Are airlines now extraordinary businesses?

Are airlines now extraordinary businesses?

Warren Buffett is famous for his quips about the folly of investing in airlines, and once labeled the sector a ‘death trap’ for investors. But now he has changed his tune. What could have prompted this? And does it mean that airlines are now an extraordinary investment?

1999 Allen & Co Conference, Sun Valley

“As of a couple of years ago, there had been zero money made from the aggregate of all stock investments in the airline industry in history. So I submit to you: I really like to think that if I had been down there at Kitty Hawk, I would have been farsighted enough and public-spirited enough to have shot Orville down. I owed it to future capitalists.”

Warren Buffett (2002 interview London paper The Telegraph):

“If a capitalist had been present at Kitty Hawk back in the early 1900s, he should have shot Orville Wright. He would have saved his progeny money. But seriously, the airline business has been extraordinary. It has eaten up capital over the past century like almost no other business because people seem to keep coming back to it and putting fresh money in. You’ve got huge fixed costs, you’ve got strong labor unions and you’ve got commodity pricing. That is not a great recipe for success. I have an 800 (free call) number now that I call if I get the urge to buy an airline stock. I call at two in the morning and I say: ‘My name is Warren and I’m an aeroholic.’ And then they talk me down.”

Warren Buffett’s repudiation of airline investing goes back to a 1989 investment in the 9.25% convertible preferred stock of an airline then called US Air.

The story goes that hedge fund manager Michael Steinhardt looked like he would mount a takeover of US Air and the management sought Buffett’s counsel about protecting the airline over a T-Bone steak at Buffett’s favourite restaurant, Gorats.

After Buffett invested $358 million worth (12% of the company) of convertible preferred stock (in 2 years to US Air stock at $60, above the then price of $52) at 9.25%, Michael Steinhardt disappeared from the radar.

It is reported that Buffet and Munger served on the board of US Air for a couple of years but the shares never appreciated, Buffet never converted and he wrote down his investment, cashing out at the earliest opportunity and reportedly breaking even.

Berkshire Hathaway (2016):

So it comes as perhaps surprising that the Wall Street Journal has reported that Berkshire Hathaway has, in a regulatory filing, announced it has taken stakes in American Airlines Group Inc. (US$800m), Delta Air Lines Inc. and United Continental Holdings Inc (combined US$500m). Buffett also told CNBC that Berkshire had taken a stake in Southwest Airlines Co. too.

MORE BY RogerINVEST WITH MONTGOMERY

Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.