United Airlines (UAL 3.63%) continued to struggle mightily last quarter. A resurgence in COVID-19 cases during the autumn crimped a nascent recovery in air travel demand. Cash burn significantly exceeded management's initial guidance. United also burned much more cash than top rival Delta Air Lines (DAL 3.71%). However, management seemed confident that the underlying business would fully recover by 2023. Let's see what this news means for investors.
During the third quarter, United Airlines' daily cash burn averaged $21 million, excluding $4 million per day for debt and severance payments. Three months ago, management predicted that cash burn would slow to a range of $15 million to $20 million per day in the fourth quarter, excluding $10 million per day of debt and severance payments.
Unfortunately, air travel demand began to sag in November as the pandemic worsened in the U.S. Trends worsened further in December. As a result, United acknowledged last month that Q4 daily average cash burn would come in higher than its initial forecast, at roughly $24 million to $26 million before debt and severance payments.
On Wednesday, United revealed that it beat that updated guidance. It burned $23 million per day last quarter, not counting the $10 million per day of debt and severance payments. The company also noted that "core" cash burn -- a new metric it introduced that adjusts for the timing of certain spending -- improved by $5 million per day compared to the prior quarter. Still, United's performance compared quite unfavorably to that of Delta Air Lines, which is similar in size. Last week, Delta reported that it burned an average of just $12 million per day in the fourth quarter, down from $24 million per day in the third quarter.
As for United's revenue and earnings, both fell a bit short of analysts' estimates. Revenue plunged 69% to $3.41 billion, just shy of the analyst consensus of $3.44 billion. Furthermore, the airline posted an adjusted loss of $7 per share, $0.36 worse than what analysts had expected.
Unlike Delta, United Airlines didn't offer any guidance about when it would stop burning cash or return to profitability. That contributed to the stock falling on Thursday.
On the other hand, despite its weak Q4 financial performance, United Airlines "expressed high confidence" that it would surpass its 2019 adjusted EBITDA margin of 15.7% by 2023. It said it has already identified $1.4 billion of structural cost reductions and has a clear path to at least $2 billion of annual savings. Furthermore, management expects leisure travel demand will recover quickly as vaccine distribution improves, followed by a full recovery for business travel within two or three years.
However, investors shouldn't necessarily trust these projections. While United was the most conservative airline in terms of projecting the impact of the pandemic a year ago, it still grossly underestimated the extent of the damage. Now, its projections aren't even on the conservative side of the industry, particularly with respect to business travel.
For example, Delta CEO Ed Bastian has warned that business travel may be 10% to 20% lower than pre-pandemic levels permanently. Southwest Airlines CEO Gary Kelly expects it to take up to 10 years for business travel demand to recover fully. United Airlines is arguably more reliant on business travel than any other U.S. airline due to its massive long-haul international route network. If business travel demand doesn't recover as strongly as United's management expects, the company will likely fall short of its profitability target.
Upside potential with a ton of risk
The good news for investors is that United Airlines stock can be purchased for about half of its early 2020 price. Moreover, United shares traded for less than eight times trailing earnings a year ago. That makes the stock look like a huge bargain, at least relative to its 2019 earnings power.
Of course, even if United's margin recovery materializes as expected, it wouldn't send United Airlines stock back to pre-pandemic levels. First, United's adjusted net debt has increased by nearly $7 billion over the past year and could increase further this year. That justifies a lower market cap, unless EBITDA grows well beyond 2019 levels. Second, United Airlines' share count has increased by about 24% over the past year, as the company has issued shares to help cover its cash burn. That makes each individual share less valuable.
United Airlines stock offers plenty of upside for long-term investors, provided most business travel demand returns eventually. That said, it's a very risky investment due to its high debt load, substantial backlog of deferred capital spending, and uncertainty about future corporate travel spending. Most investors may be better off investing in airlines that have stronger balance sheets and that are less exposed to business travel and long-haul international routes.