Airlines' undisclosed $15 billion asset
If this is being bankrupt, bring it
For most people, being
bankrupt means having no money.
For most people,
getting government assistance means having no money.
But do different rules apply to airlines?
Bankruptcy is expected to be a
last resort desperate measure of a company that finds its very
And taxpayer aid to a bankrupt
company should only be given (if ever!) after the company has
exhausted every other possible source of funding and way of
United Airlines is both
bankrupt and also receiving $6.6 billion in government funding to
bail out the pension schemes it says it can't afford to make
So you'd assume, wouldn't you,
that United didn't have a single unspent penny, and nothing left
it could sell off without endangering its future survival?
Well, you know what they say
A history lesson - the
airlines' former 'hidden asset'
Many years ago, the then
American Airlines CEO, Bob Crandall, was quoted as saying that
if he had to choose between owning the airline part of AMR's
business or the Sabre computer reservation system part of AMR,
he'd choose Sabre as being the more profitable
Back in those good old days,
before the internet, airlines were rumored to make more money
from their CRS systems than from their actual flight operations.
AA subsequently sold Sabre
and most other airlines have divested themselves of their own
CRS ownership - and a very sensible move this was, too.
New competition from internet based information distribution and
travel booking systems has massively marginalized the one-time
near monopoly (and profits) of the major CRS systems.
The airlines new 'hidden asset'
The latter day cash cow
equivalent of the CRS systems has to be airlines' frequent flier
programs. Why and how are they so profitable?
Simply consider this : The
airlines sell frequent flier miles for 2c or more a mile. It
takes 25,000 miles or more to earn a restricted domestic
roundtrip airfare, which means the airline has received $500 for
the capacity controlled 'bottom dollar' ticket you get in
The airline's cost of flying
you on that roundtrip is probably in the order of $25
(especially now it doesn't have to feed you, or perhaps give you
pretzels, or a pillow or blanket, and limits the weight of your
luggage). There's even a good chance they'll charge you a
'redemption fee' when you go to claim your supposedly free
ticket - the redemption fee may be as much as the $25 cost of
What's more, many miles
never get redeemed, and sit in people's accounts for years
before eventually expiring or being forgotten about.
So - simple equation.
Receive $500 up front. Sit on the $500 for an unknown number of
years, and then, at some future point, offer a flight costing
you $25 (or less if you charge a redemption fee).
See how even an airline can
make a profit with these fundamentals?
Then add to that the
opportunity for other list marketing activities, and you have an
enterprise that, while ostensibly being designed to reward its
members, actually rewards, most of all, the company operating
An unexpected light shines on
these hidden assets
People have often wondered
just how much profit these programs earn their airline owners,
and have also idly speculated what their break-up value would be
if sold off to an unrelated company.
No clear answers have been
available. But on Wednesday 22 June 2005, an interesting
event occurred. Air Canada sold 12.5% of its frequent
flier program (Aeroplan).
this press release describes, the 12.5% slice of Aeroplan
sold for CAD $250 million. This implies a total market
value for Aeroplan of CAD $2 billion. At current exchange
rates, this equates to US$1.6 billion.
Aeroplan has approximately 5
million members, which suggests each member is valued at about
So how much is United's Mileage
Plus program worth?
United is believed to have
more than 45 million members in its Mileage Plus program.
If it is fair to simply
extrapolate from Aeroplan's US$325/member valuation, this would
suggest Mileage Plus is worth right around US$15 billion.
Are United's members worth
more or less than Air Canada's members? That is hard to
accurately answer, because there are both major differences and
some surprising similarities between the two programs, and some
of the differences cancel out some other of the differences.
Aeroplan's 5 million members
represent 16% of Canada's population. United's 45 million
members represent 15% of the US's population. Although
both calculations need to be adjusted for international
membership, it is interesting to see the close match in
A more significant
difference is that in Canada, Air Canada has the very largest
share of the market, whereas in the US, United's share of air
travel is much lower. This might mean United's members are
individually less valuable than in Canada.
On the other hand, another
significant difference is the size of the two airlines.
United is many times larger than Air Canada. This means it
has a more valuable route system and can offer a richer 'bundle
of benefits' to its frequent flier members. This might
mean United's members are more valuable than Air Canada's.
If the airlines were to
fully disclose everything that makes up their frequent flier
programs, it would be easy to more accurately value each
program. But, absent such data, it is perhaps close enough
to say that United's Mileage Plus program might be worth about
$15 billion. It is probably not worth more than $20
billion, but probably is worth more than $5 billion.
An apparent discrepancy
On Thursday 23 June,
United's total market capitalization was only $176 million.
Does this mean that an
investor could simply buy up all United's outstanding shares,
sell the frequent flier program for some billions of dollars,
and then close down the airline and walk away with a huge
Probably not. United's
Mileage Plus program only has value as long as there is a United
to drive the program's ongoing cycle of mileage earning and
And it is also not uncommon
for a company's market capitalization to be lower than its
break-up value if it was simply closed down and sold off.
But - the discrepancy modified
These days, miles are
increasingly earned for non-flying transactions. Maybe you
get one mile for every dollar you spend on your credit card.
Maybe you get five miles for every dollar you spend on long
distance. Maybe you get bonus miles from your supermarket
every time you've added up to $250 worth of grocery purchases.
Maybe you also get miles for hotel stays, for car rentals, or
for flying on different airlines. And so on, and so on.
A frequent flier program
could continue to generate miles even without the actual flight
And the flip side is
increasingly miles are redeemed for non air travel purposes.
Whether it be electronics from a catalog, cruises, travel on a
different airline, or something/anything else, frequent flier
programs these days have become very similar to the trading
stamp type programs of yester-year.
This is not to say that UA's
Mileage Plus program would be a $15 billion value if UA were to
fold. But the valuation of Mileage Plus or any other
frequent flier program is only partially rather than completely
influenced by the underlying strength (or, ahem, weakness) of
the airline sponsoring it.
Where does the $15 billion
appear on United's balance sheet
Here is a
pdf copy of United's 2004 Annual Report. Can you find
any value attributed to their Mileage Plus program?
Let's look first at an
analysis of their $20.7 in total assets. This will show on
either page 31 or 32 of the pdf.
You can see figures for all
sorts of items, but unless the Mileage Plus program is included
in the mere $399 million given for intangibles, or the $831
million of 'other', it doesn't seem to exist under United's
assets at all.
If you keep reading, you'll
come across an even more surprising outcome. On page
25/26, you'll see a discussion about their frequent flier
program which says they've entered an $840 million liability to
allow for the value of future award redemption.
So it seems United values
its Mileage Plus program as being worth a negative $840 million
on its balance sheet, even though it could potentially sell the
program for as much as $15 billion.
Is it any wonder United is
claiming bankruptcy when it values its assets this way?
Is it fair to expect United to
sell Mileage Plus?
No-one is saying United has
to sell all of its Mileage Plus program (indeed, the value of
Mileage Plus is probably greater if only some share of the
operation is sold rather than if the entire business unit was
But if Mileage Plus as a
whole is worth $15 billion, maybe United could sell half for a
quick $7.5 billion in cash and exit its seemingly never-ending,
always extending bankruptcy (and give back most of the $6.6
billion taxpayer bailout).
Here's United sitting on a
$15 billion dollar asset that it could sell some or all of,
without affecting its core business of providing air
transportation. But it declares bankruptcy, and now gets the
government to bail it out of $6.6 billion of pension
liabilities, as if the airline truly was penniless.
Conclusion : Unanswerable - and
Unasked - Questions
How can a company, sitting
on a $15 billion asset, throw itself into Chapter 11, and accept
billions of dollars in government aid due to ostensibly being
unable to meet its obligations?
Let's not forget all the
other ways that United is breaking contracts under the excuse of
bankruptcy. It isn't just taxpayers who are suffering.
Suppliers large and small are finding they can no longer count
on contracts formerly entered into in good faith to be honored.
Is it fair to expect United
to sell some of all of Mileage Plus? Yes.
It is certainly a lot fairer
to expect that than to expect taxpayers, present and retired
employees, and suppliers in general to carry the costs of this
'bankruptcy' (how can an airline be bankrupt when it still has
$2.2 billion in cash as of 31 Dec 2004?).
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24 Jun 2005, last update
20 Jul 2020
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