High-Flying SkyWest Defies Expectations

On the surface, SkyWest (Nasdaq: SKYW) might not seem all that compelling an investment. The small regional airline, which offers 1,700 daily flights mainly within North America, has eroding revenue and only turned a profit in two of the past four full fiscal years.

Yet shares of the company are selling for nearly triple the October 2014 low of about $7, which they hit during the market’s broad pullback that month. Considering SkyWest’s tepid financials, what could be keeping its stock aloft?

Ironically, the company’s financials—or more precisely, expectations for them, which SkyWest has been soundly beating in recent quarters. The trend continued in the third quarter, when revenue came in 3% above estimates and earnings beat by 8%.

But as much as it likes positive surprises, the market also wants to know a company is moving decisively to promote sustainable growth. SkyWest certainly is, a key strategy being to replace unprofitable smaller aircraft carrying only 30 or 50 passengers with larger 65 and 76 seaters, which have substantially more earning potential.

During the 12 months ended September 30th, SkyWest removed 141 of the smaller planes from its fleet and added 57 of the larger ones. It plans to add more of the latter in coming quarters.

Replacing unprofitable planes helped increase the third-quarter operating margin to 9.9% from 7.1% in the prior year’s third quarter. SkyWest also boosted financial performance by inking new deals to fly for other carriers, and by renewing existing agreements to provide such services.

Importantly, management is committed to turning around ExpressJet, an acquisition that has seen its share of red ink since SkyWest purchased the small Houston-based airline five years ago. President Russell Childs described SkyWest’s approach to ExpressJet during the third-quarter conference call:

Our immediate focus is positioning ExpressJet for a competitive and profitable future. This includes potential extensions on aircraft to improve profitability. As we have previously disclosed, we expect ExpressJet to lose money in 2016. However, we are in discussions with our partners to move forward with more sustainable contracts.

With SkyWest poised to improve, CFO Robert Simmons expressed optimism about the future:

For next quarter we would expect year-over-year EPS to show modest improvement and we also expect year-over-year growth for the full year of 2016 in the 10% ballpark, excluding the noise from any potential fleet related charges and the caveats I mentioned earlier about Q2 training and other expenses.

That forecast is in line with consensus projections, confirming SkyWest is on the right track. Of the four analysts covering the stock, three rate it a “buy.”