Morgan Stanley sees "inconsistency" in how investors are approaching the cost side for legacy air carriers
In a research note to investors, Morgan Stanley analyst Rajeev Lalwani upgraded United Continental (UAL) to Overweight, while downgrading Delta Air Lines (DAL) to Equal Weight and American Airlines (AAL) to Underweight, as he believes diverging paths may emerge for legacy airlines heading into 2020. The analyst argued that United Airlines has executed and is likely to see upside to earnings per share, as American Airlines may face a cost reset from labor cost pressures.
BUY UNITED AIRLINES: Noting that United has done a "solid" job of executing on its mid-continent strategy, which he foresees continuing, Morgan Stanley's Lalwani upgraded United Continental to Overweight from Equal Weight and raised his price target on the shares to $110 from $101. With opportunities around the loyalty program and largely stable costs, the analyst believes the 2020 earnings per share target has a higher probability of being met, thus shifting his estimates to the upper-end of guidance.
SELL AMERICAN AIRLINES: Meanwhile, Morgan Stanley’s Lalwani downgraded American Airlines to Underweight from Equal Weight and lowered his price target on the shares to $26 from $40. The analyst believes the company faces "the most labor risk" within the group, which he assumes will be reset higher over the next 6-18 months and drive cost per available seat mile excluding fuel up 2.5%-3.5% on average between 2019/2020, further compounded by jet fuel prices rising about 10%. In addition, though revenue per available seat mile should hang in around the low-single digit growth range as management focuses on high margin hub growth and capital expense eases, Lalwai noted that he sees considerable downside risk to 2020 consensus earnings per share of $5.76.
MOVING TO THE SIDELINES ON DELTA: Moving to a more neutral stance, Lalwanin also downgraded Delta Air Lines to Equal Weight from Overweight and trimmed his price target on the shares to $61 from $62. The analyst acknowledged that Delta Air lines shares are off to a "good start" year to date and up about 10% versus a flattish group and Legacy peers. However, as he looks at his refreshed 2020 estimates, which are moderately below consensus and reflect pilot step-ups, higher oil, elevated supply growth, and healthy low-single digit RASM growth, he believes that the shares are trading closer to an appropriate multiple and the stock is now "better reflecting" the company's premium margins and balance sheet relative to the long-run. Moreover, with capex still elevated, the free cash flow yield is falling below double-digit levels of recent years, Lalwani added.
PRICE ACTION: In afternoon trading, shares of United have gained over 1% to $82.40, while American's stock has dropped about 2% to $30.98. Also lower, shares of Delta Air Lines have slipped almost 1% to $54.51.