Southwest Stock Is the Only Safe Bet in the Turbulent Airline Sector

Southwest's strong finances will protect it during this pandemic

Can it get any worse for airlines? The industry is facing its worst crisis since the 9/11 attacks. The coronavirus from China has caused the global economy to come to a grinding halt. And international borders are shutting down as well; a vast number of countries have closed their points of entry to foreigners. It’s all adding up to the biggest slowdown in air travel in modern memory. The sector’s stocks, including  Southwest Airlines (NYSE:LUV), are plunging. LUV stock has tumbled from $55 to $40 in recent weeks. That said, the tide has turned this week, as the Senate has passed a major economic relief package that includes $25 billion of assistance for the airlines.

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But the sector isn’t necessarily out of the woods yet. On Monday, the Wall Street Journal reported that the U.S. airlines industry is preparing for the real possibility of a total domestic aviation shutdown. The article stated that:

“Major U.S. airlines are drafting plans for a potential voluntary shutdown of virtually all passenger flights across the U.S., according to industry and federal officials, as government agencies also consider ordering such a move and the nation’s air-traffic control system continues to be ravaged by the corona virus contagion. No final decisions have been made by the carriers or the White House, these officials said. As airlines struggle to keep aircraft flying with minimal passengers, various options are under consideration, these people said.”

That would be a complete fiasco for most of the airline industry. Domestic airlines are heavily indebted and have billions of dollars of short-term liabilities. They simply don’t have the capacity to survive any meaningful shutdown. Other than Southwest, that is. That is why it is the only financially secure airline in America right now.

As of this writing, it appears that the government is prepared to give the airlines a major stimulus package to rescue the industry. However, the bill is still awaiting approval by the House. Furthermore, while the industry is set to receive $25 billion, there are questions about how much each airline will get and what conditions will be tied to the cash.

Southwest’s Sturdy Finances

The airline industry is currently demanding tens of billions of dollars of cash grants from the government. If it doesn’t get the funds, the airlines are threatening to furlough most of their employees, leading to a massive spike in unemployment. That is an ugly, if potentially effective, form of crisis negotiating, and it seems like it will pay off.

Fortunately for the owners of LUV stock, the current moment is not so dire, regardless of whether the industry’s bluster pays off or not. That’s because Southwest will survive with or without a government bailout.

As of last quarter, Southwest had $4 billion of cash and only $4 billion of general short-term current liabilities. It had an additional $4 billion more of unearned revenues, mostly in the form of ticket sales. It will have to refund some of the latter money, but it can probably keep most of it in exchange for future tickets and vouchers. That means that Southwest’s short-term finances are in pretty good shape. It will need only a modest amount of either revenue or short-term borrowings to stay afloat for the time being.

Furthermore, Southwest has minimal long-term debt of $1.3 billion, so it can actually borrow as much money as it needs from banks now. To secure potential loans, it has tons of unencumbered assets because it didn’t lease out all its planes to creditors. That is another huge edge that it has over its rivals. So Southwest is the only airline that has a bulletproof balance sheet.

Soaring Above Its Rivals

Southwest’s balance sheet looks good in isolation. It looks even better compared to other prominent U.S. airlines. For airlines, it’s common to use a metric called the Debt/EBITDA ratio. That metric compares a company’s long-term debt to its earnings before interest, taxes, depreciation, and amortization. It shows whether a company can handle the amount of liabilities it carries. As in golf, lower is better. Generally, for an airlines, less than two is a good score.

According to a recent Barron’s article, popular-low cost carrier Spirit Airlines (NYSE:SAVE) has a deeply troubling  Debt/EBITDA ratio of 4.3. That led Barron’s  to label Spirit the “most imperiled” major airline. Plenty of other airlines are in trouble too; American (NYSE:AAL) suffers from a Debt/EBITDA ratio of nearly five. United (NYSE:UAL) is in uncomfortable territory with a ratio of 2.7. Delta (NYSE:DAL) is in better shape, as its ratio is an imperfect but not disastrous 1.9.

However, Southwest is completely in a league of its own with a 0.7 ratio. That gives the company unmatched flexibility to ride out this crisis compared to its rivals.

The Verdict on LUV Stock

Airline stocks have been soaring this week on hopes of an imminent bailout. That makes sense in the short-term. But the aid, at least according to current reports, appears to come with strings attached. For example, the cash can only be used to pay employees’ salaries, forcing airlines to come up with the cash for all of their other expenses.

Southwest is in good shape compared to the other airlines.  The company hasn’t gone bankrupt in the past, and its stock has actually performed well over the long-term.

Even if President Trump or the Federal Aviation Administration orders a total shutdown of domestic travel for a period, Southwest can probably survive, regardless of the conditions attached to the bailout. That makes  LUV stock much more attractive than the shares of the other carriers.

How much are the shares worth? Since LUV stock is down a relatively modest 33% from its recent highs, it isn’t really priced for total catastrophe yet. It’s not trading at “fire sale” levels. Given the bargains across the travel sector at the moment, LUV stock probably isn’t the best one to take a home run swing on. But if you want a name that is likely to recover in time and has a rock-solid balance sheet, Southwest is a great choice.

Ian Bezek has written more than 1,000 articles for InvestorPlace.com and Seeking Alpha. He also worked as a Junior Analyst for Kerrisdale Capital, a $300 million New York City-based hedge fund. You can reach him on Twitter at @irbezek. At the time of this writing, he held no positions in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2020/03/luv-stock-is-the-only-safe-bet-in-the-turbulent-airline-sector/.

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