After more than two years of persistent unit revenue declines, Delta Air Lines (NYSE:DAL) is finally set to report a return to unit revenue growth for the second quarter of 2017. This will also allow it to post strong year-over-year profit growth in Q2.
With Delta Air Lines returning to form, Delta shares may finally be ready to rally, catching up with the big gains made by American Airlines (NASDAQ:AAL) and United Continental (NYSE:UAL) in the past year.
Delta provides a strong investor update
Three months ago, Delta projected that its Q2 passenger revenue per available seat mile (PRASM) would increase 1% to 3% year over year, despite a 0.5-percentage-point headwind from severe storms that hit Atlanta in early April. This would represent its first quarter of unit revenue growth since 2014.
On Wednesday morning, Delta reported that PRASM rose about 2.5% in June. It also expects to report a PRASM gain of approximately 2.5% for the full second quarter.
Including its projected cost performance, Delta is on track to report a Q2 adjusted operating margin of 18% to 19%, which would be in the upper half of its original guidance range. This likely translates to an adjusted pre-tax margin of 17% to 18%, which would be Delta's best margin performance ever for the second quarter.
Is it sustainable?
Delta Air Lines is on track to report very strong results for the second quarter. However, that wouldn't matter much if the company's Q2 performance were just a blip on the radar.
Fortunately, Delta is well-positioned to keep posting strong results for the rest of 2017 -- and perhaps into 2018. First, the carrier's return to PRASM growth last quarter wasn't driven by the timing of Easter, as was the case for many other airlines. In fact, April was the worst month of the quarter for PRASM growth at Delta. Delta's strong May and June unit revenue results bode well for the upcoming summer peak season.
Second, unit cost growth is set to subside. Management has stated that adjusted non-fuel unit costs will increase less than 2% year over year in the second half of 2017, compared to an increase of more than 4% in the first half of the year. Furthermore, fuel prices are on pace to be roughly even with the year-earlier period in the second half of 2017.
The net result is that Delta Air Lines should be able to deliver continued margin expansion and profit growth in the next two quarters.
American Airlines and United Continental can't keep up
While shares of American Airlines and United Continental have outperformed those of Delta over the past year, it's clear that Delta remains the industry leader in terms of financial performance.
As of a month ago, American Airlines was on track to produce a Q2 adjusted pre-tax margin of 12% to 14%. United hasn't updated its margin forecast since mid-April, but at that point it expected to post an even lower adjusted pre-tax margin of 10% to 12% for the quarter. (A decline in fuel prices during the quarter might help United reach the upper end of its guidance range, but on the flip side, unit revenue on transpacific routes recently took a turn for the worse.)
In any case, it's clear that Delta Air Lines remains far ahead of its legacy-carrier peers in terms of profitability. It also has a better balance sheet and tends to produce stronger free cash flow than its rivals.
Investors have flocked to American Airlines stock and United Continental stock in the past year based on unit revenue growth at the former and turnaround hopes for the latter. But with neither challenger showing any progress in catching up to Delta, investors should consider sticking with the proven winner in the airline industry: Delta Air Lines.