Spirit Airlines Inc. (SAVE, Financial) had an impressive run in 2016, but the stock has failed to find its way into the green this year. The stock is down nearly 9% year to date. In the airline industry, oil prices play a crucial role as they directly impact profitability.
In 2016, Brent crude oil prices had a significant turnaround as they moved from $27.8 per barrel in January to $56.82 per barrel in December. Despite the sharp turnaround in oil prices, Spirit Airlines’ shares were up 45%, throwing light on its ability to grow well in a high oil price environment.
After benefiting from exceptionally low fuel prices last year, the low-cost carrier dealt with high fuel prices heading into 2017 as Brent crude oil hovered around $55 per barrel throughout the starting two months of the year. Due to this, the airline reported an average economic fuel cost of $1.77 per gallon in the first quarter, representing a surge of 55 cents compared to the same quarter of the previous fiscal.
Oil prices, however, have plunged. They currently sit around $45.62 per barrel. Additionally, the drop in crude oil prices has pulled jet fuel prices lower, which appears to be great news for airline stocks. While lower fuel prices will positively impact all airlines, rapidly growing airlines should benefit the most as lower fuel prices will enable them to offer lower fares to buoy up new demand without compromising their margins.
Spirit Airlines is one of the fastest-growing airlines in the U.S. The low-cost carrier has surged its capacity by approximately 15% in the first half of this year, equal to intended growth of around 17% for the full year.
The company's first-quarter earnings report was dull, with declines in operating margin, unit revenue as well as new income compared to the year-ago period. That appears to be a near-term problem, however, as unit revenue is almost certain to return to growth, paving the way for robust earnings in the second half of the year.
According to a report from International Air Transport Association (IATA), the airline industry is projected to reach total revenues of $736 billion this year, driven mainly by the strong performance of airlines in North America. Keeping in mind the increasing customer demand, Spirit Airlines has a huge opportunity for growth.
On the other hand, the low-cost carrier canceled many flights in early May due to a dispute between management and the company's pilots. This incident negatively impacted Spirit's efforts to repair its brand image. The company, however, did not suffer long-term damage as it recently announced booking levels are returning to normal at a healthy rate.
Furthermore, Spirit is aggressively focusing on enhancing its on-time performance as well as customer satisfaction. The company’s unique business model and relentless efforts to improve its services will indeed reap fruitful results in the years ahead.
Summing up
Although numerous flight cancellations last month will have an adverse impact on Spirit’s second-quarter earnings, it does not appear to be a long-term issue. On the other hand, oil prices have plunged nearly 20% this year. The swiftly rising domestic oil rig count indicates supply will increase, preventing the oil prices from moving upward in the near term.
The airline is changing the way people understand the cost of airline prices and currently trades with a price-earnings (P/E) ratio of 15.6, suggesting it is undervalued. As a result, shareholders should continue holding the stock as Spirit Airlines has a good business model and lower oil prices will help improve margins.
Disclosure: No position in the stocks mentioned in this article.
