United Airlines (NASDAQ:UAL) has witnessed significant volatility in the recent past. At the peak of the novel-coronavirus-driven market meltdown, UAL stock plummeted to $17.8.
Expansionary monetary policies and the stimulus package boosted market sentiments and the stock surged to $36.6. However, with the expectation of slow recovery for the airline industry, the stock has again trended lower to $25.5. I believe that further downside is in the cards for UAL stock with multiple bearish triggers.
United Airlines is scheduled to report first-quarter results for 2020 later this week. This is one reason to avoid the stock. The company has already warned on a $2.1 billion loss for the quarter. However, an outlook for the coming quarters is likely to depress the stock further.
Additionally, United Airlines announced the pricing of an underwritten public offering of 39,250,000 shares. The company does add $1.0 billion to its liquidity, but there is a significant equity dilution and will take the stock lower.
The timing of equity issue is somewhat puzzling considering the fact that United Airlines has ample liquidity. As of April 16, the company had $6.3 billion in liquidity buffer that included $2.0 billion in undrawn credit facility.
The company also expects to receive $5.0 billion through the payroll support program. It therefore didn’t make sense to go for a 15% equity dilution. Importantly, this might not be the only equity dilution with a likely U-shape industry recovery.
United Airlines More Vulnerable Than Others
Delta Air Lines (NYSE:DAL) CEO Ed Bastian believes that it will take two to three years for business to recover from the crisis. American Airlines (NASDAQ:AAL) CEO Doug Parker has also voiced uncertainty on when “revenue and sales will begin to trend upwards.”
Similarly, Stifel analyst Joseph DeNardi opines that “demand for air travel will not return to normal until mid-2021.” This happens to be the best-case scenario.
The point I want to make here is that there seems to be a consensus on four to eight quarters of downturn. Things can get worse if there is a second wave of coronavirus infections in winter. In this scenario, United Airlines is more vulnerable than other airlines in the United States.
The reason is well outlined by Fitch with United Airlines being the most “international-focused U.S. network carrier.” For FY2019, the company derived 37.7% of revenue from international travel. This implies significant risk as international travel recovery can take longer than domestic traffic growth.
As recovery is slow and cash burn continues, it’s likely that United Airlines will be more leveraged. Further, rating downgrade will have a negative impact on UAL stock.
The good news from a credit perspective is that United Airlines has an unencumbered asset balance of $20 billion. This will help the company in leveraging to navigate the crisis. However, debt servicing cost will continue to increase in the current year and the next.
I also expect fuel costs to remain low through FY2021. Low fuel cost is unlikely to benefit the company in the current year with low capacity utilization. The benefit is likely to be more meaningful in the next year. The fuel price factor is worth mentioning considering the fact the for the last year, the company’s fuel expense was $9.0 billion.
My Concluding Thoughts on UAL Stock
The company’s annual report for FY2019 talks about contractual obligations worth $12.9 billion for the current year. In addition, the company has contractual obligations of $10.1 billion for the next year.
I expect capital purchase obligations to be deferred and it amounts to $6.9 billion for the current year. However, other obligations like debt and capital lease will continue to put pressure on the liquidity buffer.
The International Air Transport Association director general Alexandre de Juniac has warned that several airlines will be forced to consolidate or shut down. Therefore, these are uncertain times for the industry and I believe that United Airlines has a bumpy road to recovery.
It therefore makes sense to avoid UAL stock at current levels. Even for other airline stocks, there can be potential trading opportunities from oversold levels. However, its too early in the crisis to consider long-term exposure.
Faisal Humayun is a senior research analyst with 12 years of industry experience in the field of credit research, equity research and financial modeling. Faisal has authored over 1,500 stock-specific articles with a focus on the technology, energy and commodities sector. As of this writing, he did not hold a position in any of the aforementioned securities.
