Delta Air Lines Inc. (DAL, Financial) is certainly seeing the results of its strategic initiatives as business blooms again. Earlier this month, it released a set of healthy earnings for the fourth-quarter and full-year 2022, achieving its third consecutive quarter of double-digit margins.
The airline also remains confident about its outlook for the year and is on track to meet its 2023-24 goals. However, the stock is not one of the star performers of the mini rally the market experienced at the start of the year.
This year, Delta Air Lines has not been hindered by its performance, but rather by macroeconomic factors beyond its control.
A survey of economists by the Wall Street Journal recently concluded that there's a 61% chance of economic recession by 2023. Even former Federal Reserve Chairman Alan Greenspan has supported this claim, suggesting the most probable result in the economy is a downturn.
Regardless, Delta Airlines is moving forward as its prospects are optimistic and the stock continues to trade at a relatively low multiple of forecasted earnings for 2023. For value investors, there are several reasons why the stock warrants attention in the current economic climate.
Delta Airlines is inching back to 2019 levels
The airline industry was one of the hardest-hit sectors during the pandemic, suffering immense losses due to travel restrictions, flight cancellations and lockdowns. These losses have been felt throughout the entire industry, from airports to aircraft manufacturers. As a result, many airlines have had to make drastic changes to survive. Although the pandemic has lasted several years, airlines still look to 2019 as their standard for comparison.
When comparing its fourth-quarter results with 2019, the company seems to be moving in the right direction.
Delta's recent earnings report showed total sales for the final quarter of 2022 amounted to $13.44 billion, up 17% from $11.44 billion in 2019's corresponding quarter. Further, net income of $828 million was down from $1.1 billion in the same period three years earlier. A considerable difference was a 42% higher fuel bill from the comparable quarter.
Even though the profit for the year was lower than in 2019, it still amounted to $1.32 billion, and the company's belief in its prospects remains strong. In the days leading up to the earnings announcement, corporate bookings had significantly increased - a result of the pandemic's end. Management was content with the demand surge for flights to Europe, which will help bring in revenue over the next several quarters.
The numbers indicate people are willing to spend money on leisure travel again despite higher ticket costs. The trend is helping Delta navigate the impacts of a slowing economy and inflation without too much trouble. This situation is great news not just for Delta, but also for all the airlines and the travel industry in general.
The legacy carrier expects a revenue boost of up to 17% during the first quarter of 2023. Delta also anticipates an earnings per share increase of between 4% and 6% compared to the first quarter of 2019.
Despite the challenges it faced, Delta fared well in 2022. Its strong cash flow enabled it to pay down more than $4.5 billion in gross debt, which improved its financial standing significantly. The company also achieved three 10%-plus margin quarters, showcasing its impressive performance.
The airline projects free cash flow of upwards of $2 billion in 2023 and is determined to reduce its debt further to reach investment-grade ratings in 2024. Implementing this will result in a healthier balance sheet and, consequently, improved returns.
Shedding costs is a priority
Having already taken several meaningful steps, Delta is actively working to reduce costs.
As part of this initiative, the company will introduce hundreds of fuel-efficient planes to its fleet, lowering the fuel cost for its flights. These jets are expected to be 20% more efficient than the current planes, which will also be beneficial for the environment. In five to six years, one-third of the airline's active fleet will be replaced with these more modern planes.
The airline has also restricted access to its Sky Club Lounges. Previously, anyone could acquire annual access to the lounges, which is now restricted to members with only the Diamond, Gold and Silver Medallion status. The annual pass cost of these lounges has also increased. The airline has taken other steps to limit access and offer fewer options to members, leading to a noticeable reduction in costs.
Risks to the thesis
The airline industry has been looking for ways to manage expenses as air travel has become more costly due to rising fuel costs, a shortage of personnel and canceled flights.
Changes in fuel costs can make pricing difficult to keep stable. Following the pandemic, many industries have experienced staff shortages as people are more hesitant to return to their workplaces - among these, there is more of an inclination toward remote work.
Pilots associated with Delta Air Lines are also in negotiations with the company. If the two sides finalize the agreed-upon proposal, there will be a 30% increase in pilot salaries over four years.
In addition, the economic slowdown is affecting several industries. So far, there is high demand for air travel, allowing companies to profit from it. However, extreme weather conditions during the holiday season led to more than 5,700 flights being canceled. Several thousand other flights were also affected, leading to lengthy delays. The air travel industry suffered a loss of at least several hundred million dollars as a result. Such extreme weather in the future can disrupt the airlines and affect their business in the long run.
Takeaway
Having been around for almost 100 years, Delta Airlines has gone through several periods of tough times. The Covid-19 pandemic posed a severe challenge for the entire travel industry, and restrictions meant airlines did not perform well. However, the trend is changing and more people are willing to travel, even at a higher cost.
Further, the company posted an excellent financial performance and is expected to move upward shortly. While the recent holiday season's weather-related flight cancellations had little impact on the company's bottom line, it is cutting costs and investing in more fuel-efficient aircraft. Thus far, a slowing economy has not affected air travel.
As such, Delta Airlines appears to have plenty of upside in the long term.
