Dear Valued Visitor,

We have noticed that you are using an ad blocker software.

Although advertisements on the web pages may degrade your experience, our business certainly depends on them and we can only keep providing you high-quality research based articles as long as we can display ads on our pages.

To view this article, you can disable your ad blocker and refresh this page or simply login.

We only allow registered users to use ad blockers. You can sign up for free by clicking here or you can login if you are already a member.

United Continental Holdings Inc (UAL), US Airways Group, Inc. (LCC): In Search of a Reasonable Airline P/E Ratio

Price to earnings ratios are one of many measures for a company’s value. Simply put, it shows how many times earnings the market is willing to pay for a stock. However a reasonable P/E ratio varies by company and by industry. A rapidly growing start-up can trade at a four-digit P/E ratio for a period of time while a company in a low growth or shrinking space may trade for a P/E ratio in the single-digits. This article will examine the airline industry from a P/E perspective and try to give possible explanations for the variety of valuations.

United Continental Holdings Inc (NYSE:UAL)

A wild industry

Airlines are known for making some investors rich while wiping out others completely. It is an industry that has consumed billions of dollars and where high capital costs continue to attract investors who want to do what few others could. But even in this industry we have less exciting things like P/E ratios. Let’s take a look at them.

Airline Current P/E
US Airways Group, Inc. (NYSE:LCC) 5.5
Delta Air Lines, Inc. (NYSE:DAL) 18.4
United Continental Holdings Inc (NYSE:UAL) N/A

Among the three non-bankrupt major carriers we get quite a variety of P/E ratios. At one end, United Continental Holdings Inc (NYSE:UAL) trades with a useless P/E ratio due to negative earnings and at the other end, US Airways Group, Inc. (NYSE:LCC)trades for a lowly 5.5 times earnings. And in the middle, Delta Air Lines, Inc. (NYSE:DAL) trades for a P/E ratio in the upper teens.

However, there are explanations for this variety of numbers with some more clear than others. United Continental Holdings Inc (NYSE:UAL)’s earnings were impacted by merger-related expenses stemming from the integration between United Airlines and Continental Airlines. US Airways’ P/E ratio may be being kept down due to factors such as its smaller international network or uncertainty surrounding the merger with American Airlines, while Delta represents a completed airline merger and its P/E ratio could be setting a new normal in the industry. Or Delta could be trading more based on future earnings expectations.

The following table uses three different P/E ratios to approximate target prices. The current US Airways Group, Inc. (NYSE:LCC) P/E ratio is the lowest, an approximation of a P/E of 10 is the second, and the current Delta P/E ratio is the final column.

Airline 2014 EPS estimate* P/E = 5.5 PE = 10 P/E = 18.4
US Airways Group $2.97 $16.34 $29.70 $54.65
Delta Air Lines $3.04 $16.72 $30.40 $55.94
United Continental Holdings $4.93 $27.12 $49.30 $90.71

Yahoo! Finance

Clearly the last column has very high estimates that are unlikely to be met. This is largely due to applying the current P/E ratio at Delta, even though the airline is probably trading at a premium to it current P/E ratio due to higher expected future earnings. Airlines tend to carry with them a greater investment risk which causes a lower valuation than a company with similar earnings growth in a more stable industry. For this reason, while I am bullish on the industry, I believe a P/E ratio of around 10 is a more acceptable valuation. But with projected earnings growth the way it is, this still leaves shares plenty of room to run in the next couple years.

DOWNLOAD FREE REPORT: Warren Buffett's Best Stock Picks

Let Warren Buffett, George Soros, Steve Cohen, and Daniel Loeb WORK FOR YOU.

If you want to beat the low cost index funds by 19 percentage points per year, look no further than our monthly newsletter.In this free report you can find an in-depth analysis of the performance of Warren Buffett's entire historical stock picks. We uncovered Warren Buffett's Best Stock Picks and a way to for Buffett to improve his returns by more than 4 percentage points per year.

Bonus Biotech Stock Pick: You can also find a detailed bonus biotech stock pick that we expect to return more than 50% within 12 months.
Subscribe me to Insider Monkey's Free Daily Newsletter
This is a FREE report from Insider Monkey. Credit Card is NOT required.