International Consolidated Airlines Group (LSE:IAG) shares are down almost 3% this morning. This compounds an already bad month for the company, losing 14% in value. Although the picture doesn’t improve the more I pull it back on the longer timeframes, it does become apparent that there will come a point where the stock is an undervalued buy. As it currently stands, is this too much of a high risk play for the reward potential?
Firstly, let’s consider the main risks involved at the moment. The first one is shown via the move lower in IAG shares in the short run. the rise of Omicron has seen travel restricted. Given the base that carriers such as BA have in the UK, the fact that other countries have clamped down on UK travelers is a negative hit. For example, France has introduced quarantine and only essential travel for those entering from the UK.
Looking forward, it’s a fairly binary outcome for IAG depending on what happens with the spread of the virus in coming months. The slump today comes as the likelihood of more restrictions locally has increased over the weekend. With over 82,000 infections recorded yesterday, firmer measures would again hamper any kind of retracement higher for IAG shares in the short run.
The other risk worth noting is the high debt levels of the company. Q3 results showed that net debt stands at over €12.3bn, up 26.6% on the same period last year. the operating costs of €260m per week also act as a high burn rate for the business, especially when the revenue isn’t compensating for these outflows.
I’m not saying the business is going bankrupt, but it’s a concern that the liabilities are only heading one way at the moment for IAG.
The flipside comes when considering what the potential upside could be. After all, given the access to liquidity that the company has, I really struggle to see it going bust. For example, it spoke in the latest results of “an additional €1.2bn committed five-year credit facility executed for British Airways in November, partially guaranteed by UK Export Finance.” This helped to boost pro forma liquidity at the end of October to €12.1bn.
I feel that this helps to put a floor in IAG shares. Whether this comes in at 100p, 75p or some other level remains to be seen. But as I look out over the next few years, I can’t see the price staying at such depressed levels.
Part of this comes from hypothetical thinking. The vaccine rollouts and continued scientific discovery and advancement regarding Covid-19 should get better over time. This should mean that future variants offer a lower threat level to countries, reducing the need for restrictions. This should support higher flying hours in coming years.
Added to this is sentiment from consumers. We saw the pent up demand from H1 2020. I think this again will be building up over the winter, leading the way for a strong summer in 2022 for IAG. Confirmation of this should provide a natural relief rally for IAG shares.
Overall, IAG shares are a high risk, high reward stock right now. We’re leaning towards adding some exposure in our portfolio in coming weeks.
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