Air Canada (TSX:AC) has been at the top of many investors’ watchlists for some time now. Ever since the stock fell by over 50% at the start of the pandemic, investors have been watching AC stock for any sign of recovery.
Although a recovery to its pre-pandemic price was possible early on in the pandemic, it soon became clear that the pandemic would have a years-long effect on the economy and, most notably, on businesses like Air Canada.
Air Canada didn’t just go two years without making any money. For most of those quarters, the company was burning through tonnes of cash as almost all its planes sat idle on the ground.
Therefore, with all the debt it’s had to take on, and with the dilution that shareholders have experienced, Air Canada’s upside potential is much different than it was prior to the pandemic or in the first few months of it.
With AC stock’s upside capped by its valuation, is it worth all the risk you have to take on buying the stock today?
How much can Air Canada rally this year? The upside Air Canada stock looks to have this year, assuming it doesn’t face any significant setbacks from the pandemic or anything else, is roughly $30 a share, which is in line with where the average analyst target price is. With the stock trading at roughly $24 today, that’s approximately 25% upside potential for investors.
While 25% growth doesn’t seem that much for a stock that’s been so heavily impacted, a $30 share price would actually put Air Canada at a valuation that was even higher than where it traded prior to the pandemic.
Meanwhile, not only is it unlikely for Air Canada to see a full recovery this year (though it could get close), but it still has higher costs to deal with and will likely have smaller margins.
If it can rally to $30 this year, the stock will have a market cap that’s more than it was prior to the pandemic, yet it will almost certainly be earning far less.
Therefore, while there will be some upside potential, as it becomes clearer that Air Canada is seeing this capacity come back for good, the stock is already so fairly valued that it doesn’t have much more room to grow.
With little upside in the stock today, is that worth all the risk?
What risks do you have to worry about when buying AC stock? There are several risks to consider before buying Air Canada to ensure that the reward is worth it.
First off is, of course, the pandemic. The pandemic is the biggest impact Air Canada has faced these last two years and the root of all the lingering problems it could have going forward, such as all its debt.
It goes without saying that although things look promising with the pandemic right now, there is always a risk of a new variant or outbreak that could cause restrictions to be put back in place. Furthermore, because Air Canada’s international operations are global, it could continue to see regional disruptions for some time.
In addition to the pandemic, now investors have to monitor the uncertainty of the global economy. AC stock is already being impacted by higher fuel prices as a result of the war in Ukraine. In addition, events like these also impact international routes for the stock, which limits its ability to operate at full capacity.
Inflation is another risk to consider. Not only do you have to worry about how inflation and higher costs may impact Air Canada, but it could also weigh on the demand for travel, especially if travel continues to be expensive.
Lastly, with all the debt on its balance sheet, Air Canada’s financials are far more fragile than they were before the pandemic.AC stock needs to start paying it down as soon as possible.
Bottom line There is certainly upside potential for Air Canada, both in the short term and over the next couple of years. But with the stock already fairly valued today, it’s up to investors to decide if AC stock — and all of the risk it comes with — is worth the reward.
The post Air Canada: Is the Risk in AC Stock Worth the Reward? appeared first on The Motley Fool Canada.
Fool contributor Daniel Da Costa has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned.