British Airways owner International Consolidated Airlines’ (LSE: IAG) share price dropped 11% after its Q3 results.
So is this a good time for me to think about buying the stock?
Were the numbers that bad?
The Q3 figures released on 7 November were tagged on the end of the nine-month data in the results document. This is a perfectly acceptable way of doing things, of course.
But the nine-month numbers look a lot better than the quarterly ones. And it was Q3 that led to the price fall – understandably in my opinion.
For example, IAG’s nine-month revenue rose 4.9% year on year to €25.234bn (£22.27bn). But Q3’s reading in 2024 was flat at €9.328bn.
Nine-month operating profit soared 18.3% to €3.931bn and post-tax profit jumped 15.5% to €2.703bn. Q3’s corresponding numbers showed just a 2% rise to €2.053bn, and a 2.3% fall to €1.402bn respectively.
Earnings per share also reflected the same quarterly sharp drop in performance over the previous two quarters. Q3’s rose just 3.1% to 30.2 eurocents while over the nine-month period it jumped 20.2% to 57.2 eurocents.
What happened in Q3?
Broadly, I believe the key weakness picked up by investors was in the firm’s crucial North Atlantic market.
On the surface, the Q3 numbers showed a 2.9% year-on-year rise in the ‘available seat kilometres’ (ASK) measure. This is a measure of capacity, not demand, showing the airline is flying with more seats over more kilometres. This could result from its adding more routes, increasing flight frequency and/or using bigger aircraft.
The problem is that its revenue per ASK (RASK) dropped an alarming 7.1% over the quarter. So IAG is making less money per seat per kilometre flown.
Management attributed this to lower demand and pricing in its US sales operations. It added that its prices for North Atlantic routes had also declined in its European sales operations.
It also said this intense competition by other carriers on the routes was a key driver of this trend.
My investment view
I think competition along this route, and IAG’s others, will remain intense and a key risk to earnings. And it is growth here that is key to any company’s share price trajectory over time.
Indeed, analysts forecast that IAG’s earnings will grow just 3.6% a year to end 2027.
That said, IAG shares are around 64% undervalued on a discounted cash flow basis. This means that the ‘fair value’ for the shares is £10.56.
This is because the model uses projected future free cash flows, which it discounts back to today using a cost of capital. This is the cost to the firm of raising funds through both debt and equity financing.
Airlines historically tend to generate huge free cash flows if debt and capital expenditure is stable. Both are in IAG’s case.
Therefore, even relatively modest earnings growth in an airline can translate into strong free cash flow growth.
That said, I prefer to see strong earnings growth forecasts for any stock I buy. I see it as providing a good operational buffer against any risks that may pop up long term.
Consequently, I will not be buying IAG shares. Instead, I have my eye on several other very undervalued stocks with very high earnings growth potential.
