Why JetBlue's Starting to Regain Altitude

Earlier this year, I argued that JetBlue Airways (NASDAQ: JBLU  ) -- long-fallen from its glory days as the darling of the airline industry -- might be ready for takeoff again. The company's solid Q3 earnings report and strong outlook provide some early confirmation that JetBlue is returning to form. As margins rebound over the next several years, JetBlue stock could soar higher.

JetBlue hits turbulence

JetBlue is finally showing signs of improvement (Photo: JetBlue Airways).

JetBlue has had a rough couple of years from a cost perspective. It's faced severe maintenance cost increases since 2011, due to problems with the engines on its Embraer (NYSE: ERJ  ) E-190 planes . Furthermore, it was affected more severely by Hurricane Sandy than other airlines, due to its geographical concentration in the Northeast.

On the company's recent earnings call, airline analyst Glenn Engel noted that 2013 will be the fifth consecutive year that JetBlue's non-fuel unit costs have risen faster than the industry average . These cost increases are largely driven by employee pay increases and JetBlue's aging fleet. Worse yet, the higher expenses are challenging its identity as a "low-cost carrier."

However, JetBlue announced a major fleet restructuring this week, which should reverse some of these cost increases over the next five years.

First, JetBlue will halt the growth of its Embraer fleet -- which should reduce long-term maintenance cost increases. Second, the company is shifting its Airbus orders toward the larger A321 model. This will reduce JetBlue's unit costs, and allow the carrier to boost capacity in New York, where slot constraints have prevented it from growing.

Improvement in sight

JetBlue's Q3 results showed that the airline is already improving its performance. EPS grew 50% year over year to $0.21, JetBlue's best result ever. Passenger unit revenue increased 5.4% year over year, thanks to strong demand during the summer peak and better matching of capacity to demand in September.

JetBlue's management expects this strong revenue performance to continue in Q4. The company projects a 4% increase in October unit revenue, despite some headwinds due to hurricane-related flight cancellations last year. Holiday bookings look good, too, and JetBlue will have the first four of its larger, 190-seat A321 aircraft flying by the end of the year in order to meet this seasonally strong demand .

Furthermore, JetBlue's cost headwinds are already abating. In June, JetBlue signed a 10-year contract with engine manufacturer General Electric (NYSE: GE  ) to maintain its E-190 engines, smoothing out maintenance costs . The addition of the more efficient Airbus A321 will also help reduce unit costs. Lastly, Hurricane Sandy added some costs last fall that won't repeat this year (weather permitting!). JetBlue's total unit costs are therefore expected to be about flat in Q4 .

Clear skies ahead

JetBlue is already starting to turn a corner in terms of profitability. Looking into 2014 and 2015, this momentum is likely to continue, boosted by better cost control and new revenue initiatives, including the rollout of JetBlue's "Mint" premium transcontinental service. These tailwinds could well lead to market-beating returns for JetBlue investors over the next several years.

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