Airline Stocks with Tailwind
If the war in Iraq and the threat of terrorism weren't enough to scare away passengers, one major U.S. carrier is in bankruptcy, another just emerged, and a third appears to have narrowly escaped it. Still, the industry's biggest shakeout since deregulation in 1978 holds a chance for big rewards. "The easiest way to make money in the stock market is to buy good companies during a time of crisis," says James Parker, airline analyst at Raymond James & Associates.
With the big carriers such as United Airlines (UAL ) and American Airlines (AMR ) slashing capacity and costs, new opportunities are arising for the regional airlines -- including SkyWest Airlines, Atlantic Coast Airlines (ACAI ), and ExpressJet (XJT ) -- that feed traffic to the giants' hubs. Plus, low-cost rivals such as Southwest Airlines (LUV ), JetBlue Airways (JBLU ), AirTran Airways, and Frontier Airlines (FRNT ) continue to see steady growth.
Certainly, the fate of the regionals is tied to that of their big network partners. But as ailing hub-and-spoke players streamline operations, they're handing more of their flying to the regionals, which boast lower labor costs and can more efficiently serve smaller markets or lightly traveled routes with their 50- to 70-seat regional jets. For the four quarters ended Sept. 30, 2002, regional jet flights were up 36% to 42% each quarter, while flights by all other aircraft types fell, notes Parker.
Among his top picks is SkyWest, a St. George (Utah)-based regional carrier whose stock, now at $10.33, is below its book value of $10.80 per share. The company also has cash on hand of about $8.60 per share. SkyWest does 40% of its flying for United and 60% for Delta. With growing fears that United may liquidate, SkyWest could face some turbulence. But analysts think new partners would quickly fill the void. Parker holds a stake in SkyWest, and his firm makes a market in the stock.
Look eastward, and you find Atlantic Coast Airlines Holdings, which analyst Raymond Neidl of Blaylock & Partners LP rates as a buy. He figures it's cheap at a price-to-earnings multiple of 5.3 on 2003 earnings projections. Still, uncertainties about partner United have depressed the stock by 48% this year. Even if United emerges from bankruptcy, contract revisions could hurt its regional partners.
Discounters such as Southwest, JetBlue, and AirTran aren't directly tied to the major airlines as the regionals are. Still, analyst Gary Chase of Lehman Brothers says hub-and-spoke carriers' higher costs will continue to work to the discounters' benefit. As the big airlines focus on the shrinking number of business travelers willing to pay top prices, that should leave plenty of price-conscious flyers for the likes of Southwest. Chase expects Southwest's per-share earnings to jump 53% next year as the economy recovers.
The big question is whether the discount carriers are too richly priced. Southwest trades at a p-e of 37.8, while JetBlue's p-e is 26.4, a little more than half its estimated earnings growth of 45% in 2003. Parker, for one, thinks the long-term prospects of these players justify the valuations. "They're not going to lose, unless you think we're not going to travel by air anymore," he says. That's a bet no one's willing to make.
By Wendy Zellner