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After 9/11, the airlines that recovered best broke with Wall St.'s conventional wisdom, as financial reserves proved key to recovery

August 1, 2004

For more information, contact: Benjamin Haimowitz, HHaimowitz@aol.com

The devastating decline in air passengers caused by the terrorist attacks of 9/11 posed a huge challenge to the country's airlines, one that led an industry observer to comment that, "if there was ever a stress test for a good business, this is it."

What enabled some airlines to recover a lot better than others? A study presented on August 10 at the 2004 annual meeting of the Academy of Management in New Orleans, identifies two critical factors that made the difference -- 1) the ability to maintain good employee relationships by avoiding major layoffs; and 2) the existence of company financial reserves, engendered by low debt and high levels of cash on hand, without which major layoffs would have been, if not necessary, exceedingly difficult to forego.

Yet, those very financial reserves, so basic to companies' resilience, were a consistent sore point with Wall St. analysts, according to the study's authors, Jody Hoffer Gittell of Brandeis University and Kim Cameron and Sandy G. P. Lim of the University of Michigan.

For example, analysts had earlier criticized Southwest Airlines' "conservative" approach to finance and argued that the airline should use its extra cash to make acquisitions or buy stock." One analyst called the balance sheet "too strong," even while conceding "that when times are tough, they have a lot more flexibility." In fact, Southwest did make the strongest recovery from 9/11 of any of the country's nine major airlines.

Why should something as ostensibly desirable as a strong balance sheet be viewed with disfavor? An investment summary from Goldman Sachs explained: "When an airline with a strong balance sheet suffers, the shareholder absorbs the risk, but when an airline with a weak balance sheet suffers, other stakeholders (creditors, employees, local government and suppliers) share the risk."

"In other words," the study's authors add with something akin to disbelief, "high debt levels are argued to be beneficial not in spite of the fact that they force organizations to break their commitments in times of crisis, but rather because they allow organizations to break their commitments in times of crisis."

In their analysis of the response of the country's nine major airlines to 9/11, the professors find a strong inverse relationship between the percentage of employees laid off following the terrorist attacks and the recovery of companies' stock price in the post-attack period. In other words, the greater the percentage of layoffs, the smaller the likelihood of the stock's recovery to the level of Sept. 10, 2001. They also find a strong association between high company debt and high layoffs.

The findings, the authors conclude, suggests the weakness of the Wall St. conventional wisdom whereby "corporate leaders were encouraged to rid their organizations of financial reserves, with the promise that this would make them efficient, lean, and more accountable to shareholders. The fact that there would be few reserves in place to preserve relationships and commitments in the face of crises, and that a decline in organizational resilience was the risk, is the often-neglected aspect of that [strategy]."

The Academy of Management, founded in 1936, is the largest organization in the world devoted to management research and teaching. It has about 15,000 members in 90 countries, including some 10,000 in the United States. The academy's 2004 annual meeting drew some 7,000 scholars and practitioners to New Orleans for more than 1,000 sessions on a host of issues relating to corporate organization, the workplace, technology development, and other management-related subjects.

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