Cheap Jet Fuel Seen Extending Air Canada Climb: Corporate Canada

Air Canada’s five-year drive to trim costs is getting a boost from the global oil selloff, setting up the country’s biggest carrier to extend a stock rally into 2015.

“Everything is adding up very positively for them,” said Chris Murray, an AltaCorp Capital analyst in Toronto. “Expectations for lower oil prices are certainly becoming more substantial.”

A 58 percent surge in 2014 for Montreal-based Air Canada marks the best performance among industrial stocks on the benchmark Standard & Poor’s/TSX Composite Index. That exceeds the index’s 12 percent advance, and follows a quadrupling in the shares last year.

Investors are validating the turnaround plan adopted last year that seeks a 15 percent cut in expenses, the latest effort by Chief Executive Officer Calin Rovinescu to reshape a carrier that had struggled financially since its 2004 bankruptcy exit. Air Canada also will benefit from the rout in world oil markets in the form of lower fuel bills.

Oil prices have tumbled to the lowest in more than five years since the Organization of Petroleum Exporting Countries failed to cut output last month to reduce the glut in global markets.

West Texas Intermediate for January delivery fell 1.6 percent to $59.39 a barrel on the New York Mercantile Exchange at 4:19 p.m., its lowest since 2009. Jet fuel, which is refined from crude, has declined about 34 percent this year.

‘Minor Shift’

“Even a minor shift in future expectations can lead to significant upside in earnings leverage,” said Walter Spracklin, an RBC Capital Markets analyst in Toronto. The airline spent C$1.1 billion ($937 million) on jet kerosene last quarter.

Air Canada’s bankruptcy reorganization couldn’t keep the airline from returning to losses starting in 2007. Amid concern that another restructuring was in the offing, the shares plunged to a 2012 low of 82 cents before a government arbitrator imposed a cost-cutting contract on pilots. The stock is up almost 14-fold since the decision, which helped Air Canada post back-to-back profits that year and in 2013.

Like Murray, Spracklin lists Air Canada as outperform. The carrier has the second-highest average rating among 26 companies on the S&P/TSX Industrials Index, according to data compiled by Bloomberg. Air Canada rose 0.9 percent to C$11.72 today in Toronto.

Bank of America Corp.’s Glenn Engel raised his Air Canada recommendation last week to buy from underperform. Oil’s retreat signals more good news for the North American industry because airline shares still don’t fully reflect the benefit of lower prices, New York-based Engel wrote in a note.

Fuel, Currency

Fuel “is our single largest expense and we continue to consider adjustments to pricing and capacity,” Isabelle Arthur, an Air Canada spokeswoman, said via e-mail this week, declining to make executives available to comment. “Fuel is purchased in U.S. dollars, which has had an unfavorable impact due to the recent relative decline of the Canadian dollar.”

Through yesterday, Canada’s dollar had lost about 7.4 percent of its value this year against its U.S. counterpart, Bloomberg data show.

Earnings at Air Canada are already being buoyed by squeezing more seats onto each plane and expanding the Rouge leisure unit, which began operating last year with lower-paid flight attendants than on the company’s mainline jets.

Operating costs for Rouge’s Airbus Group NV A319 and Boeing Co. 767 jets are 23 percent and 30 percent lower than at Air Canada, Chief Financial Officer Michael Rousseau told analysts at a Dec. 2 Credit Suisse Group AG conference. That beat targets of 21 percent and 29 percent.

Profit Estimate

Air Canada’s 2014 profit excluding some charges and gains may be C$344 million, 17 percent more than a year earlier, based on analysts’ estimates compiled by Bloomberg. For 2015, the figure may more than double to C$726 million.

New fees also stand to buoy revenue. After adding a C$35 currency surcharge on vacation packages in January, Air Canada followed the lead of WestJet Airlines Ltd., the nation’s second-biggest carrier, with a C$25 fee eight months later for the first checked bag for coach fliers in Canada and to the U.S. Air Canada doesn’t have a fuel surcharge for North American flights.

AltaCorp’s Murray and Konark Gupta of Macquarie Capital Markets both say Air Canada may decide in 2015 to boost its five-year cost-savings target beyond the current 15 percent. The company may provide an update when it briefs investors in February after reporting fourth-quarter results, Murray said.

“When you add all the initiatives they’ve introduced, I wouldn’t be surprised if they’re closer to the mid-20s” in percentage terms for cost savings, Murray said.

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