Warren Buffett Lost Over $1 Billion on the Airlines, Basic Economy Passengers Have it Worse

I’ve contended that the business model of the major US airlines is broken. Traditionally businesses work to try to deliver the best possible product at the lowest possible price. United, Delta, and American are working hard to make their products worse in order to get customers to pay more money to avoid it.

To the extent it works it all it’s because consumers lack options, airlines are so heavily regulated that there’s little room to compete on anything other than price. And government protects airlines from new entrants that might make things better.

Even so airline stocks aren’t good growth investments. US airlines are buying back shares because they don’t have productive uses to deploy capital profitably. Even though Doug Parker says American Airlines will never lose money again Doug Parker ain’t E.F. Hutton.

When I predicted that United Airlines would lose money rolling out Basic Economy — offering less to consumers at the same price than other airlines were offering — several commenters told me I didn’t know what I was talking about. United lost hundreds of millions of dollars. And Warren Buffett lost over a billion dollars last quarter on his airline investments.

United will continue with Basic Economy, albeit no longer doing some stupid things like requiring a buy up to people paying $1000 one way fares in order to select a seat, because American is willing to play the Greater Fool and stop offering better value to customers. We’ll see if that’s enough, Southwest, JetBlue, and Alaska still offer more at the same price as United.

Warren Buffet once famously said,

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.

Later this month American Airlines will launch service with its Boeing 737 MAX aircraft, featuring the tightest seating ever offered by a major US airline in economy. They assure that we won’t feel the reduced room because seats will have less padding, offsetting leg room. And we’ll have more space at shoulder height too because of the lack of inflight entertainment screens. Other passengers won’t be leaning into your space as much either, because the seats recline less.

Warren Buffett recovered from his once upon a time investment in US Air debt long enough to invest in the airlines again. But his recent investment in major airlines, having lost over a billion dollars last quarter, is not at this point proof that they’re good investments, or validation that their managements are running good businesses.

About Gary Leff

Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community InsideFlyer.com, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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  1. I just read the Buffett book and his mantra is investing in companies with great management. Seems even the great Oracle has either run out of well run companies or he’s lost his mind.

  2. It may take a lifelong economy passenger and savvy shopper to realize truly the damage that has been done by the Parker et al planewrecking crew.

    They have no idea how betrayed we feel and how deeply hated they are. I would not fly on these scumbag torturers if they offered me free status to get better seats as they’re now tripping over themselves to do since I cut off monthly spending on them with a vengeance.

    This is all of a piece with the greed hog grunting we see spread across our news coverage lately as an entire party supported by idiot dupes tries once again to take away their idiots health care coverage to give it over entirely to the rich. In any other country, they wouldnt’ be able to show their faces in public without being chased down the street. In Germany which is a much better economic engine than ours, when reps voted to barely cut health care they were made to stand up in their churches and publicly hissed at until they left with their heads hung in shame.

    The problem is that the US no longer has any shame. It’s 700 pound Buford stickin it to the libruls to get even for the Civil War, while his shifty-eyed elected Rep cons him out of his health care and higher taxes to give it all to the rich.

  3. YOU may not like the US airline business model, but the reality is that the major US airlines are now some of the most profitable companies in America. Warren Buffett may have lost money on his airline stocks LAST quarter, but they’re rallying again nicely, and Buffett’s airline bet from last year is still amazingly profitable. Saying somebody “lost a billion” after making $3 billion in a year is a bit deceptive, no? Anyone who’s bought a major airline stock in what I’d describe as the “modern era” (anything after 9/11/01) and held that investment for a couple years has done remarkably well. And there’s nothing to suggest that era is coming to a close. People like you still seem to underestimate the earnings power of these companies going forward (often because they don’t particularly enjoy the product and fail to appreciate the business model), so their price to earnings multiples are far below market averages. As long as there’s not a major war or pandemic, the above average returns for airline investors are likely to continue. In the short term, however (like a quarter), it’s just gambling.

  4. @Greg “The problem is that the US no longer has any shame. It’s 700 pound Buford stickin it to the libruls to get even for the Civil War, while his shifty-eyed elected Rep cons him out of his health care ”

    Not sure what this has to do with a quarterly pimple on Warren Buffett’s ass, but I like it.

  5. @iahphx profits are entirely driven by frequent flyer programs and if you believe the airline accounting, they make zero money actually transporting people.

    Stocks will make up their ground, but that’s the point, this isn’t a buy and hold for the long term play US airlines are a trading play.

    US airlines are valued at a low multiple not because the market is just wrong and it’ll somehow rise but because the market doesn’t see continued earnings growth, earnings are more likely to shrink than to grow, and indeed that’s what’s been happening.

  6. @Gary_Leff:

    You aren’t still peddling this nonsense about Basic Economy are you? You peddled economic nonsense about it in your original article about United’s product and now you are simply ignoring the corrections.

    1) Basic Economy is cheaper to provide than regular coach;
    2) Competition forces prices down to cost almost immediately. It was United’s miscalculation of that which led to their losses on the change;
    3) Basic Economy is Future Economy. Look at Europe. The reason is that Basic Economy is what 90% of people want (i.e. the lowest price);

    You correctly made the point that Gary Leff does not like Basic Economy.

  7. @achalk – Basic Economy is not cheaper to provide. In fact at United — where they require you to check in with a live person if not checking a bag — it’s more expensive.

  8. Providing less, but doing so at a higher cost? You didn’t mean to say that right? You have just removed the incentive for airlines to have Basic Economy. What you say makes no economic sense.

  9. “Anyone who’s bought a major airline stock in what I’d describe as the “modern era” (anything after 9/11/01) and held that investment for a couple years has done remarkably well.”
    Didn’t all the Big 3 go BK sometime between 9/11 and now(thinking ’05 or ’06) only to resurrect with new stockholders?
    Sure, the latest iteration of stockholders have done relatively well, but if anyone owned DAL, UAL or AA after 9/11 got wiped out.
    Owning airline stocks is a trade, not an “investment”. In other words, you buy them to sell them.

  10. @Geoff — You are correct, I misspoke. SOME (but not all) of the people who bought the wrong airlines stocks immediately after 9/11 and never made any further investments in the sector lost money. The correct year for the modern era would be 2005.

    The only airline I bought between 2001 and 2005 (the start of consolidation and the modern airline era) was America West (AWA). I paid $1 to $3/share. That stock is now one-for-one, AAL (American Airlines), worth about $48/share. While perhaps I should have bought Amazon or Apple, I have no complaints. But it’s why I have little patience with folks who INSIST that the US airlines don’t have a profitable, sustainable business model. I’ve heard this now for more than 15 years, as the profits went from negative numbers to billions. The only greater foolishness was the folks who INSISTED that we were at “peak oil” a decade ago. They at least have skulked away.

  11. The stock market is a voting machine. Prices are going to fluctuate according to emotion and sentiment especially from quarter to quarter, even more so given the cyclical nature of these businesses. I bet most of Warren’s investments were underwater at some point – he didn’t get to where he is today by trying to catch the bottom on everything. It’s no secret that he is struggling to find good investments hence the $100 billion in cash piling up within BRK. I doubt he cares much about stock price declines on such small positions, especially when they have 20+% EBITDA and operating cash flow yields. In fact if the price drops too far, I wouldn’t be totally surprised if he tries to buy one entirely just like he did with the cash gushing BNSF railroad.

    Valuation wise, airlines are some of the cheapest and least loved stocks. Consolidation has left them as mini monopolies out of their respective hubs – this gives them moats. They are in a better position in terms of labour agreements, fleet and fuel cost then they have been in recent decades and they are flowing enough cash to cover their market caps every 4-5 years. They will keep trying to find ways to monetize through changes to fee structure, add-ons, frequent flier programmes. Some things will work and some things won’t. That’s business.

    Airlines will always be cyclical to some extent but I think they’ve positioned themselves to better manage the peaks and troughs which makes them better businesses now and worthy of higher ratings than during the BK times.

    Disclosure: No airline positions currently (would love to see a smackdown) but did over the past few years own Westjet, Air Canada, American, and DAL!

  12. “the reason airlines are offering basic economy is to encourage some passengers to spend more to avoid it.”

    Well, they’ve succeeded in encouraging me to spend more to avoid economy entirely.
    But, as could be expected, the first class offering isn’t all that great.

    Where now? I’d certainly pay more for a better first class product.

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