The industrials sector is benefiting from lower energy prices. Delta Air Lines reported Q4 results that exceeded both EPS and revenue estimates. Southwest Airlines also performed better than expected.
This week, 50 companies in the S&P 500 index announced their Q4 2014 results, and 68% of them exceeded analysts’ estimates. Only 54% of companies reporting this week exceeded revenue estimates, however, continuing the trend this quarter of revenue results beating estimates at lower rates than usual. After this week’s reports, the blended EPS growth rate remained unchanged from last week at 3.5%, while the blended revenue growth rate continued to fall, ending up at 0.6%.
The energy sector continues to weigh on the overall growth numbers for the S&P 500. Excluding the energy sector, overall earnings growth would be up to 6.9%, from 6.7% last week, and revenue growth would be down slightly, from 3.8% to the current 3.7%.
Exhibit 1. S&P 500: Q4 2014 Earnings Scorecard – Companies Reporting This Week
Source: I/B/E/S data
One sector that stands to benefit from lower energy prices is industrials. Of the nine companies in the sector to report this week, eight of them exceeded their EPS estimates, while six beat their revenue estimates. Delta Air Lines Inc. (DAL.N) reported Q4 results this week that beat both top and bottom line estimates. Delta’s $0.78 EPS topped estimates by a penny, and was a 20% increase over the previous year’s result. Delta CEO Richard Anderson explained some of the benefits of lower fuel costs during the earnings call. He said, “Carbon price declines are a huge benefit to the overall U.S. economy. The same is true across the industry. These jet fuel savings are enormous, and we are diligent at maintaining those savings for the bottom line.”
In addition to lower costs, Delta also grew revenue by 6.3% this quarter, beating analyst expectations. This combination of top line growth and dramatically decreased costs is expected to have a powerful effect on airlines’ earnings. Analysts’ estimates are reflecting this trend, as the airlines sub-industry is expected to see EPS growth over the next four quarters of 150%, 43%, 44% and 31%, respectively.
Southwest Airlines Co (LUV.N) also posted impressive earnings results this week, with its 59-cent profit beating the 55-cent estimate, and increasing 79% over the 33-cent EPS the company reported a year ago. Revenue was up 4.5%, slightly edging the analyst consensus. Southwest stands to gain more than most competitors from lower fuel costs, given its lack of hedges. CFO Tammy Romo explained the effect during the earnings call. She said, “Our fuel prices have plunged nearly 50% in recent months, as Gary mentioned, and in response to the collapse in fuel prices we effectively unhedged our 2015 fuel consumption. For the first quarter, we neutralized our hedge with offsetting hedges, which essentially resulted in a $0.10 watch and loss and we are now participating in 90% of the market drop as a result.”
The difference in hedging strategies between airlines will likely result in operational differences. While Delta plans to avoid significant reduction in pricing, Southwest may put substantial pricing pressure on domestic travel. This interplay between costs and pricing is why historical trends indicate that there is not a strong negative correlation between airline industry earnings and changes in oil prices. However, with the recent dramatic drop in oil prices, analysts are concluding that airlines’ earnings will strongly benefit, as evidenced by the projected growth rates for the airlines sub-industry. For more on the relationship between oil prices and earnings, see our recent research piece.
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