The International Consolidated Airlines Group (LSE: IAG) share price fell by 20% in November. Shares in the owner of British Airways are now trading more than 15% lower than a year ago, despite a widespread return to flying over the last 12 months.
What’s gone wrong? The obvious explanation is the Omicron virus, which has triggered a raft of new travel restrictions in Europe and elsewhere. However, IAG’s share price slide started back in the summer. As I’ll explain, I think there’s more to this situation than the new variant.
Reality check
Last month’s slide picked began after IAG published its third-quarter results on 5 November. I think one reason for this is that the Q3 numbers reminded investors that the airline business is still a long way from returning to pre-Covid levels of performance.
IAG’s airlines carried 43% of 2019 passenger numbers during the Q3 and 73% of 2019 cargo levels. These activities resulted in an operating loss of €452m for the three-month period.
Looking ahead, IAG hoped passenger numbers would rise to 60% of 2019 levels during the final quarter of the year.
These numbers shouldn’t have been a surprise. But they seem to have provided a reality check for some investors, judging from the market reaction to the results.
Too high, too soon?
My concern is that IAG’s current performance is at odds with the group’s valuation. By the end of the summer, IAG had a higher valuation than it did at the end of 2019.
Even today, the airline group has an enterprise value of £16.5bn. That metric — which represents net debt plus the market value of the group’s shares — is almost exactly the same as at the end of 2019.
This doesn’t make sense to me. Broker forecasts suggest it will take two more years for the group’s profits to return to 2019 levels. In the meantime, IAG is unlikely to pay a dividend and could still face further challenges.
I reckon IAG’s share price got ahead of itself earlier this year. What we saw in November was simply an overdue correction, in my view.
IAG shares: will I buy?
I’m confident that IAG will make a full recovery over time. Now that the share price has cooled, should I consider adding a few to my portfolio as a turnaround play?
What concerns me is that IAG’s net debt has risen by 60% to €12.4bn since the end of 2019. As a result, the company’s equity value has fallen from €6.8bn to just €0.9bn. As a reminder, equity is simply the difference between a company’s assets (such as aircraft) and liabilities (such as loans).
In my view, buying IAG shares today means betting that the group’s airlines will be able to pay off their loans quickly and without further problems. This should restore equity value — and dividends — to shareholders.
This could happen — I do believe flying will recover. But it’s not a bet I’m comfortable with. Lenders’ requirements always come ahead of shareholders’ hopes. Any new problems could see the stock fall further. For me, IAG shares are too speculative at the moment. I’m staying away.
