British Airways owner’s transatlantic focus lifts it to post-pandemic highs

A big bet on transatlantic flying has paid off for long-term investors in British Airways owner IAG, as a year-long rally lifted the airline group’s shares to their highest level since the pandemic began.

Shares in IAG, which owns five carriers including BA, Iberia and Aer Lingus, closed last week at just under 316p, the highest level since February 2020. The stock was lower on Monday, but the top performer on London’s FTSE 100 more than doubled last year to make it to the top.

The turnaround in the company’s fortunes came as investors cheered a second straight summer of record profits built on lucrative transatlantic flying, which has seen particularly strong demand since the pandemic ended.

“They’re focused on where they can fly to win,” said Andrew Laubenberg, head of European transport equity research at Barclays.

This allowed IAG to pay off its outstanding pandemic debt and reinstate its dividend. It announced a €350mn shareholder buyback late last year, the first since the pandemic.

“Demand remains strong across the Atlantic and within Europe,” IAG chief financial officer Nicholas Cadbury said, adding that the group’s shares were supported by “significant cash flows and an increasingly strong balance sheet”, which boosted investor returns.

One of the biggest questions now facing IAG is whether a £7bn investment plan by British Airways can improve services and reduce delays and other operational problems at its main profit generator.

The airline has faced criticism in the past – particularly from customers and unions – for seemingly prioritizing shareholder returns over customer experience and quality.

Improving BA “should be a continued, strong driver of profit momentum for the group”, Lauberenberg said, noting the airline had a stranglehold, particularly at Heathrow, one of the world’s most lucrative travel markets.

“They should make a strong profit. So, of late its performance has been very poor because it has not been invested in.”

IAG’s business model is geared towards long-haul travel and particularly its business and first-class cabins, segments of the industry that have been slow to recover post-Covid but are now growing.

“If you want exposure to transatlantic and premium travel, IAG is the play you want to look at,” said Julian Cook, a partner at ATKA Capital, a London-based hedge fund that focuses on aviation.

ATKA sold a stake in Ryanair to buy IAG last year, which Cook says was a “no brainer”.

“We could see that Atlantic was performing well and wanted to play the premium end of the market,” he added.

Even after the rally, IAG shares are still trading at a price/earnings ratio of around 6.5 times, lower than Ryanair and easyJet.

IAG’s main hubs in London, Dublin and Madrid are on the western edge of Europe, giving it a natural advantage to fly across both the North and South Atlantic.

The group has doubled down on the route since the pandemic hit the cost of flights to Asia, where demand has been slow to rebound and European carriers face the complications and costs of avoiding Russian airspace.

Three-quarters of IAG’s long-haul routes are to the Americas, more than 53 percent of Lufthansa Group and 54 percent of Air France-KLM, according to analysts at Bernstein.

This focus on the Atlantic has allowed IAG’s airlines to avoid competition from deep-pocketed and sprawling rivals in Turkey and the Gulf, while European airlines struggle to compete on costs and fares as well as service standards.

In contrast, routes to the US and Europe have become more profitable than pre-pandemic levels since Norwegian declined in 2020, disrupting incumbent carriers with low-cost fares.

“After the pandemic, flying west rather than east is a better long-haul strategy, especially from London,” said Alex Irving, transportation analyst at Bernstein.

Analysts said other questions facing IAG now include whether it can keep up with demand to fly in its core markets, as well as the potential for increased geopolitical tensions, particularly from a second Trump presidency.

There is also uncertainty over future M&A after European competition authorities last year rejected a bid by Spain’s Air Europa to boost its presence in the Latin American market.

IAG’s management told investors it is focused on achieving financial targets set in 2023, including increasing its operating margin to between 12 and 15 percent, up from 11.9 percent in 2023.

Its other targets include growing its flight schedule by between 4 and 5 per cent a year and a return on invested capital of between 13 and 16 per cent. According to Bernstein’s Irving, airlines typically generate single-digit ROIs.

“In terms of other European flag carriers they are not only the most profitable but also the most shareholder-friendly, they have clear financial targets for each of their units and allocate capacity to those units according to their earnings performance,” Cook said.