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A Coronavirus Vaccine Could Send This Airline Stock Flying Even Higher

By Adam Levine-Weinberg – Nov 25, 2020 at 3:19AM

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Airline stocks are rallying on optimism about the coming global rollout of COVID-19 vaccines. However, one airline is uniquely well positioned to profit as demand recovers.

Coronavirus vaccines are on the way. Moreover, they will be available sooner than most public health experts had expected -- and more effective to boot. That's great news for airlines, which have been hit hard by the COVID-19 pandemic in 2020. However, one airline stock could be the biggest winner from the global vaccine rollout: Volaris (VLRS 2.39%). Despite having already recovered all of its losses from earlier this year, this Mexican airline stock is primed for further gains, as it is poised to dominate the Mexican aviation recovery.

Vaccines coming soon

Since the beginning of November, the developers of three COVID-19 vaccine candidates have reported promising clinical trial results. Vaccine candidates developed by Moderna and a Pfizer-BioNTech partnership both reduced COVID-19 cases by 95% compared to placebo groups. A vaccine candidate developed by the University of Oxford and AstraZeneca is up to 90% effective, based on initial data.

Each of these vaccines -- and in all likelihood, several others -- will be available in huge quantities in 2021. This could essentially end the pandemic within a year. That in turn should make people comfortable traveling by air again, setting the stage for the global airline industry to recover gradually.

A Volaris plane landing on a runway

Image source: Volaris.

The competition is reeling

What distinguishes Volaris from other airline stocks is that the COVID-19 pandemic has decimated its competition. As a result, the global rollout of vaccines will allow it to return to growth quickly, consolidating a dominant position in the Mexican airline industry.

Mexican flag carrier Aeromexico filed for bankruptcy earlier this year. The company was losing money even before the pandemic hit, due to an inability to compete with budget carriers like Volaris. It is using the bankruptcy process to shrink its fleet and focus on its most profitable markets: especially long-haul international routes, where it doesn't compete with discounters.

Interjet -- which was Mexico's second-largest airline a few years ago -- is in even worse shape. It reportedly hasn't paid employees in months and owes as much as 13.7 billion pesos ($680 million) for unpaid taxes, fuel bills, airport charges, and other expenses. Furthermore, aircraft leasing companies have repossessed nearly its entire fleet. Even if Interjet somehow survives, it will be a fraction of its former size.

A huge market share opportunity

As recently as 2017, Aeromexico and Interjet together held half of the Mexican domestic market, while Volaris had 27.5% market share. Aeromexico's downsizing and Interjet's ongoing collapse will reduce Mexico's total domestic aircraft fleet by a third, according to Volaris.

Aeromexico and Interjet began retrenching last year, enabling Volaris to increase its domestic market share to 31.3% in 2019. (Importantly, it also improved its pre-tax margin by 11 percentage points compared to 2018, excluding foreign exchange gains and losses.) In recent months, Volaris' domestic market share has risen even further, surpassing 40%.

These market share gains are likely to stick. For example, Aeromexico and Interjet have historically dominated slot-constrained Mexico City International Airport -- the largest market in Mexico by far. Now, plenty of slots are available, allowing Volaris to move in. The budget airline has announced about a dozen new routes from Mexico City this year, most of which have already launched.

The only other major airline in Mexico is VivaAerobus, which is also a financially healthy budget carrier. However, VivaAerobus has just 41 jets in its fleet: about half as many as Volaris. Thus, while VivaAerobus is likely to grow rapidly in the years ahead, it can't singlehandedly backfill all of the lost capacity from Aeromexico and Interjet.

The sky is the limit for this airline stock

Volaris stock has already recovered to around where it began 2020. Nevertheless, the stock still trades below its 2013 IPO price.

VLRS Chart

Volaris stock performance, data by YCharts.

Overcapacity in the Mexican aviation market has been a perennial headache for Volaris. Indeed, the Mexican domestic market grew 80% between 2013 and 2019: a 10% compound annual growth rate. By contrast, Mexico's GDP grew at an anemic rate averaging about 2% during this period. Some of this passenger growth was driven by price wars that drove fares to unsustainably low levels. As a result, while Volaris has periodically reported strong margins, its profitability has been volatile -- weighing on the stock price. Now, it is primed for rapid margin improvement, as it claims higher market share in a less competitive market.

Passenger traffic is already recovering rapidly, with Volaris' domestic traffic down just 13.3% year over year in October. The arrival of COVID-19 vaccines next year will provide a further demand boost. Volaris has the fleet flexibility to grow significantly over the next few years to capture that demand. The combination of strong growth and margin expansion could send this airline stock soaring to record levels before long.

Adam Levine-Weinberg owns shares of Volaris. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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