Stay Invested in this Mid Cap Industrial Stock - AC

Air Canada (TSX: AC) is Canada's largest airline, generally serving nearly 50 million passengers each year together with its regional partners. It is a sixth freedom airline, similar to Gulf carriers, which flies many U.S. nationals on long-haul trips with a layover in Canada.

Key highlights

• Improved operational metrics: The company reported better operating performance in Q4FY21, with revenue passenger miles (RPM) of 9,612 million, up from 2,432 million in the previous corresponding quarter. A greater RPM indicated more traffic, which is a good thing. Furthermore, the passenger load factor increased to 68.2% from 40.5% in pcp. The aforementioned suggests that the airlines are returning to pre-COVID 19 levels, and the firm is trying to achieve capacity, which will be reflected in the next quarters.

• Strong cash flows: In Q4 2021, the company’s net cash flows from operating activities stood at CAD 433 million improved CAD 1,229 million from the same quarter in 2020 due to strong advance ticket sales and a significant increase in passengers carried. In 2021, net cash flows used in operating activities stood at CAD 1,563 million improved CAD 790 million compared to the previous corresponding period as the operating environment improved, most notably in the second half of 2021.
  

• Leveraging E-commerce business: Air Canada Cargo is a global cargo service provider and a division of Air Canada. In October 2021, Air Canada announced the start of a CAD 16 million project to expand and enhance Air Canada Cargo's cold chain handling capabilities for shipments such as pharmaceuticals, fresh food, and other perishables at its Toronto Pearson International Airport cargo facility. Additionally, in FY 2021, Air Canada Cargo's recorded annual revenue of nearly CAD 1.5 billion exceeded CAD 1 billion for the first time, reaching CAD 490 million in the fourth quarter of 2021.

• Ample liquidity: On December 31, 2021, the company reported its consolidated liquidity of CAD 10.3 billion which includes CAD 9.4 billion in cash and cash equivalents, short-term and long-term investments, and CAD 958 million were available under undrawn credit facilities. Considering the capital-intensive nature of the business, a higher liquidity is preferable for break free operations.

Risks associated with investment

The company's operations are irrevocably linked to the number of passengers, the cost of fuel, etc. to name a few However, aircraft fuel stood at CAD 1,576 million in FY2021, a significant increase from CAD 1,322 million in pcp. If the current trend continues, the company's margins and cash flows could possibly take a hit.

 Financial overview of FY 2021

Source: Company Filing

• In FY 2021, the company posted its total revenue of CAD 6,400 million, jumped from CAD 5,833 million in pcp. The growth was primarily driven by increase in the passenger revenue and from cargo segment, due to better operating environment in the North American market as Canadian provinces and along with several US territories gradually rolled out reopening plans.
• Total operating expenses stood at CAD 9,449 million, decreased from CAD 9,609 million in pcp, however it recorded higher aircraft fuel costs, increase in wages and salaries along with a jump in Airport and navigation fees. Furthermore, its operating losses reduced to CAD 3,049 million, from a loss of CAD 3,776 million in pcp.
• The company also managed to minimize its net losses to CAD 3,602 million, compared to a net loss of CAD 4,647 million in pcp.
  

Valuation Methodology (Illustrative): EV to Sales Based Valuation

Analysis by Kalkine Group

Stock recommendation

Despite the Omicron variant, Air Canada's fourth-quarter performance increased sequentially and year over year, demonstrating that the underlying recovery is improving. Positive revenue and traffic trends in the reported quarter pleased the company, with significant advances in major passenger geographic categories and a record cargo performance. Furthermore, solid advance ticket sales, which grew by approximately CAD 400 million in the quarter, confirm the company's expectation that consumers will return and that Omicron's impact on the business would be travel postponed rather than cancellation.

The corporation is also focusing on the e-commerce market, which it expects to generate significant freight income. Hence considering the aforesaid facts, we recommend a ‘Hold’ rating on the stock of AC at the last traded price of CAD 23.85 on March 28, 2022. Additionally, the markets are trading in a highly volatile zone currently due to certain macro-economic issues and geopolitical tensions prevailing. Therefore, it is prudent to follow a cautious approach while investing.

One-Year Technical Price Chart (as on March 28, 2022). Source: Kalkine, Analysis by Kalkine Group

*The reference data in this report has been partly sourced from REFINITIV

Disclaimer

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