Delta Air Lines: Cash-Flow Machine Despite Headwinds?

Don't look now, but the airlines have become massive cash-flow generators. Delta Air Lines (NYSE: DAL  ) is leading the industry, and it's forecasting an incredible operating cash flow for 2014 of over $5 billion. Most investors see cash flow as the ultimate financial indicator of corporate success, as it accurately shows how the business is performing over time. Companies can't mask the shifts in cash balances like they can with income statements; therefore, looking at cash flow provides a cleaner view of how the company is actually operating.

The amazing part about the airlines is that their vast cash flows are being generated despite high fuel costs and a sluggish economy. Delta isn't exactly experiencing roaring passenger demand, but the industry as a whole is benefiting from improved operational efficiency and reduced capacity due to mega mergers, including the recently finalized one that created American Airlines Group (NASDAQ: AAL  ) .

Combined with United Airlines (NYSE: UAL  ) , the three create a legacy group of airlines that dominate the industry. In total, the three airlines are expected to produce more than $120 billion in revenue while combined market values are only around $65 billion. Considering the strong cash flows of the industry leader, Delta, the group has the potential to reach market values more in line with revenues.

Cash flow
For 2013, Delta Air Lines generated so much cash flow that it contributed $250 million above required funding to its defined benefit pension plans. In addition, the company paid an incredible $506 million in profit-sharing expenses and returned $350 million to shareholders through dividends and stock buybacks.

For the full year, the airline generated nearly $5 billion of operating cash flow and $2.1 billion of free cash flow. Despite a load factor decline during the fourth quarter, Delta saw a huge benefit from the confluence of higher passenger revenue per available seat mile, or PRASM, and a decline in fuel prices. In essence, revenue per passenger flown increased while one of the major costs declined. For investors interested in airlines, this article provides descriptions of these key terms plus all the other important ones to reference.

With the $5 billion cash flow expected in 2014, Delta expects to further reduce the debt level by another $1 billion to reach levels around $8.4 billion. In total, the airline will have reduced the debt levels by 50% since the market bottomed in 2009.

In the case of United, it is still struggling to get the same cash flow yields of Delta. For the last reported quarter, which was the third quarter, the airline only generated $237 million in operating cash flow while spending nearly $600 million on capital expenditures. A key focus when American Airlines announces its first report since the merger next week will be whether the combined company can generate solid cash flows and eventually catch up to or surpass Delta.

Fuel impact
The 7% reduction in mainline aircraft fuel costs is a primary reason for the strong quarterly financials at Delta. The number is all the more impressive considering the 3% increase in gallons of fuel consumed. Total aircraft fuel costs were $2.2 billion, and when adding another $500 million for the regional service, the company spent roughly $2.7 billion on fuel or nearly 30% of total revenues.

An interesting side note: the continued losses at the Trainer refinery project. For the fourth quarter, Delta lost $46 million on the project that was supposed to provide cheap fuel to the airline.

The reduction of fuel costs is one area where the new American Airlines hopes to catch up with Delta. The new American Airlines spent an incredible $3.2 billion on fuel during the fourth quarter. The amount equaled nearly 32% of revenue and United Airlines spent nearly $3.0 billion on fuel, or roughly 32%, of revenue as well. Delta only spent less than 30% of revenues on fuel, providing for a roughly 200-basis-point difference between the airlines. The larger operators, American Airlines and United, should have more efficient fuel operations so those will be key factors to watch during 2014 and beyond.

Bottom line
Despite headwinds in the market, Delta continues to generate impressive cash flows. The airline is again set up for operating cash flows in excess of $5 billion in 2014. Considering that more fuel efficient planes are on the way and the oil shale boom could eventually lower fuel costs, the airlines could easily see another leg up in profits and cash flows this year. With valuations still cheap, airlines including Delta are set up for another strong year.

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