Competitive pricing pressure clips IndiGo’s wings


It’s a dog-eat-dog world out there in the aviation sector and InterGlobe Aviation Ltd has been bitten hard this time. What else explains competitive pricing pressure at a time when industry load factors are healthy? InterGlobe Aviation, the firm that operates IndiGo airlines, saw the unpleasant impact of that in its June quarter performance, what with its average yield declining 8% year-on-year.

The fuel price continues to remain favourable. Fuel costs as a percentage of revenues declined compared to last year’s June quarter (though it was higher sequentially). But that wasn’t sufficient. Motilal Oswal Securities Ltd sums it up—the decline of Rs.0.54 year-on-year in revenue per available seat kilometre is more than fuel cost per available seat kilometre decline of Rs.0.25 year-on-year, implying competitive pressure.

In that backdrop, a cut in earnings estimates after the June quarter numbers were somewhat inevitable. “We have cut our FY2017 revenues estimates by 4% to account for 8% decline in yield in 1QFY17,” wrote Mohan Lal, analyst at Kotak Institutional Equities Research. The analyst has also cut Ebitdar estimates by 13% due to Ebitdar margin ex-fuel cost in the June quarter being lower than estimates. That’s because IndiGo had to invest in staff and other expenses to prepare for fleet expansion in FY2017, which is yet to get fully absorbed. And then, one has to account for higher fuel costs, thanks to the sequential increase in aviation turbine fuel price, which IndiGo was unable to pass on due to competitive pressures.

Ebitdar stands for earnings before interest, tax, depreciation, amortization and lease rentals and is an important measure of profitability for airlines. IndiGo’s Ebitdar margin declined 400 basis points to 33.3% last quarter compared to 37.3% in the June 2015 quarter. One basis point is one-hundredth of a percentage point. In fact, the measure was higher in the March quarter as well, at 36.8%.

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The company highlights that CASK or cost per available seat kilometre declined 6% year-on-year. However, CASK ex-fuel increased 2.4%. Accordingly, operating expenses increased 17% on around 9% revenue growth, eventually having an adverse impact on operating performance. As a result, IndiGo’s Ebitdar declined 3% year-on-year to Rs.1,528 crore.

Small wonder then that the stock nosedived 11.17% on BSE on Tuesday. Pre-tax earnings declined 19% but sharp decline in tax outgo meant a smaller decline of 7.4% in net profit to Rs.592 crore.

What next? The company intends to add 24 A320NEO flights this financial year. But analysts worry about load factors. “We note that the sustained low oil price is strengthening airlines’ balance sheets and emboldening competition to announce fleet expansion,” pointed out Motilal Oswal Securities in a report. Though IndiGo continues to be the most cost-efficient and low-cost player, consistent fleet induction could further suppress load factors and yields in the near term, added the brokerage.

Another worry is the company saying it will re-think matching fares more aggressively with competitors. That implies pressure on profit margins in the days to come. In any case, the current quarter is a leaner one for the sector so expectations will run low. Nevertheless, the point remains that there are few triggers for the stock to outperform from a near-to-medium term perspective. IndiGo shares have already underperformed broader markets in 2016.