Higher costs and Covid curbs to weigh on airline profitability, revenues

Comfort of cheaper turbine fuel evaporates as crude prices hit highest level since March

Stocks of airlines InterGlobe Aviation (IndiGo) and SpiceJet fell 2-4 per cent on Wednesday on worries that a possible second wave of Covid-19 infections in key states such as Maharashtra and jump in crude oil prices could hurt revenues and profitability. The two largest private carriers have been struggling to improve their load factors after the government allowed them to operate domestic flights from the last week of May.

Though capacity restrictions have been lifted gradually, airlines can only operate at 70 per cent of the pre-Covid capacity on domestic routes. While lower load factors and passenger traffic have weighed on their revenues, what helped the two companies was the lower crude oil prices. Aviation turbine fuel costs had slid 31 per cent in the September quarter.

The gains, however, could get wiped out going ahead as crude oil prices have risen to their highest levels since March on hopes of Covid vaccine success as well as rebound in economic activity early next year in key markets such as the US.

In addition to the fuel impact, how the rupee moves against the dollar is also crucial as maintenance, lease and foreign currency loans are payable in the greenback. A 10 per cent change in crude oil prices and dollar-rupee rate has a high single digit impact on profitability of aviation companies. 

What should help companies such as SpiceJet is the return of 737 Max aircraft from the March quarter. Analysts at Edelweiss Research point out the higher capacity of the Max at 220 seats as compared to the current 180 seats in 737 NG along with 20 per cent higher fuel efficiency, which will translate to higher profitability. Fuel-efficient Airbus Neos are expected to help IndiGo save on fuel costs.

The bigger worry is the impact on revenue due to the concerns related to second wave of the pandemic in some states. Recently, the Maharashtra government had made it mandatory for travellers coming from Goa, Delhi, Rajasthan and Gujarat to take the Covid-19 test (RT-PCR). With business and leisure segment expected to see a dip in the second half of the financial year, new restrictions could lead to further pressure on load factors.

Given the worries both on the revenue and cost fronts, investors should keep away from aviation stocks.