Uncertainty still remains about the direction of oil prices. But in the near term, as crude and WTI prices remain under pressure due to oversupply, shares of transportation stocks should climb — making Delta Air Lines, Inc. (NYSE:DAL) a name to keep an eye as the company prepares to report earnings for Delta stock next month.
With oil prices accounting for roughly two-thirds of Delta’s operating expenses, Delta stock, which is down 7% on the year and underperforming the SPDR S&P Transportation ETF (NYSEARCA:XTN) (up 0.6%), is poised to take off.
The transportation industry has been one of the few beneficiaries of weak oil prices and its effect on declining fuel costs. But Delta stock has yet to participate in the transportation rally. And with industry experts still predicting lower oil prices in the near future, Delta stock can deliver gains of more than 30% this year.
Part of the reason? Analysts are still discounting the real value of DAL stock price when compared to how cheap gas can fuel Delta’s bottom line.
With DAL trading at around $45, Delta stock is priced at just 8x full-year 2016 estimates of $5.70 per share. Not only is Delta stock priced less than Southwest Airlines Co (NYSE:LUV) (forward price-to-earnings ratio of 12), Delta stock it is almost 11 points lower than the average forward P/E of companies in the S&P 500.
And smart investors should exploit that and buy Delta stock.
Consider, in the most recent quarter, while citing lower oil prices that reduced Delta’s fuel costs by $342 million, Delta earned 78 cents per share for the period ending in December, jumping 20% year-over-year. Analysts were looking for earnings of 77 cents.
Here’s the thing; ahead of Delta’s report, analysts were quickly revising their models to account for lower oil prices. Estimates had risen more than 16% in the three months leading to Delta’s results. And Delta still delivered a beat. Analysts are still underestimating the real impact of oil on Delta stock.
This is because fuel expenses take up roughly one-third this industry’s expense. That Delta was able to beat its earnings despite rising estimates bodes well for Delta stock. It points to the extent to which margins can be boosted as oil prices continue to drop.
“As we begin 2015, we have a significant opportunity from lower fuel prices, which will drive more than $2 billion in fuel savings over 2014,” CEO Richard Anderson said in a statement at the time.
Delta’s average fuel price was $2.62 per gallon, falling 14% from last year’s range of $3 to $3.05 per gallon. And with industry experts predicting the possibly of sub-$40 oil, Delta will save more money, which will continue to trickle to the bottom line.
But Delta stock will be fueled by more than just cheap oil. Delta also operate an efficient business.
Aside from growing revenue at an annual rate of 6%, Delta is also making more money from each passenger that board its jets. Last quarter, DAL enjoyed a 4.6% jump in passenger revenue and roughly a 1% year-over-year increase (0.8%) in passenger unit revenue (PRASM) — the transportation metric that calculates the value of each passenger to a seat per mile.
The Bottom Line
All told, with Delta growing earnings at a rate of four times after than revenue, Delta stock looks too attractive on multiple means of appraisal.
Higher cash flow should help Delta stock in the form of buybacks and higher dividend, making Delta one of the best bets on the market today.
As of this writing, Richard Saintvilus did not hold a position in any of the aforementioned securities.
