US Airways Soars to a New High: Is It Still a Buy?

Shares of US Airways (NYSE: LCC  ) hit a 52-week high on Thursday. Let's take a look at how it got there and see if clear skies are still in the forecast.

How it got here
US Airways and the entire airline sector are roaring higher as a wave of price target and earnings estimate upgrades have come rolling in just this week from JPMorgan Chase, Dahlman Rose, and Bank of America Merrill Lynch. Primarily, there were three reasons for the upgrade and the bounce in US Airways' stock.

First, jet fuel prices have fallen by $0.40 since February, which should translate into $5.5 billion worth of savings for the entire industry. While this is good news for most airlines that hedge, this is fantastic news for US Airways, which doesn't hedge its fuel costs at all and is the most susceptible to prices rising. Secondly, earnings estimates for the airline sector haven't budged despite the drop in fuel costs and the relatively bullish airline traffic figures we've witnessed over the past couple of months. Finally, US Airways is one of the many airlines raking in huge margins from baggage fees. In all of 2011, according to data collected by the Bureau of Transportation, US Airways ranked third among all airlines (behind only Delta Air Lines (NYSE: DAL  ) and American Airlines) having collected $506 million of the $3.36 billion airlines received in baggage fees.

Still, challenges remain including highly volatile fuel prices and the resurgence of regional carriers like Allegiant Travel (Nasdaq: ALGT  ) and Spirit Airlines (Nasdaq: SAVE  ) , which have more flexibility with their route coverage and are more reliant on optional fees and low-teaser rates to drive profits.

How it stacks up
Let's see how US Airways stacks up next to its peers.

LCC Chart

LCC data by YCharts

Don't let this chart above fool you. If not for the United Continental Holdings (NYSE: UAL  ) merger two years ago, Allegiant would be shown up 100% over the past five years, with US Airways and Delta down 65% and 40%, respectively.

Company

Price / Book

Price / Cash Flow

Forward P/E

Debt / Equity

US Airways 9.5 3.7 4.2 2,219%
Delta Air Lines N/M 3.3 4.2 N/M
Allegiant Travel 3.3 9.2 13.3 38%
United Continental 5.1 5.8 4.1 824%

Source: Morningstar, Yahoo! Finance, N/M = not meaningful.

Yes, the airline sector looks incredibly cheap based on forward earnings multiples -- but make no mistake about it, this is the same sector that has witnessed more than 100 bankruptcies since 1990.

The biggest difference I've noticed is the bifurcation between regional and national carriers I alluded to earlier. National carriers with larger fleets are being forced to spend untold billions upgrading to newer planes to save on fuel costs in order to be competitive with regional airlines and their smaller, more agile routes and pricing policies. It's very easy for Allegiant to shut a route down if it becomes unprofitable, but if US Airways tried the same thing, passengers would be lined up with pitchforks outside its corporate headquarters.

That big difference can be seen in the huge debt loads carried by the national airlines. Delta Air Lines actually has so much debt it would wipe out all of the equity in the company if it were liquidated. US Airways, despite two bankruptcies in the past decade, still boasts a large amount of debt relative to shareholder equity, and even United Continental, which was expected to see huge synergies from its merger, is carrying an excessive amount of debt.

What's next
Now for the real question: What's next for US Airways. That question is going to depend on whether jet fuel prices remain low, which is imperative for US Airways to gain earnings momentum, and if it can lure potential customers away from lower-priced regional airlines and onto its planes. Right now, it seems that price is winning over loyalty no matter how hard the more mature airline brand names try.

Our very own CAPS community gives the company a dreaded one-star rating (out of five), with 42.4% of members expecting it to underperform. Although I've yet to make a CAPScall on US Airways, I'm ready now to anoint it with a rating of underperform. Here's why...

Plain and simple, this is a sector that would be better served by getting smaller, yet all US Airways wants to do is merge with an even larger national carrier. If it does indeed wind up merging with American Airlines, it's my opinion that the result would be the worst airline ever created from a financial standpoint. US Airways has turned to bankruptcy twice in the past decade, and I doubt it will survive another decade without seeking assistance again. As much as I loathe fuel hedges, I don't see how US Airways is going to compete without hedging with oil regularly priced around $100 per barrel. To me, this seems like a no-brainer underperform over the long haul.

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Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

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  • Report this Comment On May 31, 2012, at 6:04 PM, MHedgeFundTrader wrote:

    This is far and away the world’s premier banking institution. Estimates of the huge trading losses by the London “whale”, initially pegged at $2 billion, have since skyrocketed to $6 billion. I’ll ignore the Internet rumors that speculate about a $30 billion hickey. As you well know, almost everything on the net is not true, except what you read in my own newsletter.

    Back in the 1980’s when I was at Morgan Stanley, the inside joke was to look for nice office space for ourselves whenever we visited clients at (JPM). The expectation was that they would take us over when Glass-Steagle ended, as they were both the same institution before the Securities and Exchange Act broke them up in 933. When the separation of commercial and investment banking finally came in 1999, Morgan Stanley had grown far too big to swallow and the egos too big to manage.

    I’ll tell you another way to look at this trade. (JPM) lost 4.7% of its capital, so Mr. Market chewed 30% out of its capitalization. Sounds a bit overdone, no? The bad news is already in the price. A large part of the offending position has already been liquidated.

    I have analyzed the specific trade that got (JPM) into so much trouble, the now infamous “Investment Grade Series 9 Ten Year Index Credit Default Swap.” The chart of its recent performance and its hedge is posted below. It was in effect a $100 billion “RISK ON” trade that came to grief in early May.

    Few outside the industry are aware that this was a $6 billion gift to two dozen hedge funds who are now shouting about record performance. It is, after all, a zero sum game. Didn’t Bruno get the memo to “Sell in May and go away”? He obviously doesn’t read The Diary of a Mad Hedge Fund Trader either.

    Even if the worst case scenario is true and the $6 billion numbers proves good, that only takes a 4.7% bite out of the bank’s $127 billion in capital. It is in no way life threatening, nor requiring any bailouts. These shares at this price are showing an eye popping low multiple of 7X earnings, and have already been punished enough. Getting shares this cheap in this company is a once in a lifetime gift, and twice in a lifetime if you count the 2009 crash low.

    You don’t have to run out and bet the farm right here. Scale in instead, and if the market drops, you can always cost average down. If Greece forces us into major meltdown mode, we can also hedge this “RISK ON” trade through taking more aggressive “RISK OFF” positions, like selling short the (FXE), (SPX), (IWM), (GLD), or the (SLV) by buying puts.

    Mad Hedge Fund Trader

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