QS-046 Quick Case: Taking on the Challenge

Taking on the Challenge

When choosing your investments, you need to consider—carefully—which industries you’ll be involved in. A business that appears to be performing well may not be able to continue to perform well if its industry is struggling. Every industry has its own challenges, which must be faced by the companies within it.

Consider the airline industry. All airlines are subject to conditions beyond their control, such as inclement weather, fuel costs, and, to some degree, labor demands. In an industry characterized by fierce competition, profit is realized by the well-managed airlines—those that can please their customers, price their services effectively, and significantly reduce expenses. But, when a global event shakes the entire industry, even the best-managed companies suffer.

Just look at the effects of September 11, 2001. The reduced number of passengers flying, both nationally and internationally, put a strain on the airline industry. Since many people were afraid to board a plane during that time, the value of airline stocks declined. Today, the industry continues to work on pulling out of the slump caused by 9/11.

There is, however, one airline in the regional division that seems to be doing well: Southwest Airlines. If you’ve ever flown with Southwest, you know the airline has lower-than-average prices and a particularly loyal following. Southwest stands apart from other regional carriers because of its 31 consecutive years of profitability and its proven customer satisfaction. Take a look at a few of Southwest’s significant facts:

• Southwest has a revenue of $7.94 billion, compared to the regional airline industry average of $1.24 billion.

• Southwest’s operating margin is 10.54% compared to an average of 6.02% for the industry.

• Southwest has an EPS very close to the industry average of 0.67, while its top competitors are in the negative numbers (and some severely so). Delta Airlines, for example, has an EPS of -25.515.

• Southwest’s PE is 23.29, meaning that investors are willing to pay $23.29 for each dollar of the company’s earnings—far more than the industry average of $13.86.

From the numbers, you can see that Southwest Airlines is succeeding in spite of its industry’s challenges. That’s quite a feat—staying profitable amidst uncontrollable conditions. Companies with a successful track record in spite of numerous hurdles are worth looking at when you’re choosing your investments.

What additional trends and events might affect the airline industry?

In comparison, what unique challenges do you think companies in other industries might face (e.g., the pharmaceutical industry, the U.S. automobile manufacturing industry, the software industry, the financial services industry, or the grocery retailing industry)?

How would you approach choosing an investment from an industry that faces multiple challenges?

What advice would you give a beginning investor who wants to buy stock from a company in a “popular” industry?