For most airlines, the pain of the COVID-19 pandemic is far from over. Cash burn has slowed compared to the spring, but revenue remains at a fraction of 2019 levels and breakeven is months away (at best). Furthermore, it could take three years or more for many airlines to return to their 2019 size.

Mexican budget airline Volaris (VLRS 0.97%) is one of the few exceptions to the rule. In fact, the carrier's recent third-quarter earnings report should bolster investors' confidence that Volaris will emerge from the pandemic even stronger than it was a year ago.

Rapid sequential improvement

Three months ago, Volaris reported that revenue plunged 82% year over year to 1.5 billion pesos ($66 million) in the second quarter. While the company was able to slash operating expenses by 50%, it still posted an operating loss of 2.3 billion pesos ($102 million) for the period.

Fortunately, demand was already starting to recover by the end of the quarter. Volaris' momentum accelerated in the third quarter. That enabled it to operate 75% of its 2019 capacity last quarter, compared to less than 25% in Q2. Revenue declined 50% year over year to 4.7 billion pesos ($210 million): a significant drop to be sure, but a huge improvement over the prior quarter. The sequential revenue growth helped Volaris to reduce its operating loss (excluding a special charge) to 1.5 billion pesos ($66 million).

A Volaris plane about to land on a runway

Image source: Volaris.

Cash burn was also better than expected. Volaris recorded a cash outflow of 1.8 billion pesos ($81 million) in the third quarter: less than $1 million per day. This allowed it to end the period with cash of 8.2 billion pesos ($365 million), putting it in a net cash position.

Volaris' performance is particularly impressive in that the Mexican government didn't provide any aid to airlines. By contrast, even the most successful U.S. airlines needed aid to avoid huge job cuts over the spring and summer and are pushing hard for additional government grants.

The outlook is sunny, too

Volaris didn't provide formal guidance for the fourth quarter. However, during the company's earnings call last week, management indicated that business conditions continue to improve.

In September, Volaris achieved a 74.4% load factor with capacity down just 16% year over year. Moreover, unit revenue declined just 7% last month. Bookings and fares have been improving week by week, so Volaris continues to ramp up capacity, particularly in international markets. The airline plans to reduce total capacity just 10% year over year in the fourth quarter, allowing it to keep its entire staff employed.

Management expects average daily cash burn of around $1 million this quarter. Excluding the repayment of bills that were deferred from the second quarter (and, to a lesser extent, the third quarter), cash flow would be positive. Volaris projects that passenger volumes will return to 2019 levels by the first half of 2021 -- two to three years ahead of the global airline industry -- which should enable it to reach cash breakeven or better.

From leadership to dominance

There are several reasons why Volaris is surviving the COVID-19 pandemic better than most of its peers. First, it boasts the lowest unit costs of any airline in the Western Hemisphere. Second, it primarily serves travelers who are visiting friends and relatives, with a secondary focus on leisure routes. Demand is recovering much faster in these market segments than on business-focused routes. Third, it is making huge market share gains.

Indeed, Volaris' management noted that two of its three main competitors are shrinking dramatically, removing the equivalent of a third of the total domestic narrow-body fleet in Mexico. Former market leader Aeromexico filed for bankruptcy earlier this year and has rejected some of its aircraft leases. Interjet remains on the verge of collapse, and lessors have repossessed the vast majority of its fleet.

As recently as 2017, Aeromexico and Interjet carried a full 50% of domestic traffic in Mexico. That fell to just 27% as of July 2020. Volaris capitalized on their woes, growing its domestic market share to 46% in July: up from 31% last year and an average of 28% in 2017 and 2018.

It's unlikely that Interjet will ever recover in any meaningful way, and Aeromexico is likely to remain a smaller carrier for the foreseeable future. Thus, most of Volaris' recent market share gains are likely to stick. As air travel demand recovers over the next several years, that will enable strong revenue growth and a robust profit recovery. That makes Volaris a great stock for patient, risk-tolerant investors to buy and hold.