Why Delta Air Lines Will Soar To $40

Apr.23.14 | About: Delta Air (DAL)

Summary

With shares trading at $36, this is a sure-bet to reach $40 by the second half of the year. My target is $1 bellow the media analysts target of $41.

When factoring that Delta's P/E of 3 is still extraordinarily cheap when compared to the industry average of 27, this stock is one of the best bargains on the market.

By the end of June, the company expects to complete $700 million in share buybacks and dividends as part of its new capital deployment plan.

For all of the talk about how Delta Air Lines (NYSE:DAL) was going "ground its growth" following its deal for a 49% stake in Virgin Atlantic, it doesn't seem as if pundits fully appreciated the resolve of a committed management team. With Delta having just announced a strong first quarter, management deserves credit for seeing an opportunity to expand the company's reach.

The deal, which allowed Delta access to 108 routes connecting 66 destinations across North America, paid off handsomely this quarter. Not only was Delta able to fill more seats on it planes, but when you couple this with cost-savings on fuel and other expenses, Delta was able to leverage growth in business travel and higher fees, which lead to a solid beat on the company's bottom line. As it stands, Delta has become a first-class operation whose stock appears poised to take off.

Despite a severe winter season that cost the company some $90 million in revenue, Delta still posted a profit that beat Street estimates, even as the company was forced to cancel 17,000 flights in January and February. The airline reported $8.9 billion in operating revenue for the quarter, up 5% year over year, which was also inline with Street expectations.

Note, over the past four quarters, the company has seen its revenue grow by an average of 3% year-over-year, including 7% jump in the January quarter. But management is not content.

Ed Bastian, president of the company, said due to strong demand, Delta expects revenue to remain strong throughout the year. Bastian appeared confident that his airline will be able to sustain strong metrics such as revenue per mile, which he expects to grow in the mid-single digits during the April-through-June second quarter.

Net income came in at $281 million, which demolished last year's mark by $196 million. Remarkably, this was achieved despite $163 million in non-cash tax expenses and revenue lost from the more than the flight cancellations. Also consider that eh $281 million exceeded Street estimates by more than 15%. Analysts were looking for profits of $243 million.

From the standpoint of earning per share, while the 25 cents was 2 cents shy of analyst estimate, earnings arrived at 33 cents when excluding special items. This was enough for a 4-cent beat. As noted, Delta is benefiting from more demand in travel. Passengers flew 4% percent more miles than in early 2013, which helped boost occupancy to 83% on the average flight. This is 2% better year over year.

If you'll pardon the pun, we love the company's direction. Management reiterated its long-term goals of attaining 10-12% operating margin, 10-15% EPS growth, and 15% return on invested capital (ROIC). These metrics align with what investors should expect with best-in-class industrial companies. Given the company's relentless focus on operational reliability and service, I believe Delta will continue to be a standout performer in an industry where differentiation matters.

Although costs may incur from near term improvements to up-gauging its fleet (i.e., replacing smaller aircraft with larger aircraft), I believe in the long-term, these improvements will also add incremental value to Delta's bottom line. What's more, by the end of June, the company expects to complete $700 million in share buybacks and dividends as part of its new capital deployment plan. That, in addition to the company's debt reduction plan to de-risk its balance sheet, makes Delta the best investment among its peers.

With shares trading at around $36, this is a sure-bet to reach $40 by the second half of the year. My target is $1 bellow the media analysts target of $41 and 6$ below the high mark of $47. But this is only because the shares have already soared 120% over the past 12 months. But when factoring that Delta's P/E of 3 is still extraordinarily cheap when compared to the industry average of 27, this stock is one of the best bargains on the market.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by Wall Street Playbook's tech sector analyst. Wall Street Playbook is not receiving compensation for it (other than from Seeking Alpha). Wall Street Playbook has no business relationship with any company whose stock is mentioned in this article.