After years of conserving capital in order to guard against a potential market downturn, a growing number of airlines have begun returning cash to shareholders in the past two years.
Of the majors, Delta Air Lines (NYSE: DAL) has led the charge. In May 2013, it instituted a quarterly dividend and announced a $500 million share repurchase program. A year later, the airline raised its dividend by 50%, announced that it had nearly completed the $500 million buyback, and established a new $2 billion repurchase plan. Delta is widely expected to increase its dividend and buyback again next month.
With Delta (and a few other airlines) returning lots of cash to their shareholders, many investors are now wondering which airline will be the next to follow suit.
It could be Hawaiian Holdings (NASDAQ: HA). Hawaiian has already begun buying back convertible debt -- which will reduce its diluted share count -- and could soon add on a dividend or a regular buyback program to return cash to its shareholders.
Heavy investments lately
For the past few years, Hawaiian Airlines has been investing too heavily in the business to seriously consider returning cash to shareholders. Over the past half-decade, the carrier has replaced most of its long-haul aircraft fleet with new Airbus A330s in an expensive (but necessary) project. Last year, Hawaiian's capital expenditures totaled $442 million. In 2013, CapEx was $342 million. As a result, Hawaiian Airlines' free cash flow was negative in both of theseyears.
However, Hawaiian Airlines is taking delivery of its last three new A330s this year. Furthermore, it will lease these aircraft rather than buying them. This means there's no up-front cost. As a result, it plans to spend just $45 million-$55 million on capital projects in 2015.
Next year, Hawaiian Airlines doesn't have any aircraft deliveries scheduled, so its capex should remain relatively modest.
Free cash flow rising
Just as Hawaiian Airlines' capital spending is falling, it is getting a big earnings boost from lower oil prices. Analysts (on average) expect Hawaiian's adjusted earnings per share to rise from $1.55 in 2014 to $2.67 this year. They also project EPS will reach $2.72 in 2016.
The combination of strong earnings and low capital spending will allow Hawaiian Airlines to generate copious amounts of free cash flow in 2015 and 2016: perhaps $400 million-$500 million total over the two years. That's quite a lot considering that Hawaiian's market cap only surpassed $1 billion in the last year.
This free cash flow is available for activities such as debt reduction, extra pension contributions, dividends, and share buybacks.
What Hawaiian might do
Hawaiian Airlines has already started to pay off debt. During the fourth quarter last year, it retired $54 million of bank debt used to finance one of its A330 planes. It also repurchased 18% of its convertible notes. In the short run, this reduces its debt load -- and in the long run it allows Hawaiian to avoid issuing lots of extra shares that would dilute current investors' holdings.
In the near term, I expect Hawaiian Airlines to continue buying back convertible debt. From a shareholder perspective, this is just as good as a share repurchase, because the convertible debt will otherwise convert to stock next year. Hawaiian will also probably continue to retire some of its other debt early. It could also follow Delta's lead by contributing more than the mandatory amount to its pension plan, in order to reduce its underfunded pension liability.
However, the company might also consider adding a modest dividend or a share repurchase program. This would send a good signal to investors that Hawaiian is committed to returning cash to its shareholders on an ongoing basis.
Based on the strong free cash flow that Hawaiian Airlines is likely to produce going forward -- and especially in the next two years -- it should have enough money to do this while also paying off debt and reducing its pension liabilities.