Turbulence Ahead for American Airlines Stock as Cash Preservation Rules

The $2 billion in proceeds is great news for American Airlines stock but its weak balance sheet is still a cause for concern

After months of lockdowns and travel bans, the nation’s largest air carrier American Airlines (NASDAQ:AAL) is still recouping its losses after some of its worst months. AAL stock has lost more than 14% of its value as the airline  racked up billions of dollars in debt over the last three months, an amount that is expected to hit $38.5 billion by next week’s second quarter end.

Turbulence Ahead for AAL Stock as Cash Preservation Rules
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In an effort to improve its liquidity and stay afloat, the company plans to raise $3.5 billion in financing through the sale of securities. While the resurgence of the travel industry in the U.S and the extra financing can do wonders for American Airlines stock, analysts still recommend that you remain bearish on this name.

Even Before Pandemic, Things Weren’t Great

Prior to the novel coronavirus swept across the globe, things weren’t smooth-sailing for American Airlines. The company was ridden with a high-interest expense and debt that was a drag on its revenue numbers.  In 2019, AAL generated $47.5 billion in revenue and had an operating expense of $42 billion. However, an additional $1 billion interest expense reduced the operating margin to just 5%.

The situation worsened when reactions to the pandemic kept flights grounded, further adding to American’s financial burdens. With little to no travel activity and rising debt levels, the AAL stock lost more than 50% of its value year-to-date. As of this writing, the stock price is $13.17.

In the wake of the turmoil, AAL announced that it would limit its daily cash burn rate to $40 million a day. The cash position would be aided by the $5.8 billion in financial aid that the company received as part of the CARES Act and an expected $4.75 billion loan from the Treasury Department. If this goes through, AAL is expected to have $11 billion in cash reserves by the month.

Through increased funding, the airline plans to bring its cash expenses to zero by the end of the year but with a second wave of the pandemic on the horizon, only time will tell if this goal is attainable. Until then, the company can work on paying off the $34 billion debt (as of the first quarter) on its books.

The answer to American Airlines’ burgeoning problems lies in raising new capital and this is exactly what the company set out to do.

Enhancing Liquidity

To weather the negative effects of the pandemic, American Airlines on June 22 announced that it would raise $3.5 billion in financing. This would be done by selling $1.5 billion in shares and convertible senior notes due in 2025 and $1.5 billion in senior secured notes due in 2024. In addition to this, AAL will also enter a new term loan facility for $500 million due in 2024.

Following the announcement to raise $3.5 billion in funding on June 22, AAL modified its initial offering of $750 million shares and $750 million convertible senior to $1 billion each. The proceeds from the sale amounted to $1.94 billion which would allow AAL to “enhance its liquidity position.” Given that the company plans to raise a total of $3.5 billion, investors can expect more security sales in the near future.

To be sure, the offering puts pressure on the short-term value of American Airlines stock, however, the long-term prospects show greater upside potential. The company can lower its debt levels and keep cash bleeds to a minimum. It can also shutdown talks of Chapter 11 filing and allow AAL to hold its ground in the otherwise volatile airline industry.

However, the new funding comes at a cost. American Airlines’ offering price was only $13.50, 9.6% lower than Monday’s closing price. This raises concerns because while investors are willing to put their money in AAL stock, they will only do so at an incredibly subsidized price. In addition to this, the new offering is likely to dilute existing shareholders’ interest in the company.

Bottom Line on AAL Stock

AAL stock is mired in the effects of the coronavirus as the airline industry tries to recoup losses from the last few months. Although travel in the U.S is starting to pick up, analysts predict that it will take up to three years for the industry to return to a normal level of operation. That is, assuming that a second wave of the pandemic doesn’t decimate the airline industry before that.

While the capital raised by AAL (albeit at a discounted price) is a promising sign, it’s worth remaining bearish on American Airlines stock until the company produces some tangible results. The carrier’s high debt levels and interest expense are still a matter of concern and are likely to be a drag on the company’s revenue for at least a couple of years.

Divya Premkumar has a finance degree from the University of Houston, Texas. She is a financial writer and analyst who has written stories on various financial topics from investing to personal finance. Divya has been writing for Investor Place since 2020. As of this writing, Divya Premkumar did not own any of the aforementioned stocks.

Article printed from InvestorPlace Media, https://investorplace.com/2020/06/turbulence-ahead-for-aal-stock/.

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