On Thursday morning, Delta Air Lines (NYSE:DAL) led off earnings season for the U.S. airline industry. As expected, the airline giant posted a sizable loss and continued to burn cash last quarter. It expects more of the same in the first quarter of 2021.
Nevertheless, Delta's earnings report and management commentary offered compelling evidence that a strong demand recovery is just around the corner -- and that Delta is in a great position to profit from that future rebound in demand.
Cash burn is under control
Delta reported an adjusted loss of $1.6 billion ($2.53 per share) on adjusted revenue of $3.53 billion for the fourth quarter. These results were roughly in line with the analyst consensus, which had called for an adjusted loss of $2.51 per share on $3.6 billion of revenue. Furthermore, Delta's results improved sequentially. In the third quarter -- normally a seasonally stronger period -- the company reported adjusted revenue of $2.65 billion and an adjusted loss of $3.30 per share.
However, cash burn has been a more important metric to track ever since the pandemic crushed air travel demand last March. After all, airlines that burn more cash in the near term will either emerge from the pandemic with weaker balance sheets (all else equal) or be forced to dilute shareholders' interests by selling stock.
Delta reported that average daily cash burn eased to $12 million last quarter, down 50% from the third quarter. This figure came in at the favorable end of the company's most recent guidance for Q4 average daily cash burn of $12 million to $14 million.
Looking ahead, Delta expects a similar level of underlying cash burn in the first quarter: $10 million to $15 million a day, on average. But the company also expects to receive about $3 billion of payroll support funds from the recently passed federal stimulus bill. Since most of the payroll support comes in the form of grants, Delta actually expects its net debt to decline this quarter.
Solid signs of demand recovery
Delta executives expect demand to remain choppy and extremely weak by historical standards for the next few months. However, as the vaccine rollout starts to tame the pandemic, demand should improve significantly. Management currently projects that the recovery will begin in earnest in the spring and accelerate in the second half of 2021. This would enable Delta to generate positive cash flow in the second quarter and return to profitability in Q3.
Supporting this bullish outlook, management noted that "shopping visits" to Delta's website and mobile app have increased dramatically. Most consumers remain hesitant to book, but they are actively researching destinations and travel options. This suggests that there is a lot of pent-up demand, which will likely be unleashed as more people receive their COVID-19 vaccinations.
Furthermore, while many pundits have speculated about the demise of business travel due to the rise of videoconferencing, Delta's most recent corporate customer survey points to a much better outcome. Just over half of Delta's major corporate travel customers expect to return to 2019 travel levels by 2023. In fact, most companies in that group expect to reach 2019 travel levels by next year. Of the remainder, 42% said they weren't sure about their future plans yet, and just 7% anticipated that they would never return to 2019 travel levels.
Clearly, many companies are still uncertain about their long-term plans for business travel. Still, these statistics support Delta's view that business travel will rebound to at least 80% to 90% of 2019 levels once the economy recovers. Delta's management also noted that small and medium businesses are restoring business travel faster than large corporate customers.
Cost cuts pave the way for an impressive profit recovery
Even if business travel recovers to 90% of pre-pandemic levels within a few years, investors might wonder whether that would enable a full recovery in Delta's earnings and stock price. Fortunately, Delta's cost reductions during the pandemic should more than offset any long-term demand weakness.
Delta significantly reduced its headcount and fleet count in 2020. It is also simplifying its fleet and replacing the planes it is retiring with larger models that have significantly lower unit costs. As a result, the company expects non-fuel unit costs to be lower than 2019 levels by the fourth quarter of 2021, even with capacity lower by roughly 25%. As Delta restores capacity toward 2019 levels over the following two to three years, unit costs will decline further.
Thus, even if revenue doesn't quite recover fully by 2023, Delta's earnings should rebound to 2019 levels or higher. That would enable the company to quickly pay down the debt it accumulated in 2020 -- and it could allow Delta stock to rally to a new all-time high.