RE:RBC Upgrade RBC'S Rationale behind their price target increase
Investment Rationale
Significant upside potential. Air Canada represents the most significant upside return potential in our
coverage universe. We believe the cost-transformation story is in its early days, and should it be fully
executed, we see a step function re-rating in the shares, with substantial upside potential. Furthermore,
we see another stage of cost reductions that has yet to be implemented, on top of significantly lower jet
fuel prices which, if sustained, could provide investors another valuation leg higher.Transformation still
at the early stages. Having achieved a groundbreaking labour deal that gave management the tools
and flexibility to completely restructure operations, Air Canada remains in the early stages of executing
on this transformation. The result is an opportunity to reduce per-unit costs by as much as 21% or
more. Our view is if management is successful in achieving this, the share price upside potential is
considerable. Of particular interest is that this cost realignment comes on the back of internal actions
(i.e., fleet reconfiguration) that have been made possible by the flexibility achieved under new labour
agreements. As such, we see the risk to Air Canada in achieving its cost-reduction targets as
low.Secular re-rating still intact. The airline sector continues to go through a positive secular re-rating,
which has been aligned with: (1) disciplined industry capacity growth and a new normal in the
competitive dynamic; (2) lower jet fuel prices and a return to profitability; and (3) robust traffic growth.
However, we do not expect share price appreciation to be linear, and we expect some share price
volatility despite a positive bias.
Valuation
Our $32.00 target price is based on a 5.2x EV/EBITDAR multiple applied to our 2019 estimates, which
is a 0.6x discount to the group average multiple. Our base case reflects the following assumptions: (1)
modest yield declines due to changing business mix related to AC's strategic transformation; (2) fleet
expansion and strong demand to drive traffic growth; and (3) jet fuel prices to remain relatively range-
bound at current levels. Our price target supports our Outperform, Speculative Risk rating. Due to high
debt leverage and operating in a cyclical sector, we believe a Speculative Risk qualifier is warranted.
Price Target Impediments
Risks to our price target and rating include but are not limited to very high operating leverage given a
fixed-cost structure, above-average sensitivity to the economy, exposure to volatile fuel prices and the
risk of terrorism and epidemics. This is a very competitive industry in which WestJet is capturing
domestic market share. Air Canada is only partially hedged to changes in jet fuel pric