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Feb. 18, 2017, 8:28 a.m. EST

Warren Buffett loves cheap airline stocks, which could get a boost from Trump

Airlines already have low valuations, so if tax rates fall, they could be even more attractive

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By Philip van Doorn, MarketWatch


MarketWatch/Bloomberg
President Donald Trump’s corporate tax plan could increase the profitability of airlines, which would enrich Warren Buffett and other airline investors.

The decision by Warren Buffett’s Berkshire Hathaway to load up on Apple shares is making big news. But the billionaire investor also put money in four airline stocks.

A tailwind for airlines is that their high income tax rates might fall dramatically if President Donald Trump succeeds in cutting corporate tax rates.

In the fourth quarter, Berkshire Hathaway Inc. /quotes/zigman/583979/composite BRK.B -0.35%  built a new stake of 43.2 million shares in Southwest Airlines Co. /quotes/zigman/241463/composite LUV +3.22% , while also adding to its holdings of American Airlines Group Inc. /quotes/zigman/24849617/composite AAL +3.10% , Delta Air Lines Inc. /quotes/zigman/463579/composite DAL +2.70%  and United Continental Holdings Inc. /quotes/zigman/617037/composite UAL +1.72% . Most airlines are expected by analysts to post declining profits in 2017 as fuel prices rise. Industry profits are expected to be healthy in 2018, with those four airlines expected to generate double-digit increases in earnings per share.

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Tax rates

FactSet estimates that the average effective income tax rate over the past 12 reported months for S&P 500 /quotes/zigman/3870025/realtime SPX -0.24%   member companies was 26.4%. The highest U.S. corporate tax rate is 35%, and, of course, many companies pay state and local income taxes as well. It is reasonable to argue that a reduction in the federal corporate tax rate will help some companies more than others, and airlines might be among the biggest beneficiaries.

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We decided to broaden our review by looking at the nine airlines included in the S&P 1500 Composite Index, which is made up of the S&P 500, the S&P 400 Mid-Cap Index /quotes/zigman/6015543/delayed MID -0.24%  and the S&P Small-Cap 600 Index /quotes/zigman/3870020/realtime SML -0.05% .

Here they are, in alphabetical order, with their effective income tax rates:

Airline Ticker Effective income tax rate - 2016*
Alaska Air Group Inc. /quotes/zigman/216861/composite ALK 39.48%
Allegiant Travel Co. /quotes/zigman/101442/composite ALGT 36.53%
American Airlines Group Inc. /quotes/zigman/24849617/composite AAL 37.75%
Delta Air Lines Inc. /quotes/zigman/463579/composite DAL 34.10%
Hawaiian Holdings Inc. /quotes/zigman/88749/composite HA 37.95%
JetBlue Airways Corp. /quotes/zigman/87304/composite JBLU 37.58%
SkyWest Inc. /quotes/zigman/77976/composite SKYW 39.37%
Southwest Airlines Co. /quotes/zigman/241463/composite LUV 36.74%
United Continental Holdings Inc. /quotes/zigman/617037/composite UAL 40.74%
Source: FactSet

(For SkyWest Inc. /quotes/zigman/77976/composite SKYW +1.92% , we are showing the effective income tax rate for 2015, because the company posted an operating loss for 2016.)

Trump has pledged to lower the corporate tax rate to 15%. He said Feb. 9 that his administration would be “announcing something I would say over the next two or three weeks” on corporate taxes that “will be phenomenal” for businesses.

Valuation

The S&P 1500 trades for 16.2 times consensus 2018 earnings estimates, according to FactSet, while the industrial sector of the index (which includes the airlines) trades for 16.8 times consensus 2018 estimates. Here’s how the airlines stack up, by this measure, and how much analysts expect their earnings to grow in 2018:

Airline Ticker Consensus EPS estimate - 2017 Consensus EPS estimate - 2018 Expected EPS growth - 2018 Closing price - Feb. 14 Price/ consensus 2018 EPS estimate
Alaska Air Group Inc. /quotes/zigman/216861/composite ALK $7.89 $8.61 9% $96.30 11.2
Allegiant Travel Co. /quotes/zigman/101442/composite ALGT $10.96 $12.49 14% $174.85 14.0
American Airlines Group Inc. /quotes/zigman/24849617/composite AAL $4.61 $5.35 16% $46.57 8.7
Delta Air Lines Inc. /quotes/zigman/463579/composite DAL $5.23 $5.79 11% $49.86 8.6
Hawaiian Holdings Inc. /quotes/zigman/88749/composite HA $4.83 $5.02 4% $51.10 10.2
JetBlue Airways Corp. /quotes/zigman/87304/composite JBLU $1.82 $2.01 10% $19.66 9.8
SkyWest Inc. /quotes/zigman/77976/composite SKYW $3.09 $3.47 12% $35.05 10.1
Southwest Airlines Co. /quotes/zigman/241463/composite LUV $3.89 $4.68 20% $55.31 11.8
United Continental Holdings Inc. /quotes/zigman/617037/composite UAL $6.77 $8.11 20% $73.74 9.1
Source: FactSet

It appears from these low forward price-to-earnings ratios that many investors still don’t trust airlines, but the industry has been stable in recent years, as it has found new ways to make money and avoid cutthroat price competition, following decades of mergers, bankruptcies and other disruptions.

Erick Ormsby, the founder of Alcosta Capital Management, particularly favors Southwest Airlines because of the prospect that its high tax rate will fall, as well as 20% expected EPS increase in 2018 and its overall growth trajectory.

“You have a stable environment, relatively speaking, for an airline that is trading at 12 times earnings,” he said in an interview Feb. 14.

/quotes/zigman/583979/composite
US : U.S.: NYSE
$ 194.15
-0.68 -0.35%
Volume: 3.03M
May 25, 2018 5:05p
P/E Ratio
12.05
Dividend Yield
N/A
Market Cap
$480.56 billion
Rev. per Employee
$623,780
loading...
/quotes/zigman/241463/composite
US : U.S.: NYSE
$ 52.86
+1.65 +3.22%
Volume: 8.29M
May 25, 2018 4:00p
P/E Ratio
8.75
Dividend Yield
1.21%
Market Cap
$29.69 billion
Rev. per Employee
$378,485
loading...
/quotes/zigman/24849617/composite
US : U.S.: Nasdaq
$ 44.91
+1.35 +3.10%
Volume: 6.36M
May 25, 2018 4:00p
P/E Ratio
11.70
Dividend Yield
0.89%
Market Cap
$20.39 billion
Rev. per Employee
$339,526
loading...
/quotes/zigman/463579/composite
US : U.S.: NYSE
$ 55.87
+1.47 +2.70%
Volume: 7.45M
May 25, 2018 4:00p
P/E Ratio
11.44
Dividend Yield
2.18%
Market Cap
$38.16 billion
Rev. per Employee
$483,414
loading...
/quotes/zigman/617037/composite
US : U.S.: NYSE
$ 71.68
+1.21 +1.72%
Volume: 3.76M
May 25, 2018 4:00p
P/E Ratio
9.83
Dividend Yield
N/A
Market Cap
$19.54 billion
Rev. per Employee
$427,038
loading...
/quotes/zigman/3870025/realtime
US : S&P Base CME
2,721.33
-6.43 -0.24%
Volume: 1.68B
May 25, 2018 4:46p
loading...
/quotes/zigman/6015543/delayed
US : ICE Gib Ind
1,946.87
-4.68 -0.24%
Volume: 0.00
May 25, 2018 6:08p
loading...
/quotes/zigman/3870020/realtime
US : S&P Comp CME
1,004.64
-0.46 -0.05%
Volume: 281.82M
May 25, 2018 4:46p
loading...
/quotes/zigman/216861/composite
US : U.S.: NYSE
$ 61.87
+2.00 +3.34%
Volume: 2.62M
May 25, 2018 4:02p
P/E Ratio
8.23
Dividend Yield
2.07%
Market Cap
$7.38 billion
Rev. per Employee
$346,174
loading...
/quotes/zigman/101442/composite
US : U.S.: Nasdaq
$ 155.85
+4.05 +2.67%
Volume: 225,344
May 25, 2018 4:00p
P/E Ratio
12.11
Dividend Yield
1.80%
Market Cap
$2.45 billion
Rev. per Employee
$413,831
loading...
/quotes/zigman/24849617/composite
US : U.S.: Nasdaq
$ 44.91
+1.35 +3.10%
Volume: 6.36M
May 25, 2018 4:00p
P/E Ratio
11.70
Dividend Yield
0.89%
Market Cap
$20.39 billion
Rev. per Employee
$339,526
loading...
/quotes/zigman/463579/composite
US : U.S.: NYSE
$ 55.87
+1.47 +2.70%
Volume: 7.45M
May 25, 2018 4:00p
P/E Ratio
11.44
Dividend Yield
2.18%
Market Cap
$38.16 billion
Rev. per Employee
$483,414
loading...
/quotes/zigman/88749/composite
US : U.S.: Nasdaq
$ 39.70
+0.75 +1.93%
Volume: 513,703
May 25, 2018 4:00p
P/E Ratio
5.90
Dividend Yield
1.21%
Market Cap
$1.98 billion
Rev. per Employee
$412,447
loading...
/quotes/zigman/87304/composite
US : U.S.: Nasdaq
$ 19.41
+0.37 +1.94%
Volume: 6.57M
May 25, 2018 4:00p
P/E Ratio
5.48
Dividend Yield
N/A
Market Cap
$6.03 billion
Rev. per Employee
$358,645
loading...
/quotes/zigman/77976/composite
US : U.S.: Nasdaq
$ 58.35
+1.10 +1.92%
Volume: 114,571
May 25, 2018 4:00p
P/E Ratio
6.91
Dividend Yield
0.69%
Market Cap
$2.98 billion
Rev. per Employee
$197,684
loading...
/quotes/zigman/241463/composite
US : U.S.: NYSE
$ 52.86
+1.65 +3.22%
Volume: 8.29M
May 25, 2018 4:00p
P/E Ratio
8.75
Dividend Yield
1.21%
Market Cap
$29.69 billion
Rev. per Employee
$378,485
loading...
/quotes/zigman/617037/composite
US : U.S.: NYSE
$ 71.68
+1.21 +1.72%
Volume: 3.76M
May 25, 2018 4:00p
P/E Ratio
9.83
Dividend Yield
N/A
Market Cap
$19.54 billion
Rev. per Employee
$427,038
loading...
/quotes/zigman/77976/composite
US : U.S.: Nasdaq
$ 58.35
+1.10 +1.92%
Volume: 114,571
May 25, 2018 4:00p
P/E Ratio
6.91
Dividend Yield
0.69%
Market Cap
$2.98 billion
Rev. per Employee
$197,684
loading...
/quotes/zigman/216861/composite
US : U.S.: NYSE
$ 61.87
+2.00 +3.34%
Volume: 2.62M
May 25, 2018 4:02p
P/E Ratio
8.23
Dividend Yield
2.07%
Market Cap
$7.38 billion
Rev. per Employee
$346,174
loading...
/quotes/zigman/101442/composite
US : U.S.: Nasdaq
$ 155.85
+4.05 +2.67%
Volume: 225,344
May 25, 2018 4:00p
P/E Ratio
12.11
Dividend Yield
1.80%
Market Cap
$2.45 billion
Rev. per Employee
$413,831
loading...
/quotes/zigman/24849617/composite
US : U.S.: Nasdaq
$ 44.91
+1.35 +3.10%
Volume: 6.36M
May 25, 2018 4:00p
P/E Ratio
11.70
Dividend Yield
0.89%
Market Cap
$20.39 billion
Rev. per Employee
$339,526
loading...
/quotes/zigman/463579/composite
US : U.S.: NYSE
$ 55.87
+1.47 +2.70%
Volume: 7.45M
May 25, 2018 4:00p
P/E Ratio
11.44
Dividend Yield
2.18%
Market Cap
$38.16 billion
Rev. per Employee
$483,414
loading...
/quotes/zigman/88749/composite
US : U.S.: Nasdaq
$ 39.70
+0.75 +1.93%
Volume: 513,703
May 25, 2018 4:00p
P/E Ratio
5.90
Dividend Yield
1.21%
Market Cap
$1.98 billion
Rev. per Employee
$412,447
loading...
/quotes/zigman/87304/composite
US : U.S.: Nasdaq
$ 19.41
+0.37 +1.94%
Volume: 6.57M
May 25, 2018 4:00p
P/E Ratio
5.48
Dividend Yield
N/A
Market Cap
$6.03 billion
Rev. per Employee
$358,645
loading...
/quotes/zigman/77976/composite
US : U.S.: Nasdaq
$ 58.35
+1.10 +1.92%
Volume: 114,571
May 25, 2018 4:00p
P/E Ratio
6.91
Dividend Yield
0.69%
Market Cap
$2.98 billion
Rev. per Employee
$197,684
loading...
/quotes/zigman/241463/composite
US : U.S.: NYSE
$ 52.86
+1.65 +3.22%
Volume: 8.29M
May 25, 2018 4:00p
P/E Ratio
8.75
Dividend Yield
1.21%
Market Cap
$29.69 billion
Rev. per Employee
$378,485
loading...
/quotes/zigman/617037/composite
US : U.S.: NYSE
$ 71.68
+1.21 +1.72%
Volume: 3.76M
May 25, 2018 4:00p
P/E Ratio
9.83
Dividend Yield
N/A
Market Cap
$19.54 billion
Rev. per Employee
$427,038
loading...

Philip van Doorn covers various investment and industry topics. He has previously worked as a senior analyst at TheStreet.com. He also has experience in community banking and as a credit analyst at the Federal Home Loan Bank of New York.

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