Sky Traffic High in November

Includes: AAL, DAL, LUV, UAL
by: Zacks Investment Research

The U.S. airline industry is on track for a profitable year after a drought of two years. Airline traffic in 2010 has shown an improvement with a surge in business travel and premium service demand from the year-ago levels. We expect demand for air travel to continue showing signs of improvement, thereby making airlines profitable in 2011.

Airline traffic is measured in billions of revenue passenger miles (RPM), which is the revenue generated for every mile a passenger travels. Unit revenue and capacity rose for major U.S. air carriers in the month of November.

United Continental Holdings Inc. (NASDAQ:UAL), the largest airline in the U.S. and the holding company for both United Airlines and Continental Airlines, reported a year-over-year increase of 4.8% to 16.15 billion in terms of RPM in November traffic. Capacity (or, available seat miles) and load factor (percentage of seats filled with passengers) rose 4.1% and 50 bps year over year, respectively. The company expects 11% to 12% year-over-year increase in unit revenue for the month of November, measured by passenger revenue per available seat mile (PRASM), a key metric in airlines.

We believe United Continental is well positioned for growth due to the improving demand for air travel, capacity cuts, industry leading unit revenue growth, fleet right-sizing, network optimization, hedging strategy as well as the merger benefits from Continental Airlines. However, we remain on the sidelines due to high unionization, time-taking integration process and competitive threats.

Delta Air Lines (NYSE:DAL), the second U.S. largest airline, reported a traffic increase of 7.5% year over year in November based on a 7.5% capacity increase and 0.1% decline in load factor. Domestic traffic increased 5.3% year over year with a capacity increase of 4.5% and load factor growth of 50 bps to 80.3%. International traffic also increased 11.3% year over year driven by a 12.6% capacity increase and load factor growth of 100 bps to 78.2%.

The current Zacks Consensus Estimate is 28 cents per share for the fourth quarter, indicating a significant growth of 205.56% year over year. We believe the successful integration of the Northwest merger, investments in new products and network, competitive cost structure, and an effort to strengthen the balance sheet will position Delta Air Lines to take advantage of the economic recovery. However, unionized labor, rising fuel price, debt loaded balance sheet, and the company’s continued investment in technology makes us cautious on the stock.

The low-cost carrier Southwest Airlines Co. (NYSE:LUV) recorded an 11% year over year rise in November traffic on a capacity increase of 5.7%. The month’s RPM increased to 6.5 billion from 5.9 billion in November 2009. Load factor grew to 80.1% from the year-ago level of 76.5%. The company expects PRASM to increase 7%–8% year over year for the month of November.

Our current Zacks Consensus Estimate for Southwest Airlines is 16 cents per share for the fourth quarter compared with earnings of 10 cents in the year-ago quarter. If the company meets the Zacks Consensus Estimate, it would lead to a substantial increase of 63.33%.

We believe Southwest benefited even in a difficult operating environment and will continue to do so in the near future, with the strongest balance sheet in the industry, competitive strength, low costs, various revenue initiatives, and network optimization. The pending acquisition of fellow discounter AirTran Holdings (AAI) represents a unique opportunity for Southwest Airlines to expand its presence in key markets and yield healthy returns on synergies and benefits.

AirTran Airways, a subsidiary of AirTran Holdings, set new monthly records for the month of November. Traffic grew 6.6% year over year to more than 1.5 billion on a capacity increase of 1.4%. Load factor expanded 390 bps to 80.6% from the year-ago quarter.

November traffic for American Airlines, a wholly owned subsidiary of AMR Corporation (NASDAQ:AMR), rose 4.3% year over year with a capacity increase of 3.2% and 90 bps increase in load factor. Domestic traffic spiked 2.7% on a 1.4% rise in capacity and international traffic upped 7.2% on a capacity increase of 6.3%. Management sees strong revenues for 2011 and expects American Airlines’ traffic to increase 7% year over year in the fourth quarter.

US Airways Group Inc. (LCC) said that its traffic rose 7.8% to 4.5 billion RPM in November. Capacity upped 3.4% and load factor leaped 330 bps year over year to 80.6%. PRASM is expected to increase 6% for the month of November from the year-ago level.

We see continued and sustainable demand for air travel in the near to medium term. The worst is over for the airline industry as overall economic conditions continue to show signs of improvement albeit at a slow pace.

Currently, we maintain our long-term Neutral ratings on Southwest Airlines, Delta Airlines and United Continental Holdings.