Acquired - Acquired Episode 10- Virgin America

0:00Let's just see what episode this is gonna be. 10. 10. Easy. Welcome to episode 10 of Acquired, the podcast where we talk about technology acquisitions that actually went well. I am Ben Gilbert. I'm David Rosenthal. And we are your hosts.

0:35Today, we come to you with an acquisition that is actually not a technology acquisition, but something that David and I were inclined to talk about anyway, because we both sort of have a little romantic fascination with anything involving airplanes, and this is particularly interesting. Today, we're going to be talking about Alaska Airlines acquiring Virgin America right here on our own backyard in Seattle. Before we get into the acquisition history in facts, wanted to remind you that you can sign up now at acquired FM to get our episodes delivered via email. We also would really really really appreciate it if you could rate us an iTunes. It'll help us grow the show and expand what we can do with it from productions to new topics and guests. All right listeners. Now is a great time to talk about a new partner of ours here on acquired.

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3:53Listeners, let us know what you think. We're not changing the topic of the show, but we thought we'd have some fun and analyze a very different industry than technology. Yeah, and not to mention the fact that, you know, it's not a tech acquisition. There is technology involved, but the way we're kind of breaking the mold on this one, too, is this just happened last month. It's not like, or this month, actually. A couple weeks ago. Yeah, so this is something where it's going to be highly speculative.

4:22But I think it's going to be a fun ride. All right, with that. So Virgin America was actually founded in 2004 by Richard Branson. And then had to go through a whole series of machinations to end up finally launching their airline service in the US, not until 2007. And over those three years, a whole bunch of things happen.

4:50So one, it turns out that due to some crazy laws, US domestic airlines cannot have foreign ownership greater than 25% of the company. Crazy. Crazy. So Branson and Virgin had to basically sell off 75% of the company before they could even have a hope of operating.

5:16Wild and I think at that point when they were first starting it was virgin USA even then they they rebranded it was later that they rebranded the virgin America so Branson sells 75% of the company to a couple hedge funds and licenses The virgin brand to virgin America so that virgin America doesn't even own virgin that's painted on their own airplanes Yep, and there was talk at various points in time about ditching virgin the name with that help get regulatory approval earlier faster craziness. Anyway, they finally clear all the regulatory hurdles. They buy some aircraft. They start operations in San Francisco with SFO as their hub. They launch in 2007. Things go fairly well. They don't die at least like a lot of startup airlines and they actually have some major kind of technology-related innovations. So in 2009,

6:14Virgin actually becomes the first airline to offer go-go in plate wireless to invite Wi-Fi Which is that's hard to imagine now, you know take it as as Louis CK says is magic and as the newest thing I know that exists I Still I hate it when I am now the random, you know rare times when you end up on a plane without Wi-Fi Sorry, they also are the first airline To I believe to install in flight and seat back Interactive touch screens for everybody all throughout the whole plane Not to mention purple after glow light not to mention nightclub inspired For our listeners who haven't flown Virgin America, they're probably gonna have no idea what we're talking about, but yeah, I guess it's good

7:09pretty West Coast. I think anybody listening to the Bay Area has definitely flown it since they're hubbed out of SFO. So the Virgin actually ends up going public having an IPO in November 2014. And then not that long later, we're about 18 months since then, a bidding war erupts for the company between Alaska, which ended up buying them, and had been interested and rumored to be interested in the company in Virgin for for a long time and jet blue and and then Monday morning April 4th Alaska announces that they have agreed to acquire virgin for 2.6 billion dollars which was a 47% premium to the stock's closing the the virgin stocks closing price the previous Friday and about an 80% premium to where the stock was before rumors came out that a bidding war was happening yeah and this is the first red flag for me

8:07I mean, I think that, um, basically a massive premium. Yeah. Yeah. Anytime you see a spike like that, you start to dig into why. And I think we'll talk a little bit more about the way the industry has shifted. But with all the consolidation, the only way that, um, you know, an airline can really compete with the big guys is to be big themselves and the big guys being United Delta.

8:34American and Southwest and so you know, which itself started as a little guy Very true. I think that's that's like the typical low-end disruption case study. Yeah, they're really that's that's a great business and a really interesting story on its own Yeah, but I mean that clearly Alaska in in trying to compete there's there's a limited number of airlines that it could buy and JetBlue clearly identified the same opportunity and the results is very very insulated purchase. Yep So when the dust clears and all is said and done Basically the total enterprise value of the deal ends up being about four billion dollars If you include the debt and the aircraft leases that Virgin had which is fascinating because normally when we talk about these acquisitions we would say a two point six billion dollar purchase You know in cash and stock or maybe an all stock deal. This was an all cash two point six billion dollar purchase

9:29plus taking on that $1.4 billion of leases on airplanes and debt. And what a ridiculous capital intensive high fixed cost industry air travel is. That's four Instagram's been. Wow. And then perhaps the craziest part about this deal is again relative to the technology sector. So it was announced a couple weeks ago on April 4th, 2016.

9:54not expected to close until early 2017 at the latest huge amount of regulatory review that has to still has to happen here and we've actually seen precedent I think in the American Airlines US Air Emerger where there was regulatory troubles and it almost don't go through and the government extracted huge concessions from from those two airlines when they merged So we may be doing a follow-up in some point in the future if by 2017 we don't see a joined airline here. And our listeners don't revolt against us for talking about airlines. It's true. The other really interesting thing here is in just talking about the deal price, Alaska Airlines does not have $2.6 billion in cash to make this purchase.

10:41they, if I have my numbers right, as of November of 2015, according to their earnings, they had 88 million in cash and 1.1 billion in marketable securities. So I believe what happened here is in the bidding war with JetBlue, Alaska has incredibly clean books. They have, they're one of the few airlines that actually is invested in it. Very low debt load and actually I have investment grade debt, which for listeners who aren't in the come from the investment banking world basically means that the amount of debt that Alaska has is small enough relative to its earnings power that people think it's very very unlikely they'll go bankrupt especially for an airline no other airline has is rated as highly basically which means that people who line to them think there's a good chance they'll go bankrupt yeah so is there a chance then that the way I sort of understand it is is

11:37jet blue sort of had to cry uncle because they didn't have the amount of debt available to the borrowing power to be able to make the purchase yep reach these this price but now this is going to totally transform Alaska like they're going to take out another billion and a half perhaps plus of debt to make the well yeah i mean to make the purchase and then to take on the debt and leases that that and virgin was also a fairly low debt load airline as far as airlines go but still it's changing the capital structure of the company combined company pretty significantly yeah great so we move on to acquisition category yeah that sounds good to me why don't I start with that moving on to the acquisition category this to me doesn't fit our mold necessarily of people technology product business line or other I guess if everything fits in other

12:39In some ways, it's a business line. They picked up a brand that people have tremendous affinity for and access different customers with. That's assuming they keep the brand. Well, yeah, and that's something we should talk about. Ultimately, though, what I think they're requiring here is capacity. They identified the opportunity that they wanted to be the West Coast airline, and right now they don't have a meaningful presence in California.

13:02They hubbed out of Seattle. They have very little San Francisco and even less LAX presence. And this gives them major, major capacity to kind of be the West Coast airline. Yeah, basically, you know, if you look at it, if you think about kind of airline route maps that, you know, you see on the back of the cards and the, and the back. It's been, but it's usually, you know, it's like the spider web that emanates from a few major cities, you know.

13:29The Alaska Hub is Seattle, and there's a huge spider web coming out of Seattle to every city in America and several international destinations. And then very few route pairs from other cities. And Virgin is the same thing but just from SFO. So in your opinion then, well, before we get into that.

13:54How would you categorize the so yes, I was actually I we hadn't discussed this before him, but I was going to go down the same path you are and say in our framework, this would fit closest to a business line kind of like you know buying the local San Francisco airline and you're the Seattle the local Seattle airline but But I actually think the best categorization is this is industry consolidation Which is you know in a super mature old school industry like the airline industry very different from technology you get these periods of consolidation where where players merge with each other because they feel like they need greater scale to compete and and I think that's what we're seeing happen here. Yeah and this is an interesting time to go into how Alaska makes the case to their investors for this. There's this great investor deck that they have on their website where

14:51they talk about why their investors should feel comfortable with this purchase. And they say, we're bullish on the industry. From 77 to 2009, the industry lost $52 billion. I mean, the airline industry is notorious for, I mean, we should talk about, there's a great, great, I almost included this as my car about per the week, but I'm going to do something else because I knew we'd talk about it on the episode. There's a great paper that was written by Michael Malbuson and his team who's a great investor. He was head of Lake Mason, which is a large mutual fund, and I credit Suisse for a long time. I believe he's now back at Credit Suisse. He's written a number of great books. He's also a professor at Columbia Business School, I believe. And he wrote this great paper called measuring the moat, and it's all about the concept of the moat, you know, as an investor, is sort of the most important thing, you know, Warren Buffett.

15:43emphasize and Berkshire Hathaway and Charlie Munger, emphasize the mode is sort of the most important thing they look for. And he uses the airline industry as an example of a terrible industry that is destroyed so much economic value and has no mode. Yeah, and this is, I'm not sure if this, I think this is still true, it was at least a couple of years ago. If you look at the airline industry sentence inception and you look at basically a profit and loss statement for an aggregate of every single airline It's it's lost value like it's it's actually been it's actually not been profitable if you look at every industry And and and not just lost value, but lost a huge amount of a huge amount of capital has been destroyed in this industry So when you know when they say that the 77 in 2009, you know, they've lost 52 billion dollars as an industry It is interesting that people continue to invest in it yet from 2010 to 2015 over the last six years. It's it's a pretty it's

16:43It's a good time in the airline industry. Yes, $45 billion of value. And so that some of the things they cite are Alaska sites to their investors are fundamentally changed industry structure. And that, I think, is largely, when you look at the consolidation that's going on, they're basically saying, OK.

17:01the fragmentation is gone and right now the the industry structure is that there's four relatively perfect substitutes in these these big ones that are all you know you're going to get treated sort of like cattle when you're in in uh coach and you've seen in the past few years uh I believe the first was united in continental merged you've seen all the major uh legacy domestic airlines consolidating merge and then and then us air and american merged um and so you've got this this consolidating power structure of the industry that actually represents, you know, between the top four airlines 80% of all U.S. domestic airline traffic. Yeah, so it's interesting. I went and grabbed all their market caps today. Highest right now, Southwest is a $30 billion company. Delta's, I'm sorry, Delta's higher at $36 billion. Southwest at 30, American at 25, United at 21, and then if you look at Alaska's is $10 billion without Virgin, Virgin's 2.5 in JetBlue at 7. So,

17:59If you just look at those players, $132 billion, effectively market cap for the industry. And when you think about like Apple as a $590 billion market cap company, you start to understand like, wow, the whole industry here is, you know, if we were looking at this any given airline and comparing it against one of these mega technology companies that we usually talk about on the show, airline companies just don't create that much value.

18:29Yeah. Or maybe more accurately, they don't capture that much value. Yeah, and it's super interesting. I'm sure we'll get into throughout the show the supply chain of the airline industry is fascinating. You know, you've got basically a duopoly that are direct suppliers to the airlines in Boeing and Airbus that make the big passenger jets. And they have a huge amount of power over the airlines because you know while there is two of them you could go from one to the other it's not like you can say it's not like the airlines can be like a you know like a Google and be like you know oh we're gonna like you know become a you know full stack company we're just gonna obsolete you and we're gonna make our own cloud or whatever like the airlines can't make their own airplanes getting good at servers is different than getting good at airplanes yeah all right listeners now is a great time to tell you about a long time friend of the show Vanta AI has scrambled the whole security picture

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21:05Getting back to the Alaska reasons they're bullish on the industry. The industry structure is consolidated. This is sort of a BS bullet point, I think, but returns focused leadership teams. That's sort of like tuning your own horn and claiming competency. Constrained airport real estate. This one's sort of interesting. I guess they're sort of saying like we've reached a saturation point right now where we're not building more airports. The airports aren't getting bigger. And over the last, you know, since 1960, that's been the case.

21:33And now it's all about sort of vying for space at the existing airports that we have. And then the capacity acquisition starts to make a lot of sense. Yep, there are only so many gates. Right, right, right. Growth and leisure travel, which is interesting to sort of pick apart and think about why that might be.

21:50and then new revenue sources. And I think we can all agree about how we are well aware of all the revenue sources that airlines can charging for bags, food, and entertainment. I mean some of these are new services they've added and Virgin and Alaska have both been kind of the bleeding edge here of doing flight Wi-Fi and entertainment and movies and snacks that are actually...

22:15Possible and co-branded with Tom Douglas So it's always so funny to see to get on those planes and see how far For those of you not from Seattle. He's sort of like the big restaurant tour in town To see how far he's leveraged that brand now that I open the little snack pamphlet and an American Airlines and there's Tom smiling at me in on the front of it Love it so artisanal so Yeah, I from a category perspective, you know, I think Absolutely, I would chalk it up to capacity. The other point I want to explore here a little bit is there's a really interesting context for this deal that people in Seattle might be aware of but I doubt anyone not here is and that's that Delta actually has been putting a huge amount of pressure on Alaska here in Seattle in their hub.

23:14Delta has been growing over the last few years their presence in Seattle a lot and For a long time, I think Alaska was probably Concerned either concerned or expecting that Delta was going to make an offer to buy them and They haven't Instead they've just organically grown and taken more and more gates here in in Seattle and it's really interesting I was talking to somebody who is far more than airline industry expert than than we are and and he was making the point that the frame of reference is really different for these two companies delta and Alaska you know Alaska is a domestic carrier and it's a west coast focused carrier delta is an international carrier and

24:08Delta coming into Seattle as part about competing with Alaska domestically because Alaska is built a really nice business here, but also an even bigger part probably for Delta is Is using Seattle as a as a gateway to for international flights to Asia Because gate real estate as you were saying Ben is so scarce and and at the other big cities on the west coast at SFO and at LAX is so competitive and impossible to get more real estate there. I think Delta really viewed Seattle as kind of their gateway so that they could send people from all over the US on flights to Seattle and then hop over to Japan, to Korea, to China, to what have you. Makes sense. Whereas for Alaska, you know, that's not even an accessible market to them right now. Right.

25:06Right, right. In looking at this acquisition category and the kind of the way we've both defined it in a $2.6 billion sale that it seems inflated for two reasons. One, kind of the bidding war because there was scarcity of good airlines to buy. That would complement JetBlue or Alaska well. But two, a lot of the value, the kind of intrinsic value that was given to Virgin even before rumors of a sale was brand value. I mean they have tremendous customer affinity. They do things a little bit differently. People who love Virgin love Virgin. I always have a better level last. It's true. But actually this is two of my favorite airlines to fly. But Virgin is notoriously different and better and feels premium and that had to be factored into their market cap. When you think about

26:04What they are going to be used for I mean Alaska announced that by 2018 they hope to be fully rebranded as Alaska You know, hopefully they can learn some things from from Virgin and they've been watching the very carefully but if they obliterate that brand, you know what What was the point of paying a markup on a markup for capacity? Yeah, it's it's a great point You know the Alaska brand Again, it was very good, especially in the airline industry on its own. I think, you know, really was kind of like very professional. They had either the best in the industry or the best on the West Coast on time percentage. Lots of great, you know, very, very business commuter friendly. And Virgin was like, you know, like we joked earlier, like a nightclub on a plane. Lots of, it was the favored airline of

27:01All me and all my classmates when we were in business school and we can leave it at that So then one other thing that I want to bring up in that realm is payback period so They cite in or Alaska sites that They'll have 225 million dollars of total net synergies at full integration. So what we can pull from that is That there will be 225 million dollars of cost savings after they're fully integrated so let's call that you know 2018-ish and That means that there's probably other value that they that they can create on top of that like a ability to create more revenue because they have these economies of scale new things just on top of that, but That means that they have on this if we look at the four billion dollar as the figure

27:54That's a 17 year payback period on this acquisition just on the synergies and you know, do we think that? Now Virgin had earnings as well that would contribute to that but two points I want to make but go ahead Yeah, no no go for it. I've pretty much made the point that like it it seems like it's gonna take a while to Yeah, anyway you slice it. It's gonna take a while and I think there are two really head scratching things about this merger that are really important that some certainly industry experts are questioning but you know Alaska hasn't talked a lot about one The primary reason for the sort of economic renaissance of airlines in the last couple of years has been falling fuel prices Yeah, which are only nominally passed on to consumers and everyone's getting a little right and so airlines as a whole across the whole industry have gone from you know call it spending X on fuel which was a huge amount of their of their operating budget and kept their margins, you know load a negative To spending like X divided by two on fuel

29:10And thus, they are enjoying as an industry much greater profits than they used to. Now, the question is, is that a new normal, or is our oil prices going to go back up at some point? And we could do another show on the oil and gas industry. And this is a major existential question for that whole industry. But if you were to take the viewpoint that this is a temporary thing and prices will go back up, which historically they have fluctuated throughout history, Gosh, it seems like you're buying at the top of the market here where profits are artificially inflated. So that's one, two, synergies, as you rightly mentioned, Ben are often about the combined revenue potential and being able to extract more money from consumers, routes and whatnot. But they're also really about cost savings. And it's all in the back. And economies of scale and all that front.

30:09There's there's kind of a problem here with this acquisition and that's that Alaska flies Boeing planes and Virgin flies Airbus plane. Lusively Airbus. They're entirely only flies Boeing and Virgin only flies Airbus and you might say as a naive consumer as I did before I started looking into this like that we do I mean like they looked like it's a plane a plane is a plane right like I get on it it looks the same well it turns out that Actually, they have completely different control systems and pilots who fly Boeing planes can't fly Airbus planes and pilots who fly Airbus planes can't fly Boeing planes. So it's not like they're gonna be able to share pilots at all between these fleets. Not gonna be able to share pilots. And of course all the maintenance and all the parts are completely different. Now, there are the other major airlines do use a mixed fleet of both.

31:07Um, separate Southwest. Except for Southwest, yes. Um, uh, but, um, uh, so Southwest is entirely Boeing 737s because, um, they realize that a part of their business model was going to be staying as lean as possible and keeping everything totally interchangeable and swappable. And that's actually been a big part of their story to Wall Street and investors, you know, about why they're a great company. Uh, that's been kind of a pillar of it. And Alaska had the same playbook.

31:36And now all of a sudden, they're like a 50-50 shop of, you know, Airbus and Boeing. Yeah, and, you know, from a heartstrings perspective too, how dare a Seattle company buy a company that's entirely Airbus plans? That's just not patriotic. Much, much sorted in painful history on Seattle and Boeing and perhaps for another show. Yeah, yeah. So, yeah, and I think that kind of actually Sags into what usually is a short segment for us and I think we'll also probably be short here of what would have happened otherwise and here clearly the other way I mean Virgin was gonna be acquired and and the otherwise was JetBlue had acquired them now JetBlue is also an Airbus company so Would have been a lot easier for them to realize cost energies. Yeah, and there's two two points. I want to make here one Virgin is

32:35Sort of only recently profitable. I think that so they launched in 2007 to come three years to have their first profitable quarter. They're struggling as pitching themselves as both a low cost airline and an airline that has a really premium service and I Think that they were better at adhering to the premium service than they were to the low cost, but that's a tough story just to sell to consumers and I think they they They were struggling with you know how to be both because you can't both be a Volvo and a Cadillac and have that that story be you know sustainable and enduring and so I think that

33:15you know version didn't necessarily need to sell they were in definitely definitely in the right place right time where they had a exactly what they got an 80% premium to their pre acquisition share price that's pretty good yeah good good on them for their M&A positioning but you know that that seems like a little bit of a precarious position and as you know at Pioneer Square Labs a lot when we're thinking about starting these companies I think I would get a lot of crazy looks if I was like, well, we're going to be a low-cost premium company. It reminds me of, I've been reading another, could have potentially been my carve out, but won't be. I've been listening on audiobook to a great book called Business Adventures. It's a classic. It's from, I believe it was written in either the 70s, perhaps. I was recommended to me by a good friend.

34:07I've been listening to it, and it's just ten vignettes of more aptly titled business misadventures. The first one is about a stock market crash in the 60s, but the second one that I'm listening to now is about the Edsel, the car that Ford launched that's widely considered the worst product launched in history. One of the key lessons from it is that Ford wanted the Edsel to be everything to everyone.

34:34Daringly adventurous with a dash of conservatism, you know? And it's like, what are you getting me? You know, you're, you know, for the, it's elegant, you know, luxury for the aspiring, you know, young executive, you know, and affordable for like the middle market. And it's like, what? And it failed spectacularly. Yeah, yeah.

35:01You know, I'm not over here preaching that that that was gonna be versions path, but that was always sort of a head scratcher to me about that company Now the question that I want to post to you is what would have happened to Alaska in With all the consolidation of the market going on and kind of moving from Delta for major players the pressure from Delta and the home front You know, what if they don't expand? Yeah, and I think this you know to give some credit to to Alaska I feel like we've been sort of taking potshots at this deal. They were in a tough position, I think. Doing well in the moment, but facing this pressure from Delta, this consolidation across the whole industry, and they had developed a really, really nice niche here in Seattle as by far the best routes and customer service for people who live in Seattle and fly in and out of C-TAC, but great business routes.

35:59But they kind of had nowhere to go. They were getting pressure from Delta here. It was super hard for them. What are they going to do, expand internationally? Are they going to go to other cities? And that's what they did with this. They said, we need to grow. It's going to be super hard to do organically. Here's an opportunity. We have a great balance sheet. And for an airline, a lot of cash, we know we're relative to the industry pretty well run.

36:27Here's an opportunity to buy Virgin and basically double our size and run the same playbook again. Or they could have just stayed in sort of steady state where they are. Well, it's funny. You would hope that they double their market size because the acquisition is so expensive. But when you look at the numbers of what Alaska is doing and what Virgin is doing, Alaska is 32 million total passengers a year. Virgin is seven.

36:55Alaska is a thousand departures a day. The version is 200. There's 112 destinations served by Alaska. The version is 24. Pre-tax profit from Alaska, $1.3 billion. Virgin, $200 million. So like, that is an expensive purchase for a much, much smaller operation. Yep. And a much smaller operation with no room to grow in San Francisco. Yeah. I mean, all of you know, Not just SFO but the other airports in the Bay Area 2, Oakland and San Jose, which are different. They're really commuter, you know, commuter airports. Although pro tip for Seattle to Bay Area computers, commuters never fly to SFO. You always got to do Oakland or San Jose. Because if you do a SFO, there's so much fog and fog delays and they always delay the Seattle flights because they want the cross-country flights to land on time. Got to do Oakland or San Jose. Pro tip.

37:51Pro tip. Anyway, but there's no room to expand in any of these airports. Yeah. All right, listeners. Now is a great time to thank our longtime friend of the show, ServiceNow. If you are running a large enterprise, AI agents are likely spread across every team and deploying them is no longer the hard part.

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39:33So if you're trying to turn AI ambition into real business outcomes and make it work safely, securely at scale, go check out servicenow.com slash acquired and tell them that Ben and David sent you. All right, let's move on to our next section. What tech themes does this illustrate for you? Yeah, this is a really interesting one. I debated a lot of ideas here and it's ironic because this is not a technology acquisition. Actually, I'm going to go with niche marketing.

40:02And again, even though we've been taking potchats against this deal, both Virgin and Alaska before the merger really succeeded at this, like in a crowded market place with lots of big platform players in the big national carriers. They found a niche, Alaska here in Seattle and with business travelers and Virgin in San Francisco with sort of...

40:30quality of service and and Sort of style-minded customers and they served it really really well and they grew very big businesses out of that. I mean, you know combined the you know the obviously the price for Virgin at $2.6 billion and remember what was Alaska's market cap before? Oh, it's oh So their stock actually went down on announcing the acquisition. It's about $10 billion now. About $10 billion. You know, these are great businesses. And I think that same principle totally applies in technology and people, especially startups often overlook it. Like they try and go after, you know, the Delta or the United or the Southwest on day one. They try and go after, you know, Google on day one. Well, you're not going to be Google on day one.

41:22The way you're going to be Google down the road is you start with a small audience, a small niche of people who love you, passionately. And then you grow from there, and then you knock down, you know, and crossing the castle and speak the next bowling pin and the next bowling pin and the next bowling pin. And that's much easier to do in technology than it is in airlines. But the great thing about it is that, you know, you're probably not going to become the next Facebook or Google. But if you knock down a couple bowling pins along the way, you're still going to become a really great valuable company. And then maybe you get a chance to knock them all down and you will become the next, you know, you will be Snapchat and become the next Facebook. Calling it here. There you go. That's a good point. Does that analogy also kind of apply to the brand loyalty aspect of airlines, which they've, you know, huge innovation in the inventing, you know, the

42:22the loyalty and the airline miles in status. So you're postulating that they're in order to either their technology companies that have probably not enough there should be more but that have taken that sort of loyalty aspects where like the more I use a platform the deeper I get locked in because the more you know airline miles I have on it for lack of a better word.

42:53Yeah, I mean totally. I think that everybody that has has like done well at loyalty in the last 50 years has taken it from airlines The question is like do you need to? Open table definitely did. Yeah, quite successfully Yeah, I guess I'm wondering do you need to that would be a great acquisition to cover at some point open table. Yeah. Yeah, I'll add to the list we um Yeah, I'm trying to think about like Is it necessary? Has something changed in the world where it's necessary to consolidate, to keep loyalty? Because, like, does something exist now that didn't exist before, where people only ever want to use one airline? Or, I mean, that's definitely the case in technology. Like, I think about, you know, the power line, the power of network affects, like, hip chat, right? Like, two years ago,

43:49a bunch of our portfolio companies used HipChat and some of them used Slack and some of them used HipChat and they would, you know, I talked to people using HipChat and I'm really like, you should really check out Slack and they'd be like, you know, we use HipChat, it's good enough. But then like, as their friends and other companies got on Slack and then Slack channel started popping out for, you know, industry groups and whatnot and then it was like, well we should really think about moving to Slack and like, then, you know, this power law takes over and being on Even if, you know, I think Slack has done a lot of great product innovations, but even if they hadn't, you would be pushed to move towards it even if you're on HipChat because the rest of the world is on it. Yeah, and with Slack, I think that the like network effect was because people were starting inter company slacks. So you would end up with like, oh, I'm in this Slack that's like a social thing or an industry thing. And then it was like, I'm not going to keep using two separate applications. So like, does that apply here where I'm not going to maintain

44:45points at two separate loyalty programs, because that was always super annoying. I mean, there was a few startups that I was trying out that were trying to aggregate my loyalty programs for me, or at least help me keep track. That was, that was a kind of total pain. Oh, but to, to segue off of aggregator onto another technology trend, let's see if this, let me think through this and see if it's logic kind of follows.

45:12Sites like kayak and hit monk and all these you know travel loss price line travel aggregators pop up yep, and that's 15 20 years ago and That effectively commoditizes airlines and compresses their margins because people's loyalty People's loyalty to those airlines is shaken because they have an easy way to find cheaper prices and the price and so therefore margins are driven down because airlines get more commoditized and when they're more commoditized and there's less profit to be had even though they weren't making a lot of profit before they need to consolidate to create a cheaper back office to you know take advantage of economies of scale and now if you're a smaller airline the inefficiencies from you having a smaller operation could kill you and so if you follow it all the way back to the the online travel aggregators does does that sort of create the environment in which

46:11You need to have a bidding war for this acquisition so that you can be a more major player in a talented market. It's interesting. It feels a little bit different because it hasn't fully become a digitized industry, but it's reminiscent of Ben Thompson's aggregation theory, right? Where where aggregating.

46:41the consumer endpoint and experience he argues in the digital 21st century post internet world is where all the value is. And then you can aggregate all the difficult content creation behind that content creation uses. But in this case, airlines point to point travel and own that relationship with the customer at the front end.

47:10And then you commoditize everything on the back end. And that's completely happening. And interesting Southwest has refused to participate in the aggregators to let themselves be aggregated and probably has some of the most loyal customers. I mean, their ticker symbol is love of LUV. And they always talk about how much everybody loves each other at Southwest.

47:35Yeah, they've bought that actively and they've probably had the most success on the branding front. Yeah, yeah Well, why don't we move on to rendering our conclusions? I think that's I think it's that time. Yeah, and I think we you know, we are kind of expressed our our opinions laced in a bunch of comments throughout this for me You know, I think the value is inflated both by the bidding war and by the fact that they bought something that had brand built into the market cap when they're not necessarily a leverage and in fact have announced they're not going to leverage that brand. But I think they needed to and I don't think they had a lot of options and I think they both picked the time right when this this you know was an available purchase and they put themselves in a really good position to make that purchase by you know I'm probably the wrong person to talk about this but by

48:32putting their books in a great position over the last five years and being really intentional about having, or being an investment grade, or having investment grade credit. And, you know, I think that JetBlue didn't prioritize that as much and they did any of the other smaller airlines and in a world where they, you know, need to consolidate, they put themselves in a position where they're able to do so. So, I'll give it a D minus. Yep, I mean, It's hard to separate out just, at least for me, the sort of coming from the tech industry, the sort of shock at looking at the terrible economics of the airline industry as a whole in dynamics versus the actual quality of decision making in this acquisition. So I think a lot of what you said I agree with. But I'm going to go lower. I'm going to go

49:34C minus because What you said is right, but they paid so much money. Can they paid so much money? I mean, I don't think it's public and I don't know that anybody except the executives involved know what what Alaska's initial bid for a virgin was but like It got bid up so many times until like Ooh, that's a large price for something that your pilots can't fly. Can an airline make a good purchase? Yeah, good point. Good point. Yeah. All right, should we move on to the carve-out? Yeah, so this is wild. I was like stopping myself from laughing and my jaw dropped and I think it almost ruined David's train of thought earlier when he started talking about how it wasn't going to be his carve-out but it was a paper that

50:24uh... michael manboot manboot manboot manboot manboot manboot manboot manboot manboot manboot manboot manboot manboot manboot Everybody should watch this talk. It's really good. David, this is so weird. I haven't watched this in probably two years. And it was something that I've recommended to friends very often. And so I was sitting here before the episode thinking, you know, I didn't see anything particularly interesting this week that I wanted to recommend, but I have an oldie but goodie. It is absolutely wild that this talk is great. And it's based on a book that I've read the book, too, which is worth reading, too, called Untangling Luck and Skill. Yep. Yep. Untangling Skill and Luck, the success equation.

51:08And it is so, so fascinating. He gives so many great examples that will make you both like follow it logically and nod your head and sort of scared that about how much of your own success has been out of your control or how much the world is out of our control. So how much of your own success cannot be attributed to you and how much of your own failure cannot be attributed to you and trying to figure out What are things that you have to do to your own skill? Yes, yes, and what are things that you know you actually should be focusing on and what are things that you should know that there's gonna be randomness in the world It's this the the talk if you only have an hour listen to the talk if you really want to go deep on this get the book It's so good. I will restrain myself I could go in so many directions but one one real quick vignette I want to throw out is

52:01one of my favorite themes from this talking book is the paradox of skill which is such a cool thing that like in a given activity the whole premise of the talk in the book is that any activity the results of which are going to be based somewhat on the skill of the participants in the activity and somewhat on luck and there's a spectrum and some things go more towards the luck and then some towards the skill and the paradox of skill is that Even in things that are highly skill-based, as the level of play gets higher, so imagine the example Madison uses is basketball. As basketball, which is very skill-based, as the level of play gets higher and higher, and the parity of skill amongst the players gets more and more uniform, then luck plays an increasing role in the outcome, even though it's a skill-based game.

52:52particularly due to globalization, because the only people who are even considered for this are the best in the world. So then it's like, well, among the people that are all the best that look very similar to each other in skill level, the variation in skill gets so minute. That luck is magnified. And the exact same dynamic holds to an investing in startups and in lots of things. When the world is the pool, you always have the cream of the crop.

53:18And then it's all about all the crazy dynamics that play out from there. So can't recommend it enough. It's on YouTube. We'll link it in the show notes. Definitely check out the success equation on tangling skill and luck. I've taken enough time. I'm going to save mine for another time. It wasn't super interesting anyway. Well, I'm going to doubly recommend this. All right. Well, there you have it. All right, listeners. Now is a great time to talk about one of our favorite companies, Statsig.

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54:31So if you want to make learning your competitive advantage, whether you're building new AI experiences or just evolving your existing core product, go to statsig.com slash acquired to get started. Thanks for listening today. Again, if you have the time, please, please, please leave us a review on iTunes. Can't say enough how much it's important to the success of the show. And we love your feedback.

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