Jul 31, 2020
U.S. Major Airlines — Earnings Analysis for 2020-Q2
We are at a very interesting time in the airline industry. The impact of the COVID19 pandemic has been near catastrophic for the major airlines American, Delta, United, and Southwest. But I believe that looking through the financials at this time can give us insight into the strategies and processes by which corporations react to crisis. This isn’t just about the havoc wrecked, but about how each airline is working towards self-preservation, transformation, and positioning for the eventual long-run recovery.
My rudimentary understanding of the differentiation between the major airlines comes from secondary sources of marketing and analysis written by others (WSJ, Seeking Alpha, HBS cases, etc.) But there’s no substitute for primary research and digging straight into the financials and earning calls.
Income Statement
From the above, we see that revenues and profits are absolutely hammered. Delta especially looks like it’s taking a big hit, but going through the income statement we see that it is related to a one-time restructuring charge of almost $5 billion. Taking that out, we see that Delta’s profitability falls mostly in line with the other airlines.
Some other interesting points in the revenues section:
- UAL has the highest percentage of revenue that comes from freight at 27.25% (vs 4–8% for the other three)
- Almost half of DAL’s revenue comes from “Others”, like from its stake in LATAM (20%) and Aeromexico (49%)
- The biggest expense by far is salaries, wages, and benefits. Right now the revenue does not even cover those costs. The companies have warned of major layoffs after the CARES act stimulus expires but seeing the actual cost breakdown really brings it home how much they will have to cut staff in order to get back to profitability.
It seems through two quarters of the pandemic, the market share has held remarkably stable. The change could almost be a rounding error. The biggest shift has been Southwest growing from 14.50% to just over 18%. This is mostly captured from Delta shrinking from 29% to 26%. Possibly this is due to product mix as domestic flights now make up a high proportion of all flights as international flights approach zero and the larger decrease in business travel relative to leisure.
Balance Sheet and Market Capitalization
We see that AAL is in some serious trouble with debt. In fact the book value of equity is negative due to the amount of debt AAL is holding on its balance sheet. While the stock might recover, there is a chance that AAL will be forced to declare bankruptcy first, wiping out all equity shareholders in the process of restructuring. Southwest has lowest debt-to-equity ratio and seems like the strongest balance sheet.
AAL also has the smallest amount of cash on hand with most of its liquid assets tied up in short-term investments. That seems a bit troubling as it seems like investments currently still bear a lot of risk. My guess is that these are not in stocks but in bonds or other safety assets that can be easily liquidated and don’t carry high betas with the market. Otherwise AAL would just be levering up its risk.
That being said, AAL will have the strongest rebound in stock if it is still around to catch the rebound as flying recovers. Southwest will likely perform well but it is the safe investment of the field.
Changes in the Landscape
Another question that intrigues me is what the industry will look like when it begins to recover. There was a very interesting article in the WSJ on Doug Parker’s strategy to continue burning cash by adding flights. A very “Field of Dreams” type strategy while other airlines are dramatically cutting back on all fronts imaginable.
Going back to the Income statements, I use revenues as a proxy for industry size. I assume somewhat liberally that the entire industry in the US is the combined revenues of these four airlines. I think based on size, coverage, and number of flights serviced this is not too far fetched. As a more rigorous approach, I should be taking available seat-miles and throwing in smaller airlines such as Spirit, Frontier, and JetBlue, etc. But for simplicity, I’m just looking at the percent market share each airline holds over time.
Concluding Thoughts
Though the airlines have rebounded off disaster, I’m really nervous about American’s strategy to continue flying even as their balance sheet looks incredibly weak. The longer the virus draws out without a vaccine or solution, the more ingrained people’s behavioral changes will be. The airline industry is suffering the worse case of demand shock, without anything really changing on the supply side. In fact supply has likely shifted out slightly due to cheaper fuel.
In a high capital and fixed asset industry, it’s a race towards self-preservation as I believe United and Delta are doing the right thing in taking every measure to preserve cash burn. United has the additional advantage of generating a substantial portion of their revenues from cargo which likely grow in importance as ecommerce becomes the surviving beneficiary in the retail space.
Disclaimer: The above opinions are my own and are not to be taken as investment advice. I do not hold positions in any of the stocks mentioned above.
