With 737s Grounded, Raymond James Goes On Standby With Southwest Airlines

Southwest Airlines Co LUV is likely to face earnings risk in the near term due to the grounding of the Boeing Co BA 737 MAX fleet, which could continue into the summer months, according to Raymond James.

The Analyst

Savanthi Syth downgraded Southwest Airlines from Outperform to Market Perform.

The Thesis

Southwest Airlines has the highest exposure to the grounding of the MAX fleet, as it affects 34 aircraft, or about 4 percent of its capacity, Syth said in the Monday downgrade note.

Although the findings related to the Ethiopian crash are still preliminary, they seem to indicate a need for some computer-based training, and regulators may require that the proposed MCAS software updates be rigorously tested, the analyst said.

These developments could delay the resumption of service of the fleet from the previously estimated May timeline, Syth said. The fleet may remain grounded into the peak summer travel period, she said.

Southwest Airlines may be able to offset the MAX fleet grounding with existing capacity, particularly in the off-peak months, which includes most of the second quarter, the analyst said.

The airline had plans to retire 20 Boeing 737-700s, which it can delay to offset the impact of the grounding, Syth said. It can also use some higher-cost options like purchasing or leasing used Boeing 737s to maintain scheduled flights, she said.

While reducing its EPS estimate for 2019 from $4.45 to $4.40, Raymond James said Southwest Airlines has the ability to “maintain its longer-term superior margins, FCF profile and low leverage while capitalizing on technology catch-up and international growth opportunities.”