Recently, Air Canada (TSX:AC) released its second-quarter earnings, and they were pretty ugly. The company saw revenue decline 89%, while reporting a net loss of $1.75 billion and an operating loss of $1.55 billion. Broadly, these results were consistent with what was expected.
It’s been well known for months now that Air Canada had to shut down 90% of its routes due to COVID-19. Now, we’re beginning to see the results. With 90% fewer passenger miles, you’d expect about 90% lower revenue, and that’s almost exactly what we got. In a recent article, I’d speculated that Air Canada would lose between $1.8 billion and $2 billion in Q2. The actual loss was basically the same as the lower end of that range. Company insiders have been saying for a long time now that Air Canada has been losing $20 million a day, so its $1.75 billion loss was no surprise. The question is whether all of this devastation is reason to consider selling the stock.
What Air Canada’s loss consisted of
Often, breaking down a company’s net income is tricky. Baked into net income is a range of factors, some cash based and some not. Sometimes you have non-recurring factors in there, like impairment charges, that don’t reflect the company’s long-term prospects. This can require making adjustments to truly understand the big picture.
In Air Canada’s case, the situation is actually pretty straightforward. With its 89% revenue decline, it was no longer able to cover its expenses, resulting in a $1.75 billion loss. When an airline shuts down its operations, certain costs — like interest and pension obligations — remain. So, it can’t withstand the loss of revenue for long. In Air Canada’s case, the net loss was mostly just revenue failing to cover expenses. This is corroborated by the fact that net operating cash flows (-$1.25 billion) and operating income (-$1.55 billion) were pretty close to net income.
How the markets are reacting
After Air Canada’s second-quarter earnings were released, the markets reacted by sending its stock lower. It slid all the way to $15.11 — a low it hadn’t seen in months. That wasn’t surprising. Air Canada’s second quarter was even worse than its first quarter, and management is expecting it will take the company three years to fully recover. In light of this, maybe the bigger question is why AC stock ever bounced back from its March lows in the first place.
For several months now, I’ve been advising caution to anyone considering buying Air Canada stock. While it’s tempting to buy a stock on the dip, the fact is that this company has more pain ahead of it. Most likely, Q3 won’t be as bad as Q2 was. It’s possible that the stock will start seeing some positive momentum in the fall. But for now, this is a mega-risky stock that could easily fall much further than it already has.
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Fool contributor Andrew Button has no position in any of the stocks mentioned.