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As profits return, is the IAG share price too low?

Jumbo jet preparing to take off on a runway at sunset
Image source: Getty Images

It has been a challenging few years for airline owners, such as British Airways’ parent IAG (LSE: IAG). But the company announced this morning it has returned to profit at the full-year level. Could that see the IAG share price take off – and ought I to add the firm to my portfolio in anticipation?

Strong return to form

The annual results were no surprise as the company’s performance has been improving in recent quarters. However, they still provide a strong data point that IAG’s business is doing well.

Revenue of €23.1bn was within 10% of the pre-pandemic 2019 level. Profits after tax came in at €431m. That is a sharp improvement from the prior year’s €2.9bn loss.

After running up close to €10bn of losses in just two years, moving back into the black is a significant return to normality. It is also a positive thing at the practical level. Profits can help the company pay down some of its groaning debt pile. Indeed, last year saw net debt fall €1.2bn. It still stands at €10.3bn though.

Ongoing momentum

I think there could be more good news to come in the next year or two. After all, revenues are not yet back to 2019 levels, but I think they can.

Similarly, although it was good to see the firm reporting a profit, it was 88% lower than in 2018. So I see substantial opportunity for the company to perform strongly even just getting back to what it has managed before, let alone improving on it.

Demand for air travel is riding high globally. There is a risk that could suddenly change, due to an unforeseen event, or consumers tightening their belts in a recession. But if demand does stay high, that should be good news for the IAG share price.

It could mean not only higher revenues, but also that the company gets more pricing power. That might help boost profits closer to historic levels.

Valuing IAG shares

While the results were strong, the IAG share price is only 6% higher than it was a year ago. Why are more investors not rushing to pile into the company as it recovers?

One reason could be valuation. The market capitalisation is approaching £8bn. For a company with inconsistent near-term profit history and earnings last year of €431m, that does not look cheap to me. The price-to-earnings (P/E) ratio is around 20. If earnings rise next year, as I expect they will, the forward-facing P/E ratio looks more attractive.

But then there is still that debt. It needs to be serviced and ultimately repaid. The company did well to reduce its net debt last year. Even at 2022’s rate of debt reduction though, it would take over eight years for IAG to move to a net cash position. That is a long time in the airline world, where large costs can materialise unexpectedly in a short amount of time.

Given those risks, I do not think the IAG share price is too low. It looks about right to me for the company’s current performance and outlook. I will not be buying.

The post As profits return, is the IAG share price too low? appeared first on The Motley Fool UK.

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C Ruane has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Motley Fool UK 2023