Engine issues cloud IndiGo growth outlook; price war may hit revenues

The InterGlobe Aviation (IndiGo) stock shed over 6 per cent in trade on Thursday after the company cut its capacity guidance for the current financial year. The company has guided for a capacity growth of 22-23 per cent for 2019-20, compared to 25 per cent target it had indicated after the July-September quarter results. The company has also guided for capacity increase of 15-20 per cent for the March quarter of 2020.

The lower capacity growth guidance is on account of engine issues for the Airbus 320neo aircraft. Over the past two months, the Director General of Civil Aviation (DGCA) has asked the company to operate aircraft which have at least one modified engine, replace all unmodified engines by January 31, 2020, and to ground aircraft with unmodified engine for every A320neo added with modified engines.

The company indicated it is working with the suppliers for modified and spare engines. The DGCA directive would mean that IndiGo will have to replace 46 out of the 98 A320neo aircraft before January 2020.

Analysts at Spark Capital have cut the capacity addition growth for the FY19-23 period for IndiGo to 16 per cent, from the earlier expectation of 21 per cent growth. A majority of the incremental A320neo capacity addition will be used to replace retiring A320ceo aircraft from 2021-22 (FY22). A320ceo aircraft accounted for 53 per cent of the company’s capacities as of September quarter.

The company has also guided for December quarter profit before tax to be similar to the one it had reported in the year-ago quarter at Rs 191 crore. The profit number in the current quarter is expected to be maintained despite mark-to-market hit on capitalised lease liabilities. Revenue per unit and cost per unit are expected to see an improvement in the range of 4 per cent and 5 per cent.

One of the main reasons for the higher costs is expensive maintenance. This metric as a proportion of unit cost jumped 52 per cent in the September quarter. Heavy maintenance and overhaul cost of the older A320ceo engines forced the company to reassess the estimates and provide for an additional Rs 320 crore for the older engines. While the cost on account of older engines are expected to come down as A320neos join the fleet, given the timeframe needed, the company has guided that maintenance costs will remain at elevated levels till FY22.

The other cost head which has seen an uptick are employee costs. Hike in pay, hiring of 600 additional pilots, and higher ground handling costs led to a 25 per cent hike in these costs in the September quarter. This, coupled with lower utilisation of aircraft, led to the cost spike in the previous quarter.

Even as costs have spiked, severe price competition even in the ongoing quarter, which is seasonally the strongest for the aviation sector, is impacting revenues. Analysts say capacities have gone back to the pre-Jet Airways collapse levels, which, coupled with cutthroat pricing, is impacting revenues and yields.