Delta Air Lines: Buy The Dip Opportunity

Summary

• Delta Air Lines reported phenomenal earnings on July 14th, yet the stock continues to downtrend.
• The primary reason behind the weakness seen in Delta Air Lines is the new Covid-variant called the Delta Variant.
• However, I believe that this weakness seen due to Delta Variant will be temporary, and I believe Delta Air Lines will see massive stock price growth throughout the 2H2021.

Lukas Wunderlich/iStock Editorial via Getty Images

Introduction and Thesis

On March 11th, 2020, WHO declared Covid-19 a pandemic. Since then, airlines have suffered like never before as the world literally went dark. For the first time, intercontinental travel was severely restricted to a point where almost every single country banned foreign travelers. Further, rising infections around the world put a halt to domestic travel as well. The airline industry was grounded. However, today, the world is on the brink of getting back to normality. Mankind was able to rise from the depth of the pandemic by social distancing and creating vaccines, resulting in leisure travel and business travel rebounds from the pandemic lows. Government restrictions are not as bad as last year, and most importantly, consumer sentiment is extremely strong. We are seeing one of the highest demands for consumer goods and travel that supply is having a hard time catching up. Counterintuitively, however, airline stocks have been suffering in the past few weeks due to a fear of another restriction as the new and more powerful Delta variant spreads, but for the reasons listed below, I believe that these fears are temporary creating opportunities to buy Delta Air Lines (NYSE:DAL):

1. Severe government restrictions are unlikely despite Covid cases rising again due to lower fatality and vaccination.
2. The American government will most likely not impose any legislation that will hurt travel demand and the overall economy.
3. Despite the initial rise in the Delta variant cases, Delta Air Lines reported strong 2021 Q2 earnings.
4. Due to the above reasons, my price target for Delta Air Lines for 2022 is 68~74.8$.

Bullish Case

Unnecessary Fears Of Delta Variant

As most people would already know by now, the Delta variant has been spreading across the world at a ferocious speed in the past few months. Looking at the United States shown in the picture below, the infection rate has been rising during the past few weeks, creating the fears of renewed government restrictions and fearful traveler sentiment. However, in my opinion, regulations and declining travel sentiment are unlikely, which makes the current weakness in Delta Air Lines' stock extremely attractive.

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The first picture above shows the possible 4th wave of Covid infections starting in the United States as the Covid cases are rising exponentially once again. However, the vaccines being distributed today severely limit the possibility of extreme symptoms or deaths. Further, "nearly all deaths in the US (due to Covid-19) are now among the unvaccinated" population, which hints that the vaccines can protect against the variant. Thus, I will carefully assume that the current vaccines are effective against the Delta variant, and since about 56% of the United States population is vaccinated, the lockdown scenario, in my opinion, is highly unlikely.

Additionally, some may indeed argue that the lives of people who chose not to get the vaccines should be valued by imposing restrictions, but I would like to argue otherwise. In my opinion, the world shut down early on in the pandemic and throughout because there was no protection against the virus. People were exposed to risks and the hospitalization rate was reaching dangerous levels; however, today, people have the option to get vaccinated and the fatality rate in the United States is not as high as last year, which is shown in the picture above. Therefore, because people have the choice to be protected from the virus through vaccines, I believe the government will not impose significant lockdowns.

Economic Factors

The economy is another factor that the government will consider before deciding any significant legislation that can curb travel demand such as lockdowns. After a significant shock to the economy, it is finally recovering, and I highly doubt that the government will want to cut the current recovery or growth short. FED president Jerome Powell has been clear that the inflation is transitory and he and the FED will allow the economy to run hot before tapering or raising rates. Further, for the sake of its citizens and the economy, U.K. prime minister, Boris Johnson, declared that the country will live with Covid as the fatalities stay low. I believe the American government will at least see what happens with the U.K. before imposing any significant legislation that can hurt the U.S. economy, and so far, the infection rate in the United Kingdom has been significantly decreasing after its peak while its fatality rate continued to stay low. Therefore, for the sake of the economy, I believe the U.S. government will not impose any harsh lockdowns or legislations that can hurt the economy and the travel demand, which creates an opportunity to buy into the weakness seen in Delta Air Lines today.

Strong Earnings Report

Delta Air Lines reported earnings on July 14th. The company reported an adjusted pre-tax loss of 881 million dollars and GAAP pre-tax income of 776 million dollars with total operating revenue of about 6.3 billion dollars. In the previous quarter, the company reported a GAAP pre-tax loss of 1.5 billion dollars and an adjusted pre-tax loss of 2.9 billion dollars with adjusted operating revenue of 3.6 billion dollars, which shows an about 62% increase in revenue quarter over quarter representing strong momentum. Further, the management stated while the current quarter revenue was about 49% less than the 2019 quarter, the September quarter will see only 30~35% revenue decrease from the 2019 quarter, continuing the strong momentum seen in the current quarter. Finally, the management also said that the booking curve is starting to normalize, the pace of corporate travel is accelerating, and leisure travel is fully recovering to 2019 levels. As time goes on, it is getting clearer that there are more upsides than downsides for the airline industry. Eventually, international routes will open and business travelers will come back, bringing normality and full recovery for Delta Air Lines.

Financials and Valuation

It is not surprising that Delta Air Lines' financials are not at their best today; however, I would like to argue that Delta's current balance sheet is strong enough to support Delta as the company navigates itself out of the depths of the pandemic. According to the company's most recent earnings report, Delta Air Lines have about 29 billion dollars in total debt and finance lease obligations with an adjusted net debt of 18.3 billion dollars, which is about 7.8 billion dollars higher than December 2019. However, the company has cash and cash equivalents of about 10.3 billion dollars, and since the company is expected to be profitable going forward as the world returns to normality, I believe Delta Air Lines can navigate through current debt loads with minimal problems.

In terms of valuation, Delta Air Lines have a market cap of about $26 billion dollars today. The company is expected to have $28 billion dollars in revenue in 2021 and $40 billion dollars in revenue in 2022 showing strong revenue growth, which brings forward a p/s ratio under 1. Further, the company is expected to report negative earnings in 2021 but $4.26 in earnings per share in 2022, putting the 2022 forward price to earnings at only about 9.2, which, in my opinion, is extremely cheap since the company is awaiting multi-year growth and recovery.

Data by YCharts

[Chart created by author using YCharts in Seeking Alpha]

As the chart above shows, Delta Air Lines is expected to recover at an immense pace, leaving more upside than downside going forward. Therefore, at today's $41 per share and $26 billion valuation, I believe that the company is undervalued considering its future potentials and creates a unique buying opportunity for investors.

Risks

Although I believe that the downside risks from today's prices are limited, significant risks are still present. My bullish thesis heavily relies on the Delta variant being a small threat despite the infection rates rising. If I was to be wrong regarding lower death rates and the efficacy of the vaccines, then Delta Air Lines could see a significant downside due to severe government restrictions and dampening traveler sentiment. Also, I may be wrong about the intentions of the FED and the U.S. government. I argued that restrictions hurting the economy are unlikely; however, if the government's views are different, then my thesis may be significantly challenged. Finally, the business travelers may never come back to pre-pandemic levels. During the pandemic, almost all businesses found a way to work around expensive and time taking business travels. If a significant portion of these companies decide that online meetings are sufficient for most of their operations, then there may be long-term risks for Delta Air Lines.

Summary

In summary, I believe that Delta Air Lines is a buy today as the stock is showing weakness. Downside risk from the Delta variant is unlikely since the fatality rate is lower and the governments will not want to impose restrictions that can damage the recovering economy. Further, Delta Air Lines showed strong momentum in recovery during the most recent quarter with a positive GAAP pre-tax income. Also, the number of international and business travelers doubled from March to June, showing strong momentum. And as this strong recovery momentum continues, Delta Air Lines' stock will be able to fly high once the fear created by the Delta variant subsides. Therefore, I believe Delta Air Lines is a buy today.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of DAL either through stock ownership, options, or other derivatives. 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.