The recent break in oil prices to below $51 a barrel is positive for the airline industry. The Amex Airline Index touched a 52-week high on January 16 driven by lower oil prices, restructurings, and improving industry fundamentals
So, which airlines should you invest in? In my view, I continue to like the discount airlines.
At the top of my list is the granddaddy of all discounters that every player wants to emulate. Dallas, Texas-based Southwest Airlines Co. (NYSE/LUV)
Southwest Airlines started with three Boeing 737 aircrafts in June 1971, serving Dallas, Houston, and San Antonio. Today, Southwest is the dominant discount or low-fare airline in the U.S. with 400 Boeing 737 aircrafts. Its routes are focused on the U.S. and are generally short haul and high frequency, but there are long haul routes.
The carrier focuses mainly on point-to-point routes (direct non- stop city-to-city) compared to others’ hub-and-spoke service (including indirect flights). This is a significant difference favoring Southwest, as it is cheaper to operate and attracts more riders. The airline industry is not in a growth mode, but the discount area has excellent potential. Given the continued uneasiness in the industry, it may be an opportune time to buy Southwest.
In spite of the carnage in the airline industry, Southwest has been reporting some decent numbers over the past few years. Its ability to turn a profit year after year is impressive. Southwest has been profitable for the last 32 consecutive years. That is truly impressive.
Its low cost structure and experience at running a discount carrier for over 20 years gives the company an advantage over both other low-fare carriers and the major airlines.
Southwest’s forward estimated P/E of 14.78x its FY08 EPS is reasonable given the situation. Earnings in the FY08 are expected to jump to $1.04 on revenues of $11.23 billion. The airline’s valuation is superior to that of its peer group. Other discounters to keep an eye on include Frontier Airlines Inc. (NASDAQ/FRNT) and JetBlue Airways Corp. (NASDAQ/JBLU).