Domestic aviation companies may be staring at the end of a three year joyride. This joyride saw the Indian Rupee trade almost unchanged and the crude prices at a near low.
However all of this has changed and the sector is expected to pile up losses says a report from rating agency Crisil. The industry is overlooking a loss of Rs 9300 crores (earnings before interest and tax). This will surpass a loss of Rs 7,348 crore in fiscal 2014.
The two key components that contribute to a loss to India's aviation sector are Forex and Crude Oil or Aviation Turbine Fuel (ATF). ATF accounts for 35-40% of the total cost of airlines. With ATF prices expected to average 28% higher on-year compared with fiscal 2018, the impact will be significant.
The government has taken some measures to support the industry by lowering the excise duty levied on ATF by 300 basis points to 11%, "but this will not materially curb the losses," says the report.
Aircraft, engine rentals and maintenance costs, which are denominated in US dollars, together account for another 30-35% of the costs.
The blow on this count is also expected to be severe given that the rupee has depreciated 13% against the dollar since March 2018.
"Almost two-thirds of an airline's cost, and therefore profitability, is susceptible to fluctuations in forex rates and ATF prices," explained Sachin Gupta, Senior Director, CRISIL Ratings.
"To offset the increase in operating cost, the industry will have to raise average fares by 12% -- that, too, assuming there is no change in the passenger load factor (PLF). But the aggressive expansion plans of carriers and the race to maintain high PLFs will keep competitive intensity high and limit their ability to increase fares."
PLFs are highly sensitive to fares. In the past three fiscals, benign ATF prices helped airlines keep fares stable. Despite annual capacity growth of 15% in the past three fiscals, PLFs increased because passenger growth was faster at 18%.
Another headwind to fare hike is the significant fleet addition planned in the near-term, which will lead to capacity addition of over 20%. Such a sharp increase in supply will keep the competitive intensity high and will constrain the ability of carriers to undertake fare hikes to pass on the increase in operating costs fully.
This was evident in the first quarter of fiscal 2019 when, despite a 12% rise in ATF prices, only one of the three listed players was able to increase yields, and that, too, by just 4%. Yields are unlikely to have increased in the second quarter, which is traditionally weak.
Furthermore, the depreciation in the rupee will translate into higher debt liability.
"Airlines have sizeable foreign currency debt, while their revenues are largely earned in rupees," said Nitesh Jain, Director, CRISIL Ratings.
"With nearly 73% of their debt denominated in foreign currency, the debt liability of the three listed airlines (aggregate market share of 71%) will go up by 10% this fiscal."
In the statement, CRISIL analysts said that they believed the credit profiles of airlines will remain under pressure over near-to-medium term on account of significant increase in operating cost and limited ability to pass on cost increases to customers because of intense competition.
Further, full service carriers will feel a much sharper impact than low-cost carriers, the note added.