With the pandemic solidly fading into the background, it’s easy to assume that a company like Air Canada (TSX:AC) will go back to its glory days. But the reality is that today’s world is very different from the pre-pandemic world. This means that, in my view, Air Canada (AC) stock will not be a good investment over the next few years.
Despite the fact that Air Canada’s stock price has performed well so far in 2023, here are the reasons that I would not buy AC stock.
Air Canada’s costs have significantly risen
The inflation rate in the last three years has been at historically high levels. So what does this mean for companies like Air Canada? Well, it means that its costs have risen dramatically and it’s much harder to be profitable.
For example, the price of oil is currently just under $70. In 2019, oil traded at an average price of $56.99. So today, it’s 23% higher. Jet fuel, which moves in accordance with the price of oil, is Canada’s biggest cost. In 2019, it was 76.1 cents per litre. In 2022, it was 130.1 cents per litre, and last quarter, it was 128.5 cents per litre.
On top of this, Air Canada’s costs in general have been rising. For example, food costs have risen along with general food inflation. In 2022, the cost of food was 10% higher. Looking ahead, in 2023, food prices are expected to increase another 5 to 7%.
Not surprisingly, this increase in costs is hitting the bottom line. It’s also causing Air Canada to pass on some of this increase to consumers through higher prices. This can be sustained in good economic times, but I worry that Air Canada is not the only one feeling the hit of cost inflation. Consumers are feeling it too, through higher cost of living, as housing, food, and everything has become much more expensive.
Consumer spending is at risk
As a result, I believe that consumer spending is at risk – especially discretionary consumer spending. In fact, despite inflation retreating to 3.4% during the month of May, the cost of living is still significantly higher than pre-pandemic times. This is sure to have a big negative effect on consumer spending.
And the effect of higher interest rates has yet to be fully realized. For example, as mortgages get renewed over the next few years, I think we will see that the reality is that consumers just don’t have as much disposable income as they did. As for continued rate hikes, I wouldn’t rule that out either, because while inflation is slowing, it still remains above the Bank of Canada’s targeted 2%.
So, despite the undeniably strong demand that Air Canada saw in the first quarter of 2023, and AC stock’s rally in 2023, I feel that there’s trouble brewing. I don’t think that the strength in demand can continue given the harsh realities that consumers are facing. And on the cost side, the magnitude of the increases are too meaningful to brush off.
In closing, I would like to re-iterate that in my view Air Canada is facing too many pressures to both its top line revenues and bottom line profitability. This is why I have a negative view on Air Canada’s stock price.
