July 14th, 2022

Margin Compression Hits Travel Industry

Delta Airlines (DAL) misses on earnings!  But that’s not the entire story.  Their earnings per share finished much lower than expectations, but revenue was a beat.

DAL reported earnings yesterday and they proved something we’ve been talking about for months now.  We theorized months ago that travel would be in high demand this summer, as Americans tried to make up lost time from the last two years of covid.

Last quarter DAL and other airlines projected higher revenue as they expected businesses and vacationers would return to a sense of normalcy.  

The consensus earnings estimate for DAL was $13.5 billion, but they reported a surprise of $13.82 billion (per EarningsWhisper.com) and the CEO cited a massive surge in air travel this past quarter.  

They finished the quarter with an operating profit of $1.4 billion, a 12% operating margin.  That’s only about 5% off from the June quarter in 2019 (pre-covid), despite fuel prices nearly double from that date.  

What’s our take on the news?  Why does the market count this as a miss?

Keep reading to find out what to expect from the travel industry going forward.  

The miss comes from the earnings side.  The consensus was $1.73 earnings per share, but EPS came in at $1.44, showing that inflation ultimately hurt their business.  They had strong revenue numbers, higher than they’ve been in several quarters, but earnings fell short.  That’s what we mean when we talk about margin compression and the potential for lingering stagflation.

John has been warning people at Traders Reserve about margin compression since last quarter.  

The cost of doing business (excluding fuel) increased by some 20%+, but the high demand for travel ultimately saved DAL.

The stock took a hit today because travelers have largely been ignoring inflation and the possibility of a recession because they wanted to get out during this summer.  But this is the height of the travel season, so if we start to see people backing off from travel in the third quarter, and the price of doing business still high, that means the travel industry could see some trouble next quarter. 

DAL is projecting a full year of profitability for 2022, and revenues in the 3rd quarter to be in the $12.6-13.1 billion range, which would be a 1-5% increase from the 3rd quarter of last year.   

While past performance doesn’t guarantee future results and I’m not a money manager, I think we will see the rest of the travel-related stocks go through something similar during this earnings season.  Despite high demand, the rising costs continue to put pressure on margins, and that usually isn’t a good sign for the market.

Speaking of the market…

If the mid-June low is really going to be the bottom of this market, there is a great chance that we will need to go down and re-test that low.  The question is whether you think earnings compression in this quarter will lead to future market gain.  The market makers are pricing in lots of bad news and more institutional buying is coming in, but we’re stuck in a very tight range.