IndiGo, SpiceJet face turbulence amid rising crude, competition: Analysts

Airline stocks -- InterGlobe Aviation and SpiceJet -- have had a hard landing on the bourses so far this calendar year. Shares of IndiGo airlines have tumbled 10 per cent on a year-to-date (YTD) basis, while those of SpiceJet have crashed 30.2 per cent. In comparison, the benchmark S&P BSE Sensex has slipped 4.6 per cent YTD, and the BSE MidCap and SmallCap indices have dipped 7.3 per cent and 10.5 per cent, respectively.

However, with crude oil prices soaring again, and new players -- Akasa Air and Jet Airways -- planning to take off, analysts see turbulence ahead for incumbent listed players.

"While the long-term growth story remains intact for the sector, with demand touching nearly 70 per cent of pre-Covid levels, the competitive intensity could potentially lead to pricing war. Moreover, the timing could not have been worse for increased competition as crude oil prices continue to remain elevated, which could put pressure on margin and profitability of the airlines," said Ajit Mishra, vice president-research, Religare Broking.

Ansuman Deb, sector analyst at ICICI Securities, meanwhile, added that airlines are in a period of high demand and high cost, where the cost is being driven up by crude, weaker Rupee, and inflation.

"The road ahead for incumbents will be to keep maximising yields and try keeping costs low. Some of the cost savings, including cuts in salaries will reverse now, which will push up expenses further. However, route specific innovations will be critical from here on," he added.

Brent crude is testing $123 per barrel-mark, after staying range-bound within a band of $105-110 per barrel for the better part of May. The sudden climb came after European Union leaders agreed to a partial and phased ban on Russian oil and China ended its Covid-19 lockdown in Shanghai.

According to analysts, airlines have, historically, revised air fares based on the supply situation. Thus, an upward revision in fares (if any) may be some time away. But, there are caveats.

"Airlines are not going to absorb any more rise in cost, as they haven't been able to recover the losses they suffered during the pandemic. Thus, air fares will rise by at least 25 per cent as price of crude oil has gone up, costs to refine crude has gone up (nearly 55 per cent), insurance costs for flights to Europe have gone up due to increased 'War Risk Insurance' amount, and ground handling costs have gone up at the airports. Customers will have to pay," said Mark Martin, founder and chief executive officer, Martin Consulting.

Meanwhile, Rakesh Jhunjhunwala-backed Akasa Air is mulling the launch of its commercial operations by July. Jet Airways' air operator certificate, too, was revalidated by the aviation regulator Directorate General of Civil Aviation (DGCA) earlier this month.

However, the re-launch of Jet may be a couple of months away as NCLAT has said the implementation of Jalan-Kalrock consortium resolution plan would be subject to the outcome of its order over the appeals filed before it.

Against this backdrop, analysts expect some consolidation in the industry going forward, with the impact of increased competition playing out over two-three years.

"Our supply demand model estimates that the replacement cycle of existing fleet for incumbents and the expansion of all incumbent airlines in the international sector will lead to a favourable supply deficit in Indian aviation over the next three years. The new players will also take 18-24 months before they pose serious competition. Additionally, there could be industry consolidation among incumbents," Deb of ICICI Securities said.

Investment strategy

So how should you approach the listed aviation plays?

Ambareesh Baliga, an independent market analyst, suggests investors exercise caution as despite high fares, and improved capacity utilisation, margins for airlines are faltering.

"With two more players in the fray, competition is intensifying in a seasonally weak period. Thus, airlines will continue to incur losses unless crude corrects sharply," he said.

Ajit Mishra of Religare, too, expects the stocks to be under pressure in the near-term.