One of the hottest new IPOs this month has been Virgin America (NASDAQ:VA). In less than a week, the airline's stock soared as much as 72% above its IPO price of $23 before pulling back to just under $34 by the end of trading on Thursday.
Virgin America received strong interest partially because investors are becoming more comfortable with owning airline stocks. But another reason for this new IPO's success is that Virgin America offers a unique combination of value and growth potential within the airline industry.
A growth company on hiatus
At the time of its IPO, Virgin America didn't look like much of a growth company. Through the first three quarters of 2014, revenue increased 5% year over year on a 0.1% increase in capacity. This is the second-straight year of slow growth for Virgin America: In 2013, revenue grew 6.9% on a 2.2% decrease in capacity.
However, prior to that, Virgin America had been growing extremely rapidly. In fact, between the third quarter of 2010 and the third quarter of 2012, the airline boosted capacity by a stunning 73%. This led to heavy losses, which in turn drove the company's recent retrenchment.
Fresh off the IPO, Virgin America is ready to start growing again. The company will never return to the breakneck growth pace of 2010-2012, but it still hopes to be one of the fastest-growing airlines in the U.S.
New aircraft coming soon
Virgin America has added just one plane to its fleet in the past two years, but it plans significantly faster growth going forward. Between July 2015 and June 2016, Virgin America is scheduled to take delivery of 10 new Airbus A320 aircraft.
Given that Virgin America only has 53 planes today, these deliveries could drive its growth rate as high as 20% by mid-2016. After that, Virgin America doesn't have any aircraft deliveries scheduled until 2020.
However, CEO David Cush told various news outlets on the day of the IPO that the company could continue to grow at a 10%-15% annual rate beyond 2016.
CFO Peter Hunt told me that aircraft leasing companies have plenty of planes available in the next few years, and Airbus also has a limited number of open production slots. Virgin America would only need 12-18 months of lead time to acquire additional planes, so it can wait until late 2015 or early 2016 before committing to further growth.
Cheap for a growth company
Virgin America's growth potential is one reason why so many investors jumped on the bandwagon after this IPO hit the market. But another important factor was the relatively low price tag.
Spirit Airlines is the only U.S. airline that is growing significantly faster than Virgin America's planned growth rate. Spirit's management is targeting a long-term growth rate of 15%-20%. However, Spirit Airlines' stock currently trades for nearly three times sales, while Virgin America stock trades for about one times sales.
To some extent, Virgin America's lower profit margin explains its lower sales multiple. However, as the airline's newer routes mature, its margins should expand. It still won't match Spirit's operating margin, but the difference should narrow significantly from the 11 percentage point gap that exists today.
Thus, Virgin America might offer almost as much growth as Spirit Airlines at a much lower price. That puts it in a unique position within the increasingly popular airline industry. Accordingly, it's no wonder that Virgin America was one of the hottest new IPOs to hit the market this fall.