The coronavirus pandemic has hit the airline industry hard, and recovery could be a long way off. Numerous analysts think it will take at least two years – and perhaps even longer – for commercial aviation to return to pre-COVID levels. Meanwhile, most airline shares have locked up their dividend, and some have even filed for bankruptcy protection.
With that in mind, we asked three Motley Fool employees to talk about the alternatives to the airline and industry. They came back with Dow (NYSE: DOW), Raytheon Technologies (NYSE: RTX), en Linde (NYSE: LIN). Here’s why.
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A reliable payout
John Bromels (Dow): Conventional wisdom currently calls for a recovery in 2022 or 2023. I think it’s the most likely scenario for the aviation industry, but there’s still a lot of uncertainty and I would not be surprised if this estimate ends up as distance from base.
Instead of buying at the moment in uncertainty – and there is a lot to go on, given the current economic conditions – I recommend buying in reliability and stability. For that, there is no better candidate than chemical company Dow.
Dow was spun off from the merged DowDuPont in 2019, with the company’s “performance chemicals” portfolio and $ 20 billion in debt. Most of the chemicals in the Dow lineup are not only used, but as components in various processes or products. These include coating, paint, adhesives, lubricants, and packaging. As you can imagine, these components are used in many different industries, which means that the diverse young company emits a reliable stream of cash flow. Dow generated $ 6.5 billion in cash last year, using it to pay about $ 2.4 billion of its debt tax and finance its generous dividend, currently yielding 6.7%.
Dow’s share price has been down about 23% so far this year, but the company is still running out of cash thanks to high demand in the food and healthcare sector. Now seems like an excellent time to shop inside.
Focus on free cash flow
Lee Samaha (Raytheon Technologies): Aerospace investors should be under no illusions: The recovery in the commercial air travel market will take time. In a recent call, the CEO of Defense Contractor Raytheon, Greg Hayes, said he thinks “it will take at least until 2023 for commercial air traffic to recover to 2019 levels.” It’s a dynamic situation, and Hayes also recently indicated that he had lowered his expectations for the commercial aviation industry in recent months.
Do not mind. It is very plausible that these air travel will recover over time. It is also highly plausible that Raytheon’s defense companies will generate a significant amount of free cash flow to support the commercial airlines. For reference, the company generated about 55% of its revenue from defense and space, and was $ 73.1 billion behind in defense at the end of the second quarter.
Despite the significant wind gusts in commercial aviation, Raytheon is still on track to generate good free cash flow (FCF) in the coming years. CFO Toby O’Brien recently confirmed the company was on track to generate $ 2 billion in FCF, a figure that includes $ 1.2 billion to $ 1.4 billion in non-recurring costs and taxes related to the merger who created the company. If you add the non-recurring items, Raytheon would trade at 26 times FCF in the 2020 pandemic hit.
In addition, management is taking manageable actions to reduce costs and increase cash generation with $ 2 billion in cost savings and $ 4 billion in cash protection actions planned for 2020. Thus, the commercial-aviation focused company (Collins Aerospace and Pratt & Whitney) will return to generate FCF over the time. Assuming Hayes is right on the timing of a recovery to 2019 levels, it is reasonable to assume that the commercial aviation industry will generate around $ 3 billion in FCF by 2023.
Meanwhile, the former Raytheon Company (most of the defense companies) is expected to generate an average of $ 4.1 billion in FCF per year by 2023. Taking these figures together, Raytheon Technologies suggests $ 20.1 billion in 2023. generate in FCF, which means it is currently trading at 12.2 times FCF in 2023. That would make the industrial stock currently look like a great value.
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Have a gas with this leader of the sector
Scott Levine (Linde): Although I think the airline industry will eventually recover from the turbulence it is currently experiencing due to the global pandemic, I am not interested in any of the relevant stocks, given the uncertainty regarding the financial situations of the individual airlines – especially after their second quarter revenue reports.
Although flying stocks will not soon fly into my portfolio, one industrial stock I like now is Linde. It is not a household name, but it is a business that touches people’s lives in various ways. Linde is a global provider of industrial gases and technical services with customers representing a wide range of industries, including food and beverage, electronics, healthcare, and manufacturing (to name a few). As a potential investment, the diversity of customer base is appealing because it reduces the risk of a significant downturn in one sector.
Linde recently reported its Q2 2020 revenue, and it is proving an impressive ability to keep track of costs, as operating expenses decreased 14% compared to the same period last year. And it was not just the reduction in spending that illustrated the strength and ability of the company despite the challenging economic environment. Estimates of analysts of $ 6.3 billion Linde reported $ 6.4 billion in revenue for the second quarter. The company outperformed analysts’ earnings estimates, reporting adjusted earnings per share of $ 1.90 – 15% higher than the $ 1.65 EPS analysts had expected. And for investors who prefer to measure the company’s financial well-being based on cash flow, Linde generated $ 1.76 billion in cash from operations, an increase of 76% year-on-year. With this manly generation of operating cash flow, the company could easily cover its $ 506 million in dividends and about $ 783 million in capital expenditures.
It is not only the ability of Linde to flourish in the face of today’s moth winds that makes it attractive at the moment, it is also the future prospect of the company: the growth of the hydrogen economy. Hydrogen-oriented fuel cells, e.g. Plug power, have garnered much interest this summer following announcements detailing their plans to generate hydrogen and supply stationary power solutions. However, there are many questions about whether these companies will in fact succeed, given their inability to generate profits so far. Linde, on the other hand, already has a leading position related to hydrogen production, and positions itself for future success. For example, in Germany, Linde is planning to build and operate the world’s first hydrogen tank station for passenger trains, and the company has signed a memorandum of understanding with China Power to pursue green hydrogen initiatives in China.
