Delta Air Lines (NYSE:DAL) stock is positing a mini recovery of sorts. Shares are up almost 16% over the last month, a positive sign for all those who remained long on the legacy carrier despite the novel coronavirus pandemic.
It’s no secret that Covid-19 has taken a particularly brutal toll on airlines. And even though air traffic is rebounding, many companies remain forced to play the wait-and-watch game for demand to revert to normal levels.
However, I believe DAL stock has unfairly borne the brunt of the general pessimism surrounding the airline industry. The company entered the crisis with a pristine balance sheet and strong operational metrics. Unfortunately, due to the nature of the crisis, cash flows have virtually evaporated, and impairment has become a significant talking point. In response, management has scrambled to cut costs left, right & center — slashing capital expenditure budgets, and suspending dividend payments.
Also, the U.S. government is providing much-needed funds to make sure legacy carriers remain afloat. The combination of these factors and the increase in air traffic leads me to believe DAL stock is on track for a bull run within its industry.
Liquidity Position Is Excellent
Looking at it purely from a cash flow perspective, Delta is in a much better position than peers American Airlines (NASDAQ:AAL) and Southwest Airlines (NYSE:LUV). The dominant liquidity position is because management went into overdrive after the crisis started. So far, the legacy carrier has raised $9 billion through a mix of sale and lease-back transactions, drawdowns from credit facilities, and loans.
After the latest quarterly results, cash and cash equivalents stood at approximately $6 billion. It’s important to note here that long-term debt came in at close to $13 billion at the end of the same period. The positive thing is that just $4 billion of that debt will expire in 2020.
Apart from raising capital, the company is also slashing operational costs and capital expenditures. The company had plans to spend $3 billion on capex but that plan now stands delayed. In addition, share buybacks and dividend payments stand suspended, while operating expenses are down 50% year-on-year.
Delta is also clamping down effectively on cash burn. In March, it was spending $100 million a day, a figure that is now down to $50 million a day. Eventually, the number will go down to zero and by the end of 2020, according to the company’s estimates.
Federal Aid Will Help During the Pandemic
In April, the U.S. Department of the Treasury and major airlines reached a deal on a rescue package worth $25 billion in grants. As a part of the agreement, Delta will receive $5.4 billion, including $1.6 billion through a 10-year loan.
In exchange, Delta will issue warrants for 1% of shares at $24.39 per share over five years. The package will be an important source of funding during the pandemic and will help stave off layoffs at Delta.
U.S. Air Traffic Is on the Rise
Air traffic took a massive nosedive in March, as the pandemic gripped the entire world and the United States in particular. However, things are starting to look up.
In mid-April, the TSA screened just 685,000 passengers in an entire week. In contrast, 2.1 million passengers were screened on an average day at the start of May. The week ended May 23 saw passenger numbers unseen since mid-March. On Thursday and Friday, TSA screened 318,449 and 348,673 passengers, respectively. These are heartening signs, but they also indicate that it will be a slow recovery for airline traffic.
LATAM Bankruptcy Will Have a Major Impact on DAL Stock
In an unfortunate turn of events, South America’s LATAM Airlines (NYSE:LTM) recently filed for Chapter 11 bankruptcy. Covid-19 hit the South American market hard, as several countries in the region did not react swiftly to the virus and suffered as a result. As passenger traffic quickly evaporated, the already struggling LATAM was caught off-guard.
It could not have come at a worse time for Delta as it purchased a 20% stake in LATAM for $1.9 billion through a tender offer just a few months back. That stake will likely be worthless now, but Delta was initially interested in forming a joint venture with LATAM to gain a more significant foothold in the Latin American market. That ambition is alive and well.
Both parties remain committed to the joint venture, which will tremendously help revenue growth for Delta. It’s also with noting here that the deal is very much a coup for DAL. Earlier, American Airlines was looking to ally with LATAM. However, Chile’s Supreme Court nixed the agreement, and that was when Delta swooped in for the rescue.
Before I move to the next section, it’s important to note here that LATAM’s bankruptcy highlights the softness in overseas markets at the moment. But the good thing is that Delta is taking a long-term view over here. Its investments are strategic, and that’s why they will provide long-term, sustainable benefits.
Looking Ahead
DAL stock is expected to trade at $34.10 per share in 12 months, a 30.3% upside to its current price. Meanwhile, AAL and LUV shares will trade at premiums of 15.2% and 15.7%, respectively. On a trailing 12-month basis, DAL shares trade at a price-earnings ratio of 4.82 times versus a sector P/E of 18.54, a 74.01% difference. It’s rare to see such a reliable stock trade at such a discount, further underling the attractive entry point on offer at this stage.
Revenues are estimated to normalize in 2021, after suffering an expected 54.36% drop in 2020. Protections are for the company to record a 60.71% increase in revenue, to reach $34.48 billion in 2021. Progressively, growth rates will normalize as the effects of the virus start to wane. However, it’s important to note that revenue estimates for DAL far outstrip those for American Airlines and Southwest Airlines, which you can see below.
However, a word of caution: the situation is fluid and is changing with every passing day. We don’t have all the information regarding what the post-Covid-19 world will look like, but we can make educated guesses. For airlines, better health and safety precautions, along with strict regulations surrounding social distancing, will become part of the new “normal.” Nevertheless, these consensus estimates underline that we can hope for a healthier picture next year.
Final Word on DAL Stock
Airlines are one of the riskiest sectors to invest in at the moment. The situation is unlikely to change this year, but it will get progressively better. However, if you want to invest in airline stocks, your best bet is DAL. The legacy carrier is in an excellent liquidity position, has made exceptional strategic moves in overseas markets, and is ready to ride the post-crisis wave.
DAL stock is a buy for me.
Faizan Farooque is a contributing author for InvestorPlace.com and numerous other financial sites. He has several years of experience in analyzing the stock market and was a former data journalist at S&P Global Market Intelligence. His passion is to help the average investor make more informed decisions regarding their portfolio. Faizan does not directly own the securities mentioned above.
