The Coronavirus (Covid-19) Pandemic has quickly been spreading through the world affecting people with intense flu like symptoms. At the time of writing, there are 305,066 confirmed infections with 12,987 confirmed deaths globally. Up to date statistics can be found here. The effects of this pathogen are not limited to biological factors. The disease has caused entire countries to shut down and economic activity grind to a halt across the globe.
No business has been immune to the effects of a complete economic shutdown. The Airlines have been one of the first industries to come under severe distress and as a result their executives have begun to float the idea of receiving financial assistance from the taxpayers so they can survive through the crisis.
The Airlines are currently using their lobbying power in Washington D.C. to try and receive assistance to avoid bankruptcy. They are using the precedent set by the bailouts of the big banks, AIG, General Motors, and Crysler as a means for assistance. However, the Airline industry has come under scrutiny for the amount of share buybacks they have performed over the past decade. Overall the industry has spent a combined 96% of their free cash flow on share buybacks. American Airlines is leading the pack by spending a negative cumulative free cash flow on share buybacks since 2010 amounting to $12.5 billion.
The American Airlines Executives are facing an ethical dilemma. They owe a responsibility to the shareholders to preserve and grow the share price. But shouldn’t they try to raise capital through the markets first? On one hand the Coronavirus has been a black swam event and certainly must be considered extenuating circumstances.
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Thank you Alex for coming up with the concern about such interest conflict! Actually the case itself is really a complex one, so I tried to decompose it into following subquestions:
1. What is our (the society’s) tolerace of “too big to fail” (the ability in fault-tolerance)? The importance of the American Airline is self-evident especially when comes to national defense, the Airline industry itself is something “too big to fail”. Should taxpayers and our society undertake such risk for bailing out?
2. Can we blame American Airline for not foreseeing such crisis of pandemic, or any events that could harm their cash flow? Obviously 96% of FCF is a huge amount, is that a decision made rationally? Since repurchases often increase stock price, is there an incentive/motivation for top decision-makers to increase stock price by any kind of means, so they can make huge bouns out of it? Did they maintain their current assets in an acceptable range? It that a misconduct in their decision-making process?
3. The way they raise their capital depands on their current capital structure, i.e., their cost of capital. The reason for not raising through the market could be the market won’t pay for the inferior capital. If the market is forced to pay to such inferior asset, is that a bad beginning of the collaspe of the credit system? Does that indicate tthe market is indulging “bad money drives out good”?
4. The ralationship between the company and their stakeholders (especially shareholders) is another story – deontologically speaking they are doing the right thing, but does that impair a long-term profit and sustainability since the quality of the asset decrease? Also, is there a potential interest conflict since too many different shareholders are introduced after the bailout?
Anyway, further discussion should be based on a detailed information, especially the market’s reaction. Thank you again for sharing us the case!
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Hi Alex,
Great topic to discuss!
I agree with you that the effects of COVID-19 are not only limited to the biological area but it drastically impacted the economy. Businesses are shutting down, people are losing jobs. The entire world is shaking. The economy is crashing. That’s a big mess. Like you said airlines have been the first industries to suffer from this pandemic because of closed borders. I believe every company is going to do whatever it takes to not go to bankruptcy or fail. American Airlines Executives are exactly facing an ethical dilemma. They have to choose from two options so that they don’t collapse. Is this relatively straightforward solutions? It ‘s interesting to know what’s the decision-making process is going to be.
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