What caused BA’s IT fiasco?

International Airlines Group has cut costs to the bone – jeopardising its operations and customer relations. Ben Judge reports.

Walsh_hero

"Slasher" Walsh: a damaging level of penny-pinching
(Image credit: JA3)

The British Airways IT systems meltdown over the spring bank holiday led to the cancellation of more than a thousand flights, the stranding of 75,000 passengers, and an estimated £100m compensation bill. It was arguably "the airline's worst self-inflicted crisis since it was privatised 30 years ago", reckons Anthony Hilton in the Evening Standard. Yet investors seem to have shrugged it off the share price of its parent company, International Airlines Group (IAG), fell just 3% "on what was a poor day for airline stocks anyway".

But perhaps investors should be a little more concerned, says Hilton. The outage is a symptom of a much more serious problem: modern management's obsession with cost-cutting, which is "stripping big companies of their resilience". What in the past would have been a "minor" setback now "tips the business over the edge and becomes a disaster" because all the spare capacity has been "stripped out to save money".

There is no duplication of "facilities or of management and expertise", leading to companies operating with "no safety net". This may deliver larger earnings, but "you don't get a greater return without adding to risk", says Hilton. "There is absolutely no margin for error."

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Both Willie Walsh, chief executive of IAG, and BA boss Alex Cruz are well known cost-cutters. Walsh came to be known as "Slasher Walsh" during his time at Aer Lingus because he liked to wield the axe, says Tanya Powley in the Financial Times. He has made his name by turning around ailing airlines: IAG has gone from profits of €503m in 2011 to €2.5bn in 2106, with earnings at BA up from €518m to €1.47bn in the same time. That's been "great" for investors, who have seen the share price climb by more than 120% in four years.

Yet critics have been saying long before this week's chaos that Walsh's "penny-pinching ways" could result in "long-term damage to the brand and its reputation with customers", says Powley. And while the IAG chief executive "briskly rebuffs any notion of staff or customer discontent", adds Gwyn Topham in The Observer, even "City analysts who applauded his efficiencies" are now beginning to ask "if the cost cutting has gone too far".

"As financial analysts, we love BA's product," says HSBC aviation analyst Andrew Lobbenberg, quoted in the Financial Times. But "the magic of management is to balance the interests of customers and shareholders and employees... Whether they've got the balance right is a valid question."

Roche suffers cancer drug setback

Perjeta, a $7bn drug for post-surgery breast-cancer patients, produced only a marginal additional benefit in preventing cancer recurring when used in conjunction with Herceptin, Roche's existing treatment. Generic alternatives to Herceptin go on sale this year, and packaging Perjeta and Herceptin as a dual treatment could have kept patients on Roche products if the trial had been successful.

"It's hard to work out the size of the blow," says Neil Unmack on Breakingviews. The setback "underlines Roche's vulnerability to generic rivals as manufacturers develop cheaper substitutes". Indeed, "the question of whether Roche can overcome competition for its three biggest products from biosimilars is arguably the only one that matters for the company", says Max Nisen on Bloomberg Gadfly.

Perjeta is already approved for some breast-cancer patients, and made nearly $2bn in sales last year. Roche had hoped it would be the company's biggest driver of growth over the next four years. The recent news "isn't reassuring", says Nisen, and the company now has to convince investors that its pipeline is "strong enough to handle the pressure".

City talk

Unfortunately, Riyadh only wants to list 5% of Aramco. That would "flout the iron law that the free float of any company should be at least 25%". This is "not a quibble", says Hosking. Floating less than 25% "leaves minority shareholders with no clout". A 5% float would leave Aramco answerable to nobody but Saudi Arabia's "obdurate theocracy". London should highlight its "investor-friendly credentials" by maintaining its standards and saying no.

"For a couple of hours," says James Moore in The Independent, "Ocado beat even the lucky punter who scooped the £133m EuroMillions lottery jackpot over the weekend." Its market cap jumped by £140m on Monday when it announced it had struck a deal with its first overseas retailer.

Unfortunately, says Moore, "when the City had digested the details of this deal, or rather the lack of them, it quickly came to the conclusion that it might not be up to much", and "pop all that extra value disappeared". Still, "optimists might still care to see this deal as a baby step forward" the company has "at least sold something".

Steve Caunce, boss of online washing-machine seller AO World, is "an expert in spin cycles", says Alistair Osborne in The Times. He has trumpeted "another year of progress", yet the shares actually fell 11%. AO isn't generating enough cash, and "the suspicion remains that profitability largely depends on selling pricey warranties consumers don't need". Caunce can't "keep rinsing investors": sooner or later, AO "must deliver some decent results".

Ben Judge

Ben studied modern languages at London University's Queen Mary College. After dabbling unhappily in local government finance for a while, he went to work for The Scotsman newspaper in Edinburgh. The launch of the paper's website, scotsman.com, in the early years of the dotcom craze, saw Ben move online to manage the Business and Motors channels before becoming deputy editor with responsibility for all aspects of online production for The Scotsman, Scotland on Sunday and the Edinburgh Evening News websites, along with the papers' Edinburgh Festivals website.

Ben joined MoneyWeek as website editor in 2008, just as the Great Financial Crisis was brewing. He has written extensively for the website and magazine, with a particular emphasis on alternative finance and fintech, including blockchain and bitcoin. As an early adopter of bitcoin, Ben bought when the price was under $200, but went on to spend it all on foolish fripperies.