Ever since the start of the pandemic, when stocks across the board sold off significantly, Air Canada (TSX:AC) has been one of the most popular stocks among Canadian investors.
Air Canada stock initially fell from over $50 a share prior to the pandemic to below $15 in the initial pandemic sell-off. And since then, the stock has remained ultra-cheap, with many investors watching and waiting for its eventual recovery.
Now, however, roughly three and a half years after the pandemic began, Air Canada stock still remains cheap and is trading more than 50% below where it was in January 2020.
So with Air Canada stock still struggling to recover anywhere near its prepandemic price, is it a stock that still has plenty of potential, or is this the new normal for Canada’s largest airline?
What happened to Air Canada stock?
Before we can look at whether or not Air Canada can still rally significantly and if it’s a good investment or not, we first have to understand what exactly happened to Air Canada stock and why it’s trading so cheaply.
Of course, most investors understand why it was impacted but may not quite understand how bad it was for Air Canada.
First off, the travel industry was one of the hardest hit by the pandemic. Not only was international travel essentially halted for over a year, but even domestic travel saw massive reductions as we all worked to slow the spread of the virus. Therefore, it’s understandable just how badly Air Canada was impacted.
In fact, in the quarter prior to the pandemic, Air Canada reported over $4.4 billion in revenue. Meanwhile, in the first full quarter of the pandemic, sales were almost 90% lower at just $476 million.
What’s also important to know, though, is that the airline industry is highly competitive, and operations are optimized to generate significant revenue and profit.
In normal times, airlines try to increase capacity as much as possible. And they are constantly looking to have airplanes on the move, as planes sitting on the ground don’t earn any revenue. This leads to airlines taking on debt as well as spending significant cash to lease planes in order to grow their capacity as much as possible.
So when the pandemic hit, not only was Air Canada stock not earning money, but its expenses and financial obligations went through the roof. This caused the airline to take on a ton of debt as well as dilute shareholders by selling stock to raise capital.
Therefore, while the stock price may seem like it’s much cheaper than its pre-pandemic price at a more than 50% discount, its enterprise value (a better gauge of total company value) today is roughly $16.5 billion, which is actually higher than its enterprise value at the end of 2019 of $16.3 billion.
So although the stock’s operations have recovered and the travel industry is firing on all cylinders again, Air Canada is likely going to need more time to continue generating a profit and paying down debt before it can see a significant rally.
Where can the airliner go from here?
After earning more than $16.6 billion in revenue in 2022, (roughly 87% of what it did the year prior to the pandemic), analysts expect Air Canada can grow its revenue by another 20% this year to a new all-time high of more than $21.4 billion.
Furthermore, 2023 is the first year since the pandemic hit when Air Canada’s normalized earnings per share are expected to be positive. So the stock is certainly on the right track.
However, after the significant inflation we’ve seen over the past year, much of Air Canada’s costs have risen as well, which has impacted profitability.
Therefore, although the stock’s operations have recovered, given it still has a ton of debt from the pandemic and is only just beginning to generate significant profitability this year, it certainly looks like it could take some time before the stock has a meaningful recovery.
So although Air Canada is an excellent company and the travel industry has plenty of long-term potential, until the airliner can show its consistently profitable again and it can significantly strengthen its balance sheet, the upside in the stock price looks limited for the time being.
