Charlie Munger, Warren Buffett's business partner, has condemned drugs, liquor, and leverage as humanity's three biggest downfalls. The first two are your own responsibility, but if you're invested -- or are thinking about investing -- in the airline industry, you should know which companies in the space are the deepest in debt.
Leverage is not inherently bad for a company. A rapidly growing company can intelligently employ debt to exploit its market opportunity. At low interest rates, debt can fund shrewd strategic acquisitions. Since it's generally cheaper than equity, debt can also lower a company's cost of capital.
But too often, companies end up abusing debt -- and as Munger reminds us, excessive leverage can lead to ruin. Let's examine a few of the most heavily indebted airlines.
|
Company
|
Total Debt/Capital
|
Interest Coverage
|
| AMR (NYSE: AMR ) |
154.9%
|
0.4
|
| United Continental (NYSE: UAL ) |
133.3%
|
2.1
|
| US Airways (NYSE: LCC ) |
98.1%
|
2.4
|
| Delta Air Lines (NYSE: DAL ) |
94.5%
|
2.2
|
| Republic Airways (Nasdaq: RJET ) |
83.8%
|
1.0
|
First of all, look at AMR, which operates American Airlines. As the 0.4 interest coverage ratio indicates, the company's operating income has been insufficient to pay the interest on its loans over the past 12 months. This is on top of the recent drama stemming from the airline's recent spat with online travel intermediary Expedia.
Republic Airways, which is just a $290 million market-cap company (the other four are valued at more than $1 billion each), is also flirting with disaster with its ability to meet its interest payments. Its 1.0 interest coverage ratio implies that it needs every last drop of its operating income to avoid defaulting on its loans.
Not surprisingly, all of these companies are trading at relatively low multiples. All of their EV/EBITDA multiples are below 7, which means they might be showing up on value-oriented screens. I'd tread particularly carefully with US Airways. This airline sports a dirt-cheap (on the surface) 3.8 multiple, but this $1.4 billion company also has a whopping $4.4 billion in debt on its books.
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