With crude prices declining, many investors are getting interested in airline stocks. Delta Airlines (DAL, Financial), in particular, has seen many big name investors like Daniel Loeb (Trades, Portfolio), Julian Robertson (Trades, Portfolio), John Griffin (Trades, Portfolio), Mario Gabelli (Trades, Portfolio), Ken Heebner (Trades, Portfolio) and Whitney Tilson (Trades, Portfolio), buying its shares last quarter. The company's stock price has gained ~300% since the beginning of 2013, but its relative valuation is still one of the lowest among all S&P Industrial companies (see graph below).
Delta's Relative Valuation versus S&P industrials
Source: Investor Presentation
I believe Delta Airline's stock offers a good buying opportunity at current levels. Here's my key investment argument for the company.
Delta is one of the best airlines in terms of operational excellence. In 2014, the company had 95 days of no mainline cancellations, a completion factor of 99.8% and an on time rate of 85%, excluding the one time impact of winter storms in 1QFY2014. This excellent operational performance translates into revenue premium as customers are willing to pay for high quality services.
The company's operational excellence coupled with the falling crude price is leading to improved profitability. Last quarter, Delta reported a $1 billion in pre-tax profit with EPS of $0.77 which beat consensus of $0.75. The company's margin expanded by over 400 basis points. Delta is judicially using its cash flow from improved profitability. The company has paid down $2.1 bn in debt last year and its net debt level at year end was $7.3 bn. This translates in $200 mn of annual interest savings. The company is now just two notches away from investment grade rating and plans to further bring down debt levels in the next two years. In addition to bringing down its debt levels, the company also repurchased $1.35 bn in stocks and paid out $251 mn in dividends.
Going forward, the company expects a significant increase in pretax profit in 2015 from fuel cost savings and the benefits of initiatives it is taking to increase its topline. The company plans to bring down its debt levels to $6 billion by the end of 2016. it also intends to significantly accelerate its capital returns and plans to spend a minimum of $1.5 bn in dividends and buy backs in 2015.
Delta's shares are trading at 9.13 time FY2015's consensus EPS estimates. Its forward annual dividend yield is 0.80%. Out of 18 analyst covering the company 16 are bullish and have buy recommendation, and two have hold ratings. Given the company's operational excellence, history of returning cash to shareholders, fuel cost tailwinds and attractive valuation, I recommend buying the stock.
