Post by
Tempo1 on Sep 16, 2024 8:01am
NBF on the tentative deal
Tentative deal with pilots reached; waiting on ratification
After over a year of negotiations, Air Canada and its pilots union represented by ALPA reached a tentative agreement over the weekend. The uncertainty surrounding the negotiations and the threat of a work stoppage that could have begun this week has been a weighing on Air Canada shares so if a new deal is ratified by the union members, we believe the successful conclusion of a new contract could be a positive catalyst for the stock.
• Ratification the next hurdle Air Canada's 5,200 pilots will vote on the new contract offer over the coming weeks and while the union leadership has endorsed the proposed deal, there is no certainty that the contract will be ratified by membership. Indeed, there are recent examples of union membership rejecting tentative agreements in the Canadian airline sector (WestJet mechanics in June and Transat's flight attendants earlier in the year). As such, we will temper our enthusiasm that the contract negotiations are concluded until the actual vote occurs.
• Pay increase within the realm of expectations. Full details on the new contract terms are not known as of the time of this writing, but ALPA indicates that the new 4-year deal will generate an additional $1.9 billion in "value" for pilots over the term of the new contract. There are also press reports that the new contract will see cumulative wage increases of ~42% over the four years. Assuming the 42% increase is accurate, we estimate that over the four years, this would increase Air Canada's total costs by ~2.5% (using 2023 as the baseline). We believe that this cost increase is within the realm of market expectations for Air Canada. Although the cumulative wage increase in Air Canada's pilot contract exceeds the 24% WestJet pilots received in a new contract last year, we do not think the higher wages will impair Air Canada's cost competitiveness as we expect pilot costs at other Canadian airlines to continue to climb higher over time. Finally, we note that since Q4/23 Air Canada has already been accruing higher pilot costs and while the company has not provided what wage increase it is assuming in it accruals, we suspect that over the last year, reported costs have assumed a pilot wage increase at least as large as what WestJet pilots received in year one of their contract signed in 2023 (+15.5%).
• Financial impact of strike threat likely modest; offset by lower fuel costs. Once the contract is ratified (likely a Q4 event), Air Canada may have to record a one-time catch-up charge if the wage increase in year one of the new deal is higher than what Air Canada has been accruing for accounting purposes. We also suspect that there may be a one-time lump sum cash payout to pilots to reflect the fact that the pilots have been working under the old contract terms over the last year. For Q3, Air Canada undoubtedly suffered from some book-away to other airlines due to the uncertainty over the work stoppage threat. In addition, the company will likely incur additional costs related to re-bookings and other operational issues related to the work-stoppage threat. As an offset, the jet fuel spot price currently sits at C$0.82/liter, which is materially lower than our forecast of C$1.00/ liter in Q3 and Q4 (as well as 2025). Air Canada's full-year 2024 guidance for EBITDA of $3.1-$3.4 billion also implies a jet fuel price of ~$1.00/liter for Q3 and Q4. As such, if jet fuel prices stay at current levels, Air Canada's guidance for 2024 may still be achievable in spite of the cost and revenue impact from the threat of a shutdown.
Maintain Outperform; ratification of new pilot deal could be a catalyst for the stock We keep our Outperform rating and $24.00 target on Air Canada (based on a 4.0x EV/EBITDA multiple applied to our 2025 EBITDA forecast). The elimination of the labor uncertainty that would come with the ratification of a new pilot deal should be positive for the stock. In the meantime, valuation remains attractive with the stock trading at just 3.0x EV/EBITDA based on our 2024 forecast (which is at the low end of AC's guidance range).