Post edited 4:40 pm – February 8, 2012 by Jae Jun
Allegiant Travel Company (ALGT) is a very interesting company. It's an airline company and when I first heard the name in 2009 or so, I immediately dismissed it because I didn't want to bother with airlines. But upon reading the company reports, I found it very educational and highly entertaining. Definitely recommend reading the annual report to get a bigger picture of the airline industry.
But ALGT came up again in the 2011 Forbes Best Small Companies list and one of my goals is to actually read the annual reports for all companies in the list instead of just trying to filter it based on a quick valuation.
ALGT Business Decription
From the 10-K:
Operates a low-cost passenger airline marketed to leisure travelers in small cities, allowing us to sell air travel both on a stand-alone basis and bundled with hotel rooms, rental cars and other travel related services.
Why is it Cheap? / Is it Cheap?
- Is it cheap? I don't know. Skip this section.
Management
- Paid one time dividend in 2010 of $0.75 per share
- 2010 executive compensation was 0.6% of 2010 revenue
- Strong insider ownership of 22.3%
- Recent big sales by President
- CEO background is an investor and entrepreneur. One of the founders of ValueJet. Also founded MPower Communications.
Growth
Growth comes from ALGT's ability to expand into more smaller cities. There are hundreds of smaller cities located hours away from an international airport, yet these people also have to fly somehow.
Since ALGT purchases used MD-80 airplanes on the cheap, it will be able to penetrate these locations as their cost to open a new route is much cheaper than a bigger airline.
Growth also comes from ancillary revenue. By making better deals with resorts, hotels and casinos, ALGT is able to generate more commission from its package sales.
ALGT is working on a direct flight to Hawaii which should add growth.
Strategic Advantage/Moat
The airline industry is highly competitive yet ALGT has many advantages over its bigger competitors. Efficiency comes from scale of operations, but not in the airline industry.
ALGT proves this in the way it does business.
They have less planes, less flights and less routes, yet are better off than most of their competitors who continue to lose money year after year.
Here is how they do it.
- Low cost operator. In a capital intensive commodity business, having a low cost business model utmost important.
- Focuses on leisures traveler instead of business travelers. Leisure travelers want cheapest airfares first and schedule their trip around their flight itinerary. Business travelers place great importance on their own business schedule with price coming second. This strategy allows ALGT to provide low frequency services from small cities but makes full use capacity.
- Every flight is direct. No connecting flights.
- Uses larger jet aircraft to provide nonstop service from small cities direct to leisure destinations.
- Does not use frequent flyer programs or code-share arrangements
- Sell only directly to travelers without participation in global distribution systems. ALGT does not sell tickets through Expedia, Travelocity or any other travel website. Tickets can only be purchased via their website, over the phone or at a ticket counter. This equates to less expenses.
- Has a variable flight schedule. Depending on demand and profitability, ALGT will cut or add flight routes. One example is how they moved back to Orlando Sanford International airport from Orlando International Airport as there wasn't enough profit from operating in Orlando International Airport.
- The variable flight model also allowed ALGT to cut flights by half when oil prices skyrocketed in 2008 and the recession hit later on. They can easily ramp up the flights when oil prices are low or when holiday season begins as well.
- The entire goal for a flight is to fly full, yet most airlines can't achieve this. ALGT temporarily suspends flying to some holiday destinations during non peak periods when demand is down.
- Focuses on markets where competitors will find it difficult to enter. The bigger airlines will have to accept losing money in these markets if they want to compete for market share.
- Sells packages in additional to tickets. Contracts with hotels and resorts to provide holiday package deals to customers.
- ALGT also makes good revenue from optional fees. The fees below was from a review of ALGT found online. Link is available at the bottom.
* Priority boarding: $9.99 – allows you to get on the plane first making sure you have overhead room.
* Premium seat selection: $9.99 – you get an assigned seat near the front or at the exit rows.
* Standard seat assignment: $6.99 – gives you an assigned seat towards the back of the aircraft.
* Online checked bag fee: $39.98 – might be more than the industry average, but you want to pay it online, since it will cost you $70.00 per bag at the airport.
- Makes use of strategically located bases to shift schedules and flights, perform line maintenance, overnight parking of aircraft, and other operations support.
- Does not hedge fuel costs
I've never heard of an airline that operates as strategically and savvy as ALGT.
Competitors
- Of the 161 routes it flys (according to last 10-K), only 10 routes have competition.
- Due to its profitability, ALGT trades at a premium to its peers.
- Gross margin is around 40%. Unheard of. Comps are around 15-18%.
Risks
- MD-80 airplane engines no longer being made could lead to parts shortage
- Increased industry regulation increasing fees and licenses
- Bigger competitor willing to lose money to take market share from ALGT
- Another recession
- Having to replace their current fleet of MD-80's. Different planes mean new maintenance, training, schedules, parts etc.
Valuation
- On Feb 1, ALGT announced their 36th consecutive profitable quarter
- Passenger revenue per available seat mile (PRASM), perhaps the most important bottom-line measure of an airline's health, increased 11.7% over the year-ago period and 19.2% for all of 2011.
- $320M in cash and only $146M in debt
- I'll leave valuation for now because as the Q4 and 2011 results should be released soon.
Catalysts
- Reconfiguring fleet of MD-80 aircrafts from 150 seats to 166 seats
- New flight routes to Hawaii
- New and additional ancillary third party products
Verdict
- Management: A
- Growth: B
- Moat: B
- Risk: B
- Valuation: C
- Overall: B
Conclusion
While learning about the company, I couldn't help but be impressed of the strategic and business savvy. I had never really thought about airlines as a potential investment opportunity but ALGT completely shatters that assumption.
At the current price, the valuation is a bit lofty, but if it comes down to a reasonable range, definitely one to watch out for.
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