On Tuesday afternoon, Hawaiian Airlines parent Hawaiian Holdings (NASDAQ: HA ) reported disappointing breakeven results for Q4 of 2012. This missed the analyst consensus for adjusted EPS of 10 cents. After a strong performance in the first half of 2012, Hawaiian's results have deteriorated recently. As a result, shares sold off by as much as 14% on Wednesday morning, dropping more than 20% below the 52-week high set just three weeks ago.
The root cause of Hawaiian's recent underperformance is that the company expanded too quickly this year, particularly in a few markets where competitors were also expanding. Capacity, as measured by available seat miles, increased by 22% in 2012 and by 29% in Q4 specifically. However, Hawaiian plans to grow more slowly in 2013, which should position the company for a return to earnings growth in the second half of the year. Moreover, the company has built a reputation for outstanding customer service in a very desirable niche market, Hawaii. Long-term investors should view the recent sell-off as a potential buying opportunity.
Explaining the miss
Hawaiian has posted weak unit revenues in the past few months due to overcapacity between the West Coast and Hawaii (the carrier's largest market). Hawaiian is also suffering from the recent decline of the yen, which has depressed revenue from Japanese travelers. Yen devaluation has continued in January, so this will continue to put pressure on results for the time being.
However, the bulk of the miss in Q4 was the result of a $7.3 million accounting charge related to frequent flier mileage accrual. Without that charge, Hawaiian would have reported earnings per share of 8 cents, just shy of consensus. That said, this still would have been well below adjusted earnings per share of 31 cents in the prior-year fourth quarter.
Capacity growth is subsiding
Hawaiian's recent expansion has been partly responsible for the recent over-capacity problem, but competitors have also over-expanded. Alaska Airlines (NYSE: ALK ) has been dramatically growing its West Coast to Hawaii service in recent years. However, Alaska's management has admitted that the company has reached the point of diminishing returns, and has pledged to be more disciplined about capacity going forward.
Similarly, ultra-low-cost carrier Allegiant Travel (NASDAQ: ALGT ) recently entered the Hawaii market. Allegiant over-expanded in Hawaii during 2012. Management recently disclosed that performance has been below expectations due to heavy seasonality in the market. As a result, Allegiant recently trimmed its Hawaii capacity.
The combined result of this newfound capacity discipline is that published schedules show an 11% increase in West Coast capacity for Q1, but a 4% increase in Q2, and a small decline in Q3. This capacity moderation has allowed Hawaiian to successfully institute fare increases recently, and should substantially boost profitability as the year progresses.
Hawaiian is a fundamentally strong company that has hit a few bumps over the past few months. Domestic performance has been a significant drag on earnings recently, despite strong demand, because capacity grew too rapidly. With Hawaiian and its key competitors returning to capacity discipline in Q2 and beyond, Hawaiian should quickly overcome its present difficulties. Long-term investors can take advantage of the market's fear to invest in a growing company at a very good price.
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