Let’s Fly on Some Dividends. AAL

My airline stock is not doing well, but the company is.  The recent high of American Airline (AAL) in the last month was $41.34. Now they are trading for only $36.41, which is a 12% drop in the last couple of weeks.  That is a significant drop in a short time.  Let’s look to see what we should do to fly on some dividends.

The Sky

Background

American Airline (AAL) fly’s planes for a living.  At the end of 2015, they have about 950 mainline and almost 590 regional aircrafts.  They fly to over 50 countries and have 350 destinations.  They were founded in 1934 and they are headquartered in Fort Worth, Texas.

Valuation

Currently, American Airline (AAL) has a very cheap valuation.  Currently, their PE is about 2.9, which is extremely low, which means the market is predicting bad things to come.  The PS is also only 0.5.  Again, very cheap.  We believe a big part of the recent share price falling is because of PRASM (Passenger Revenue per Available Seat Mile) going down, even though overall profits went up.


Headwinds

With the stock already being so cheap, we would like to review some possible headwinds.

  1. With the world economies struggling, one of the easy way to save money is to reduce travel. When people travel less, the airlines make less money.
  2. The US dollar is strong right now and they make a lot of money overseas. When that is translated back into US dollars, the numbers look worse.
  3. The market is worried about too many new aircraft coming online. When that happens, it increases competition, which reduces ticket prices, which reduces profits.
  4. With oil having a high probability of bottoming recently, this will increase a major cost to the airlines.
  5. With more and more improvements on the internet, trips that needed to happen face to face can now happen over the internet with increasing frequency. This has been a disadvantage for a long time and it will continue into the future.
  6. American Airline (AAL) has a lot of debt.
  7. The airline industry has gone through a lot of boom bust cycles.

What is helping?

  1. American Airline (AAL) is buying a lot of aircrafts. While that will increase competition with them and other airlines bringing on more capacity, they will also reduce fuel cost.  This is because the current generation of new airplanes use a lot less fuel, which will reduce fuel cost.
  2. American Airline (AAL) is buying back a lot of shares with their free cash flow. If the stock is too cheap, then the buybacks are awesome.  However, if they are a value trap, that may not be true.
  3. With a PE of 2.9, then with profits, the stock will double every 3 years with cash, buybacks, and some assumptions. If that keeps up for 30 years, $1,000 will turn into $1,000,000 in 30 years.    While that is extremely unlikely, it is fun to think about.
  4. Even if profits are cut by 75%, the PE ratio will still only be a 11.6. If we put a more average PE of 14, then the stock will still go up 20%.  We think that this is a likely worse case scenario.  If this is worse case, then there is a lot of room for even better than that.
  5. American Airline (AAL) has about $9 billion. You can do a lot with that kind of money.
  6. If profits do get cut by 75% and they wanted a 50% dividend payout ratio, then the dividend yield will go up to 4.3%, which is a decent dividend payment.

Future

With the risk and rewards in the previous section, we believe American Airline (AAL) will offer an above average chance to be a great dividend payer on YOC (yield on cost) at current prices.  Reading the conference calls, we believe that American Airline (AAL) is going to continue to focus on share buybacks.  After the company’s stock raises in value, then they will focus on paying down debt and raising their dividends.

Fly on Some Dividends

American Airline (AAL) has only been paying a dividend since July 2014.  They have been steadily paying $0.10 a quarter for the last 8 quarters or 2 years.  Once the share buybacks slow down, we predict dividend increases.  In the last year with the share buybacks, dividend payments have decreased from $70 million to $61 million per quarter.  This is even considering a steady dividend / share payment over that same time period.  Assuming we can get to a $450 million dividend per quarter in maybe 10 years with a couple of assumptions and buybacks, we can turn our 1.1% dividend into a 15% dividend yielder.  This gives us a great reward to look forward to.

What I bought

We bought another 8 shares of American Airline (AAL) for $298.26, which includes those commissions to pay for business trips.  While we have a small yield now, we believe we have a good risk reward ratio for eventually having a 15% YOC for us.  With the additional shares, we are earning $6.00 a year from American Airline (AAL).  How do your dividends fly?

Newest stock purchases can be found here.

Disclosure: We are long AAL

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