On Wednesday, a prominent analyst said to “buy” United Airlines (UAL) stock for double-digit returns over the next year. UBS analyst Myles Walton initiated coverage on the stock with bullish recommendations. His target price of $110 on the stock reflects an upside of 19% from the closing price of $92.42 on Wednesday.
Why “buy” United Airlines stock?
According to Barron’s report, Walton is impressed with United Airlines’ cost structure, which could help it expand its margins despite challenges ahead. During his sector initiation report, the analyst warned investors about tough times for airlines next year.
Walton thinks that the industry could see a sudden spike in seating capacity after Boeing’s (BA) 737 MAX returns. Notably, the Boeing 737 MAX has faced a global flying ban since mid-March following two fatal accidents within five months. Approximately 390 MAX planes were in service before the grounding. More than 300 MAX planes are ready for delivery once global regulators lift the ban.
Including grounded planes and new jets will result in a massive increase in overall seating capacity. According to Barron’s report, Walton thinks that the seating capacity could grow 5% YoY in 2020 compared with an expected decline of 4% this year.
Therefore, Walton suggests that investors go for airline stocks that have high earnings and cash flow growth potential, according to Barron’s. The analyst thinks that United Airlines has a perfect combination of earnings and cash flow growth. He expects the company’s margins to keep improving through 2021.
Walton’s view on United Airlines stock coincides with Bank of America (BAC) analyst Andrew Didora. In his sector initiation report on September 23, Didora cautioned about the overcapacity situation next year due to the MAX return. He told investors to go for airline stocks that have a better cost structure like United Airlines and Southwest Airlines (LUV).
Fact check for United Airlines’ financials
United Airlines has an impressive earnings surprise history. The company beat analysts’ estimates in the trailing seven quarters. Notably, the company registered strong double-digit bottom-line growth in all seven quarters.
United Airlines’ operating cash flow has more than doubled in the last four years from $2.6 billion in 2014 to $6.2 billion in 2018. The free cash flow tripled to $2 billion in 2018 from $629 million in 2014. The company reported over 200 basis points of pre-tax margin improvement in the last four quarters.
Analysts are turning bullish
United Airlines’ consistent and strong quarterly performances and its ability to expand margins in challenging situations made analysts confident about the stock. On October 1, Citigroup analyst Stephen Trent also initiated coverage on the stock with a “buy” rating. He’s impressed with United Airlines’ strategy of expanding through partnerships and alliances. He thinks that the approach helps the airline boost its profits and minimizing investment costs.
Looking at the company’s strong fundamental growth potential, more analysts are turning bullish on the stock. Approximately 53% of the analysts had a “buy” equivalent recommendation on United Airlines stock at the beginning of 2019. The proportion has increased to 71% as of today. Analysts’ average target price on the stock has increased 4% to $110.06.
United Airlines’ attractive valuation multiples make it a better investment option in the airline industry. Currently, the stock trades at a discounted valuation multiple compared to the industry average based on the one-year forward PE ratio. United Airlines’ forward PE ratio of 7.7x is lower than the industry average of 7.9x. Southwest and Delta (DAL) have higher multiples of 13x and 8.1x, respectively.
United Airlines’ stock performance
United Airlines was last year’s top performer in the airline industry. However, the stock hasn’t kept pace with the broader market this year. With the YTD (year-to-date) return of 10.3%, the stock has lagged behind major US indexes. The Dow Jones and the S&P 500 indexes have risen 19.1% and 23.4%, respectively, YTD. The stock has also underperformed the iShares Transportation Average ETF (IYT), which has risen 18% this year. Meanwhile, Southwest and Delta stocks have gained 23.9% and 13.2%, respectively, YTD.