Air Canada T.AC

AIR CANADA VALUATION ANALYSIS

[logicandinertia]

I see a whole lot of positive and negative talk on this board, and lots of re-posting of various filings, but nothing around the VALUE folks are ascribing AIR CANADA.   So here is a little stab at it.   
 
How is an airline valued?    Typically EV/EBITDA or EV/EBITDAR (where R is aircraft rent). What does this mean?  EV is Enterprise Value (Equity market value + net debt) and EBITDAR is an airline specific tool because it adds back aircraft rent (R), but also adjusts for leases in the EV.  The EBITDA is earnings before interest, depreciation, taxes and amortization. 
 
So as at December 31, 2019, AC was valued at 4.5x EV/EBITDA, with total EV of $16.5 billion less net debt of $3.7 billion equaled the equity value of $12.8 billion (or $48.50 per share year end value).   The EBITDA was $3,636 million.  This 4.5x premium multiple (for an airline) was deserved given the many positive steps management had taken.   
 
Let’s move forward.  Free cash flow was negative $393 million in the first quarter, so net debt climbed to $4.17 billion.   
 
The EV has now fallen to $8.9 billion (assume $18 share price), given net debt of $4.17 billion.   National Bank assumes that AC burns $3.6 billion in 2020, so that would add another $3.2 billion ($3.6 billion less what they burned in Q1) to the net debt, which would end 2020 at $7.3 billion.  
 
The 4.5x EBITDA multiple they received at year end 2019 differed in prior years.  The year-end trailing EV/EBITDA multiple for AC from 2014-2018 was 3.8x, 2.6x, 2.7x, 3.2x and 4.2x, respectively.   But the company had earned the respect of the market due to its performance.   
 
The airline is expected to shrink its capacity thru fleet reductions and its expense budget, so if we assume revenue can get back to $15 billion (about 2015 levels) on a run rate basis by mid-2021 (perhaps  optimistic) and they generate an EBITDA margin just 200 basis points below 2019 levels of 19% –what would that imply for EBITDA?    About $2.6 billion.  As a side note, full year EBITDA margins have varied from 12.6% to 19.0% from 2014-2019 for Air Canada.   
 
What multiple does one put on that figure?   The low of 2.6x from 2015?  Or 4.5x from 2019?   Let’s assume 4x, closer to the peak than the trough.   That means an EV of $10.4 billion.    
 
If you assume that cash burn just ends at year end 2020, and cash usage is flat to mid-2021,  the net debt of $7.3 billion would be deducted from the EV of $10.4 billion to arrive at the EQUITY VALUATION, based on 4x EBITDA of $2.6 billion.    THAT FIGURE IS $3.1 billion, or $11.48 per share, or 34% below current levels.  
 
Ultimately, to buy AC stock, one must think these assumptions are ridiculously conservative, but recognize that Air Canada’s EBITDA in 2018 (another good year) was $2.851 billion, just $200 million above that mid-2021 run rate figure of $2.6 billion.   If you think that Air Canada can get back to within 10% of its prior peak EBITDA ($3.27 billion), despite a smaller fleet and fewer employees, and put 4.5x on that, less net debt of $7.3 billion, then the EQUITY VALUE would be $7.4 billion, or $27.46 per share.
 
Isn’t it interesting that the BAY STREET analysts have targets around $20-28, and the share price has been oscillating between $14-20.    The market is relatively efficient and had already figured this out. Personally, the scenario for the $11.48 target is likely more realistic, when you read the IATA, BOEING and other recovery forecasts.   BAY STREET analysts want banking business from AC, so they can't be too pragmatic or pessimistic. Keep this in mind when you read the reports. But most are competent.  
 
For those that made it thru this long-winded analysis,  you can see the role the increase in net debt made to the EV.   It swallowed $13.33 per share ($3.6 billion) in ENTERPRISE VALUE.   ALWAYS RECOGNIZE THAT EQUITY IS ONLY ONE PART OF THE CAPITAL STRUCTURE – THE OTHER PART IS DEBT.  
 
I don’t have a dog in this hunt, but as a retired old guy, trying to do my part to ensure retail investors have at least some perspective on what they are buying when they part with their hard earned dollars.

[fraudhunter]

This board does have its lighter moments. Methinks this self proclaimed ..retired old guy ..who claims to be the champion for retail investors, with no stake in the game, has been hanging around past few months.. hoping to pick up some AC shares on the cheap, or help his clients sway some more shares their way. In each of his posts, there appears to be a great effort to manage sentiments. It's

[logicandinertia]

My goal is help folks.  Cheerleading or talking down others is of no help.  My post was full of figures scraped from regulatory reports and multiples from my data service.  an optimistic scenario was also presented.   most retail investors see a stock that goes from $50 to $17 and thinks it will just bounce back.  They have no concept of how debt will impact the

[lb1temporary]

Some doesn't understand the goal of this board. First, they doesn't like adverse opinion even if they are well documented and explained like yours. Second, they write about the participant  instead replying to the posts. We have many well explained posts and opinions in this board, from the two sides, protect them. 

[Bagofhammers]

Thank you for posting, Some of us get it, unfortunately, many do not. 

[airlineinvestor]

Hello Again Logicandinertia,  Here are my responses to your comments, which are bold faced and in italics.... How is an airline valued?    Typically EV/EBITDA or EV/EBITDAR (where R is aircraft rent). What does this mean?  EV is Enterprise Value (Equity market value + net debt) and EBITDAR is an airline specific tool because it adds back aircraft rent (R

[Freezees]

@airlineinvestor .... I appreciate the time you took to break this down. No pump....no dump...just a FANTASTIC analisys for a bullboard!

[logicandinertia]

Thanks for your eager post.  There are a number of non-sequiturs around your understanding of gross cash and net debt (gross cash less gross debt), how valuation is actually done day to day by analysts and other items.  Recognize that DCF valuations are rarely done on airlines without folks smirking due to the lousy predictions of years 3+.   EV/EBITDAR is the

[Freezees]

"it took 3 to 4 years" mainly because of the pension liability. Once the Rovinescu fix kicked in, AC took off. In no way was AC in that time going to flourish with the burden of the pension.

[Freezees]

to add a point that it is a different company today.....

[logicandinertia]

So In summary, everybody is going with the "It's different this time" rationale for why AIR CANADA won't suffer like the rest of the industry.   I hope you're right.   And moreover, if you are looking to go long the stock, I would wait for the equity issue.  It will be pushed by the bankers and debt holders, and likely the prudent thing to do, considering the

[EntngledOutlier]

I quite literally made a profile to respond to this post. For someone who claims not to have a horse in the race, you seem to be pressing pretty hard for people not to purchase this stock . First, a short history lesson. Air Canada purchased Canadian Airlines in 1999 after a decade of near suicidal competition which saw annual losses for both companies in the hundreds of millions. They assumed a

[jgue111]

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[RealEstateCovid]

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[jgue111]

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[Freezees]

@logicandinertia dont bail on us! I do agree with some of your content. We have maybe different views on certain things. But that doesnt make me more right then not. I'm no crystal ball! Great discussion!

[Starsearcher80]

Thank you.  One of the best posts I've read in years.

[whatyouthink]