IAG (LSE:IAG) shares are currently changing hands for around 155p. At this level, the airline group‘s share price is 64% lower than it was in February 2020, before the pandemic brought international travel to a standstill.
But planes are no longer grounded and a strong recovery in demand is materialising. In that context, is the IAG share price in bargain basement territory? Or will a sizeable net debt mountain keep the FTSE 100 stock anchored below its previous highs?
Here’s my take.
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The price of survival
First, it’s important to acknowledge the severe impact the pandemic had on IAG’s balance sheet. Although the company’s net debt position improved by €2.8bn in its latest half-year results, the figure still stands at €7.6bn. That’s considerably higher than it was before the arrival of Covid-19.
Measured against the firm’s market-cap of £7.7bn, the debt burden still looks too high, in my view. These liabilities continue to cloud the outlook for growth in the IAG share price.
Considering the strong progress made by FTSE 250 rival easyJet on this metric, the consolidated airline group has to be careful not to fall too far behind its competitors in repairing its balance sheet.
That said, IAG’s leverage ratio has halved since last year with net debt now at 1.5 times adjusted EBITDA. This is an encouraging development and further advances could bring the prospect of a dividend reinstatement closer.
Fair weather conditions
Beyond the balance sheet difficulties, plenty is going right for IAG shares. In H1 2023, the group delivered a record €1.26bn operating profit. This marks an impressive turnaround from the €446m loss it suffered in H1 2022.
The company managed to restore 94% of its 2019 capacity in the first half and leisure traffic has been particularly strong. A rebound in business travel has been slower to materialise. There are big questions about whether a full recovery will ever happen in a world where virtual calls are replacing face-to-face meetings.
However, pent-up demand for holidays and visiting overseas friends and family is a key tailwind that seems to be compensating for sluggish corporate demand. IAG is particularly focused on its core North and South Atlantic markets. Aer Lingus is targeting new routes to US cities and Iberia building its capacity from Madrid.
Currently, IAG shares trade at a forward price-to-earnings (P/E) ratio below 4.9. This compares favourably to both its industry peers and the FTSE 100 index as a whole. Provided the group can continue to deliver healthy profits and chip away at its net debt, there’s a compelling case to be made that the stock is undervalued at present.
Are the shares cheap?
IAG shares appear to offer good value at today’s price, in my view. Accordingly, if I have spare cash, I’ll add the stock to my portfolio this month. Since I already own easyJet shares, I plan on taking a small stake initially as I don’t want to be overly exposed to what is a fairly cyclical industry.
Overall, although notable challenges remain — especially with regard to the company’s debt levels — the stock looks like a good FTSE 100 recovery play to me.
