Delta Air Lines: Buffett Calls The Bottom
Summary
- Buffett unloaded all airline positions in April with a position size once topping $10 billion.
- Delta Air Lines rallied substantially off the initial lows caused by the Buffett panic.
- The airline is only burning daily cash in the $20 million range considering the PSP grant and breakeven bookings.
- The stock trades at only 3x normalized 2019 EPS levels.
- This idea was discussed in more depth with members of my private investing community, DIY Value Investing. Get started today »
The airline stocks took a hit on Monday, but Warren Buffett selling out of airline stocks at the low was the type of move that causes a bottom. Delta Air Lines (NYSE:DAL) has already raised plenty of cash to survive the severe downturn to passenger demand. My investment thesis remains bullish on the airline stock and the bounce of the lows was a bullish reversal.
Buffett Dump
Warren Buffett surprised everyone over the weekend in claiming to have sold nearly 10% positions in the four major airlines. Back in mid-March, Berkshire Hathaway (BRK.B, BRK.A) still had airline stakes worth over $9 billion led by the $3.6 billion stake in Delta. His firm had large positions in Southwest Airlines (LUV), United Airlines (UAL) and American Airlines Group (AAL).
Source: The Dallas Morning News
While some thought Buffett might make a run at buying one of the major airlines outright, Berkshire sold all of these shares for a stated value of only $6.5 billion to $7.0 billion. The airlines were already down by mid-March and lost up to an additional value of $2.5 billion by the time Buffett unloaded all those shares.
The impact to the airlines were double digit losses at the open of trading on Monday. Delta Air Lines was down nearly 15% as investors didn't expect Buffett to unload the strongest of the legacy airlines.
By the end of the day on Monday, Delta was only down $1.55 or 6.4%. The airline stock bounced $2.07 of the initial lows to end at the highs of the day at $22.57.
Cash Burn Confusions
Even over the weekend, the Transportation Security Administration or TSA was still reporting passenger levels down over 93% from previous levels. The good news missed by the market were the over 30% increases WoW in traffic on both Friday and Saturday to top 170K passengers on those days. For a reference point, weekend traffic had dipped to only 105K passengers a couple of weeks back.
When Delta reported Q1 results, the airline outlined a scenario not as dire as some investors perceived due to a focus by management on "cash burn" metrics that only include the cash outlays. Delta didn't provide free cash flow numbers which include crucial U.S. Treasury grants or even basic concepts of revenue gains from a near-zero environment.
Along with the Q1 earnings report, the airline forecasts having $10 billion in liquidity at the end of June. The market has somehow missed that Delta has already cut spending by over 50% or $5 billion to reduce the cash burn. The key movements are the following:
- 37,000 employees taking voluntary unpaid leaves ranging from 30 days to one year.
- $2 billion reduction in quarterly fuel costs.
- $550 million in airport and airplane maintenance fees.
- $200 million additional cleaning costs.
Before one takes a drastically negative long-term view on airlines, Delta hadn't reported a quarterly loss in nearly a decade. Also, the market appears highly confused by the cash burn in the quarter.
The company started April stating a daily cash burn of $60 million and the airline now predicts the level reaches $50 million at the end of the quarter. The perplexing part is the $1.9 billion quarterly payroll support grant from the U.S. Treasury. Delta and the other airlines aren't including this number in the cash burn, rather counting the amount only in liquidity estimates as if these funds are loans.
Delta has cut operating expenses by 50% to $5 billion. Without any revenues, the airline is burning about $55 million daily on operating expenses. The crux here is that passenger levels are back to 7% of prior amounts and along with somewhere around $1 billion in loyalty revenues per quarter, the airline has to be generating $10 million to $15 million in daily revenues now.
The cash burn in confusing because customers could still be requesting refunds in excess of new bookings, but Delta reported Q1 earnings on April 22 when traffic was only 99K. The passenger levels were up to 170K over the weekend. In just a few short weeks, the air passenger traffic story has changed dramatically.
The point here is that the operating loss can't be more than $40 million before interest expenses. But none of these amounts account for the PSP grant of nearly $22 million per day from April 1 to September 30.
This exchange on the earnings call between an analyst and the CFO highlight the issue. The analyst asks if the PSP is included as an offset to daily cash flow burn reaching $50 million and the CFO appears to either confirm that it doesn't count in the cash flow and is only included in the cash liquidity forecast.
Deutsche Bank analyst Michael Linenberg
Okay then just to be clear then just the $100 million going to $50 million it's not reflecting that as an offset coming from the P&L later or at least impacting the cash?
CFO Paul Jacobson
No. It's in all the cash numbers that we've talked about in terms of ending above $10 billion in June.
Either way, the earnings call discussion and the crunched numbers support a far more dire outlook by the management teams and analysts because they uniformly don't include $3.8 billion in payroll cost reductions in the cash flow analysis. Simple math has a $5 billion cut in operating expenses and the $1.9 billion quarterly payroll grant as cutting the Q2 costs from $10 billion last year to only $3 billion this quarter.
The only real question is the daily net refunds/bookings. Delta suggested the month started at $10 million to $20 million in daily cash burn from refunds heading towards only a slight negative position at the end of the quarter. Again, these numbers were before bookings jumped the last couple of weeks. This is also why the airlines should've focused on pre-tax loss number during quarterly results so a short-term refund issue doesn't distract from the long-term scenario of net bookings growth.
The early May numbers only support an ongoing $40 million daily loss before the $22 million PSP grant. Yes, Delta has a long way to close the gap here because the grant only lasts until September 30, but the airline isn't in the dire situation presented by Buffett selling the airlines. Without the PSP grant requirements to keep full employment, the airline would furlough employees to reduce the costs.
Takeaway
The key investor takeaway is that Delta possibly hit the bottom on news of Warren Buffett selling his stakes in the airlines. Only time will tell if Monday was the lows, but the financial position of the airline is not nearly as dire as presented by the news recently. Even with limited revenue, Delta Air Lines isn't burning the feared levels of cash. The stock is appealing here at 3x normalized EPS levels from 2019.
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This article was written by
Stone Fox Capital (aka Mark Holder) is a CPA with degrees in Accounting and Finance. He is also Series 65 licensed and has 30 years of investing experience, including 10 years as a portfolio manager.
Mark leads the investing group Out Fox The Street where he shares stock picks and deep research to help readers uncover potential multibaggers while managing portfolio risk via diversification. Features include various model portfolios, stock picks with identifiable catalysts, daily updates, real-time alerts, and access to community chat and direct chat with Mark for questions. Learn more.Analyst’s Disclosure: I am/we are long AAL, UAL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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Comments (611)
Have you not noticed the protests... nobody can enforce social distancing anymore, nor is it needed with the news on asymptomatic spread. @TommyIrish
Agree, the airlines would just reduce capacity and raise fares, but most travelers would rather just take the risk.
the Buffett low was the low that occurred immediately after the stock opened on 5/4 - $20.75. Its the price that people could originally buy shares... this isn't about where Buffett sold b/c it's irrelevant to the small retail investors. The stock went lower due to $BA CEO.
Burning cash doesn't devalue equity. $SNAP loses money on every snap, but the stock is worth $30B.
The really odd part is that the airlines only need short term capital to survive until travel came back and Buffett had all the cash in the world to make that happen. Him selling was just absurd.
The airlines aren't eliminating flights needed and especially flights that aren't just burning thousand b/c traffic isn't rebounding in certain routes.
History says you are dead wrong. We have no idea in the short term, but long term the travel industry will return to normal. Their is nothing about this virus that suggests lower travel or even the need for social distancing.
Global travel will definitely spend the 2020s on how to prevent infected people from boarding transportation services.
The point here isn't where Buffett sold, but how the stock has traded since the shock of Buffett selling. $DAL immediately traded to the low here.
Come on you. $DAL would be at $30 on the $MRNA news, if not for Buffett and Calhoun. The airline stocks are up for other reasons including added flights and a 26% surge in traffic on 5/17.
Yes, imagine if he had noted the 25% increase in weekly traffic. The market acts like its not real b/c Boeing and others aren't pointing it out. My guess is that Calhoun is part of the vaccine bros like Buffett. These people have left people out of the big market rally.