Should You Pick American Airlines Stock At $17?

American Airlines stock (NASDAQ: AAL) is up 15% in this month after the company raised its Q4 outlook. American Airlines now expects its Q4 earnings to be in the range of $0.55 and $0.75 per share, versus its prior guidance of $0.25 to $0.50. The company will benefit from its recently announced agreement with Citibank for a co-branded credit card — AAdvantage. This agreement will help the airline garner more cash flows in the coming years. The co-branded card is projected to yield $10 billion in annual revenue and boost the company’s pre-tax income by $1.5 billion.

Looking at a slightly longer period, AAL stock has seen its stock rise 31% from levels of $13 in early 2023 to $17 now. This can be attributed to:

1. a 168% rise in the company’s adjusted earnings from $0.50 in 2022 to $1.34 now; partly offset by
2. a 51% fall in the company’s trailing P/E ratio from 25x in 2022 to 12x now;

Let’s dive deeper into these factors. Separately, if you want upside with a smoother ride than an individual stock, consider the High-Quality portfolio, which has outperformed the S&P, and clocked >91% returns since inception.

What Drove American Airlines’ Earnings Growth?

American Airlines’ earnings growth of 168% since 2022 was driven by a mix of higher revenues and margin expansion. American Airlines’ revenue rose from $49 billion in 2022 to $54 billion now. Airlines at large have seen a strong rebound in air travel demand after the pandemic. American Airlines has seen its capacity expand 12% from 260 billion in 2022 to 291 billion now. The company’s occupancy rate has increased during this period; however, its average yields have declined.

Not only did the company saw its sales rise, its adjusted net margin expanded from 0.7% to 1.7% over the same period. Higher revenues and margin expansion resulted in earnings surging to $1.34 per share over the last twelve months, versus $0.50 per share in 2022.

What’s Behind Falling Valuation Multiple?

Investors have punished American Airlines stock lately, given its low margins. Although the net margin has risen since 2022, it is much lower than levels of around 5% seen before the pandemic. In fact, the company’s adjusted net income margin of 3.5% in 2023 was better, and it has seen a decline in 2024. Higher operational costs, excess capacity, and an increased fare competition are some of the factors that have weighed on American Airlines’ profitability lately.

More importantly, investors aren’t happy about the American Airlines’ high leverage. With a massive debt of $39 billion, the company’s debt to equity ratio stands at 370%. The Fed rate cuts bode well for American Airlines, as its profitability will improve with lower interest costs to bear.

Does AAL Stock Have Any Room For Growth?

At its current levels of $17, AAL stock is up 22% this year, and we think it’s fully valued now. Notably, AAL stock has performed worse than the broader market in each of the last three years. Returns for the stock were 14% in 2021, -29% in 2022, and 8% in 2023. In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, is less volatile. And it has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride, as evident in HQ Portfolio performance metrics.

Given the current uncertain macroeconomic environment around rate cuts and geopolitical conditions, could ALK stock see higher levels? We estimate American Airlines’ Valuation to be $15 per share, reflecting around 10% downside from its current levels of $17. Our forecast is based on 11x trailing adjusted earnings of $1.34 per share, lower than the stock’s average P/E ratio of 15x over the last two years. We think a fall in valuation multiple for American Airlines seems justified, given the company’s very high debt. The deal with Citibank will help the company garner more cash flows and help it deleverage over the coming years. This has resulted in slight optimism, evident from the stock appreciation. We think investors will be better off picking other airline stocks for better long-term gains. For instance, Alaska Air stock seems to be better placed from a financial risk perspective, compared to American Airlines.

While AAL stock looks like it is fully valued, it is helpful to see how American Airlines’ peers fare on metrics that matter. You will find other valuable comparisons for companies across industries at Peer Comparisons.

[1] Returns as of 12/18/2024
[2] Cumulative total returns since the end of 2016

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