Analysts' Choice: Give Southwest Plenty Of LUV

6/13/2016


  Recent Price
$44
  Dividend
$0.40
  Yield
0.9%
  P/E Ratio
12
  Shares (millions)
648
  Long-Term Debt As % Of Capital
24%
  52-Week Price Range
$51.34 - $31.36

Airline stocks have struggled to get off the ground this year, their shares falling 6% on average. Southwest Airlines' ($44; LUV) stock, up 1%, has performed better than most of its peers.

The industry's recent weakness coincides with rising oil prices and falling profit estimates. However, U.S. airlines have repeatedly raised fares this year, and airline executives appear disciplined in their approach to expanding capacity. The wave of mergers in the past decade has reduced competition among carriers; the four largest U.S. airlines control about 80% of the domestic market.

Southwest shares trade at 11.6 times trailing earnings, well above the average of 8.8 for airline stocks. Southwest shares seem to merit the premium, given the airline's pricing power and growth prospects. Southwest Airlines is a Focus List Buy and a Long-Term Buy.

Business breakdown

Southwest's low cost structure has helped it remain profitable in each of the past 41 years, a remarkable track record in an industry that has experienced more than 180 bankruptcies since 1978.

Favorable fuel trends helped lift Southwest's profits in the past year. Its average cost per gallon plunged 35% to $1.90 in 2015, the lowest level since 2007. Fuel represented 23% of operating expenses, down from 32% in 2014 and a peak of 38% in 2011. The airline's fuel costs fell to $1.78 per gallon in the March quarter, down 11% from the year-earlier period. Southwest expects per-gallon fuel costs of $1.75 to $1.80 in the June quarter and $1.85 to $1.90 for the year. U.S. oil prices have climbed about 15% since management last updated its guidance in April, though Southwest has hedges in place for up to 60% of its remaining 2016 fuel consumption. Investments in fuel-efficient planes should also help Southwest cope as oil prices rise.

With fuel prices unusually low, labor expenses, up 17% last year, have become the airline's largest cost. About 83% of its work force is represented by labor unions. Southwest is negotiating new contracts with several unions, including those representing its pilots, flight attendants, and mechanics. The airline is in its fourth year of negotiating with its pilots, who seek a pay increase of 33% over seven years, which would give them the highest salaries in the industry. Southwest reached a tentative agreement with its ramp workers in December.

In the past 30 days, the consensus estimate for Southwest's 2016 per-share profits has slipped to $4.22 from $4.24, a 0.4% decline roughly in line with the rest of the airline industry. But Southwest still offers superior growth prospects, with profits projected to surge 20% this year, versus an industry average of 12% growth. Even the lowest analyst estimate for Southwest implies 12% higher profits.

Conclusion

The stock offers a modest 0.9% dividend yield, though Southwest has raised its quarterly distribution at least 25% in each of the past five years. Last month, management hiked its dividend 33%, payable June 29.

An annual report for Southwest Airlines Co. is available at P.O. Box 36611, Dallas, TX 75235; (214) 792-4000; www.southwest.com.

SOUTHWEST AIRLINES
Quarter
Per-Share Earnings*
($)
Sales
Change
Quarterly
Price Range
($)
P/E Ratio
Range
Mar '16
0.88
vs.
0.66
5%
45.39
-
33.96
13 - 10
Dec '15
0.90
vs.
0.59
8%
51.34
-
37.00
16 - 11
Sep '15
0.94
vs.
0.55
7%
40.87
-
31.36
14 - 11
Jun '15
1.03
vs.
0.70
2%
44.19
-
33.02
18 - 13
           
Year
(Dec.)
Sales
 ($Bil.)
Per-Share
Earnings*
($)
Per-Share
Dividend
($)
52-Week
Price Range
($)
P/E Ratio
Range
2015
19.65
3.52
0.29
51.34
-
31.36
15 - 9
2014
18.61
2.01
0.20
43.19
-
18.78
21 - 9
2013
17.70
1.12
0.10
19.00
-
10.36
17 - 9
2012
17.09
0.56
0.03
10.61
-
7.76
19 - 14
 
Quadrix Scores †
Overall
Momen-
tum
Value
Quality
Financial
Strength
Earnings
Estimates
Performance
93
76
89
99
71
29
27

   * Earnings exclude special items.
   † Quadrix scores are percentile ranks, with 100 the best.


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