Air Canada (TSX:AC) stock is currently trading at $17.35, well below the $18 “floor” that it had been above for most of the last year. The selloff to $17.35 was triggered in part by a badly received earnings release, which showed negative earnings for the second time since the COVID-19 lockdowns. The company definitely faces some issues, such as rising fuel prices and a large amount of debt, but — as we shall see — the company is making considerable progress on some of these.
A lacklustre quarter
Air Canada’s most recent quarter was fairly lacklustre, missing on both reported earnings and adjusted earnings. “Reported” means calculated in accordance with generally accepted accounting principles, while “adjusted” means calculated as the company sees fit. Both earnings metrics were negative in Air Canada’s most recent quarter, although free cash flow of $1 billion was positive.
Why did Air Canada lose money in the second quarter?
It was not due to poor top-line performance; revenue increased 6.7% year over year and beat expectations. Rather it was due to a major increase in expenses, particularly in every category except for fuel. Fuel costs actually decreased due to a fall in oil prices, but management, information technology (IT) and staffing costs all increased. A result of this was that a fairly healthy amount of gross profit ($1.3 billion) turned into $11 million in operating income after the expenses were taken out. The operating profit performance was nevertheless an improvement on a year-over-year basis.
Speaking of which, AC’s apparent decline on a quarter-over-quarter basis is not the problem it appears to be. The first quarter tends to be a weak one for airlines, with Christmas travel done and summer travel not yet happening. Last year’s first quarter was also a comparatively weak one for AC. The upcoming second- and third-quarter releases will show the impacts of summer vacation-related travel. Revenue is all but guaranteed to be higher than it was in the first quarter, and earnings have a fighting chance as well.
Debt reduction continues
One big thing that Air Canada has going for it right now is its ongoing debt-reduction program. In the March quarter, despite the negative operating metrics just mentioned, Air Canada’s debt nevertheless decreased by $1.7 billion, or roughly 17%. Interest expenses decreased by a lesser amount. This is all very good progress. First, the debt reduction will eventually reverse Air Canada’s negative book value, which is one of the company’s biggest problems right now. Second, it will reduce the company’s interest expenses, which will improve earnings going forward. So, Air Canada’s ongoing debt reduction program is very wise and sensible.
Foolish takeaway
All things considered, Air Canada stock looks fairly promising today. It trades at around three to five times earnings, depending on which earnings measure you use. And it’s doing billions in free cash flow, yet it trades at levels last seen during the COVID lockdowns when the company was losing over $4 billion a year. I’d be comfortable owning AC stock today.
