When Fitch cut its ratings on Delta Air Lines (NYSE:DAL) to “junk,” the warning added no value for investors. Markets already discounted the hardship ahead for the airline as air travel volumes plunged as a result of the novel coronavirus outbreak. Should investors hold DAL stock react to the rating downgrade or ignore it?
DAL stock is especially compelling now as the stock formed a double bottom in the last month.
Fitch lowered Delta’s credit default rating from BBB- to BB+. It assigned a negative outlook, too. The agency said that it “believes the pandemic will undo some of the credit improvement seen over the past decade at North American airlines. Most airlines will exit the worst of the crisis with higher debt levels and lower liquidity, leaving the sector more exposed to additional exogenous shocks.”
The warning gives no actionable insight for DAL shareholders. The improved credit in the last decade will enable Delta to weather the storm in the short term without government help.
But the negative cash flow and costs exceeding revenue are unsustainable. The airline will pay its staff for as long as possible. Still, nearly 35,000 workers pitched into shrink Delta’s operating costs by taking a voluntary unpaid leave of absence. And if those workers get government paychecks from the massive $2 trillion emergency economic package, Delta may turn its focus in staying solvent.
Below: DAL stock had a strong growth profile prior to the drop in flight demand.
| DAL | Industry | |
| Growth Score | 93 | 70 |
| Sales Growth Next Year | 33.3% | 24.1% |
| Sales 1‑Year Change (%) | 4.8% | 1% |
Data Courtesy of Stock Rover
Medium-term Outlook for DAL Stock
Delta may hardly expect another exogenous shock worse than the disruption of the coronavirus lockdown already caused. So, that allows management to focus on the current problem at hand. A much slower rebound in air traffic, even after the lockdown is lifted, will hurt results through 2020. By 2021, the medical community may have a vaccine at hand that will prevent a second pandemic.
Once travel restrictions end, the airline may establish a medical screening that checks the passenger’s body temperature. By preventing the sick from spreading the virus, Delta will do its part in protecting the safety of its staff and its customers.
Delta also has an advantage over its peers: it does not have Boeing (NYSE:BA) 737 MAX planes in its fleet. That is one less thing investors need to worry about.
Risks for DAL Stock
Delta said that it experienced continued passenger volumes and revenue declines in April. It is burning through $60 million a day and acknowledged that it has not yet seen the bottom. To adjust for the falling demand, Delta’s flight schedule will be at least 80% smaller than its original plans. That translates to 115,000 flight cancellations.
Looking ahead, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) will provide the airline industry $25 billion in support. Loans and loan guarantees will help Delta sustain enough cash flow as it continues to get leaner. In the next few weeks, the U.S. and the rest of the world need an exit plan to restart the economy. People will still need to take the aircraft when that happens.
The Bottom Line for DAL Stock
Stock Rover assigned an 84/100 valuation ratings score on DAL stock. The company trades at an enterprise value to free cash flow of below 9. And while the prospects of a solid return are low until the world starts to reopen for business, value investors may accumulate shares at these levels.
In this scenario, investors may assume revenue falling in the next two years. With a 9% discount rate in a five-year discounted cash flow EBITDA exit model, Delta Airlines stock is worth about $28 a share.
Chris Lau, contributing author for InvestorPlace.com and numerous other financial sites. Chris has over 20 years of investing experience in the stock market and runs the Do-It-Yourself Value Investing Marketplace on Seeking Alpha. He shares his stock picks so readers get original insight that helps improve investment returns. As of this writing, he did not hold a position in any of the aforementioned securities.
