It's no secret that the airline industry is now facing headwinds from the uncertainty created by President Donald Trump's tariff plans. Indeed, United Airlines (UAL 2.13%) and Delta Air Lines (DAL 2.08%) recently walked back full-year projections. Still, investing in stocks and airlines is all about the long term, and much of the near-term weakness is already priced into airline stocks. In that context, here's a look at why United is an excellent value stock for long-term investors.
Near-term weakness
The headwinds in 2025 must be addressed because they have caused airlines to reduce expectations. Delta declined to reaffirm its full-year outlook, and United served notice that it would be difficult to hit its existing full-year forecast. Still, in an effort to define the downside to earnings in 2025, United's management elected to offer a "recessionary environment" full-year prediction.
United's "stable environment" full-year forecast was unchanged at $11.50 to $13.50 in adjusted diluted earnings per share, while a recessionary outlook calls for $7 to $9. The latter is a recognition that the current economic slowdown could extend through 2025.
For reference, management noted that it had "burned up" the contingency it had built into its "stable environment" full-year outlook, so unless everything goes right, it's tough to see United meeting the $11.50 to $13.50 range, even if the economy stabilizes.
A favorable risk/reward calculation
That said, even the low point of its recession outlook makes the stock look attractive. Based on the low point of the estimate of $7, United stock trades at 9.6 times 2025 earnings.
The valuation looks very cheap, but it's fair to say it reflects some investor concern over United's debt levels. After all, this is an airline with a market cap of almost $22 billion and total debt, finance lease obligations, and other liabilities of $27.7 billion.
Image source: Getty Images.
The debt is a significant concern if a recession lasts. However, as management told investors on the earnings call, it expected to be "near breakeven, but still positive" in terms of free cash flow in 2025 (FCF) even in the recessionary outlook.
Even in the worst-case scenario in 2025, the stock looks attractive. In addition, there's plenty of upside potential in the stable environment scenario, and United's Chief Financial Officer Michael Leskinen believes hitting the $7 to $9 earnings-per-share range "would justify significant multiple expansion as we will have proven our financial resiliency." It's hard to disagree.
Long-term investment thesis
On the earnings call, Leskinen outlined another intriguing aspect of the industry, saying that buying airplanes was a "30-year investment to make sure that our expected returns through cycle return on invested capital are above our cost of capital."
This is the key point in the airline industry, not least because airlines have historically failed to cover their cost of capital. Still, there are reasons to believe United and Delta can do this now.
- Delta and United are paring back capacity expansion plans in light of the slowdown -- a good sign that airlines are now more disciplined in reacting to demand softness by cutting less profitable capacity.
- United CEO Scott Kirby noted that the slowdown will likely accelerate the industry trend toward "focusing in markets where they have competitive advantage."
- United's loyalty programs and focus on the premium cabin customer (a market that management hasn't seen any weakness in yet) help diversify its revenue streams from the traditional reliance on main cabin revenue, which tends to be highly sensitive to changes in the economy.
- Kirby continues to believe that the slowdown in wide-body deliveries (partly due to delays in the launch of the Boeing 777X) will create capacity tightness in international travel, where United is well positioned.
Image source: Getty Images.
Is United Airlines a stock to buy now?
The bullet points discussed above speak to United's ability to generate returns above its cost of capital over the long term. Although there's near-term economic weakness, it's important to note that a successful or even partially successful resolution to the trade conflict will likely lead to analysts scrambling to upgrade earnings forecasts.
United's combination of long-term growth, significant potential upside, and relatively limited downside makes it a highly attractive stock to buy on a dip.
Lee Samaha has no position in any of the stocks mentioned. The Motley Fool recommends Delta Air Lines. The Motley Fool has a disclosure policy.
