SpiceJet: Facing headwinds

The airline has done better than peers but could face turbulence ahead

It’s been a difficult calendar 2018 so far for the aviation industry in India. In the March 2018 quarter, IndiGo’s profit crashed 73 per cent Y-o-Y, Jet Airways posted a huge loss compared with profit in the year-ago period and SpiceJet’s 11 per cent Y-o-Y profit growth was much slower than in the prior three quarters.

This was despite healthy growth in passenger traffic and sales revenue. The pincer of rising aviation turbine fuel cost and weak pricing power that prevented pass-through of expenses squeezed the airlines. But for ‘other income’, IndiGo and SpiceJet too would have ended up in the red in the March quarter.

On a relative basis, SpiceJet did better than its peers that saw a dip in yields (average fares) due to competitive pressures.

SpiceJet’s yield went up 8 per cent, indicating better revenue management and operations on less competitive routes.

That said, even SpiceJet was not able to recover the entire increase in fuel cost, with the airline saying that crude oil prices impacted its bottom-line by about ₹81 crore.

The market has been unforgiving towards the airline stocks. SpiceJet has slipped about 30 per cent on the bourses from its December 2017 peak.

The dismal March 2018 quarter show came on a low base; the year-ago period (March 2017 quarter) was also a weak one, impacted by demonetisation. Also, it was a sharp reversal from the revival seen in the nine months ended December 2017 when SpiceJet’s profit had risen 34 per cent y-o-y

 

 

What lies ahead for SpiceJet and its stock? On valuations, SpiceJet trades cheaper than peers. At ₹109, the SpiceJet stock discounts its consolidated trailing twelve-month earnings by 12 times compared with the 19 times IndiGo quotes at; Jet Airways posted losses in 2017-18.

The current valuation of the SpiceJet stock is also lower than its past three-year average (about 13 times).

On the business front too, SpiceJet seems better placed than peers — with pricing power, high load factors and expansion on regional routes.

That said, several factors could trip SpiceJet. One, fuel prices have risen further since March and may not retreat in a hurry.

A struggling rupee adds to the pain. Next, big capacity expansions in the industry could accentuate pricing pressures.

It does not help that domestic traffic growth could slow down due to airport infrastructure constraints in the country.

Finally, the share issue dispute with the erstwhile promoters continues to hang like a Damocles sword. Investors can sell the SpiceJet stock and wait for a more opportune time to re-enter.

Cost and capacity pressure

Global oil prices continued rising in the June quarter and now trade at about $78 a barrel. The weakness in the rupee (now about 68 to a US dollar) has increased the cost. At about ₹70,000 a kilolitre in Delhi (Indian Oil prices) in June, aviation turbine fuel (ATF) was about 50 per cent costlier than in July 2017. ATF prices could stay at elevated levels, even if it does rise too much hereon. Airlines in India could find it difficult to pass on the cost hikes. A factor that aided yields and airlines’ performance in the nine months ending December 2017 was the engine trouble that kept IndiGo’s capacity (available seat kilometres) growth under check — about 15 per cent Y-o-Y.

But the airline’s capacity growth picked up to 21 per cent in the March 2018 quarter; this may have played a major part in queering the pricing pitch.

With the engine troubles expected to ease in the coming year, IndiGo expects capacity increase of about 25 per cent in 2018-19. Being the largest player in the domestic skies, IndiGo’s capacity addition has a bearing on fares across the sector.

SpiceJet’s fleet (currently about 60 aircraft) is also set for big expansion. In fiscal 2019, the airline plans to induct 19 cost-efficient Boeing 737 MAX and 8 Q400 aircraft.

These will increase the fleet size of about 60 aircraft by more than 40 per cent. Other airlines such as GoAir and Jet Airways also plan fleet additions. All these capacity increases could keep fares under check.

Domestic passenger traffic growth, very healthy at 20 per cent or more Y-o-Y from January to April 2018, slowed down somewhat in May 2018 to 16.5 per cent. While this may be a one-off, the risk of traffic growth slowdown due capacity constraints at major airports such as Mumbai, Delhi and Chennai cannot be ignored.

SpiceJet has been regularly adding to routes under the regional connectivity scheme (UDAN) and the new Q400 aircraft will aid this expansion.

 

The UDAN scheme flights that enjoy lower airport charge, fuel costs and three-year exclusivity on routes could supplement traffic growth for SpiceJet. But if the selected routes do not deliver good traffic and profit growth, the airline could be put on the back-foot.

 

Stock trouble

Even if SpiceJet delivers against the odds on the business front, the stock runs the risk of being dragged down by the share allocation dispute with the Marans, the erstwhile promoters.

This is possibly a reason for the steep valuation discount compared with IndiGo. About a year back, SpiceJet suffered a setback when the Delhi High Court, ruling on the dispute, ordered it to deposit ₹250 crore as cash and furnish a bank guarantee of ₹229 crore in this matter; the order was upheld by the Supreme Court. The matter is now under arbitration proceedings. If SpiceJet eventually has to issue the warrants to the Marans, it could mean a sharp equity dilution of about 24 per cent – this will depress earnings per share, push up the stock’s valuation sharply, and create a dual power structure at the airline.

If SpiceJet is told to refund Rs 579 crore or more, it could dent its financial position. As on March 2018, SpiceJet had about Rs 300 crore in cash and equivalents, bank balances and other financial assets.

Aided by profit over the past year, the negative net worth has come down from about Rs 600 crore as of March 2017 to Rs 56 crore as of March 2018.

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