Why is free cash flow important?
Free cash flow (or FCF) is the cash available to a company after all expenses and capital expenditures are taken care of. FCF is an important metric since it’s a more precise measure of how much cash a business actually has. The cash can then be used to pay off debt, pay dividends, or buy back shares and make additional investments in the company.
Negative FCF indicates that a company isn’t generating enough cash to support business operations. Unlike earnings or profits, FCF is difficult to manipulate and has no cash component.
For 3Q16, Delta Airlines (DAL) generated the highest FCF of $3.5 billion, followed by United Continental (UAL) at $2.5 billion and Southwest Airlines (LUV) at $2.2 billion. American Airlines (AAL) had FCF of $1.6 billion, JetBlue Airways (JBLU) had $719.0 million, and Alaska Air (ALK) had $697.0 million.
Spirit Airlines (SAVE) was the only airline with negative FCF at -$7.0 million. In fact, SAVE had negative FCF throughout 2015, but it turned positive in the first half of 2016. The reason for this shift is because Spirit Airlines is still in a growth phase and has to make significant investments back into the business.
However, looking at absolute numbers does help us compare these airlines to each another. To do this, let’s look at another ratio: free cash flow yield.
Free cash flow yield
Free cash flow yield is calculated by dividing free cash flow by enterprise value.
United Continental and JetBlue Airways both boast the highest FCF yield of 9.0%. Delta Air Lines, Alaska Air, and Southwest Airlines have the second highest yield at 8.0%. American Airlines has an FCF yield of only 4.0%, and Spirit Airlines has a yield of -0.30%.
You can gain exposure to airlines by investing in the SPDR S&P Transportation ETF (XTN), which invests 30.1% of its portfolio in airlines. Next, let’s see what analysts are recommending for these airlines.