[dougweltman]

FCF is supposed to go to shareholders: it's what's left over after spending money running and growing the business. And this problem (and related solutions) will probably apply not just to airlines but also restaurants, retailers, etc.

In normal circumstances, chewz is right and they should either call up more capital from existing shareholders or go under. But these are not normal circumstances. 1) Everyone is capital constrained, and 2) airlines collectively are extremely important to the economy. This isn't a handful of one-off bankruptcies of a few laggards.

Investors are capital constrained and would need to sell off their other holdings at the very moment everybody else is trying to unload those same assets at depressed prices, risking a broader liquidity crunch that goes well beyond airlines, as other sectors are also in trouble.

So the next best solution is for governments to lend them cheap money to hold them over, or to recap with equity (diluting current shareholders, possibly by a lot) and gradually sell off that equity after conditions return to normal. That's what happened to the banks: in a sense, they went 90% bankrupt with existing shareholders getting massively diluted, but the companies were able to continue without the massive disruptions caused by them all going belly-up.

When it's a normal economic cycle, even most recessions, the right approach is to let the laggards die and let the shareholders get wiped out. When there's lots of volatility, it's better to let the shareholders get 60%, 80%, 90% wiped out but keep the companies alive.

[roenxi]

If they go under the aircraft will still be there. Just new owners. Ban foreign buyouts then let them go bankrupt and be sold to the highest bidders.

We're about due for different owners of capital; the situation has been far too static. The bailouts in '08 kept a bunch of very poor managers in charge. 100% wipe-outs were appropriate in '08, and they will be appropriate again this time. Of all the people we need to feel sorry for, capitalists are the last. And I say that as an ardent capitalist. The social contract there is very clear and literally written down in many cases.

[dougweltman]

1) Where will the money come from to buy the aircraft? Are you saying this with any sense of how long it will take to start a new airline like AA or Delta or whatever? Agency costs under a liquidation are absolutely massive.

2) Nobody is suggesting that protecting shareholders be a policy consideration, and that was true in '08 as well when the banks effectively went bankrupt (well, 90% of the way at least). The shareholders got wiped out when banks had to hand over 90% of their shares to the government in return for equity. When before you might have owned 10%, you then own 1%. That's the point of being a shareholder: you're last in line and take on that risk.

3. Instead, the concern is over the broader economic disruption of airlines suddenly no longer operating when other businesses rely on travellers: hotels, restaurants, stores, etc.

4. I get your point that it might be better to wipe the slate clean: iirc, some airlines are running software that's 40+ years old. Under normal circumstances, if that's a real problem, those airlines will have a disadvantage against newcomers, of which there are many. The difference here is when these businesses are failing not to an operational shortcoming, but something much larger.

You're talking about Chapter 11 liquidation as if it's nothing. There are massive agency costs there and assets stop operating until they can be sold. Chapter 9 is less disruptive (owners get wiped out, creditors own the business and the business finds new creditors to put in some money), and if there's a risk of wide-scale economic disruption, better still is something a little short of Ch. 9: a "bailout" where the government basically wipes out most of the equity and can put in some capital in return.

[roenxi]

(1) Hold an auction. If the only person who turns up is a homeless bum with a dollar then the aircraft now costs a dollar and we have a homeless industrialist on our hands.

Ditto (4) for the software; it doesn't get deleted because the ownership changes.

(2) A sibling comment to yours suggested exactly that. We aren't protecting the business (nobody wants to fly at the moment, that is why they are about to go broke). So we can't be protecting consumers; the capital itself can't catch COVID-19 so isn't under much threat so logically a bailout is either protecting shareholders or workers.

And my position, radical as the free marketer that I am, is we should protect the workers during the process, but sack the shareholders and provide crisis support to the vulnerable insofar as they used to be shareholders.

(3) Yeah; but bailing out the airlines doesn't actually help that when you inspect it. Nobody is using the airlines; they need to be mothballed ASAP and maintained on a skeleton crew for 6 months.

A bailout of the airlines under these conditions isn't the worst idea; the bank bailouts in '08 were substantially worse because they went to the people who caused the crisis. But it is much more dangerous than it seems making decisions in a crisis, from outside the company, saying 'it can't possibly be their fault; lets give hem a boost!'. The view from the outside might be misleading and we might be rewarding reckless behavior. We have this company concept precisely because it contains the damage to a sacrificial legal entity that we can kill off.

[dougweltman]

On 2 & 4, we seem to disagree on the central claim that new airlines can be spun up quickly in time for their liquidation not to jeopardize the travel sector in the future once this outbreak abates.

This requires two conditions, neither of which hold: a) properly functioning capital markets to launch these assets and build the operations around them (not the case -- asset prices are falling across the board and there's tons of forced selling), and b) the ability to spin up an airline quickly from a cold start.

And if we apply the thinking you've offered around (1), it might be just a tad more to the public benefit to have the government step in and buy on the cheap a majority of the business (massively diluting existing shareholders), keep the engine warm, and not have to deal with a cold start in 6, 9, 12 months. Then, just as with the banks, they'll unload the stock as the price recovers and the crisis has passed. Those gains go straight back to the treasury, as they did following the recaps in 2010.

What would less reckless behavior look like? How much money should the airlines hold on their balance sheets in order to cover catastrophic losses due to a pandemic (derided as "hoarding money" in some circles). Many businesses are a few bad weeks away from bankruptcy, and the airline industry, while indispensable, is famously brutal.

[tomp]

Just don't forget that a lot of "capitalists" are pensioners, college endowments, etc.

[roenxi]

So we decide that we are going to give them government money. Plan A is to filter the money through a corporation first. I prefer plan B, which is give the money straight to the people involved - like pensioners or endowments - and be honest about what is happening.

Lets not let charity get mixed up in running a business. We have a no-fault system in free market capitalism - if you go broke you don't run the business. Doesn't matter if it is your fault or not. And almost magically, that aligns incentives to get the best outcomes.

[EarthIsHome]

Pensioners and wage earners are not capitalists. They depend on wages to live. Calling yourself a capitalist doesn't make you have capital.

True capitalists are those who do not need wages (e.g. CEOs of airliners, billionaires, etc.).

[yyy888sss]

In Australia we have Superannuation (compulsory contributions retirement fund) so actually pensioners are expected to live partly off capital gains/sale of shares. Of course their portfolios usually get more defensive (less stock more bonds) the older they get.

[EarthIsHome]

That is very similar to what we have in the US; we have 401(k)s, 403(b)s, 457(b)s etc. that tie our retirement to the stock market. In many cases, employers force their employees to enroll in them.

Think about these retirement accounts this way: capitalists take our money now under the presumption we will get it back when we're 60+. In the mean time, while we're working for a living wage, the capitalists get to profit off our labor now. They get to continue destroying the planet and exploiting other wage earners. They don't need a wage to live.

1) While employees have these retirement accounts, we are forced to contribute to them. We are forced into ensuring the well-being of capitalism.

2) Being forced to contribute to these accounts is diametrically opposed to the interests of our class. It makes us wish well for the stock market because our retirement is tied to it. But a more profitable stock market leads to more exploitation of the labor of my class. For these profits to exist, either you keep labor costs low, or increase prices.

I would prefer to extricate our retirement from the stock market and capitalism.

[akg_67]

Capitalize profits socialize losses that is American corporate way. Executives keep the profit and expect taxpayers to bailout losses.

[aantix]

"Barack Obama says banks paid back all the federal bailout money"

https://www.politifact.com/factchecks/2012/oct/25/barack-oba...

[Retric]

Opportunity cost, the banks in no way payed out what that money was worth at the time. Hand me 1 billion interest free for 5 years and sure I will pay the money back, but...

[vonmoltke]

It was not interest-free: https://projects.propublica.org/bailout/list

[Retric]

As that points out, not all loans where paid back. The interest from those that did result in a nominal profit, but it’s far from what private lenders received for loans in that time period.

Thus opportunity cost, as it was a poor investment which is why it was called a bailout.

[aantix]

If they had other opportunities at higher rates, they would have lent at that rate.

[yyy888sss]

Yes but assuming bankruptcy would have actually destroyed the US economy (highly debatable) then it was a low cost measure.

[yohannparis]

True, but still mean that the people bail them out. So the taxpayers soften the blow with a loan... Maybe let the companies go down, and give a loan to the taxpayers instead.

[wmeredith]

The TARP bailouts turned over $10bill profit.

[akg_67]

How much TARP invested and how much it profited. Now compare that with how much Warren Buffett invested in Goldman Sachs and how much he profited. No wonder GS decided to become bank, access to taxpayers money is much cheaper.

[AznHisoka]

But some of these airlines have a dividend already. American Airlines has a 2.5% dividend. That is returning cash to investors. Why buy back shares then?

If they only paid a 2.5% dividend in 2015, they would have returned some cash to investors. But instead, they also spent $3.5 billion (!) on buybacks in 2015, almost half their market cap at the time. https://www.fool.com/investing/general/2016/01/15/expect-mor...

[tomp]

Dividends and share buybacks are economically equivalent, the only difference is tax efficiency.

[beagle3]

No, they aren’t. Buybacks push stock price higher, which also makes a difference for option values in a way that dividend don’t.

Also, they are efficient in that they defer the taxation to the point of share sale, but they are inefficient in that holding a stock for less than a year in the US taxes them at the much higher short-term capital gains rate.

Furthermore, the dividend is cash, it cannot go to zero without giving you a chance to realize it - whereas a stock can go to zero at any time (and many will likely do shortly). I was a small investor in a company that did a respectable 5X exit for shares of the purchaser. I was thus locked up for 6m, during which they did a stock buyback but later promptly went down by 80 percent for reasons unrelated to the purchase of the company I was an investor in.

What was supposed to be a nice 5X exit, turned to a meager 1.5X, and I was extremely lucky that the lockup ended September (that is, same year) because otherwise, for tax reasons, I would have been approx -0.5X (that’s all my investment and then half again) on a 5X exit — as I didn’t have any taxes profits in the following years to net again. (You can carry losses forward for tax reasons, not backwards).

Dividends and buybacks are similar when everything is hunky-dory but never equivalent.

[AznHisoka]

I am not a financial expert but how are buybacks reflected in a company’s balance sheet?

My theory is that buybacks give companies a false sense of complacency. If they do $1 billion worth of buybacks, it doesn’t feel they are really “giving out” $1 billion back to investors. Rather, $1 billion in cash just got converted to a long term asset(their shares). Thus this is how airlines get into a cash crunch. They are lulled to believe they can go crazy with buybacks with no consequences.

If instead they did a special dividend for $1 billion, they would immediately feel the consequences. It is money taken straight out of their bank. Thus they would of course consider more carefully how much to give as a dividend.

Just my theory and why I am against buybacks and for dividends only.

[beagle3]

Stocks bought back disappear (making each remaining share reflect a larger percentage of the company). It is in general the reverse of a public offering in which money comes in and new shares come into existence (making each previously existing share represent a smaller part of the company).

This is not technically exact, but probably a good mental model.

[AznHisoka]

While true, my point is they were already returning cash to investors in the form of a dividend.

Why the need to do outrageously huge buybacks if they were already doing so?

[ddeck]

Because buying back shares is typically better for non US investors.

I don't live in the US and I am not a US citizen, but if I owned those American Airlines shares, I'd need to pay 30% withholding tax to the US government on that dividend (strictly speaking it's withheld vs. actively paid).

That's in addition to taxes that need to paid in one's own country (assuming no dual taxation treaty).

With a share buyback, the share price rises (ideally) instead and when it is sold, there's no US tax on the capital gain for non resident non citizens.

[mjul]

In some countries the tax regime has different levels of tax for dividends and capital gains, so in some countries buybacks are better for the shareholders than dividends.

[Retric]

Airlines failure does not destroy the physical aircraft, or the skilled workforce. So, economically they can be restarted with minimal issues. Longer term the US so far from capital constrained and letting less efficient airlines fail is likely the best policy.

[kakwa_]

Well, yes and no.

For the assets, such as the physical aircraft, if left unattended for long, they will slowly degrade.

And if a company fails, it's not that easy to recreate the same one from scratch, all the organizational structures of the company, the partnerships, the contracts with suppliers, etc, need to be reestablished. Not impossible, but at the same time, not that easy.

And it's only seeing it from the narrow view of one company failing. If the whole economy has a significant portion of companies failing, it will mess-up things a lot more.

[Retric]

While we are talking about deprecating assets, they can last a long time. New US carriers would not be limited to purchasing the old US carriers aircraft. Delta’s 747 for example are 26 years old on average, but they might easily be sold globally, with a new airline picking a fleet on the cheap from some other country’s failed airlines. Thus the assets are not really that critical a consideration.

IMO, if US airlines can’t raise enough capital to handle a short therm disruption that’s a sign the markets think letting them fail is more efficient. Further, politics is unlikely to be making a more efficient choice than industry experts. Finally, if we are talking a multi year disruption airlines seem like a very low priority.

[boh]

Buybacks are a way for companies to let the market know they are no longer capable of making efficient use of capital, and so they give the money back to shareholders instead. The recent trend of buybacks within various industries presents a difficult argument against the efficacy of capitalism in general. It would seem companies no longer need tax cuts, can sustain higher minimum wages, have limited incentives to foster innovation through research and development, since buybacks have exceeded FCF since 2014. With the effectiveness of shareholders use of capital being fairly limited (something we were able to witness following the Trump administration's tax reforms), the only other viable option is to give a greater share to the government. If we're so concerned about Main Street pensioners and 401K shareholders when it comes to buybacks, then perhaps they'd prefer a fixed UBI paid by higher corporate taxes rather than be subject to the whims of the market (now especially). If that doesn't sound like a good idea, than maybe companies should do their job and actually spend the capital. As much as people argue against public entitlements, they seem to support the private entitlements fostered by buyback culture, if one doesn't seem productive, why does the other?

[timwaagh]

they are airlines, not banks. They are important but we need not fear collapse if they disappear. No doubt some will survive, somehow. Saving them would not be a waste of money, but the money can be better spent. For example on disease control and medical care.

[yyy888sss]

Whats the difference with banks? If a bank goes bankrupt won't someone come in and buy at a low price? The deposits in the bank wont disappear..