On the Eve of a Potential Merger, Is This Airline a Good Buy?

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US Airways (NYSE: LCC) is one of the top airline operators and the consolidation of its industry appears to be continuing. U.S. Airways has been in negotiations to merge with American Airlines, giving both companies better footing, including giving U.S. Airways a stronger international presence, and the ability to compete with United Continental (NYSE: UAL). The possible merger has been in the works for almost a year and early synergy estimates put additional revenue expectations at $1 billion and non-union cost savings at $500 million. Is this finally a turning point for U.S. Airways and the airline industry in general?

Driving the industry is an expected rise in air travel, which should continue to be helped by capacity cuts, where U.S. Airways' revenues are expected to be up 4% in 2013. One of U.S. Airways’ advantages is its ability to hedge fuel cost increases. Fuel costs were up 38% in 2011, but are only expected to be up 2% in 2012 for the airline company; Q4 financials are expected to come in on Jan 21, giving us the ability to gauge this estimated figure. Maintenance cost declines should also help boost margins, where U.S. Airways plans to retire many of its older 737s for new Airbus airliners.

The key benefit for U.S. Airways is its ability to generate sufficient cash to fund operations. The airline company has upwards of $2.4 billion in cash, but a long-term debt load of $4.5 billion is not particularly inviting. Still, on a LT debt-to-cash basis, U.S. Airways is around 1.8x, while United (2.0x) and Delta Air Lines (NYSE: DAL) (4.0x) are worse off.

From a valuation standpoint, U.S. Airways also trades on the cheap end of the industry at only 4x earnings and 0.2x sales. We are also encouraged by the company's top-of-the-line expected earnings growth. U.S. Airways is expected to grow long-term EPS at close to 70% annually over the next half-decade (statistics via FinViz analyst estimates). Billionaire George Soros is bullish on this airline stock, upping his stake over 350% last quarter (check out George Soros' newest picks).

Delta, meanwhile, is one of the largest airline stocks by market-cap trading at over $10 billion. The airline expects revenues to be up 4% in 2012 on the back of a 1% rise in passenger load factor. One of Delta's recent initiatives is the purchase of an oil refinery – United was reported to be considering a similar purchase. Next to U.S. Airways, Delta trades the cheapest in the industry at only 7x earnings and 0.3x sales. Another key driver of Delta is its merger with Northwest, providing the company with cost synergies and added revenue lines. Ken Griffin - founder of Citadel Investment Group - upped his stake by a significant amount last quarter (see how much here).

What about the rest of U.S. Airways' competitors?

Alaska Air Group (NYSE: ALK) is expected to see continued improvement in pricing, which should help drive revenues up 8% in 2012 and 7% in 2013, benefiting from capacity cuts by competitors. Capacity additions in Mexico and Hawaii should also help to boost top line growth. Jet fuel expenses are also expected to rise 11% in 2012, and 10% in 2013, but non-fuel cost declines are expected to counter the increases. Billionaire Jim Simons is one of Alaska's top fund owners with over 3.7 million shares (check out Jim Simons' biggest bets).

United Continental is another top airline company, but expects flat sales in 2012 and 2013. This revenue-lagging airline is seeing pressures from its Continental merger integration, but United was expected to see upwards of $200 million in merger-related cost synergies this past year. Despite these expected synergies, the airline stock looks to continue to lag the industry in revenue growth. United Continental also sports the lowest expected earnings growth of the five airline stocks listed here, at 13% annually.

JetBlue Airways (NASDAQ: JBLU) should see solid revenue growth of 11% in 2012, on the back of 7% capacity growth. Revenues are also expected to expand 5% in 2013. The company's stock has been slowing its growth and expansion over the last few years, while selling older aircraft and delaying delivery of new models. Jet Blue trades on the rich side at 12x earnings, which is the highest of the five stocks listed here.

It appears that U.S. Airways is a top pick in the airline industry in terms of growth and valuation. We are also encouraged by U.S. Airways' return on assets of 7%, compared to other major airline operators Delta (3%) and United (0%).

This article is written by Marshall Hargrave and edited by Jake Mann. Insider Monkey's Editor-in-Chief is Meena Krishnamsetty. They don't own shares in any of the stocks mentioned in this article.
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