Southwest Airlines Co (NYSE:LUV) is one of the most consistently profitable airliners in the U.S. And owners of LUV stock have done very well over the past five years thanks to an annualized total return of 41%, almost double its airline peers.
Ever since Herb Kelleher wrote the book, NUTS!: Southwest Airlines’ Crazy Recipe for Business and Personal Success, I’ve been a fan of the company. Although, admittedly I’ve never owned its stock. Southwest will undoubtedly be studied in business schools for decades to come.
Even Warren Buffett loves LUV stock. Of the four airline stocks that he owns, Southwest was Berkshire Hathaway Inc.’s (NYSE:BRK.A) largest holding according to its 13-F filing at the end of September.
Clearly, Buffett likes Southwest’s prospects.
But after a crash-and-burn landing on disappointing earnings, is there any growth left in the company for new money or should investors look to other airliners?
A Canadian Alternative
If there ever were a value stock in the airline industry, it would have to be Calgary-based WestJet Airlines Ltd. (OTCMKTS:WJAFF).
WestJet’s current earnings yield is 10.1%, almost double Southwest’s at 5.6%, and its most recent quarterly report showcased its 50th consecutive profitable quarter, setting a record of CAD$138.4 million, or 19% higher than in the same quarter a year earlier.
On a price-earnings basis, LUV is trading at 17.2 times earnings, 140 basis points higher than the industry average and significantly higher than WestJet’s multiple of 10 times earnings.
Clearly, WestJet is a much cheaper stock according to P/E, and it can also rival Southwest’s consistency for generating profits.
That sounds impressive, right? Sure. But WestJet has only been in business since 1996. Southwest has made money for 45 consecutive years. I don’t think there are more than a handful of airlines that even come close to Southwest’s profit record.
A Wonderful Company at a Fair Price
A wise person once said that you pay more for quality. Warren Buffett, himself, said, “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
And by most metrics, Southwest is still a wonderful company trading at a fair price. Sure, LUV trades for five times its share price from five years ago, but consider that Southwest’s return on invested capital tripled over the past five years.
In Q3 2017, for example, Southwest’s return on invested capital (ROIC) was 26.8% — that’s more than double WestJet’s ROIC! So while WestJet is doing decent things with its business, Southwest is still a top-notch airliner with a fundamentally better business. I think the decision to buy LUV stock is a no-brainer, even at this level.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.
