Written by Daniel Da Costa at The Motley Fool Canada
When the pandemic first hit in early 2020, stocks from almost every sector initially saw massive sell-offs. It soon became clear, though, which industries would be able to weather the storm and which would be most significantly impacted. As many investors know by now, airline stocks suffered major losses throughout the pandemic, especially early on. The lower valuations also make them some of the best to add to your buy list.
As a result of the pandemic, many airline stocks in North America, and especially Air Canada (TSX:AC) north of the border, became highly popular over the last few years. Investors were enticed by how cheaply they traded and their recovery potential when the pandemic was finally in the rearview.
However, even as we begin September of 2023, more than three and a half years since the pandemic first hit, most airline stocks, including Air Canada, trade well off their pre-pandemic trading ranges.
In fact, Canadian investors have a significant opportunity as Air Canada is one of the cheapest, currently trading at just under $23. That’s more than 55% below its pre-pandemic trading price of roughly $52.
So consider the ultra-low market price of Air Canada shares and the fact that for over a year now, the industry has been recovering rapidly and faced little to no pandemic restrictions. No doubt, many investors are wondering if airline stocks are some of the best stocks to buy in September 2023.
Are airline stocks some of the best to buy now?
Indeed, many airlines look significantly undervalued when comparing their share prices today to before the pandemic. Yet, when you dig a little deeper, you see that these stocks aren’t actually as cheap as you might think.
With Air Canada, for example, the stock more than doubled its debt load during the pandemic as it borrowed billions of dollars just to stay afloat. In addition, it also issued more shares and diluted shareholders in an effort to raise capital.
Therefore, although Air Canada stock had a market price of roughly $48.50 at the start of 2020, its market cap was over $12.8 billion. So although today its price of roughly $23 is more than 50% below $48.50, Air Canada’s current market cap is roughly $8.2 billion, only down by 36%.
This is due to the more than 358 million shares outstanding, compared to just 272 million at the start of 2020, an increase of 32%. That’s not all, though.
Market cap is one form of looking at a company’s value, but enterprise value (EV) is often preferred by investors because it includes debt and gives a more complete picture of a company’s capital makeup.
Heading into 2020, Air Canada had an enterprise value of roughly $16.3 billion. So along with its market cap at the time of roughly $12.8 billion, Air Canada had roughly $3.5 billion of net debt.
Fast forward to today, although its share price is down more than 50% and its market cap is roughly 36% lower than where it was at the start of 2020, its enterprise value of $14.4 billion is only 11.5% lower than where it was at the start of 2020.
This goes to show just how much debt Air Canada took on and how that’s impacting its valuation, even still today. It also goes to show why it’s so important to value companies based on metrics and not just by looking at the share price, which can be deceiving.
Is Air Canada still worth buying today?
Now that we know Air Canada isn’t quite as cheap as it looks, it still begs the question of whether it offers value to investors in this market environment.
Currently, the stock has a forward price-to-earnings ratio of roughly 6.2 times. That’s not only cheap, but it’s also below the 10.3 times forward earnings that it was trading at heading into 2020 and even the three-year average heading into the pandemic of 7.8 times.
However, its EV-to-earnings before interest, taxes, depreciation and amortization (EBITDA) is slightly higher than its three-year average heading into the pandemic.
Therefore, although the airline stock looks cheap and is rapidly recovering its operations, until it pays down more debt and continues to grow its profitability, it could struggle awaiting a rally anytime soon.
Before you consider Air Canada, you'll want to hear this.
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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. The Motley Fool has a disclosure policy.