Sun Country Airlines: Everything On Track For Normalization (SNCY)

Thesis

Sun Country Airlines Holdings (NASDAQ:SNCY) operates Sun Country Airlines which has a method of flying routes with excessive demand and switching routes when the demand goes down. Their low acquisition price of plane, paired with working solely on high-demand routes and days, interprets to very large revenue margins for SNCY. Although the stock value has not mirrored my expectations, I preserve my view that the corporate has been profitable since my preliminary posting. When taking 1Q23 outcomes into account, this turns into much more obvious. To start, administration has supplied a income outlook that’s a lot better than what I had anticipated. This is due largely to lease income associated to its current plane acquisitions, in addition to administration’s statement of sturdy 2Q23 demand traits. Particularly, 2Q23’s plane utilization and pricing are outpacing 2019’s ranges, and that this energy is widespread throughout the community. While there are some price inflation pressures, administration is conscious, and is already rolling out initiatives to ease them. I nonetheless imagine the stock is affordable if the present development development continues, as such, I reiterate my purchase ranking.

Demand outlook

Overall, I feel it is excellent news for SNCY and buyers that demand and reserving traits are returning to regular. SNCY can now higher handle its stock and streamline its operational processes. Management acknowledged that sure demand patterns had been returning to pre-pandemic ranges, whereas others had been present process modifications. They particularly famous that though peak intervals remained sturdy, the standard seasonal low intervals had been experiencing declines that align extra carefully with historic traits. In gentle of this, I anticipate additional volatility previous to a full normalization, which is more likely to happen in 2H23 or FY24 as SNCY cycles by way of FY23 reserving traits. Management additionally famous an increase in demand for secondary markets, which they attribute partially to the rise of the working remotely. While this would possibly not drastically alter the market for SNCY, it does improve the number of markets from which it will probably draw demand.

Manpower

In my opinion, one of the simplest ways for administration to alleviate the pressure on prices is to put money into further pilot coaching. From January to April of 2023, the variety of SNCY trainee pilots was 33% larger than within the corresponding interval in 2022. However, I imagine this initiative will hold margin underneath stress within the close to future as a result of coaching pilots takes time. Even although the corporate’s capability for coaching pilots has elevated, they’re nonetheless struggling to clear the numerous backlog of trainees they’ve amassed, which has a adverse impression on each fleet utilization and worker productiveness. Specifically, day by day utilization dropped from 9.7 hours in 1Q19 (pre-covid ranges) to 7.3 hours in 1Q23. In my opinion, the corporate is prepared for development, excluding the pilot scarcity. Other areas like the provision flight attendants, airport staff, and mechanics are all already in place.

Strategy

In April, SNCY bought 5 737-900ERs, all of which are actually leased to Oman Air. After the leases finish in 2024 and 2025, SNCY is predicted to start out utilizing the planes in 2Q25 after they’ve been reconfigured. In the quick time period, the acquisition will add $3 million of lease earnings to SNCY financials quarterly. Since the 737-900ERs will quickly be reconfigured to seat round 200 passengers as an alternative of 186 like its older 737-800s, I anticipate this to have a constructive impact on SNCY’s revenue margins within the medium to long run. Importantly, regardless of the elevated potential for income era attributable to those planes’ bigger seating capacities, passengers can anticipate comparatively related journey prices, excluding minor will increase within the value of gas and touchdown charges – which I learn as larger income per airplane however at decrease mounted price (extra passengers per lane). Also, administration has made it clear that they intend to stay opportunistic of their acquisition of used plane, regardless of noting that the present pricing setting has turn into much less enticing on account of persevering with delays within the supply of recent plane.

Valuation

I made a decision to vary my mannequin’s strategy from potential upside by way of a number of change to potential upside on the present a number of. Given the constructive outlook and normalization of demand/reserving traits, my development expectations are additionally larger this time round. Combined with continued margin enlargement as gas costs normalize, SNCY is predicted to generate EBITDA of round $350 million in FY25. I imagine there’s a 24% upside from right here on the present ahead EV/EBITDA a number of of 5.5x.

Conclusion

SNCY has proven resilience and success in navigating the challenges posed by the pandemic. The administration’s income outlook, supported by sturdy demand traits and elevated plane utilization, has exceeded expectations. However, SNCY faces challenges when it comes to manpower, significantly in pilot coaching. While efforts to extend the variety of trainee pilots have been made, the backlog of trainees is impacting fleet utilization and worker productiveness. I anticipate the current acquisition of further plane, with plans for reconfiguration, to positively impression revenue margins within the medium to long run. Considering the constructive outlook, normalization of demand, and anticipated margin enlargement, my revised valuation mannequin suggests a possible 24% upside from the present ahead EV/EBITDA a number of of 5.5x.