U.S. Airline Industry: A Rorschach Test for Investors

Phil Ordway of Anabatic Investment Partners discussed the dynamics of the U.S. airline industry and highlighted selected companies, including Alaska Air (NYSE: ALK), at Best Ideas 2018.

Thesis Summary:

The U.S. airline industry has changed but old biases still rule the day. Airlines made more money in 2015-2017 than in the prior thirty years combined and have posted eight consecutive years of profitability. Four major (and often troubled, loss-making) carriers disappeared in the last decade, and four carriers now control 80+% of capacity – American, Delta, Southwest, and United. New entrants have a hard time, as it is not possible to fly new routes in many of the best markets: JFK, LGA, and DCA are “slot constrained”; EWR, ORD, SFO, and LAX are effectively slot constrained; and many airports (ATL/Delta, MDW/Southwest, DFW/American) are so dominated by one carrier that competitors face severe challenges. Industry balance sheets are strong, and leverage and fixed-cost coverage have never been better. Airlines used to get very little of the interchange fees reaped by banks from valuable airline-branded credit cards. Airlines command a large share of the economics: billions of dollars per year at very high margins. Over the past four to five years, American, Delta, United, Southwest, and Alaska have reduced their share counts by 35%, 16%, 24%, 21%, and 15%, respectively.

Alaska Air has a good culture and happy customers. It reaps advantages from costs/margins, customer loyalty, and attractive routes. Alaska has industry-leading operating margins (≥15-20%) and ROIC (≥15%). The shares recently traded at a ~10% earnings yield (at a market cap of less than $9 billion), with profitable growth ahead. Alaska has a cost advantage versus Delta (and American and United) and a revenue advantage versus Southwest (and the other U/LCCs).

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About the instructor:

Philip Ordway is Principal and Portfolio Manager of Anabatic Fund, L.P. Previously, Philip was a partner at Chicago Fundamental Investment Partners (CFIP). At CFIP, which he joined in 2007, Philip was responsible for investments across the capital structure in various industries. Prior to joining Chicago Fundamental Investment Partners, Philip was an analyst in structured corporate finance with Citigroup Global Markets, Inc. from 2002 to 2005, where he was part of a team responsible for identifying financing solutions for companies initially in the global power and utilities group and ultimately in the global autos and industrials group. Philip earned his M.B.A. from the Kellogg School of Management at Northwestern University in 2007 and his B.S. in Education & Social Policy and Economics from Northwestern University in 2002.