ACHR - United Airlines: A Leader Rising High Among Fellow Giants

2023-06-27 07:57:08 ET

Summary

• United Airlines and Delta Air Lines are considered attractive investment options due to their strong bounce-back from the COVID downturn and undervalued stock prices.
• United Airlines has potential for 30%+ upside in 2023, with unique long-term catalysts such as its partnership with Archer Aviation in the electric vertical takeoff and landing (EVTOL) industry.
• Despite risks associated with the capital-intensive airline industry, United Airlines has limited downside potential and offers a 2:1 upside to downside opportunity for short to medium-term investors.

An Industry Leader With Remaining Upside

When it comes to industry leaders within the airline sector, four names automatically standout: Delta Air Lines ( DAL ), United Airlines ( UAL ), American Airlines ( AAL ), and Southwest ( LUV ). Of the big four our breakout favorites narrow down further to just two potential buys at current prices: Delta & United Airlines. These two names have bounced back from the COVID downturn nearly as strong as ever and are posting record revenue numbers while still trading well below pre-2020 values. These earnings results demand an increase to these company's valuations, and although we as an investment analysis group are not fans of owning airlines long-term, we do believe there is considerable upside, particularly in United Airlines stock, with limited further risk at current prices.

United, up around 40% YTD, still trades nearly half of where they were pre-COVID. This is likely due to a combination of factors, but most notably due to lower earnings per share values stemming from increased fuel and labor prices due to inflation and continually lower travelers than in the past. We see this being near the peak of these headwinds and see improved margins ahead, which should help push the price of industry leaders like Delta & United back towards all-time highs within the year to 6 quarters. Markets could price this movement in within the next couple of quarters as macroeconomic conditions become clearer with Fed interest rate changes expected to be put on hold by the end of this year. Therefore we see United Airlines as a 2:1 upside to downside opportunity with as much as 30% upside in the second half of 2023 into early 2024 at the expense of as little as 15% downside. A strong annualized rate of return nearing 50-60% for blue chip investors possible.

Valuation

Looking towards valuation of United Airline's stock, they appear significantly undervalued in comparison to both historical averages and in comparison to peers ( Figure 1 ). These metrics fall significantly lower than 5 year averages due to the discount handed to the entire sector during the COVID downturn, and despite the airlines bouncing back relatively quickly, the stocks of these companies have continued to drag.

Figure 1. United is significantly undervalued in comparison to both historical averages and sector averages on almost every available metric

Diving in closer to United's valuation metrics compared directly to close competitors such as Delta, American, and Southwest we see a similar story. United is discounted to peers by as much as 20-30% (Figure 2). This undervaluation is present from an EV/EBITDA perspective as well a P/E ratio perspective. From an EV/EBIDTA perspective the stock is undervalued to peers by as much as 23% on average (3.9x UAL EV/EBIDTA : 4.8x industry average = 23% undervaluation). Similarly, from a P/E ratio (forward) the stock is undervalued to peers by as much as 42% (5.6x UAL P/E : 8x industry average = 42% undervaluation). This amounts to a roughly 30% undervaluation on average to competitors overall. This combination of a discounted sector as a whole and UAL being the cheapest name of the bunch despite posting strong performance is what sets the name out as a clear leader in our opinion going forward for the short to mid-term future.

Figure 2. When looking at enterprise value to earnings United is undervalued in comparison to closest peers by a fairly significant amount

Therefore, even following the recent run up in price we believe United Airlines may still have conservatively as much as 30%+ upside in 2023. Factor in other unique long-term upside catalysts such as their involvement in the EVTOL industry with a partnership with Archer Aviation ( ACHR ) and United Airlines stands out as a high flyer in an industry full of blue chip giants.

Risks

Investment in airlines does come with a fair amount of risk. It is a capital intensive industry so any downturn and rate increases do impact the stocks upside and downside potential. United currently has around $37 billion in debt with around $17 billion in cash on hand. This number is significant, but is not far off from the norm of the industry and therefore should be monitored, but should not pose a significant long-term issue. The stock appears to have a fairly strong level of support around the $48 range and therefore we see medium term downside to be around 10-15% at most for United Airline's stock going forward. Other potential smaller risks include struggles with labor , inflation and its effect on fuel prices and in turn profits, and sluggish bookings . Overall we see United as a relatively solid investment option for short-medium term investors with a 2:1 upside to downside opportunity.

Overall Investment Summary

United Airlines is a clear industry leader that has bounced back strongly from the COVID downturn and is posting near record revenue numbers. The stock is still trading well below pre-2020 values ($80+), presenting a rather significant upside opportunity. Improved margins and clearer macroeconomic conditions are expected to push the price of industry leaders like United Airlines back towards all-time highs within the next year to six quarters. Valuation metrics show that United Airlines is significantly undervalued compared to historical averages and peers, making it an attractive investment option. Despite the risks associated with the capital-intensive airline industry, such as potential downturns and rate increases, United Airlines has strong support floor around the $48 range and in turn limited downside potential. Additional upside catalysts, such as its involvement in the electric vertical takeoff and landing (EVTOL) industry through a partnership with Archer Aviation, further enhance United Airlines' prospects. Overall, United Airlines presents a solid investment opportunity for short to medium-term investors looking to soar with a roughly 2:1 upside to downside opportunity when looking at multiple different valuation metrics.

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