Air Canada (TSX:AC) was among the best-performing TSX stocks in the decade before COVID-19. In that period, Air Canada stock returned over 3,000% to shareholders, creating massive wealth for shareholders. While travel demand has gained pace globally post the dreaded pandemic, airline companies continue to wrestle with headwinds such as inflation, rising interest rates, and volatile oil prices.
Today, Air Canada stock is valued at $6 billion by market cap and trades 68% below all-time highs, making it an attractive buy for value investors. Let’s see why.
A focus on expansion
While Air Canada is among the largest airline companies globally, it continues to expand its international and domestic network. For example, it recently announced a strategic expansion of its international network to India, adding 40% additional seat capacity for the upcoming winter season. In total, Air Canada will operate 25 weekly flights to India, the most comprehensive offering of any carrier between the two countries.
Further, Air Canada announced it is boosting its schedule serving Ottawa by 60% with flights to Calgary and Winnipeg and increased capacity to Halifax and Quebec City.
These expansion plans and a focus on organic growth should help Air Canada improve earnings and cash flow going forward.
Is Air Canada stock undervalued?
Air Canada reported operating revenue of $5.2 billion in the first quarter (Q1) of 2024, an increase of 7% year over year. Its adjusted EBITDA (earnings before interest, tax, depreciation, and amortization) rose almost 10% to $453 million, indicating a margin of 8.7%.
The airline giant reported more than $1 billion in free cash flow due to its operational efficiencies. A free cash flow margin allowed Air Canada to lower balance sheet debt and end Q1 with a net-debt-to-adjusted-EBITDA multiple of just 0.9 times. Its lower debt levels compelled S&P Global to upgrade Air Canada’s credit rating from “BB-” to “BB.”
Air Canada’s net debt has decreased by $786 million to $3.78 billion in the last three months. The company’s free cash flow in the last 12 months totalled $2.82 billion. So, priced at 2.2 times trailing cash flows, Air Canada is really cheap and is positioned to deliver market-beating gains.
Air Canada reiterated its 2024 guidance regarding capacity, adjusted CASM (cost per available seat mile), and adjusted EBITDA, which should boost investor confidence.
The Foolish takeaway
Analysts tracking Air Canada stock expect adjusted earnings to expand from $3.53 per share in 2024 to $4.08 per share in 2025. So, priced at 4.2 times forward earnings, Air Canada stock trades at a discount of 61% to consensus price target estimates.
Investors should note that investing in cyclical sectors such as airlines carries significant risks. In case recession fears come true, Air Canada and its peers are likely to continue trailing the broader markets in the upcoming decade.
Moreover, there is a good chance that interest rates will remain elevated, at least in the near term, resulting in higher interest payments amid a challenging macro backdrop. Alternatively, Air Canada offers a compelling risk/reward profile and is positioned to stage a comeback if consumer spending remains strong.
