisse, whichforecasts another three years of losses at MAS.

“It certainly becomes highly likely that liquidity will sufferand its capex program and possibly financing even day-to-dayoperations might require an injection of more funds.”

There are no forecasts yet on how much insurers are likely topay for the lost flight, but Torsten Jeworrek, board member atMunich Re, the world's largest reinsurer, has said the $500 millionreported in some media was too high. Allianz, the lead insurercovering the airplane, has said it has begun paying out on claimslinked to its disappearance.

“Primarily, it's Malaysian Airlines' reputation and, to a lesserextent, that of the aircraft hull and engine manufacturers on theline until the cause is identified to be something outside theircontrol,” said Anna Tipping, partner at law firm Norton RoseFulbright in Singapore. “MAS will take the initial brunt of theloss, being the carrier, but once the cause of loss is identifiedthe blame and consequences will shift.”

“For PR reasons, particularly if there are going to be payoutsto the families of the victims, then that will probably be paidsooner rather than later and by Malaysian Airlines because of thereputational aspect.”

MAS declined to comment on its financial situation. CEO AhmadJauhari Yayha told a briefing on Tuesday that it was “a verypainful period for the airline.”

ON AUTO-PILOT
Until Flight MH370 vanished, MAS had been looking to break eventhis year. In February, Ahmad Jauhari, a triathlete and longdistance runner, said the airline expected further pressure on itsyields – passenger revenue per seat – and would try harder to cutits structural costs and improve productivity.

“Management's focus is understandably diverted to this crisisand so the running of the airline is more or less on auto pilot,”said Shukor Yusof, analyst at Standard & Poor's Capital IQ.“The cost of money for MAS would rise considerably because of thisincident in spite of it being sovereign guaranteed.”

MAS shares have slumped to life lows and have lostthree-quarters of their value in the past five years.

The airline last raised funds almost a year ago through a $1billion rights issue. It also raised 7.8 billion ringgit ($2.36billion) through Islamic bonds and a special purpose vehicle ownedby the finance ministry to buy planes in mid-2012.

Khazanah, which owns 69 percent of MAS, backed the recent rightsissue. In 2012, Khazanah had tried to cut its stake in the airline,but the powerful Malaysian Airline System Employee Union (MASEU),which represents the airline's 20,000 workforce, rejected a shareswap deal with AirAsia.

“Khazanah will have to support MAS (just) as Temasek backedNeptune Orient during the financial crisis,” said an investmentbanker, referring to the Singapore state investor's support for thelocal shipping firm's 2009 rights issue.

R. Sivarasa, a member of parliament for Malaysia's PKRopposition party, said MAS was one of the country's “sick”government-linked companies which “basically bleed public funds.”“As far as MAS is concerned, they'll bail them out,' he said.

Bankers warned that MAS' financial situation meant it wasunlikely to secure government approval for its multi-billion dollarplans to buy 100 new aircraft.

MALAYSIAN MALAISE
Some banks with exposure to MAS say government support for theairline is the only reason they are still standing by it.

“We don't need to put MAS on a watch-list. Most banks have lentmoney to the airline because of the government support, and now itwill be stronger than before,” said one banker. “If you look at theareas of criticism during this incident, they're mainly on theinvestigative side, on passport checking. This is about MalaysiaInc, not MAS.”

The airline's main bankers, according to its latest annualreport, are RHB, CIMB, Maybank and Citibank.

As of end-December, MAS had total debt of 11.7 billion ringgit.Its next major debt repayments are due in mid-2022, when $455.2million worth of bonds mature, according to Thomson Reutersdata.

DVB's Grabowski said this could be a turning point for MAS,citing Japan Airlines' emergence from bankruptcy to become Asia'smost profitable airline in 2012, but Ross at Credit Suisse warnedthat the carrier's union could be an obstacle to any majorrestructuring.

“The prime stumbling block is labour, and turkeys don't vote forChristmas. These guys are not pushing for change because they knowwhich big-line items need to have a knife taken to them – and oneof them is employee costs. MAS employs several thousand people toomany,” said Ross.

MASEU President Alias Aziz did not respond to requests forcomment.

($1 = 3.3085 Malaysian ringgit) (Additional reporting by SaeedAzhar in SINGAPORE, Al-Zaquan Amer Hamzah in KUALA LUMPUR andPatturaja Murugaboopathy in BANGALORE; Editing by IanGeoghegan)