Buffett Gets it Right Again… About Airlines

Around 10 years ago, Warren Buffett said that he would never put money into airline stocks again, especially after his $358 million mistake when purchasing shares in US Airways Group Inc. Investors betting on Asian airlines should pay close attention to Warren Buffett’s advice.

Over the past five years, six of the 10 IPOs of Asian airlines are trading below their initial sale prices, according to Bloomberg data. Just recently, Bangkok Airways Co. fell 12% on its debut in trading to join this list. They raised $494 million last month as part of the offering.

Airlines in Asia have not been able to capitalize on the huge surge in passenger numbers. In the last decade, a dozen new carriers have pushed the overall industry toward overcapacity. Overall, the 10 airlines that have dropped by an average of 12% from their initial offering levels have combined to lose a total of $1.8 billion in the past year.

“There’s too much competition in the airline industry,” said Alan Richardson. He is an investment manager at Samsung Asset Management Co. based out of Hong Kong. And previously, he has lost money purchasing shares in Nok Airlines PCL in Thailand. He chose not to invest in the Bangkok Air IPO. “Until you get a shift in the demand / supply, you won’t get any meaningful leverage in these asset heavy companies.”

Increasing urbanization in Asia, along with the growing middle class, are the reasons why travel demands are rising. Throughout the continent, new airlines are popping up everywhere including Peach Aviation LTD in Japan and Vanilla Air Inc., as well as budget carriers in India started by cookie makers, travel agency owners and property tycoons.

Growth Is Surging

This is in direct contrast to the mature markets of Europe and the United States, where overcapacity has already led to fewer carriers and consolidation for plane makers to sell to.

Over the next 20 years, about 50% of the growth in air traffic will revolve around Asian routes according to Randy Tinseth, Boeing marketing chief. Airlines in the region will require 12,820 more aircraft, or to look at in another way, add 36% to the total globally, he said in February. His competitors put the number at around 11,000 planes.

“Airlines are not good investments,” said Shukor Yusof, founder of Endau Analytics, an industry consultant. “It never was even at the best of times. That’s why Warren Buffett has stayed away from it. It’s a very cyclical industry.”

Bangkok Air is looking to take advantage of the up cycle in air traffic, as the oldest private carrier in Thailand. This company has received orders for over one and a half times the amount of stock that it has offered in the initial public offering. The sale price was initially set at 25 baht, which is the midpoint range of 23 to 27 baht per share.

Orders for More Planes

By the close of trading in Bangkok today, the share price dropped to 22 baht. This is the worst debut performance in the entire country this year, where 114 million shares changed hands based on information compiled by Bloomberg. The benchmark index of the country dropped by 0.3%.

Bangkok Air intends to use the money from the IPO to purchase 18 new planes, which will create tremendous competition for rivals in the region including Singapore Airlines and Thai Airways International. This new competition will also hurt Qantas Airways LTD, the biggest carrier in Australia, which is taking measures including cutting the weight of planes in order to create a profit.

In Thailand, the last airline share sale lost money for the investors. A budget carrier controlled by Thai Airways, Nok Air, is currently 45% below its initial public offering price last year of 26 baht.

“There’s always risks investing in airlines,” said Richardson of Samsung Asset. He bought the shares of the carrier, which he tells us ended up being “a value trap” and “a mistake.”

Richardson chose not to participate in the initial public offering of Bangkok Air because “I can probably buy cheaper six months later when all the euphoria would have faded,” he said.

In March of 2001, the billionaire chair of Berkshire Hathaway, Warren Buffett, said that he’s never investing in airline stocks again after the “mistake” of purchasing US Airways.

“Now if I get the urge to invest in airlines, I call an 800 number, and I say: ‘Hello, my name is Warren, and I’m not an air-o-holic,’” said Buffett. “Sometimes, it takes them 10 minutes to talk me out of it, sometimes more.”

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