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Bolts From The Blue

A well-run business will generally anticipate that a few bumps will arise along the way. But sometimes instead of hitting a bump, a company runs into a wall.

So it is with Malaysia Airlines. The company had struggled financially prior to 2014, and while it is publicly traded, a state-controlled investment fund is the majority shareholder, making the airline’s future a political issue as well as a commercial one. But after the disappearance of Flight 370 in March, the airline’s parent company, Khazanah Nasional Bhd., estimated that Malaysia Airlines had only enough funds to limp to the end of the year.

Then, last week, Flight 17 from Amsterdam was shot down over eastern Ukraine.

Now the airline has lost two planes since the beginning of the year, and 537 lives have been lost in the process. No business plan could have prevented either disaster. Malaysia Airlines did not direct Flight 370 out into the South Pacific, and it certainly didn’t shoot down Flight 17 over Ukraine, though it is fair to second-guess the decision by Malaysia Airlines and others to continue flying over the Ukrainian war zone, even as more-circumspect competitors such as British Airways and Air France took longer routes to avoid the region. Still, such tragedies could have befallen any airline. They just happened to hit this one.

This is a classic example of why financial advisers tell people to diversify. You should never invest most of your liquid funds in any one company, no matter how great an investment it seems or how well it has performed in the past.

Take BP, for example. A major accident in the Gulf of Mexico has cost it over $26 billion as of this May, as well as reams of bad press. In BP’s case, while the company continues to struggle with the ongoing fallout from the accident, it is big enough and wealthy enough to survive. Malaysia Airlines may not, at least not in its current form. Options under consideration range from taking the company private to bankruptcy, according to Bloomberg.

Other airlines have toppled due to a variety of factors. National airline Swissair, once known as “the Flying Bank” due to its financial stability, was grounded in 2001 and later liquidated due to massive debt resulting from a cash flow crisis that was exacerbated by the 9/11 attacks’ effect on the industry. Formerly dominant Pan American went bankrupt in 1991, after the already struggling airline faced spiking fuel costs triggered by the first Gulf War, among other issues.

Of course, formerly profitable companies can also falter due to less extreme, but equally unforeseen, circumstances. New technology can strike a fatal blow, as happened to Blockbuster, Kodak and Borders, among many others. Or the company’s own error can cause a disaster, whether through a faulty product (the infamous Bridgestone tire recall led to $350 million in losses), a poorly planned marketing campaign (Hoover’s 1992 promotion promising free flights led the company to spend years mired in claims and cost the appliance company about $90 million) or simple human error (a trading mistake at Knight Capital Group nearly brought down the firm overnight and led to its acquisition by another firm a few months later).

Good management and solid operating principles can sometimes help companies survive these bolts from the blue, but random extreme events can have a devastating impact on shareholder value, even when the business survives long enough to recover.

Investors may delude themselves into thinking that, because a concentrated investment in a company has performed well so far, they are best served by continuing to hold it. They often take a huge gamble on their own financial security by thinking this way. A properly diversified portfolio may take a hit if a company suffers an unforeseen misfortune, but that loss can be cushioned or even counterbalanced by stable and profitable investments in unaffected companies and sectors. Overconcentrated positions, even in strong companies, leave investors exposed.

Bolts from the blue do not happen often, but when they do, they happen unpredictably. You never want to have too much of your wealth sitting where one happens to strike.

Larry M. Elkin is the founder and president of Palisades Hudson, and is based out of Palisades Hudson’s Fort Lauderdale, Florida headquarters. He wrote several of the chapters in the firm’s book, Looking Ahead: Life, Family, Wealth and Business After 55. His contributions include Chapter 1, “Looking Ahead When Youth Is Behind Us” and Chapter 4, “The Family Business."

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