Shares of Hawaiian Holdings (NASDAQ:HA) have been in a tailspin for more than two years due to investors' fears about rising competition on routes to and within Hawaii. United Airlines aggressively expanded its capacity to Hawaii beginning in late 2017, and Southwest Airlines (NYSE:LUV) began flying several mainland-Hawaii and interisland routes earlier this year.

The surge in capacity on mainland-Hawaii routes -- and more recently, on interisland routes -- has hurt Hawaiian Airlines' profitability. With Southwest Airlines planning to resume its growth in Hawaii in early 2020, shares of Hawaii's hometown airline recently fell to a multiyear low near $23. Yet investors appear to be too pessimistic with respect to Hawaiian's ability to stabilize its earnings and return to growth in the years ahead. That makes Hawaiian Holdings an attractive turnaround stock to consider.

HA Chart

Hawaiian holdings stock performance. Data by YCharts.

Earnings pressure has been real

It's important to acknowledge that the recent uptick in competition has caused meaningful margin erosion for Hawaiian Airlines. In 2016 and 2017, the carrier's adjusted pre-tax margin was approximately 18%: a stellar result for any airline. However, Hawaiian's adjusted pre-tax margin fell to 12.6% last year and declined by more than 3 percentage points in the first half of 2019.

Based on the company's current outlook, Hawaiian Airlines appears likely to face a similar amount of margin pressure in the second half of the year. That would put its full-year pre-tax margin between 9% and 10% -- respectable but far from extraordinary.

Notably, Hawaiian's financial performance on international routes has been improving, due to a better supply demand balance there and the strength of the Japanese yen. All of the company's earnings pressure has come in the mainland-Hawaii and interisland markets.

Southwest's next round of growth isn't that scary

Earlier this month, Southwest Airlines announced that it would begin five new mainland-Hawaii routes and three new interisland routes in January. Hawaiian Airlines only flies two of the new West Coast routes: Sacramento-Honolulu and Oakland-Lihue. (Furthermore, Southwest will fly the Oakland-Lihue route just three times a week.) By contrast, Hawaiian competes directly with all four of the routes from Oakland and San Jose to Hawaii that Southwest launched this spring.

A Hawaiian Airlines jet parked on the tarmac, with air stairs attached

Hawaiian Airlines will face incremental competition from Southwest in 2020. Image source: Hawaiian Airlines.

In other words, the next phase of Southwest's expansion in the mainland-Hawaii market will have a much smaller impact on Hawaiian Airlines than the growth it has withstood this year.

Southwest's move into additional interisland routes will be more of a headache, as Hawaiian has a virtual monopoly on all of those routes today. That said, Southwest has already been serving the highest-traffic interisland route (Honolulu-Kahului) since late April. Moreover, the low-fare giant has been selling tickets at unsustainably low prices on its interisland routes this year. In the long run, it will have to raise fares to make the routes profitable. Indeed, according to CEO Peter Ingram, Hawaiian Airlines has lower costs in the interisland market than Southwest.

Business trends should improve soon

Over the past two years, Hawaiian Airlines has faced major headwinds from rising competition, with little in the way of offsetting tailwinds. However, that's likely to change next year.

First, the carrier's proposed joint venture with Japan Airlines is on track to be approved soon, allowing it to go into effect in late 2019 or early 2020. Hawaiian will add 11 more weekly flights to Japan by next spring, which will help it maximize the benefits of the joint venture and redeploy less-profitable capacity away from the West Coast market.

Second, Hawaiian Airlines will launch its take on basic economy pricing later this year, giving it a better ability to compete for the business of price-sensitive travelers. Management expects the new fare structure to boost its domestic revenue by up to $25 million annually.

Lastly, other airlines that compete in the West Coast-Hawaii market are likely feeling even more pain than Hawaiian Airlines on those routes right now. As those rivals redeploy capacity to more promising markets elsewhere in their route networks, the supply-demand balance will start to improve again. When that happens, Hawaiian Airlines' profit could rebound quickly. With Hawaiian Airlines stock currently trading for just six times forward earnings, even a modest earnings recovery could unlock tremendous upside for shareholders.