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International Consolidated Airlines’ (LSE: IAG) share price has dropped 20% from its 7 February one-year traded high of £3.68.
This might indicate that a business is worth less than it was before. Or it could result from market speculation over the short-, medium, or long-term outlook for a company.
As a long-term investor I am not particularly concerned about shorter-term market worries. My key investment concern for a growth stock is whether there is substantial value in it over time.
I did a deep dive into the numbers behind the British Airways-owner’s business to see if this is true here.
How do the core business numbers look?
IAG’s 28 February-released 2024 annual report looked very good to me, with revenue up 9% year on year to €32.1bn (£27.02bn). Operating profit jumped 22.1% to €4.283bn and profit after tax increased 2.9% to €2.732bn.
Net debt dropped 17% over the year to €7.517bn, and adjusted earnings per share jumped 12.3%, to 56.8 euro cents.
These strong numbers enabled IAG to raise its total dividend to 9 euro cents, generating a current yield of 2.6%. It also announced a €1bn share buyback to be completed in the coming 12 months. These tend to support share price gains.
Analysts forecast IAG’s earnings will rise 6.9% each year to the end of 2027. It is this growth that powers a firm’s share price and dividends over time.
Why did the shares drop?
The airline’s share price dropped largely because of market fears of weakening in the US economy. These stem from the country’s recent imposition of a range of tariffs on key trading partners.
The US’s Delta Air Lines cut its Q1 profit estimates by half on 10 March due to such uncertainty.
Market analysts fear the same could happen with European airlines, given their significant transatlantic business.
A risk to IAG is that this scenario does indeed play out.
Are the shares undervalued right now?
My view is that no economic pullback has occurred in the US so far. Even if it does, I think it extremely unlikely it will persist long term.
As it stands, IAG’s 6.1 price-to-earnings ratio is very cheap compared to the 9.3 average of its peers. These comprise Jet 2 at 6, easyJet at 8.2, Singapore Airlines at 10.1, and Wizz Air at 12.8.
The same applies to IAG’s 0.5 price-to-sales ratio compared to its competitor average of 0.7.
I ran a discounted cash flow analysis to ascertain where IAG’s share price should be, based on future cash flow forecasts.
This shows the stock is 57% undervalued at £2.96. Therefore, the fair value for the shares is £6.88, although market vagaries might push them lower or higher.
Will I buy the stock?
I am aged over 50 now so am in the latter part of my investment cycle. As such, my focus has shifted to stocks that pay very high dividends. I aim to increasingly live off these while reducing my working commitments.
IAG’s dividend yield does not meet my minimum 7%+ a year requirement, so I will not be buying it now.
However, if I were even 10 years younger I would. I think on the back of its strong earnings growth potential its shares will soar over time.