The International Consolidated Airlines Group (LSE: IAG) share price crashed last Friday after it released its half-year results. Yesterday saw a bit of a rally to 173.46p, but with the shares more than 20% below their April high of 217.85p, and far below their pre-pandemic level, is IAG severely undervalued?
Clearly, the market didn’t like IAG’s results. This was despite its Q2 operating loss of €1bn being in line with the analyst consensus forecast.
I think investors were disappointed by the company’s forward-looking comments. It said its current passenger capacity plans for Q3 are for around 45% of 2019 capacity. And added that these plans “remain uncertain and subject to ongoing review”.
Capacity of 45% would be a big improvement on Q2’s 22% but is much lower than the plans of fellow London-listed airlines easyJet and Wizz Air. The former is targeting up to 60% of its pre-pandemic capacity. The latter expects to operate at 90% in July and 100% in August. By contrast, IAG “expects that it will take until at least 2023 for passenger demand to reach the levels of 2019.”
IAG’s network is weighted to long-haul flights over the Atlantic. Evidently management expects a full re-opening of the transatlantic travel corridor to take some time and passenger demand to lag behind it.
Unsurprisingly, IAG’s debt has continued to rise. At the half-year-end, net debt stood at €12.1bn (gross borrowings of €19.8bn and cash of €7.7bn). This compared with net debt of €9.9bn a year ago.
More positively, the €7.7bn cash, together with undrawn borrowing facilities of €2.5bn, give IAG liquidity of €10.2bn. So there’s no risk of a cash crunch anytime soon. Nevertheless, the company has paid €0.7bn over the last 12 months to service its mountain of borrowings, and the cost of debt will continue to weigh heavily on its financial performance for the foreseeable future.
Forget the IAG share price!
Despite the challenging outlook, bullish investors argue that the IAG share price is so far below its pre-pandemic level that the stock is severely undervalued.
Now, according to the great Warren Buffett, I shouldn’t consider buying a single share in a business unless we would be willing to buy the whole company. So let’s look at the valuation of IAG on this basis.
IAG’s market capitalisation was £9.2bn before the FTSE 100‘s crash week of 9-13 March 2020. Its net debt at the time was €7.6bn (£6.4bn at the prevailing exchange rate). Therefore its Enterprise Value (EV) — market capitalisation plus net debt or minus net cash — was £15.6bn. This is how much I’d have had to pay, if I could have bought all the shares and cleared the debt to acquire the entire company debt-free and cash-free.
Due to a fundraising last September, IAG now has many more shares in issue. At the current share price, its market capitalisation is £8.6bn. With net debt at €12.1bn (£10.3bn at the prevailing exchange rate), the EV is £18.9bn. Put another way, I’d need to pay £3.3bn more to buy the whole company today on a debt-free/cash-free basis than I would have done before the pandemic. This makes no sense to me, so I’m avoiding IAG at its current share price.