Southwest Shares Ready For Takeoff

7/30/2012


  Recent Price
$9
  Dividend
$0.04
  Yield
0.5%
  P/E Ratio
15
  Shares (millions)
764
  Long-Term Debt as % of Capital
30%
  52-Week Price Range
$10.37 - $7.15

At its 1971 launch, Southwest Airlines ($9; LUV) had just three planes and served three Texas cities. It’s now the largest airline in the U.S. by passengers, flying to 74 destinations in 38 states. The $3.2 billion acquisition of AirTran in May 2011 pushed Southwest into Mexico, the Caribbean, and Atlanta, the largest U.S. market where it did not previously operate.

In the June quarter, Southwest earned $0.36 per share excluding special items, versus $0.15 in the same quarter last year and the consensus estimate of $0.33. Operating revenue climbed 12% to $4.62 billion, also above analyst forecasts, and operating profit margins rose for the first time since the AirTran acquisition. Per-gallon fuel costs declined 2%.

With a Value score of 90, the stock looks cheap relative to its history from nearly every angle. At 15 times trailing earnings, shares trade 46% below their three-year average. Shares trade more than 39% below their three-year averages relative to trailing sales and cash flow. Southwest Airlines is a Long-Term Buy.

Business breakdown

In a volatile and capital-intensive industry, Southwest has posted a profit in 39 straight years. A low cost structure helps Southwest undercut the ticket prices of other airlines. It uses just one type of aircraft, simplifying maintenance, training, and flight operations. In this respect, AirTran followed a similar strategy, albeit with a different plane. Southwest plans to lease AirTran’s jets to Delta Air Lines ($9; DAL) in August 2013.

When possible, Southwest flies to less-congested secondary airports, minimizing the time its planes idle on the ground, which ultimately reduces the number of planes, staff hours, and gates needed. Atlanta, a major hub for AirTran and the busiest airport in the U.S., will boost Southwest’s national presence but could weigh on profitability.

The company continues to integrate AirTran, converting airport facilities and striking deals with union workers. AirTran flights still charge baggage fees, a practice likely to continue until at least 2014. Southwest, by contrast, aggressively advertises against such a policy with its “Bags Fly Free,” commercial campaign. But Southwest does generate about 5% of revenue from service fees, such as those for unaccompanied minors and pets, and perks like advanced boarding.

Southwest’s balance sheet looks stronger than those of many airlines. The company holds $3.26 billion in cash, versus $3.02 billion in long-term debt, with the majority of that debt coming due after 2014.

Southwest’s results depend heavily on prices for fuel and oil, which accounted for 38% of operating expenses in the first half of 2012. Management projects per-gallon fuel costs of $3.05 to $3.10 in the September quarter, versus $3.23 in the year-earlier period.

CEO Gary Kelly says demand remained strong in July. The consensus projects September-quarter earnings of $0.29 per share, up 92% on 4% higher sales. Southwest and other U.S. airlines raised airfares in July, which could provide some upside to analyst estimates. An annual report for Southwest Airlines Co. is available at 2702 Love Field, Dallas, TX 75235; (214) 792-4000; www.southwest.com.

SOUTHWEST AIRLINES
Quarter
Per-Share Earnings*
($)
Sales
Change
Quarterly
Price Range
($)
P/E Ratio
Range
Jun '12
0.36
vs.
0.15
+ 12%
9.42
-
7.76
25 - 21
Mar '12
(0.02)
vs.
0.03
+ 29%
10.05
-
8.03
24 - 19
Dec '11
0.09
vs.
0.15
+ 32%
9.28
-
7.15
19 - 15
Sep '11
0.15
vs.
0.26
+ 35%
11.65
-
7.79
20 - 13
           
Year
(Dec.)
Sales
 ($Bil.)
Per-Share
Earnings*
($)
Per-Share
Dividend
($)
52-Week
Price Range
($)
P/E Ratio
Range
2011
15.66
0.43
0.02
13.59
-
7.15
32 - 17
2010
12.10
0.74
0.02
14.32
-
10.42
19 - 14
2009
10.35
0.19
0.02
11.78
-
4.95
62 - 26
2008
11.02
0.40
0.02
16.77
-
7.05
42 - 18
 
Quadrix Scores †
Overall
Momen-
tum
Value
Quality
Financial
Strength
Earnings
Estimates
Performance
93
83
90
51
26
98
65

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.
   NM Not Meaningful.


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