After suffering severe margin erosion in 2017 and 2018, West Coast airline Alaska Air (ALK 2.38%) has gotten back on track in 2019. For the first nine months of the year, revenue per available seat mile (RASM) rose 4.1%. And while nonfuel unit costs increased 2.9% -- partly due to one-time factors and the timing of expenses -- Alaska's average fuel price fell 3.5%. As a result, adjusted pre-tax income surged 33% year over year, from $611 million to $811 million.
Alaska Air's revenue and earnings momentum is continuing in the fourth quarter, as evidenced by the carrier's recent investor update. That bodes well for its ability to continue rebuilding its profitability in 2020 and beyond.
Alaska Air has reported stellar profit growth in 2019. Image source: Alaska Airlines.
Q4 is shaping up to be another strong quarter
Two months ago, Alaska Air projected that unit revenue growth would slow somewhat in the fourth quarter, with RASM rising 1% to 4% year over year. On the other hand, it estimated that non-fuel unit costs would increase less than 1%, while fuel costs would decline 8% year over year.
The combination of higher unit revenue and lower unit costs is obviously great for profit growth. In fact, the midpoint of Alaska's initial guidance for the fourth quarter implied that adjusted earnings per share would soar to around $1.30, compared to $0.75 in the year-ago period.
On Monday, Alaska Air bumped up its quarterly guidance, just as it had done in each of the two previous quarters. The airline now expects RASM to rise 2% to 4% year over year this quarter, implying that its revenue momentum is continuing. That's particularly impressive because it faces a tough year-over-year comparison: Whereas RASM declined 2.3% in the first nine months of 2018, Alaska bounced back with a strong 5.2% RASM gain in last year's fourth quarter.
On the cost side, Alaska Air reduced its non-fuel unit cost estimate by about 0.2%. The airline's average fuel price is set to come in at $2.20 per gallon -- about 2% higher than the October forecast -- but better-than-expected fuel efficiency is poised to offset nearly all of that headwind. The net result is that analysts expect Alaska Air's adjusted earnings per share (EPS) to reach $1.38 this quarter.
More upside ahead
Based on its year-to-date results and current Q4 forecast, Alaska Air is on track to achieve an adjusted pre-tax margin of around 12% in 2019. That would represent a big improvement over last year, when its adjusted pre-tax margin ended up just shy of 9%. Still, Alaska Air hasn't even reached the low end of its 13% to 15% pre-tax margin target range, let alone the 20%-plus pre-tax margins it was generating a few years ago.
Fortunately, Alaska Air appears well positioned to continue expanding its profit margin over the next year or two. Most notably, management expects the company to capture the remaining $105 million of annual synergies from its Virgin America acquisition by 2021. Additionally, the airline still has opportunities to improve its profitability by redeploying capacity from underperforming routes into more promising markets.
The fact that Alaska is on track to post solid RASM growth this quarter despite a tough year-over-year comparison bodes well for the carrier's ability to continue growing unit revenue next year. Its excellent Q4 cost performance also suggests that non-fuel cost trends are set to improve.
To be sure, Alaska Air may face volatility in the years ahead related to the ebbs and flows of industry capacity, fuel costs, and travel demand. However, between its revenue growth potential and margin expansion opportunity, Alaska is likely to grow EPS significantly over the next few years. With the stock trading for just 11 times earnings, there's plenty of upside left for investors.
