The Economy

A billion dollars is certainly much for a company of that size. Southwest Airlines doesn't earn a billion dollars a year. Not last year. Not this year, when they report the full year. So it's fantasy to talk about them "reinvesting" in infrastructure or a billion dollar price tag not being much. Reinvesting what? It's like someone earning $100K a year talking about "reinvesting" $150K.

The stock buybacks the company has done have come from borrowing. Billions of dollars of debt that was only available because of a central bank distorting the lending markets for a really long time. It's not just the story of Southwest, it's the story of a lot of misallocated capital that has gone to things like stock buybacks and dividends. And it's really a false choice (if you look at it rationally) to turn it into "stock buybacks" vs. "capital improvements," because they (just as everyone else has) have simply responded to the insane incentives that they have been presented with, and on no planet would spending a billion dollars have made sense from a return-on-investment point of view.

In real terms, the incentive being dangled in front of companies was money that was cheaper than free and readily available (the market can't calibrate risk when the price of money is being price fixed). In freely trading debt markets, not only wouldn't have those billions of dollars been available to the company in the first place (the idiots who created that environment introduced moral hazard where the risk is shifted from the lender to everyone else, which destroys all lending standards), the company would not have borrowed that much without the risk being implicitly shifted from them to others. But with money being made cheaper than free, they responded the way almost everyone has. ... they took the "free money" and the company's owners pocketed it. The reason they didn't borrow and sink what they borrowed into operations is because there wouldn't have been any return on the investment. It's a fantasy to act like they could have spent a billion dollars (that they don't have) on their business and it paying them back in growth anytime soon. It's precisely why the rationale for disorting the lending markets in the first place -- it's "stimulus"! -- is so misguided. You can make the money available for nothing (and people will gladly take it and put it in their pockets), but unless an investment is going to spur incremental demand that is going to create an even bigger return on investment, it's actually irrational to use the "free money" that way. You are guaranteeing the money gets allocated in a bad way, which is what happened.

 

They aren't spreading it out over 20 years. The billion dollars they are talking about is in the coming years' operating plan. It's going to kill the company, but they have no choice at this point. They can either plow on debt to try to fix a mess or they are risking their company's downhill spiral quickening.

 

I mean, it seems clear that they "should have" . ... because of the damage to their business.

But there are a host of other "should haves" they maybe they could have done instead, too. Maybe if it hadn't done the AirTran acquisition, or if they hadn't expanded into Reagan and Laguardia, or if they hadn't expanded from Dallas and added a lot of new routes. ... their systems would not have outgrown the business (i.e. -- they tried to grow too much, too fast).

The kind of spending you are talking about may not have been supported by the operating income they generated regardless, in which case the "should have" could very well be. ... that it's just not a viable business and there would have been no sense in putting themselves into debt to spend money that wasn't going to generate any return.

Where you really lost me, was on the buybacks vs. capital improvements thing. I was just trying to make the point that we have been in a decade and a half very distorted environment in which as a matter of stupid policy, our debt markets were distorted to dangle "free money" in front of businesses. They gobbled it up. If you were an owner of Southwest, your choices likely looked like: 1) Pocket the money, or 2) spend it in a way in which the return on capital in the economic and business environment they were operating in, didn't look nearly as attractive as just pocketing it.

 

You think that. ... "they" can handle a billion dollars in spending on $977 million of income, eh?

Thing is. ... You aren't an owner of the company. If you were, perhaps you are the kind of business owner who doesn't really care about things like earning a profit and seeing your ownership stake appreciate in value or about seeing a return on your investment. That's not the reason most people invest their capital, though.

 

"Investment" isn't some catch-all that necessarily creates magic.

If you own a store that generates limited business, has competition, etc. ... investing in the business doesn't mean you are ever going to make back that money. Your business might be doomed, but it's not necessarily the fact that you didn't spend the money that doomed it. And if there was not going to be a good return on investment for having spent the money, yeah, you actually end up better off not doing it. ... even when others are Monday Morning Quarterbacking what you should have done because the business starts to fail.

I honestly don't know if that is the case with Southwest. But I do know that a billion dollars of spending in a company that not only isn't growing earnings, but earns a fraction of what it was earning just a decade ago, is not going to be insignificant to its owners who are looking to. ... make money, not run a public utility based on what people without skin in the game think they can afford.

At a certain point, Southwest found it difficult to grow the value of the company by growing the business' operations. That is just a fact. They have clearly floundered in trying to find direction for the business, spinning their wheels and making some really bad decisions. ... but I am fairly certain it was not as simple, "If only they had spent on such and such."

Honestly, the owners of the company almost certainly made more money by controlling costs and using an artificial cheap-money environment to do financial engineering that drove up the stock price, than they were ever going to make trying to compete as an airline. It's been a really crummy industry to be in -- even companies that are better run than Southwest at this point -- if you are trying to actually grow earnings.