A year ago, American Airlines (AAL -0.85%) was riding high. Shares of the world's largest airline peaked at nearly $60 in January 2018, as investors celebrated accelerating unit revenue growth and the permanent reduction of corporate tax rates.
However, American Airlines' revenue momentum started to peter out over the course of 2018, while soaring oil prices put pressure on its profitability. This forced the company to repeatedly cut its full-year earnings forecast. As a result, by late December, American Airlines stock had lost more than 40% of its value.
American Airlines shares bounced back last week after management announced bullish guidance for 2019. If the company can achieve its earnings target, there should be more upside ahead for the stock. But if American's initial full-year forecast proves to be unrealistic again, the recent rally will prove ephemeral.
An uninspiring end to 2018
Last Thursday, American Airlines reported that adjusted earnings per share reached $1.04 in the final quarter of 2018. This was up from $0.93 in the prior-year period and came in ahead of the average analyst estimate of $1.01, but it was hardly an impressive result.
First, revenue per available seat mile (RASM) rose just 1.7% -- near the bottom of the 1.5% to 3.5% guidance range management provided back in October. That also represented a slowdown relative to the 2.7% RASM increase the carrier achieved in the first nine months of 2018.
Second, American Airlines' adjusted pre-tax margin fell to 5.8% last quarter from 6.8% a year earlier. And for the full year, American Airlines posted a subpar adjusted pre-tax margin of 6.3%, down from 9.7% in 2017. As a result, full-year adjusted EPS fell to $4.55, compared to $5.27 in 2017. That fell way short of the carrier's initial outlook. At this time last year, management projected that EPS would come in between $5.50 and $6.50 in 2018.
A mixed outlook
Looking ahead to 2019, American Airlines expects adjusted EPS to rise to between $5.50 and $7.50, up 21% to 65% year over year. Considering that American Airlines stock trades for less than eight times trailing earnings, this guidance looks very positive for shareholders.
On the other hand, management's guidance for the first quarter is nothing to write home about. RASM is on track to rise 0% to 2%. And while fuel prices have retreated significantly since the beginning of October, American Airlines expects to post an adjusted pre-tax margin between 2.5% and 4.5% this quarter, compared to 4.5% in the first quarter of 2018.
In other words, profitability is likely to continue falling this quarter. So while American Airlines expects strong earnings growth in 2019, all of the improvement is supposed to come in the last three quarters of the year. Investors should therefore take the company's bullish full-year forecast with a grain of salt.
Can American Airlines achieve its earnings guidance this year?
American Airlines' full-year earnings forecast appears to anticipate an improvement in both unit revenue and cost trends over the course of 2019. Fortunately, while there's no guarantee that the year will play out as management expects, there's more to this forecast than just wishful thinking.
For one thing, fuel prices were higher in the last three quarters of 2018 than in Q1, so year-over-year fuel cost comparisons will get easier. Additionally, American Airlines is planning for full-year capacity growth of approximately 3%, compared to just 1% in the first quarter. This acceleration in its growth rate should lead to lower unit cost increases in the second half of 2018.
Meanwhile, on the revenue side of the equation, the timing of Easter and the recent government shutdown will negatively impact the first quarter. By contrast, Easter will be a tailwind to unit revenue in the second quarter. Furthermore, American Airlines will benefit from the opening of 15 additional gates at its Dallas-Fort Worth hub beginning in Q2. This extra gate space will allow the carrier to expand at one of its most profitable hubs.
American Airlines doesn't need to hit the high end of its 2019 EPS guidance for the stock to soar. But the company will need to show that unit revenue trends are improving as the year progresses, while also posting consistent margin expansion in the last three quarters of 2019.
Check out the latest American Airlines earnings call transcript.