Air Transat (TSX: TRZ) is an integrated company in the tourism industry specializing in the organization, marketing, and distribution of holiday travel.
Its core business consists of a tour operator based in Canada, which is vertically integrated with its other services of air transportation, distribution through a dynamic travel agency network, value-added services at travel destinations, and accommodations.
The company reports a market capitalization of $604 million with a 52-week high of $17 and a 52-week low of $4.50.
Intrinsic price
Based on my calculations, using a discounted cash flow valuation model, I determined that Air Transat has an intrinsic value of $26.65 per share.
Assuming less-than-average industry growth, the intrinsic value would be $25.49 per share, and higher-than-average industry growth would result in an intrinsic value of $27.95 per share.
In a takeover bid, Air Canada has offered shareholders $18 per share, which represents a material premium to the pre-takeover share price. I believe Air Transat is substantially undervalued at the pre-takeover share price of $11.79. While I would like to see a higher offer from Air Canada, I believe Air Transat and Air Canada shareholders stand to benefit.
Air Transat has an enterprise value of $1.005 billion, which represents the theoretical price a buyer would pay for all Air Transat outstanding shares plus its debt. One of the good things about Air Transat is its low leverage, with debt at 0% of total capital versus equity at 100% of total capital.
Financial highlights
For the year ended October 31, 2019, the company reports a strong balance sheet with $314 million in retained earnings. This is a good sign for shareholders as it indicates the company has been reinvesting its surpluses in itself to grow the business.
Air Transat has a high cash balance of $565 million with $27 million in short-term lease obligations. The company has more than enough cash on hand to cover its short-term debt obligations, which is a good sign for investors as it reduces the company’s dependence on credit facilities.
Overall revenues are up slightly to $2.937 billion from $2.849 billion the prior year (+3%) driven by a $61 million increase in revenues from transatlantic flights. With an increase in operating expenses, the company reported a pre-tax net loss of $39 million, down from a pre-tax net income of $5 million in 2018.
The company’s cash flow statement is relatively unchanged year over year but it should be noted that capital expenditure spending is down from $119 million to $92 million. No explanation was provided but it can be concluded that capital expenditure spending will vary year to year based on factors such as demand and planned routes.
Foolish takeaway
Investors who own shares of Air Transat will be pleased to hear that Air Canada’s offer price is fair. Based on my discounted cash flow model, I determined that Air Transat has an intrinsic value of $26.65, compared to its pre-takeover share price of $11.79. Air Canada’s offer of $18 per share is a material premium.
Air Transat reports a solid balance sheet with positive retained earnings coupled with a cash balance in excess of $550 million. The fate of the deal now lies with regulators, which can still reject the deal on the basis of competition (given the lack of airline companies in Canada).
