Thursday, December 10, 2009

Recent Events at NetJets, part 1

NetJets was earning a subpar return on capital when acquired -- the theory being that this would reverse and it would become a "toll bridge" when it built out to scale. This was not a crazy idea, even unBuffettesque. NetJets did have several negatives that deviated from a typical Buffett acquisition. One, it was unionized in an industry where unions have a history of being fractious. Two, Buffett himself had identified the airline industry as subject to chronic irrational competition due to an overabundance of testosterone among players who want to show they have the "right stuff." Three, airlines require constant growth just to break even. As your core fleet ages out, you must replace it with newer planes, even though the planes aren't worn out. The airline business has a pyramid-like quality that is accentuated in a luxury business. Although demographics pointed in NetJets' favor, a global economic disruption could, well, disrupt that.

Why did Buffett depart from his traditional investing practices to invest in NetJets? He had a business rationale that was not entirely off the reservation, but it got a push from several other factors. Here is my very condensed take.