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Companies and analysts routinely model how they would fare should a disaster occur, stress testing to see how they would react to formulate a plan — just in case.
In United Airlines’ (UAL) earnings call Thursday, the company showed just how flawed some of these models can be.
Outlining the company’s losses — an adjusted pretax loss of $2.6 billion for a full-year loss of $9.9 billion — CFO Gerald Laderman pointed out that things were worse than they had imagined. The stock fell around 7% on the earnings announcement.
“Before COVID, we modeled our worst-case scenarios based on the financial impact of 9/11, followed by a recession,” Laderman said on the call. “It turns out we weren't even close.”
Scott J. Kirby, the CEO, said on the call that one of the airline’s significant accomplishments was “being the first airline to recognize the potential severity of COVID-19,” but it was in a tough spot as it tried to minimize cash burn when passengers stopped flying.
Though there is a light at the end of the tunnel, Kirby said the pandemic has changed airlines forever.
“As we recover from this crisis, we've stopped using the term ‘return to normal’ because it creates an environment where it's just too easy to go back to doing what we were doing before,” he said. “Instead, we want to focus on a return-to-new approach that applies to a wide variety of goals. When this is over, our employees, customers, the general public and shareholders will see a new United Airlines.”
One of those will be how the company manages risk. People who study risk and so-called black swans, a term coined by polymath Nicholas Nassim Taleb that refers to rare events that have an outsize impact, see predicting hugely impactful events is next to impossible. Instead, these risk experts prefer generalized ruggedness to shock, steeling against a wide variety of events without the need to predict them. (Many people have predicted, expected, and warned of these scenarios, including Bill Gates, so plenty of people argue that this was a risk factor companies should have been prepared for.)
“Going forward, we will focus on being ready for sustained destruction of global air travel demand like we are seeing today,” said Laderman.
As the company bled bookings and revenue, “managing liquidity and cash flow became far more important than any other financial metric,” Laderman said, and that these hardship lessons led to some new takeaways for future crises.
Shoring up a strong balance sheet will be paramount as the company gets back to profitability, Laderman said, and maintaining speed and flexibility through liquidity and debt reduction will be priority. The process will take years, however: the company doesn’t expect Q1 2021 to be much better than Q4 2020. Most airlines are in similarly tough times, as miniscule demand has led to fleets of grounded planes and the need for cutting expenses. (Norwegian has even stopped its long-haul service.)
“This crisis has afforded us a number of valuable lessons about the balance sheet and capital allocation,” Laderman said. “We expect to establish a higher minimum liquidity target than before the crisis.”
The full autopsy of company responses won’t be ready for a long time, but the events of 2020 and 2021 will provide data from which to draw new plans and models, such as which assets are available to struggling companies as collateral, Laderman pointed out. But the next crisis may take a starkly different form than the coronavirus pandemic and any preparations won’t be truly tested until they’re tested.