An associate editor of the Financial Times (and CNN global economic analyst) wrote on Sunday about Southwest Airlines’ operational challenges as an allegory for capitalism. And what usually happens when someone writes about the airline industry to score points, without actually knowing very much about the airline industry, is that they get their facts wrong. And as a result their attempt to spin it into a broader tale about capitalism falls flat.
In a piece entitled, “Hyper-efficiency is bad business: Southwest shows management by numbers has gone too far” they could have simply said that Southwest Airlines underinvested in technology. That’s true, as the once-small airline grew larger than its infrastructure really allowed. But the first canard – mixed with factual error – is to mix that that fuel hedging and stock buybacks.
But in 2004, when Gary Kelly took the helm, employees (who were subsequently called “cost units”) took a back seat to capital management. Kelly financialised operations with a fuel-hedging programme, and focused everyone’s attention on increasing return on invested capital. Why pour money into updating technology systems, when you could do more share buybacks instead?
First of all, Southwest didn’t begin hedging fuel under Gary Kelly’s tenure as CEO. It started when Herb Kelleher was CEO, in 1994.
By the way Southwest was first to institute an e-ticket system, a technology investment advocated by CFO Kelly. And they’ve saved more from fuel hedges than they paid out in stock buybacks.
More importantly the buybacks didn’t prevent Southwest from investing in technology.
- Other airlines spent more on buybacks than Southwest. Between 2014 through 2019, American Airlines spent over $12 billion and Delta $15.3 billion in dividends and buybacks.
- Even after the buybacks Southwest could have invested more in tech. They had the strongest balance sheet of any airline heading into the pandemic.
Southwest Airlines co-founder Herb Kelleher is usually a hero in these stories, contrasted with ‘bean counters’. However Kelleher was famously cheap. Southwest became known for serving peanuts as a free snack under Kelleher’s leadership, and peanuts stood for how frugal the airline was: other airlines served meals while Southwest served just peanuts. At the time some Southwest executives felt they would need to increase their investment in inflight food. However Kelleher shot that down, “Do you know what the difference in cost is between peanuts and Snickers?”
The author tries to pivot from Southwest to dumping every complaint about corporate America together,
Consider the rise and fall of Jack Welch, the former chief executive of General Electric who turned the manufacturing company into a too-big-to-fail financial institution. Or the cost-cutting that led to crises such as the Boeing 737 Max crash, Pacific Gas & Electric equipment which caused wildfires in California, and the General Motors ignition switch recall.
Jack Welch retired over 20 years ago. And far from driving shareholder value, post-Welch GE spiraled into irrelevance. It was not, in fact, ‘too-big-to-fail’ rather it largely failed. (And too big to fail is usually a complaint about corporatism, government’s kowtowing to big business, rather than to a market unfettered by government involvement.)
I don’t think you can ask a reader unfamiliar with the details of GE, or of Boeing, to ‘consider’ them without actually discussing them. Here they’re merely throwaway lines.
The crashes of two 737 MAXs was a tragedy and there were design mistakes that Boeing made in its quest for cockpit commonality with earlier versions of the aircraft in order to make it attractive to airlines. But angle of attack disagreement isn’t something that happened often. For instance, American Airlines never had a single issue with trim or angle of attack in over 7000 flights before the plane was grounded, and never had angle of attack issues in over 700,000 hours of Boeing 737-800 flying and it’s the same part.
In contrast, in the Lion Air crash a faulty aftermarket angle of attack sensor was used, maintenance issues went unreported, and pilots were poorly trained. That accident would never have happened in the U.S. though it’s U.S. business processes that’s being critiqued.
They’re not trying to make a point about Southwest. They’re trying to use the Southwest meltdown to make a point, to advance their own agenda, which is to critique ‘financial capitalism’.
Certainly, this type of management brought prices down after airlines were deregulated in the late 1970s, and introduced new, low-cost competitors. But it also increased concentration (just four airlines own 80 per cent of the US business), exported repair jobs to less well-regulated countries like El Salvador, Mexico and China, and led to lower salaries and higher workloads for airline employees.
The term they use financial capitalism generally refers to seeking profit from trading stocks and other financial products, essentially expecting a return on investment (though sometimes the implication is a ‘quick buck’).
However the analysis offered here simply doesn’t match what happened in the airline industry.
- It’s supposed to have meant fewer jobs (from outsourcing) but there are more people were employed by airlines in the U.S. than before prices fell and flying expanded.
- There has been concentration since deregulation, but the author admits it’s led to lower prices, not higher prices, so it’s been good for consumers.
- And the reference to repair work moving to ‘less well-regulated’ is meant to be scary without citing any actual data. In fact flying has gotten safer!
- Meanwhile the implication is that workers are harmed while investors get rich, but this only works if we ignore the workers who actually benefit (who are in fact poorer, and more morally deserving under this framework).
Southwest has made big investments in technology over the last several years, but they haven’t done enough and they haven’t done it fast enough. They shed employees during the pandemic, and while they’ve rebuilt their workforce many of those people (~ 18%) are new in the last year, so context has been lost. That’s a result of the pandemic.
A confluence of events, from weather to staffing to technology, combined to drive the meltdown which will cost Southwest more than more investment would have, in other words it’s a story of management error more than greed. Management lost free cashflow rather than increasing it.
Ultimately Southwest underinvested in technology because, while they knew they needed to get better, there was little pressure to do so let alone quickly. They’ve been easily one of the best airlines for employees, shareholders, and customers which is why they’ve grown to carry more domestic airlines than competitors. The problem isn’t consolidation but lack of competition (here, not the same thing!). Prices have been going down since deregulation so consolidation isn’t the problem. But airlines are a heavily regulated sclerotic business which limits innovation. Everyone does basically the same thing with variation only at the margin. There wasn’t real pressure on Southwest.. until now.
The meltdown was a tragedy for people whose holidays were ruined, but it’s not an easy story about industry consolidation (this didn’t happen because Southwest bought AirTran) or ‘financial capitalism’ (Southwest was the story of a company that’s highly unionized with a great culture). Trying to make it an allegory for a hobby horse doesn’t work when the facts aren’t there.