Southwest Airlines Co (NYSE:LUV) has mastered one task that’s unusual for an airline carrier — sustained profitability. The Dallas-based company again beat expectations in its latest earnings report. LUV stock is on track to report its 45th consecutive year of profitability.
However, revenue troubles have plagued the airline this year and it also has underperformed upstart carriers JetBlue Airways Corporation (NASDAQ:JBLU) and Spirit Airlines Incorporated (NASDAQ:SAVE) in some respects. Still, its business model should keep LUV on track for sustained revenue, profit, and traffic growth.
LUV Stock Remains the Most Solid in the Industry
LUV stock’s consistent record of profits makes it unique among its peers. In an industry where legacy carriers such as American Airlines Group Inc (NASDAQ:AAL), Delta Air Lines, Inc. (NYSE:DAL) and United Continental Holdings Inc (NYSE:UAL) have struggled with highly-publicized passenger complaints and periodic bankruptcies, Southwest stands out as a solid performer.
With rare exceptions, Southwest has almost always reported quarterly profits since soon after its founding 46 years ago. Its costs remain low, and it provides customer satisfaction in many areas where legacy carriers have not. Southwest is one of the few airlines that allows flight changes without fees. It also avoided the trend of charging for checked bags.
Growth Has Been Slowed by Expected and Unexpected Costs
The LUV stock price has experienced a mediocre year after the company reported revenue would grow 1-2% this year. This figure stands well below 5-year average revenue growth of over 5.4%. This also places the company’s revenue growth below that of JetBlue and Spirit. Like all airlines, LUV struggled as an unusually active hurricane season disrupted flight schedules.
Also, LUV has started retiring 737-300 aircraft in favor of the 737 MAX 8. The move will give Southwest more fuel-efficient, longer-range aircraft, while still maintaining the simplicity of operating only Boeing 737 aircraft. Exclusive reliance on 737s has made aircraft maintenance simpler and less costly — a trend that will continue.
This move will also add to costs in the near term. The company carries about $3.3 billion in combined long- and short-term debt. However, with a $32 billion market cap, financing these more efficient planes should not cause issues. Moreover, lower fuel costs will help the bottom line. Longer ranges also make more direct flight routes possible.
LUV Stock Should Continue Rising
Paying for the new planes has also been helped by the growth of LUV stock. Equity moved steadily downward from 2000 to 2012, but, since then, the LUV stock price has risen from below $9 per share to as high as $64 per share. With the recent revenue struggles, the stock has fallen into the mid-$50 per share range. However, it maintains a price-earnings ratio of just under 16. While that’s high compared to industry peers, it remains below S&P 500 averages.
A likely catalyst in LUV’s bull run has been dividend increases. After years of paying a negligible dividend, the company began annual dividend increases in 2012. The dividend now stands at 50 cents per share with a yield just over 0.75% — below the S&P 500 average, but much better than before.
Given this, now might be a good time to buy. In addition to the low PE, the worst hurricane season in 12 years has ended and abnormally high levels of snow have not manifested this winter. Hence, weather-related disruptions should return to normal levels.
LUV will also tap a new growth market. Southwest announced it will start flying to Hawaii in 2018. This will bring the airline into one of the few domestic markets it doesn’t currently serve. In future years, this should open Southwest to the lucrative island-hopping market, where it can carry passengers across the state.
Despite service issues and the cost of upgrading its fleet, the trend in LUV stock of steady, consistent profit growth appears poised to continue. While its new fleet will be costly, LUV remains financially strong enough to carry the debt burden. Also, entering the Hawaii market will bring new growth, as well as opening markets in the future to other parts of the state.
Most of these moves mean added cost in the near term, but they should improve the bottom line in future years. Investors who want steady growth and consistent profits should onboard LUV stock and enjoy a long ride at cruising altitude.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks.