With Business Off, Dip in Air Stocks Seen

Airline stocks rose in recent weeks largely because of proposed takeover bids for UAL Corp. and AMR Inc. Now that these offers have collapsed, stocks of most carriers are expected to drop dramatically, analysts said Tuesday.

That is largely because the airline business has started to slump. Passenger volume is weak because of the slowing economy. Labor and fuel costs are rising. Earnings are disappointing. And these pressures are likely to intensify as the overall number of aircraft and seats in operation industrywide are expected to rise as Eastern Airlines, now in bankruptcy proceedings, boosts its flight schedule.

Further, proposed rules by Congress and the Department of Transportation to crack down on leveraged buyouts of airlines--which many in the industry see as the beginning of airline reregulation--are also seen as bearish by airline investors.

“All of the airline stocks have been selling at premiums based on speculation of takeovers,” said Edmund S. Greenslet, a Florida airline analyst. “Those premiums are now being removed. When you take those premiums out, you take the stocks back to levels supported by earnings, and those prices are lower than the prices we have today.”

Hans J. Plickert, an airline analyst with the Transportation Group, an affiliate of Paine Webber, said that “if it had not been for the speculation on the takeover moves, the (airline) stocks might have started to weaken earlier in the year.”

On Tuesday, USAir provided further evidence of disappointing airline earnings. The carrier reported an operating loss of $71.9 million in the third quarter, in contrast with operating income of $136.7 million in the 1988 period. The carrier blamed the loss in part on discount fares, higher-than-expected frequent-flyer awards and fare wars in California. The effect of Hurricane Hugo and the Bay Area earthquake, along with recent trends, are likely to push results for the fourth quarter and all of 1989 “significantly lower” than the year-earlier periods, said Edwin I. Colodny, USAir’s chairman and president.

AMR, parent of American Airlines, earlier this month reported that its third-quarter operating profit fell 8.9% from the 1988 period, while its operating expenses rose 20.3%.

Delta Air Lines also is expected to report disappointing quarterly earnings.

Overall, analysts expect third-quarter earnings to plummet as much as 40% from a year ago. Such deterioration is expected to continue for the remainder of this year and well into 1990.

Such conditions are a stark contrast to the brighter days of late last year and the first half of this year, when U.S. airlines enjoyed healthy growth in both revenues and yields (the average revenue received for carrying one passenger one mile), despite sluggish passenger volume increases.

Aided by those trends and by proposed buyouts, airline stocks rose close to 80% in the first nine months of 1989--three times greater than the Standard & Poor’s 400-stock index of industrial issues, according to Drexel Burnham Lambert. Since their lows in late 1987, airline stocks rose 143.5% versus 39.2% for the S&P; 400.

Airline stocks outperformed the broad market averages in 1988 and 1989. The last time this occurred, Drexel Burnham said, was in 1982 and 1983.

Earlier this year, many analysts predicted that the entire airline industry would report a combined operating profit of $3 billion to $3.5 billion for 1989. That would have surpassed last year’s record of $2.8 billion.

But recently, experts have revised projections downward.

George James, president of Airline Economics Inc., a Washington consulting firm, has revised his projection downward to $2 billion to $2.5 billion. Drexel Burnham airline analyst Rose Ann Tortora is forecasting operating profits of approximately $2 billion, down from her earlier estimate of $3 billion to $3.5 billion. Further, both Airline Economics and Drexel Burnham are forecasting operating profits to fall to $1.2 billion to $1.8 billion in 1990.

“We would not own any U.S. airline stocks at this time,” Tortora said. “We think there is another 10% to 15% downside risk over the coming months.”

Profitability is being pressured largely because passenger volume has grown only marginally, forcing widespread fare cutting while costs are increasing.

Yields increased 11% and 13%, respectively, during the first and second quarters of 1989 as compared to the same periods last year. But they rose only 1.5% in July and August.

In August, the amount of miles flown on discount fares totaled 92.3% of all traffic, as opposed to less than 90% earlier in the year. The greater use of discounts are the result of a number of promotions: Kids Fly Free, redemption of frequent-flyer mileage and regional fare wars.

Paul Karos, airline analyst with First Boston, said a reason for the discounts is that “the economy has slowed and we are seeing some price resistance from the consumer.”

AIRLINE STOCKS AT A GLANCE

Tuesday close Change % Change Alaska Air 23.675 -0.675 -2.85 AMR Corp. 68.875 -1.75 -2.54 Delta Air Lines 66.00 -1.50 -2.27 Midway Airlines 14.875 -0.25 -1.68 Pan Am Corp. 3.50 -0.125 -3.57 Southwest Airlines 24.25 -0.75 -3.09 UAL Corp. 170.00 -8.375 -4.92 USAir Group 40.125 -2.375 -5.92 Dow Jones transportation index 1,210.70 -25.96 -2.14