Budget airline Spirit Airlines Incorporated (NYSE:SAVE) has put together a stellar track record in the past few years of forecasting strong earnings growth and then comfortably beating its forecasts.
Last quarter was no exception. On Tuesday, Spirit Airlines reported that its EPS soared more than 40% year over year to $0.80. This beat the average analyst estimate of $0.78. Spirit's operating margin also comfortably exceeded its guidance. Furthermore, all signs point to 2015 being another year of rapid earnings growth.
Guidance moves lower
In early December, Spirit Airlines warned investors that lower fuel prices were driving down fares for last-minute travel bookings. It also noted that Southwest Airlines' rapid expansion in Dallas since the expiration of the Wright Amendment has put pressure on fares for Spirit's routes at Dallas-Fort Worth International Airport.
As a result, Spirit reduced its Q4 operating margin guidance to 18%-19% despite better-than-expected cost performance. This compared to an original operating margin forecast of 18.5%-19.5%.
Nothing to worry about!
As it turned out, Spirit's guidance reduction was unnecessary. The company produced a record Q4 operating margin of 19.9% -- above even the original guidance range.
The upside all came from the cost side. While total unit revenue decreased 5.1% last quarter, non-fuel unit costs declined 2.9% and economic fuel cost declined from $3.17 per gallon in Q4 2013 to $2.56 per gallon in Q4 2014. Both fuel and non-fuel costs came in lower than Spirit had expected based on its December guidance update.
2015 will be similar
Investors should expect more of the same in 2015. Spirit Airlines is ramping up its growth in a big way this year, and expects full-year capacity to rise about 30% year over year.
This growth is allowing Spirit to leverage its fixed costs. It is also shifting gradually toward larger planes, which are more cost-efficient. Today, Spirit's fleet is a mix of 145-seat A319s and 178-seat A320s, along with two larger A321s. Going forward, it will phase out the A319s while adding more A321s, including six arriving in the second half of 2015.
Thus, Spirit expects non-fuel unit costs to decline 4%-6% in Q1 and 6%-8% for the full year. Spirit will also benefit from lower fuel costs and better fuel efficiency this year. The net result is that adjusted cost per available seat mile could drop from $0.0955 in 2014 to $0.0783-$0.0795 in 2015. That works out to a stunning 17%-18% drop in unit costs.
A significant portion of this unit cost decline will be offset by falling unit revenues. In Q1, unit revenue is expected to drop 9%-11%, although the rate of decline is expected to moderate later in the year, particularly during peak travel periods when airlines won't need to discount their fares.
Nevertheless, Spirit expects to post an operating margin of 24%-29% this year: well above its 2014 adjusted operating margin of 19.2%, which was already a company record.
The long-term outlook for Spirit Airlines also looks good. It may not be realistic for Spirit to maintain a 24%-29% operating margin in the long run. However, by significantly reducing its already industry-leading cost structure, Spirit can ensure that its profit margin remains the best in the business.
Lower unit costs will also allow Spirit to stimulate even more travel demand through its low fares. This should drive double-digit revenue growth at Spirit for a decade or more.