Air Canada’s freighter investments weigh on cash flow

Air Canada executives said it will take a couple more years for the full revenue potential of the incoming freighter fleet to take effect while the cargo market goes through a slump.

Air Canada’s cargo revenue fell 41% in the fourth quarter to CA$288 million ($214 million) from 2021, reflecting overall market weakness related to inflation, an economic slowdown and high retail inventories that afflicted most airlines. For the full year, cargo sales declined 15% to $935 million. 

The results were still solid considering Air Canada (OTCUS: ACDVF) set a record of $1.2 billion in cargo revenue in 2021, an unprecedented year for supply chain disruptions that drove shippers to airfreight. For the final three months of the year, cargo sales were 55% better than the pre-pandemic baseline of 2019.  

The fourth quarter typically is the strongest shipping period, but airlines did not experience any bump in business as customers purchased goods earlier in the year on fears of ocean shipping delays and consumers tightened their pocketbooks while shifting spending to services.

Comparisons with 2019 are also difficult because Air Canada made a strategic decision during the pandemic to establish a freighter division and now operates three Boeing 767 converted freighters that can carry much larger quantities of goods per flight than passenger aircraft. The airline also no longer operates cargo-only passenger freighters that were deployed during the pandemic when much of the passenger fleet was grounded.

Fourth-quarter cargo revenue at United Airlines fell 35% year over year. American Airlines experienced a 23% decline and Delta Air Lines’ cargo revenue was 18% less than in 2021. 

Air Canada is scheduled to have 12 main deck cargo jets by the end of 2024, but analysts say full revenue benefit from the cargo investments will take time to pay off with weak cargo demand and a growing supply of aircraft capacity combining to drive down rates. The airline is poised this year to receive two more used 767 jets converted for upper-deck freight and three more next year. It already has taken possession of two production freighters from Boeing that have yet to enter service and is scheduled to take delivery of two new Boeing 777 freighters in 2024. 

The cargo investments dampened free cash flow and won’t begin to pay material dividends until 2025 or 2026, CEO Michael Rousseau said during a briefing for analysts.

Fadi Chamoun, transportation analyst for BMO Capital Markets, said in a research note that the freighter investments are likely to squeeze cash and returns on invested capital in the short term. BMO estimates that Air Canada is spending $520 million to $594 million for the cargo aircraft and infrastructure.

“We see the air freight market being in an oversupply condition well into 2024, and there is limited visibility into the margin contribution from this segment over the medium term. The investment in cargo is responsible for the bulk of the downward revision in the company’s cumulative free cash flow guidance from $2.6 billion to $1.85 billion for the 2022-2024 timeframe,” he said.

Executives say the freighters are increasing business opportunities because they provide more direct scheduled service and certainty, while the passenger network extends connectivity to more cities than the freighters can serve. Freighters also offset seasonal capacity swings in the passenger network, giving shippers year-round options.

Chief Commercial Officer Lucie Guillemette said that the freighters will quickly enable the carrier to capture more business in the trans-Atlantic market, but acknowledged that it will take longer to increase revenue in Asia. 

“Most of the freighters are operating in markets where we don’t have enough belly capacity or they’re operating markets where we don’t actually operate passenger [aircraft],” she said.

Cargo network build out

Air Canada is expanding its freighter network as it adds more dedicated cargo jets. This month it began scheduled freighter service to Liege, Belgium, and plans to expand the freighter network to Basel, Switzerland, in April. The cargo division is operating two flights per week to Liege, with service expected to increase to three flights per week later this year. Basel, a major European pharmaceutical center, will get two flights per week. The flights originate in Toronto with a stop in Halifax.

The new routes are in addition to the recent start of service to Dallas, Atlanta and Bogota, Colombia.

On Friday, Jon Turner took command of the cargo division following the resignation of Jason Berry, who is credited with implementing the initial buildout of the freighter fleet and network. 

Air Canada Cargo this month joined the Pharma.Aero collaboration forum where stakeholders in the pharmaceutical transportation sector share best practices for shipping and distribution of temperature-sensitive medicines. Air Canada last year expanded its cold storage facility in Toronto and uses a wide range of refrigerated containers such as the Envirotainer Releye RLP to keep pharma products at the correct temperature. 

The airline also expanded its warehouse at Frankfurt airport in Germany, is in the midst of a huge remodel of its London Heathrow cargo terminal and is expanding its Vancouver terminal in preparation for operating the 777 freighters on Asia routes. 

And Air Canada signed a memorandum of understanding with Emirates SkyCargo to work together on expanding interline options and block space agreements, giving customers more flexibility for routing their shipments around the world.

“With the opening of 13 new freighter markets in 2022, and more set to be inaugurated in 2023 and 2024, Air Canada Cargo remains laser focussed on building a freighter program that complements and supports our robust global passenger network and ensures our customers have access to reliable year-round capacity on critical trade lanes,” said Turner, who previously was vice president of in-flight services in the passenger division, in a LinkedIn post.

Overall, Air Canada reported a fourth quarter adjusted loss of $161.2 million that was below Wall Street’s consensus estimate despite a record $3 billion in passenger revenue, double the amount in the same period of 2021 and 2% higher than in 2019. The carrier saw improved passenger traffic, including in international markets, but was bedeviled by higher costs for fuel, labor and maintenance that 

Executives said advanced bookings are still strong but that results aren’t expected to return to pre-pandemic levels until 2024. Passenger capacity is set to grow 24% this year. 

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