These days, since there are few planes flying in the US or anyplace else, the executives of the major airlines of the USA have time to consider how to go about keeping their companies afloat during a time when there are essentially no revenues.
This painful conundrum is further complicated for the managers of the airlines given the fact that it may take more time for the public to regain confidence in flying. Consider, rather, the higher probability that US consumers will be ready and perhaps eager to begin buying durable goods in volume when the lockdowns end.
It is one thing to go into a large appliance store or an auto dealer’s showroom for a few minutes, and another thing entirely to commit to flying for several hours in a confined space, particularly when the passenger in a nearby seat may have, as the saying goes, “a disturbing cough.”
Although the airline business in so many ways is not directly comparable to other types of industries, one comparable element in recent years has definitely been the propensity of managements to rely on share buybacks as a means of boosting their share prices, improving per-share metrics and – importantly for so many in senior management – boosting executives’ compensation.
Regulatory limitations have been set in the United States by the Securities and Exchange Commission on the extent to which share buybacks are permissible, but even within those boundaries it has been possible for major US companies to conduct buybacks valued at multiple billions of dollars in the cases of some individual companies and tens of billions collectively in the cases of certain industries.
As the poster boy for this trend, the US airline industry has collectively spent tens of billions on share buybacks.
Given that buybacks are a self-serving means for managers to show that they have achieved “improved per-share performance,” there has naturally been some criticism of this arithmetically enhanced means of generating better per-share results.
Obviously, if a company buys its own shares and then cancels those shares, the remaining shares in issue all become more valuable. The result of fewer shares in issue is a higher per share number for performance metrics, of revenues, earnings and dividends.
But markets have tended to overlook the artificial nature of buybacks and the market prices of companies that have had buybacks have tended to rise. With the corporate mantra in recent decades all about “MSV,” or maximizing shareholder value, the managers of many US companies have been eager to deploy all the management tools at their disposal, including buybacks.
But this has not been the case for many companies in Asia, and in the past four decades some Asian companies have had enviable track records. There are some buybacks in Asia, particularly in recent times, but the scale and purpose have been quite different.
In South Korea, recent buybacks have come not for the purpose of making the senior managements of companies look good on a per share results basis but, rather, simply in order to boost the confidence of investors in the companies at a time of Covid-19 induced stress.
Hyundai Motors Executive Vice Chairman Chung Eui-son recently acquired about a half of 1% of Hyundai Motors’ outstanding shares, according to a 24 March report in the Korea Herald. The same report noted that Chairman Shin Dong-bin of Lotte Group, a major hotel, department store and confectionary group, had also acquired additional small stakes in some of his group’s companies. A number of senior executives of the POSCO Steel Group had purchased small stakes in POSCO Group companies.
The reasoning behind these purchases was not to retire the shares to create a smaller base of existing shares that would then be eligible for a larger dividend payment, or to boost the market price of the shares in an artificial manner, but rather to generate confidence in the companies and their future prospects despite the current global recession.
The idea that Chung, Shin and the other share repurchasing executives in Korea are attempting to promote is “As investors, we’re all in this together” feeling. They’re demonstrating that they are ready, even now, to share risks by joining existing shareholders.
Strings attached
If US airlines are going to tap into the financial support on offer from the US Government, that support will definitely come with strings attached.
Currently, it looks as though US Treasury Secretary Mnuchin has in mind offering the airlines loans at very low rates payable during the first several years – but then as the recovery became more robust several years from now, the annual interest rates would change to market rates for the balance of the loan terms.
An additional return on investment for the US Government beyond repayments of principle and interes will be equity and/or warrants given to the government in exchange for grants and loans.
In addition the airline package requires that the companies eschew buybacks, dividend payments and “excessive executive compensation.”
The ban on buybacks is one means of preventing airlines from using artificial means to boost their stock prices. The ban on dividends, will also prevent airlines from artificially propping up their stock prices by borrowing funds simply for the purpose of enticing dividend-hungry investors to buy the shares.
The net effect of these measures will be to leave the airlines only one primary way to promote investment into their shares. That will be showing (not telling) that the companies are focused on improving their basic businesses. The way to show that is to operate efficiently and begin to earn profits again.
Once they do return to profitability, the US government and other investors will expect to see, before any outsized dividends are paid, that each airline has a disaster recovery plan that includes much more substantial monetary and other reserves than airlines generally maintained on their books previously.
The airline industry’s profitability may continue at low levels for a number of years, but let’s hope the Asian model of absence of share-boosting programs like large scale buybacks and borrowing to pay dividends will become an operating model for companies in all US industries.
Hank Morris has had a career in finance of over 35 years, primarily with UK-related banks and asset management companies. He is on the board of the Seoul Financial Forum, an NGO that promotes the development of the financial sector in Korea.