DBRS Upgrades Air Canada to B (high), Stable Trend

DBRS Limited (DBRS) has today upgraded Air Canada’s (AC or the Airline) Issuer Rating to B (high) from B. The trend is Stable. In November 2014, DBRS revised the trend of AC’s previous B rating to Positive from Stable to reflect that the action steps taken have led to noticeable improvements in cost efficiency, capacity management as well as stronger operating cash flow and financial metrics, indicating that DBRS could consider raising AC’s rating to B (high) if the Airline maintains or improves its financial metrics from their current levels through the next one to two quarters while sustaining its market position and cost-reduction efforts.

The upgrade reflects that these improvements have continued through H1 2015 as the Airline has also benefited from rational competition under favourable demand conditions, success in growing U.S.-based transcontinental passengers through Canadian airports, conclusion of major labour agreements in effect until 2019 and beyond and substantially lower fuel prices since mid-2014. The Stable trend indicates that AC’s sizable investment and funding needs are likely to constrain improvement in financial metrics, which could also weaken in the event of an unexpected downturn in demand or operational disruption. DBRS could consider a positive rating action if the Airline is able to maintain or further improve its financial metrics with sustained operating cash flows and EBITDAR, while executing its fleet renewal program in the next twelve to 18 months.

Debt coverage metrics for last 12 months (LTM) ended June 30, 2015, have strengthened further as adjusted cash flow-to-debt improved to 19% from 15% in 2014 and adjusted debt-to-EBITDA fell to 3.7 times (x) from 4.4x. DBRS considers these levels strong for the rating. The Airline’s liquidity has improved with unrestricted cash and short-term investments which amounted to $3.0 billion as at June 30, 2015, or 22.3% of LTM revenue (from $2.3 billion at YE2014 or 17.1% of revenue). The stronger earnings have also materially reduced the Airline’s equity deficit.

AC’s aircraft purchase program remains sizable with total committed and planned capital expenditures (capex) aggregating to $9.6 billion between H2 2015 and 2019. While this capex is instrumental to AC’s efforts to improve fuel efficiency as well as to expand its international routes with strong passenger demand and its low-cost routes, DBRS expects that additional external financing will be required. DBRS notes that the Airline has lowered its internal leverage target (defined as net adjusted debt-to-EBITDAR) to below 2.2x to be achieved by 2018 after having attained its previous target of below 3.5x. As at LTM June 30, 2015, the ratio already came close at 2.3x. DBRS considers the revised target indicative of the Airline’s intention to keep its financial leverage from material weakening in the medium term.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodologies are Rating Companies in the Airline Industry (June 2015) and DBRS Criteria: Financial Ratio Definitions and Accounting Adjustments Non-Financial Companies (June 2015), which can be found on our website under Methodologies.

DBRS will publish a full report shortly that will provide additional analytical detail on this rating action. If you are interested in receiving this report, contact us at info@dbrs.com.