In recent weeks, many major U.S. airlines have reported losses for the fourth quarter of 2021. By contrast, Alaska Air (ALK -1.95%) posted its second consecutive quarterly profit, thanks to its favorable cost structure and rebounding demand.
The impact of the omicron variant on demand and staffing will push Alaska back into the red this quarter. Nevertheless, the West Coast airline remains on track to surpass its pre-pandemic earnings within a couple of years. That makes Alaska Air stock a compelling investment opportunity.
Another solid quarter
Alaska Air's revenue more than doubled year over year to $1.9 billion last quarter. This represented a 15% decrease compared to the fourth quarter of 2019, beating management's guidance for a 16% to 19% decline. Unit revenue was roughly in line with Q4 2019 levels, as the airline also reduced capacity by about 15% over the same period.
Meanwhile, nonfuel unit costs jumped more than expected, rising 12% relative to the fourth quarter of 2019. Operational disruptions related to severe weather in the Pacific Northwest and the omicron variant's impact on staffing contributed to this cost pressure.
Image source: Alaska Airlines.
Nevertheless, Alaska Air booked quarterly adjusted earnings per share (EPS) of $0.24 and an adjusted pre-tax margin of 2.4%. This was particularly impressive because the spike in flight cancellations in late December reduced pre-tax income by about $70 million due to lost revenue and higher costs. Without that headwind, Alaska would have reported a solid adjusted pre-tax margin of approximately 6%.
A bump in the road to recovery
The first quarter tends to be seasonally weak for U.S. airlines. For example, in the first quarters of 2018 and 2019, Alaska Air recorded adjusted pre-tax margins between 1% and 2%.
On top of this weak seasonality, airlines must cope with a recent surge in oil prices, rising labor costs, expenses related to restoring capacity to pre-pandemic levels, and a temporary drop in demand due to the rapid spread of the omicron variant. As a result, Alaska Air will ring up a big loss in the first quarter. Management expects revenue to fall 14% to 17% compared to Q1 2019 this quarter, while expenses will increase.
Fortunately, demand is already starting to recover, particularly for travel over the Presidents' Day holiday weekend and beyond. With COVID-19 case counts starting to decline again, air travel demand could continue to accelerate (barring any new pandemic-related setbacks). As a result, Alaska's management is optimistic about a return to strong profitability in the second quarter.
Huge upside for long-term investors
Alaska Air stock plunged in the early days of the COVID-19 pandemic but came roaring back in late 2020 and early 2021. In fact, the shares peaked at $74.25 last April: above their pre-pandemic trading price. However, since then, investors seem to have lost interest in Alaska Air, causing the stock to sink to around $50.
Alaska Air Group stock performance, data by YCharts.
This has created an incredible buying opportunity for long-term investors. On average, analysts expect Alaska Air's EPS to rebound to $6.85 by 2023, driven by the demand recovery and key revenue growth initiatives like joining the oneworld global airline alliance and partnering with American Airlines. Alaska Air stock currently trades for less than eight times this 2023 earnings consensus.
EPS is likely to leap higher again in 2024, as Alaska gets the full benefit of retiring its last Airbus A320s and replacing them with more efficient Boeing 737 MAX 9s. EPS could quite plausibly reach $8 or even $9 by that year. And Alaska Airlines' leading position in fast-growing Pacific Northwest markets gives the company strong future growth potential.
Alaska Air's solid balance sheet will allow it to withstand short-term revenue and cost pressures. As such, investors shouldn't get too bogged down in the near-term headwinds the airline faces. Alaska Air has a clear path to grow revenue and EPS well beyond pre-pandemic levels over the next few years, which could drive the stock significantly higher by 2025.
