Weak demand to keep up pressure on aviation sector; IndiGo better placed

Representative image (REUTERS/Randall Hill)

After the lockdown starting from March 25 due to COVID-19 impact, the domestic aviation industry resumed its operations from May 25.

The sector, which was already struggling due to shrinking revenues and margins, is among one of the worst-hit sectors by the pandemic.

Experts point out that the aviation sector globally operates at very thin margins due to high competition from low-cost carriers (LCC) and higher fixed cost.

While the operations have begun with restrictions, the sky for aviation players continues to look hazy.

Domestic civil air operations commenced from May 25, 2020, with the Ministry of Civil Aviation (MoCA) permitting airlines to operate at one-third of their approved summer schedule capacity.

"Despite the resumption of operations, the capacity utilisation remained low at about 40 percent with weak demand and cautious view of public and corporates. We expect the demand situation to be weak for the next couple of months given the increasing COVID-19 case across the country," said Vinod Nair, Head of Research at Geojit Financial Services.

Nair expects that in the near-term, the travel and tourism activities will be limited due to fear of pandemic spread which will hit the companies' profitability.

"Given hit on profitability, we expect consolidation in fleet operators in the short-term. Though airlines enjoyed some respite in terms of ATF prices, given the high fixed cost it is not helping the situation," said Nair.

Nair expects the situation to gradually improve starting from August to September 2020.

"We continue to have a positive long term growth story of the aviation sector in India but considering near-term demand headwinds and likelihood of higher losses, we have a 'neutral' view on the sector," said Nair.

Domestic brokerage firm Centrum Broking believes that one-third of scheduled capacity was a reasonable starting point for the sector given the current demand.

"With current capacity at nearly 25 percent, we expect a gradual ramp-up in operations from here on. Experience of other countries which have gone through the COVID-19 lockdown and restart process indicate that after 3-4 months of the peak of virus spread the airlines are operating or likely to operate at nearly 50 percent of the capacity," said the brokerage.

"In India we expect airlines to operate at nearly 50-55 percent levels by end of Q2FY21 and strong improvement thereon. Overall, we expect the domestic air passenger (PAX) traffic to decline 57 percent year-on-year to 6.1 crore in FY21 and a sharp revival with 95 percent year-on-year growth in FY22 to 11.9 crore (16 percent below FY20)," Centrum said.

IndiGo better placed

Among the aviation players, InterGlobe Aviation (IndiGo) is better placed in comparison to its peers, say brokerages and analysts.

"IndiGo, given its strong balance sheet, liquidity enhancement measures and dominant market position is well placed to capitalise on the recovery. We have a 'buy' rating on IndiGo with a target price of Rs 1,244. We have a 'reduce' rating on SpiceJet with a target price of Rs 33," said Centrum.

However, despite a strong balance sheet and dominant market position, the near-term outlook for even IndiGo is feeble.

Nair of Geojit Financial Services said he has a constructive view on Indigo’s on a long term horizon due to a strong balance sheet, significant market leadership and expansion in international operations. But, given near-term concerns in the sector, he has temporarily dropped coverage on the stock.

"We have temporarily dropped coverage on the stock, given a high amount of stoppage in operations leading to difficulty in estimating the likely impact in such an evolving situation. We may relook our rating in future as clarity emerges," Nair said.

A week back, IndiGo's Chief Executive Officer Ronojoy Dutta told CNBC-TV18 that the company can raise Rs 3,000-Rs 5,000 crore by leasing its assets, including aircraft and engines.

IndiGo will take the delivery of around 120 fuel-efficient neo aircraft over the next two years and would simultaneously retire another 120 A320ceos, he said.

The airline believes that the biggest opportunity to save costs lies in the fleet and hence plans to focus on the efficiency of aircraft in use. The country's largest airline is also lowering maintenance costs and renegotiating contracts with suppliers.

Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are their own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.