Air Canada Trading at Half its Stock Price Prior to COVID-19. Will it Make a Comeback?

In my analysis today, I will be discussing Air Canada and why I think it’s severely undervalued at its current trading price. I will be bringing up financial information taken from their 10K and most recent 10Q, as well as 2 investment theses’ pertaining to their economic factors. If you enjoy my analysis on AC, look at the rest of my portfolio and analyses here and give me a follow to be updated on my next one! Company Overview for Air Canada Air Canada (TSX: AC) is the largest provider of scheduled passenger services in the Canadian market, the Canada-US transborder market and in the international market to and from Canada. It offers scheduled passenger services under the Air Canada Vacations and Air Canada Rouge brand name and provides air cargo services under Air Canada Cargo. Operations Air Canada Vacations – leading Canadian tour operator, developing, marketing, and distributing vacation travel packages Air Canada Rouge – AC’s leisure carrier that leverages the strengths of AC (extensive network, operational expertise etc.). Provides AC with the ability to compete against lower-cost carriers and ultra-low-cost carriers Air Canada Cargo – global cargo service provider offering cargo services on passenger flights and on all-cargo flights.  COVID-19 Mitigation and Recovery Plan Air Canada CleanCare+ program designed to reduce the risk of exposure to COVID-19 through measures such as enhanced aircraft grooming, mandatory pre-flight customer temperature checks and facial coverings, health questionnaires, care kits, etc. Touchless processes throughout the customer journey including TouchFree Bag Check for flights departing from Canadian airports Preliminary testing and rapid COVID-19 testing COIVD-19 Strategy Seeking and implanting measures to reduce costs and diversifying the revenue base Expansion of Air Canada Cargo and investments in technology Rebuilding a strong global network with a focus on a hub to hub flying providing seamless connectivity with AC’s partners Hubs: Toronto, Vancouver and Montreal are all well-positioned to capture global traffic flows Retaining leadership in the North American market through its fleets investments that’ll allow AC to better compete during the recovery through improved operating economics Key Financial Information and Outlook for Air Canada Revenues – Total revenues FY2020 was $5.9M representing a 70% decrease from the previous year primarily due to the system-wide negative impact of the pandemic, including government-regulated travel restrictions. Of total revenues, passenger revenues accounted for 75.1%, cargo revenues accounted for 15.8% and 9.1% was from others. FY2019, prior to the pandemic, 90.1% of total revenue was from passenger-related, 3.7% was cargo, and 6.2% was other. The change in each operating YoY was -75%, +28% and -55%, respectively. The revenues by geographic region saw the biggest change in the Pacific at a -80.9% YoY with Atlantic and then U.S transborder following right behind Despite Canada’s start to lifting restrictions and easing on the travel restrictions, I think that as major countries like India, the Philippines, Japan, and China begin to show a decrease in covid cases based on 30-day data, restrictions will slowly be lifted, and we’ll see increased international travel that we can expect to see in 2022 Given the top 13 destinations that Canadians like to visit, 10/13 of the destinations have decreasing covid cases over 30 days, I believe we can expect to see restrictions beginning to lift and travel to pick up in these places Destinations like the U.S, Italy, the Dominican Republic, Jamaica, France, Spain, Philippines, Japan, India, and Australia with decreasing cases Mexico, the U.K, and Cuba with increasing cases FY2021, we saw an increase in cargo revenues by 28% which was primarily due to the pandemic that saw a surge in demand for cargo space to meet the urgent global demand for protective equipment and critical goods, particularly in the first half of 2020 Announced earlier this month, AC introduced a new list of international routes that will be a part of its cargo service expansion this fall New freighters (the Boeing 767) will also improve the ability to transport goods including automotive and aerospace parts, oil and gas equipment etc. Another dedicated freighter to come by end of 2021 These recent announcements will allow AC to take advantage of the growing shift in international air cargo Other revenues decrease was mainly due to reduction in ground package revenues at Air Canada Vacations Expenses – FY2020, operation expenses decrease by $7.9M or 45% from 2019 that was significantly made from managing variable costs and reducing fixed expenses In January 2021, AC announced another workforce reduction of approx. 1,700 employees In 2020, AC reduced workforce of approx. 20,000 employees (more than 50% of its workforce) achieved through layoffs, terminations of employment, voluntary separations, early retirements, special leaves etc. Also adopted the Canada Emergency Wage Subsidy (CEWS) for most of its workforce to help with cost reduction  Cash and Cash Equivalents – With their cash and cash equivalents sitting at $7.5M as of the annual report, and most recently $6.0M from their 1Q2021, I think that their cash position will sustain them for the remaining of this year if revenues continue to be low and stagnant. Recent news from May of this year reported that AC entered into a series of debt and equity financing agreements with the Government of Canada which will allow AC to access up to $5.879B in liquidity through the Large Employer Emergency Financing Facility (LEEFF) Program Strong government support – and strong sentiment that the “government will not let AC go bankrupt” Investment Thesis I: Increased Disposable Income May Drive Travel Post-Pandemic The household saving rate in Canada increased to 13.1% in the 1Q2021 from 12.7% in 4Q2020 and had a high 10 year high of 28.2% in 3Q2020. Further analysis revealed that Canadians saved approx. 5 times more of their disposable income (DI) in 2020 compared to 2019 and translates to estimates of $2,701 in just one quarter of 2020 compared to $296 for a quarter in 2019. This increased DI comes from government COVID-19 support programs such as Emergency Wage Subsidy and Canada’s Recovery Benefit which are expected to end later this year. These elevated savings can lead to pent-up spending due to the increased consumer purchasing power on goods such as international travel. But how much is DI really spent on travelling? Well, a study from the U.S Travel Association reports that travel and tourism was the second most popular choice for DI- despite this being a U.S stat, it’s not hard to say that Canada may be similar. To sum it up increased savings = increased DI = increased purchasing power = (potentially) increased travelling Investment Thesis II: Increased Vaccination in Canada With Canada easing up on some travel restrictions as vaccination numbers increase, Canadians may be more willing to travel- whether that’s domestically or internationally. A key change coming into effect in early July is that Canada will be lifting most international travel restrictions for Canadians and permanent residents who are fully vaccinated and therefore allowing them to travel with more ease. This includes non-essential reason travel and no costly government-authorized hotel quarantine. With over 20% fully vaccinated, the government is setting its sights on getting 75% fully vaccinated where we can then see more loosened safety measures at borders. At this 75% mark, Canada will also begin welcoming fully vaccinated tourists that can boost AC’s revenues since AC also operates as a large provider of flights coming to Canada. Major Risk Factors Air Canada has a significant amount of financial leverage, and there is no certainty that the company will be able to satisfy its debt, lease, and other obligations. AC’s high financial leverage can incur greater levels of debt than current levels. Prior to and during COVID-19, AC has been focusing on reducing debt levels and improving leverage ratios, but this can continue to be a problem and have a significant impact on their future operating performance and refinancing. Beyond the upcoming year, if revenues from operating activities don’t increase, AC might not be able to obtain sufficient funds in a timely way to provide adequate liquidity and to finance necessary operating and capex. AC’s liquidity levels are impacted by many factors, and an effort to put forth their business strategy requires a lot of liquidity and ongoing operating capex.  The decreased demand thus far from the pandemic has already had a significant impact on AC’s business. Increased fuel prices will have a negative impact on AC’s business and operations due to increased expenses. Fuel costs are one of AC’s largest operating cost and given fluctuations in the price of fuel and the competitive nature of the airline industry, AC may not be able to pass the increased fuel prices to its customers by increased passenger fares without losing customer loyalty or customers in general to another airline business. Final Thoughts On Why Air Canada Should Be Considered for Your Portfolio At its current trading price, I think it’s trading at a discount and can present significant upside. Given that their share price is primarily due to their business operation and financial performance, I believe that as travel begins to pick up and revenues increase, shareholders will see the value of the company reflected in the share price. Looking at past chart data, it was previously trading at a high of $51 in January 2021 prior to the pandemic. The real question here is when will it return to that level? Thing is, we don’t exactly know but surely airline travel is not going anywhere and being that AC is the largest provider of passenger flights in Canada, and is heavily supported by the Canadian government, the company itself won’t be going anywhere either. Sources: Top Destinations Canadians Savings in 2020 Canadian Personal Savings Tourism and Travel Stats News on Canada Lifting Restrictions for July 2021 Air Canada 10K Air Canada 10Q Air Canada Cargo News

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UndervaluedHolds

Jun 25, 2021

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AC.TO

Air Canada

23.50

-0.86
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Current Price

Air Canada Trading at Half its Stock Price Prior to COVID-19. Will it Make a Comeback?

bullish

In my analysis today, I will be discussing Air Canada and why I think it’s severely undervalued at its current trading price. I will be bringing up financial information taken from their 10K and most recent 10Q, as well as 2 investment theses’ pertaining to their economic factors.

If you enjoy my analysis on AC, look at the rest of my portfolio and analyses here and give me a follow to be updated on my next one!

 

Company Overview for Air Canada

Air Canada (TSX: AC) is the largest provider of scheduled passenger services in the Canadian market, the Canada-US transborder market and in the international market to and from Canada. It offers scheduled passenger services under the Air Canada Vacations and Air Canada Rouge brand name and provides air cargo services under Air Canada Cargo.

Operations

  • Air Canada Vacations – leading Canadian tour operator, developing, marketing, and distributing vacation travel packages
  • Air Canada Rouge – AC’s leisure carrier that leverages the strengths of AC (extensive network, operational expertise etc.). Provides AC with the ability to compete against lower-cost carriers and ultra-low-cost carriers
  • Air Canada Cargo – global cargo service provider offering cargo services on passenger flights and on all-cargo flights. 

COVID-19 Mitigation and Recovery Plan

  • Air Canada CleanCare+ program designed to reduce the risk of exposure to COVID-19 through measures such as enhanced aircraft grooming, mandatory pre-flight customer temperature checks and facial coverings, health questionnaires, care kits, etc.
  • Touchless processes throughout the customer journey including TouchFree Bag Check for flights departing from Canadian airports
  • Preliminary testing and rapid COVID-19 testing

COIVD-19 Strategy

  • Seeking and implanting measures to reduce costs and diversifying the revenue base
    • Expansion of Air Canada Cargo and investments in technology
  • Rebuilding a strong global network with a focus on a hub to hub flying providing seamless connectivity with AC’s partners
    • Hubs: Toronto, Vancouver and Montreal are all well-positioned to capture global traffic flows
  • Retaining leadership in the North American market through its fleets investments that’ll allow AC to better compete during the recovery through improved operating economics

 

Key Financial Information and Outlook for Air Canada

Revenues – Total revenues FY2020 was $5.9M representing a 70% decrease from the previous year primarily due to the system-wide negative impact of the pandemic, including government-regulated travel restrictions. Of total revenues, passenger revenues accounted for 75.1%, cargo revenues accounted for 15.8% and 9.1% was from others. FY2019, prior to the pandemic, 90.1% of total revenue was from passenger-related, 3.7% was cargo, and 6.2% was other. The change in each operating YoY was -75%, +28% and -55%, respectively.

  • The revenues by geographic region saw the biggest change in the Pacific at a -80.9% YoY with Atlantic and then U.S transborder following right behind
    • Despite Canada’s start to lifting restrictions and easing on the travel restrictions, I think that as major countries like India, the Philippines, Japan, and China begin to show a decrease in covid cases based on 30-day data, restrictions will slowly be lifted, and we’ll see increased international travel that we can expect to see in 2022
    • Given the top 13 destinations that Canadians like to visit, 10/13 of the destinations have decreasing covid cases over 30 days, I believe we can expect to see restrictions beginning to lift and travel to pick up in these places
      • Destinations like the U.S, Italy, the Dominican Republic, Jamaica, France, Spain, Philippines, Japan, India, and Australia with decreasing cases
      • Mexico, the U.K, and Cuba with increasing cases
    • FY2021, we saw an increase in cargo revenues by 28% which was primarily due to the pandemic that saw a surge in demand for cargo space to meet the urgent global demand for protective equipment and critical goods, particularly in the first half of 2020
      • Announced earlier this month, AC introduced a new list of international routes that will be a part of its cargo service expansion this fall
      • New freighters (the Boeing 767) will also improve the ability to transport goods including automotive and aerospace parts, oil and gas equipment etc.
        • Another dedicated freighter to come by end of 2021
      • These recent announcements will allow AC to take advantage of the growing shift in international air cargo
    • Other revenues decrease was mainly due to reduction in ground package revenues at Air Canada Vacations

Expenses – FY2020, operation expenses decrease by $7.9M or 45% from 2019 that was significantly made from managing variable costs and reducing fixed expenses

  • In January 2021, AC announced another workforce reduction of approx. 1,700 employees
  • In 2020, AC reduced workforce of approx. 20,000 employees (more than 50% of its workforce) achieved through layoffs, terminations of employment, voluntary separations, early retirements, special leaves etc.
  • Also adopted the Canada Emergency Wage Subsidy (CEWS) for most of its workforce to help with cost reduction 

Cash and Cash Equivalents – With their cash and cash equivalents sitting at $7.5M as of the annual report, and most recently $6.0M from their 1Q2021, I think that their cash position will sustain them for the remaining of this year if revenues continue to be low and stagnant.

  • Recent news from May of this year reported that AC entered into a series of debt and equity financing agreements with the Government of Canada which will allow AC to access up to $5.879B in liquidity through the Large Employer Emergency Financing Facility (LEEFF) Program
    • Strong government support – and strong sentiment that the “government will not let AC go bankrupt”

 

Investment Thesis I: Increased Disposable Income May Drive Travel Post-Pandemic

The household saving rate in Canada increased to 13.1% in the 1Q2021 from 12.7% in 4Q2020 and had a high 10 year high of 28.2% in 3Q2020 (Refer to picture). Further analysis revealed that Canadians saved approx. 5 times more of their disposable income (DI) in 2020 compared to 2019 and translates to estimates of $2,701 in just one quarter of 2020 compared to $296 for a quarter in 2019. This increased DI comes from government COVID-19 support programs such as Emergency Wage Subsidy and Canada’s Recovery Benefit which are expected to end later this year. These elevated savings can lead to pent-up spending due to the increased consumer purchasing power on goods such as international travel.

But how much is DI really spent on travelling? Well, a study from the U.S Travel Association reports that travel and tourism was the second most popular choice for DI- despite this being a U.S stat, it’s not hard to say that Canada may be similar. To sum it up increased savings = increased DI = increased purchasing power = (potentially) increased travelling

Investment Thesis II: Increased Vaccination in Canada

With Canada easing up on some travel restrictions as vaccination numbers increase, Canadians may be more willing to travel- whether that’s domestically or internationally. A key change coming into effect in early July is that Canada will be lifting most international travel restrictions for Canadians and permanent residents who are fully vaccinated and therefore allowing them to travel with more ease. This includes non-essential reason travel and no costly government-authorized hotel quarantine.

With over 20% fully vaccinated, the government is setting its sights on getting 75% fully vaccinated where we can then see more loosened safety measures at borders. At this 75% mark, Canada will also begin welcoming fully vaccinated tourists that can boost AC’s revenues since AC also operates as a large provider of flights coming to Canada.

 

Major Risk Factors

Air Canada has a significant amount of financial leverage, and there is no certainty that the company will be able to satisfy its debt, lease, and other obligations. AC’s high financial leverage can incur greater levels of debt than current levels. Prior to and during COVID-19, AC has been focusing on reducing debt levels and improving leverage ratios, but this can continue to be a problem and have a significant impact on their future operating performance and refinancing.

Beyond the upcoming year, if revenues from operating activities don’t increase, AC might not be able to obtain sufficient funds in a timely way to provide adequate liquidity and to finance necessary operating and capex. AC’s liquidity levels are impacted by many factors, and an effort to put forth their business strategy requires a lot of liquidity and ongoing operating capex.  The decreased demand thus far from the pandemic has already had a significant impact on AC’s business.

Increased fuel prices will have a negative impact on AC’s business and operations due to increased expenses. Fuel costs are one of AC’s largest operating cost and given fluctuations in the price of fuel and the competitive nature of the airline industry, AC may not be able to pass the increased fuel prices to its customers by increased passenger fares without losing customer loyalty or customers in general to another airline business.

 

Final Thoughts On Why Air Canada Should Be Considered for Your Portfolio

At its current trading price, I think it’s trading at a discount and can present significant upside. Given that their share price is primarily due to their business operation and financial performance, I believe that as travel begins to pick up and revenues increase, shareholders will see the value of the company reflected in the share price.

Looking at past chart data, it was previously trading at a high of $51 in January 2021 prior to the pandemic. The real question here is when will it return to that level? Thing is, we don’t exactly know but surely airline travel is not going anywhere and being that AC is the largest provider of passenger flights in Canada, and is heavily supported by the Canadian government, the company itself won’t be going anywhere either.

 

Sources:

  1. Top Destinations
  2. Canadians Savings in 2020
  3. Canadian Personal Savings
  4. Tourism and Travel Stats
  5. News on Canada Lifting Restrictions for July 2021
  6. Air Canada 10K
  7. Air Canada 10Q
  8. Air Canada Cargo News

 

 

 

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