In January 2020, shortly before the Covid-19 nightmare began, the International Consolidated Airlines (LSE: IAG) share price reached a 52-week high of 671p. As I’m writing, it languishes at just 131p — 80% below that pre-pandemic level.
And yet, in the FTSE 100 group’s recent first-quarter results, chief executive Luis Gallego said: “Demand is recovering strongly in line with our previous expectations. We expect to be profitable from the second quarter onwards and for the full year.”
With the impacts of the pandemic receding and demand recovering strongly, are there any reasons why IAG’s shares shouldn’t follow the rising number of its aircraft heading skyward? Indeed, could the shares return to that pre-pandemic 671p price, giving buyers today a 412% profit?
Ready for take-off
IAG is a diversified airline business. In addition to British Airways, it owns Spanish flag carrier Iberia and Ireland’s Aer Lingus. It also owns low-cost European short-haul brand vueling and low-cost long-haul brand LEVEL, as well as operating a global airfreight network through its IAG Cargo division.
The group’s diversification didn’t help a whole lot during the pandemic. The company made losses of €6.9bn in 2020 and €2.9bn in 2021. While management expects recovery and a return to profitability this year, IAG faces a number of headwinds and potential headwinds.
Turbulence on the horizon
Here are some of the challenges IAG is experiencing or may meet as the year goes on:
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- Management will have to execute well in what is the global travel industry’s biggest scaling up in operations in history.
- High oil prices could hinder profit progress, as fuel is one of the biggest costs for airlines.
- Labour is another major cost, and wage inflation could prove a further hindrance.
- The cost-of-living crisis and elevated risk of a recession could see businesses cut back on travel expenses and leisure travellers take fewer holidays.
- IAG’s debt has risen significantly during the pandemic, as has the profit-sapping cost of servicing it: pre-pandemic interest charges of €561m are now running 46% higher at €817m.
These headwinds/potential headwinds could hold back IAG’s profitability and market sentiment towards the stock. But there’s another factor I think makes it highly unlikely the share price will get back to the aforementioned pre-pandemic 671p level.
Looking into the cargo hold
Not only has IAG’s debt (and the cost of servicing it) increased significantly, but also its number of shares in issue has more than doubled. In October 2020, the company did a €2.74bn equity fundraising. As a result, while it went into the pandemic with 2bn shares in issue, it now has 5bn.
The vast changes in the company’s level of debt and number of shares makes comparing the pre-pandemic share price with the share price today essentially meaningless.
Radar
However, there’s a tool that can help us see through the fog. Namely, enterprise value (EV). This is a company’s market capitalisation (share price multiplied by number of shares in issue), plus net borrowings (or minus net cash, if the company has more cash than debt).
This is the theoretical price at which an acquirer could buy the whole business on a debt free/cash free basis. It’s a common valuation baseline from which a company or private equity house looking at making an acquisition will work.
Loss of altitude
At IAG’s pre-pandemic share price of 671p, its market capitalisation was £13.37bn. Its net debt was €6.18bn (£5.28bn), making its EV £18.65bn.
Today, at a share price of 131p, its market capitalisation is £6.51bn. Net debt stands at €11.59bn (£9.91bn), making its EV £16.42bn.
As such, while each individual share is 80% down from its pre-pandemic level, the value of the whole enterprise is just 12% lower.
How much altitude can IAG gain?
I can see IAG’s 12% EV discount closing in due course. And perhaps even moving to somewhat of a premium to the pre-pandemic EV, if and when favourable conditions for the industry emerge.
However, the idea the share price could return to 671p, for a 400%+ profit, strikes me as entirely fanciful. This would make the EV — theoretical cost to buy the whole business — a staggering £43.27bn, compared with £18.65bn before the pandemic.
In summary, there are times when comparing the current share price with the price in the past can be perfectly reasonable. But there are times — as in this instance, I’d suggest — when it can lead us astray.
