EUR 850.00 For Business Accounts Only

Morningstar | Air Canada Books Solid First Quarter Despite MAX Groundings; Maintaining Fair Value Estimate. See Updated Analyst Note from 07 May 2019

We’re reaffirming our CAD 33 fair value estimate for Air Canada following first-quarter results that revealed the extent of management’s MAX grounding contingency plans. Though its 24 MAX aircraft comprised a fifth of its narrow body fleet, management assuaged MAX grounding pressure in the first quarter by strategically pulling capacity from underperforming routes, delaying new route launches, and opportunistically leasing aircraft. We assumed accommodating MAX chartered itineraries and limiting cancellations would yield higher unit costs and weaker yields due to suboptimal flying. Management didn’t issue new guidance for the year but did mention MAX groundings added 50 basis points to its unit cost inflation in the first quarter. Air Canada indicated unit cost would increase as groundings persist, mostly because capacity cuts would fail to soak up overhead costs. Incremental costs from wet leasing (turnkey leasing from other carriers) and extending leases for older, costlier aircraft also had an impact.

Management’s contingency plans backfill around 97% of Air Canada’s expected available seat miles or capacity through August. In adjusting our model for the carrier’s modifications and our latest estimations for MAX groundings (six months), we lowered projected 2019 capacity growth to 3% from 5%. We expect the greatest capacity reductions will come in the second and third quarters, crimping Air Canada’s ability to capitalize on strong booking curves and closed-in yields. While passenger revenue per seat mile should improve on less supply, unit costs will also rise. Excluding the impact of Aeroplan, Air Canada’s recently acquired loyalty program, we forecast domestic passenger yield growth 50 basis points higher, leading to consolidated yield growth above 1%. Conversely, we model non-fuel unit costs growth above 2%. We maintained long-term expectations, assuming MAX aircraft return to service before 2020, and model adjusted EBITDA margins of 19% in 2020-21.

In the face of MAX service disruptions, Air Canada tactically capitalized on strength in premium travel markets. Passenger yields, 5% higher, improved on business segment gains in transcontinental and Trans-Atlantic markets. In total, business cabin revenue improved 12% over the first quarter in 2019 thanks to yield growth of 4%. Despite not offering concrete guidance, management suggested booking demand for premium cabin products were strong leading into the second quarter.