Is This Airline the Market’s Best-Kept Secret?

It’s been a decidedly poor year for Spirit Airlines (NYSE:SAVE), down 14.6% for the year versus the S&P 500, which has posted a gain year-to-date of 13.0%.

Relative underperformance of 27.6% is nothing to sneeze at but it does raise the question of whether Spirit Airlines may now be flying so low that it’s only way is up?

Spirit Has Lots of Tailwinds

Spirit has earned a reputation as a low-cost carrier but low base fares are just one component of its revenue model. The company also earns ancillary revenues from non-ticket sources like baggage fees, onboard sales, and other service fees.

Remarkably, almost half of Spirit’s operating revenue comes from ancillary sources, so the airline is a master of not only providing cheap flights to travelers but also tacking on additional charges to boost the bottom line.

Management has also innovated on cost side of the income statement. Spirit has figured how to operate a variable cost structure that allows it to be more flexible during economic downturns.

This is in sharp contrast to the conventional airline model that is saddled with a heavy fixed-cost structure. Rather, Spirit can better adapt to changing market conditions via strategies such as fuel-hedging and contract negotiations.

By employing these flexible variable cost measures, Spirit is more cushioned against financial stresses that emanate from market downturns.

It’s also got a young fleet of aircraft that enables it to offer lower fares than many rivals. The younger the aircraft, the lower the maintenance costs typically, and the better their fuel efficiency. The average age of Spirit aircraft is just 6.5 years, making it one of the youngest fleets among US carriers.

By keeping operational costs lower, Spirit Airlines enjoys a competitive advantage in the highly capital-intensive aviation business.

Yet another tailwind that supports Spirit’s financials is its higher seat density versus other airlines, meaning it can maximize revenue per flight.

Add to these factors the company’s rapid turnaround times at airports and you end up with more flights per day than rivals, further boosting the top line.

With so much going for it, what does Spirit’s financials look like and is SAVE stock a buy?

Is Spirit Airlines Stock Undervalued?

Certainly, Spirit Airlines has a smart business model that has already been proven to work successfully in Europe as evident by Ryanair’s success. But does it translate to healthy financial statements?

Like other airlines, Spirit suffered horrendously during the late 2020 and early 2021 quarters with revenue plunging year-over-year by 52.7% in Q4 2020 and 59.9% in Q1 2022. But the revenue bounce back was quick and sharp. By Q1 2022, Spirit Airlines was reporting YoY revenue growth of 149.1%.

While the pace of its growth has slowed in subsequent months, Spirit still posted quarterly top line growth of 30.0% last quarter. So, what has shareholders so muted this year?

With revenues rising from $2.2 billion 3 years ago to $5.9 billion as of Q2 2023, Spirit Airlines share price is still down due to negative EBIT, or operating income, which has been down in 11 of the past 12 quarters, and only barely made it into the black this past quarter.

Another headwind SAVE faces is a pretty significant debt burden of $6.1 billion against just $1.3 billion in cash.

When distilling rapidly rising revenues against heavy debt and poor operating income, is Spirit Airlines stock undervalued?

Spirit stock is just 1.9% undervalued according to the consensus estimate of 9 analysts covering the stock.

Will Spirit Stock Go Up?

In the near-term, it’s hard to see a particularly bullish outcome for Spirit Airlines shareholders. A majority of analysts have revised their estimates lower, SAVE has not been profitable in the past twelve months, and revenue growth has been slowing materially.

To add to the woes, Spirit operates with a hefty debt burden, does not pay shareholders a dividend, and has poor cash flow yield.

Mixing all those ingredients into the pot doesn’t produce a particularly appetizing opportunity for investors, and so it’s no wonder that many shareholders have run to the exits over the past year.

Perhaps the standout metric for Spirit Airlines is its low price-to-sales ratio, sitting at just 0.3x. Spirit posted $5.5 billion in revenues over the past twelve months yet trades at a market capitalization of just $1.8 billion.

Still, it’s not enough to whet the appetite, even though it’s quite a bit below the sector average of 1.1x and peer average of 0.5x. 

Is Spirit Airlines a Buy, Sell or Hold?

In spite of the year-to-date share price decline, Spirit Airlines appears to be fully valued and a Hold at this time, sitting just 1.9% below fair value.

A series of factors have combined to provide a serious headwind to impede the stock from taking off much higher, including high debt levels, a slowing pace of revenue growth, negative sentiment among analysts downgrading their forecasts, and lack of profitability.

While Spirit Airlines clearly has an advantageous business model that is supported by a high composition of ancillary revenue and a flexible, variable cost structure, it’s not enough in the current macroeconomic environment to overcome balance sheet anchors, meaning elevated debt levels that may be susceptible to higher interest rate payments in the coming years.

The bottom line is Spirit Airlines is not a glaring Buy or Sell at this time, but rather is a Hold on account of its rising revenues and the recent transition of operating income into the black.

To be clear, though, those positives have not wooed Wall Street sufficiently to convince them to rate the stock higher as a conviction Buy. Instead, analysts as a whole have lowered their guidance in expectation of persistent challenges ahead for the airline.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.