Domestic airlines have suffered since the Covid-19 pandemic began due to hesitancy around taking a crowded flight, the government’s travel restrictions, and soaring crude oil prices. But as travel recovers right on the cusp of the festive season, SpiceJet, the second-largest domestic airline, expects the worst is over.

'We are less concerned about the competitiveness of the airline industry and are focusing more on reviving our own business', Arun Khurana, Head of Investor Relations at SpiceJet said during an analyst call. The company is aiming to increase its operations to cater to festive season demand and in building its logistics business SpiceXpress and Logistics. In the midst of this, it is combating higher fuel costs and a changing competitive landscape. Will SpiceJet be able to deal with these changes and come out stronger?

Key Takeaways:

• SpiceJet downsized operations in Q1 and Q2 due to the second wave resulting in loss of market share to low-cost carriers - GoFirst and Air India Express (under Air India)

• SpiceJet’s passenger load factor remains the best in the domestic market at 79%

• Boeing 737 Max 8s to be reintroduced in October, increasing total capacity

• Fuel costs at elevated levels (over $70 a barrel) will continue to stress bottom line

• Expects to break even in Q3 or Q4 due to the festive season demand and the Uttar Pradesh elections

• Air India buyout will change the competitive landscape for domestic carriers, but Jet Airways and Akasa Airlines’ entry will not pose a threat to SpiceJet

SpiceJet loses market share as passenger traffic improves

In Q2FY22, domestic air traffic improved as the government allowed airline’s to increase their operating capacity. This passenger traffic revival will carry onto Q3FY22 due to the festive season, Khurana said. In August, when airlines operated at 85% of pre-Covid capacity (compared to 72.5% in July), Indian airlines flew 2.3 lakh passengers a day. This number is expected to jump 50% to reach 3.5 lakh passengers a day by mid Q3FY22.

Khurana expects airline traffic to “come back with a vengeance” especially in the Diwali season (first week of November). Weekend air traffic in September was 3 lakh passengers per day, which is higher than March 2021 levels of 2.6 lakh passengers per day. 

For airlines with a small market share (like SpiceJet), a major concern will be fighting off the market leader IndiGo (operated by InterGlobe Aviation). As of August 2021, IndiGo’s market share was 57% and SpiceJet’s market share was less than 9%. From the peak of the second wave, IndiGo’s market share rose due to its larger fleet size (290 airplanes) and presence in the top-20 domestic destinations. This came at the cost of other smaller airlines like SpiceJet.

Return of Boeing 737 Max is a game changer

The company is hopeful its market share will improve in Q3 with the re-introduction of its Boeing 737 Max 8 planes, Khurana said. In March 2019, the Directorate General of Civil Aviation (DGCI) barred Boeing’s ‘737 Max 8’ planes from flying due to its much-publicized, high casualty crashes in FY19. SpiceJet is the only domestic airline to operate these planes, with 13 planes in its fleet. Khurana said four 737 Max 8 planes will be operational by mid-October and the rest by the end of Q3FY22. 

The return of these planes to SpiceJet’s fleet will add to the airlines’ capacity and reduce its fuel costs as well. Boeing’s 737 Max 8 has a capacity of 180-200 seats, more than any other plane in SpiceJet’s fleet and more than IndiGo’s most used plane, the Airbus A320neo ( 180 seats). The return of the 737 Max 8 planes to SpiceJet’s fleet would be a “game changer” as its fuel costs will fall by an estimated 20%, Khurana said.

SpiceJet’s plane utilisation is greater than its competitors and the reintroduction of ‘737 Max 8’ will add to that, said Khurana. Airlines’ plane utilisation is measured by the passenger load factor, a measure of the capacity utilisation of airlines based on the number of passengers carried to available seats. SpiceJet’s passenger load factor rose from May to August.

Khurana said the airline’s load factor could reach 80-83% during the peak of the festive season. To fuel this growth in efficiency, the company recently partnered with the online travel agency (OTA) EaseMyTrip. SpiceJet’s holiday booking services will be done through the OTA which could push the passenger load factor to about 85% in December, Khurana said.

Air traffic is picking up pace, but SpiceJet’s falling market share indicates that the airline is falling behind. However, Khurana said the airline downsized operations by 16% in Q2FY22 to contain losses. This is evidenced by the airline’s lower departures than smaller low-cost carriers (Air India Express, Go First) even though its fleet size is larger.

Khurana said the company will wait till air traffic picks up before ramping up operations. The return of its Boeing ‘737 Max 8’ aircraft will indeed be a “gamechanger” when SpiceJet increases its operations. But for this to happen, fuel costs need to moderate.

Fuel costs rising fast as cash runs out

SpiceJet has not made a quarterly net profit since December 2019, but Khurana expects the airline to break even in Q3. A key factor in the airline reporting a net profit is the movement in crude oil prices. Crude oil is used to make airline turbine fuel (ATF), which comprises nearly 30% of SpiceJet’s expenses. With oil prices rising in 2021, SpiceJet’s fuel expenses rose significantly.

In addition to the festive demand factor, for SpiceJet to break even in Q3FY22, crude oil prices must remain below $80 a barrel. The average price of crude oil in Q2FY22 was $73, a 6% increase QoQ, and a 20% increase since the beginning of the year. The optimal price of crude oil which would allow the airline to make a profit is close to $60 a barrel. If oil prices rise to  $90 a barrel, it would be “impossible” for airlines to make money, Khurana said.

Rising fuel prices in addition to lower demand are burning a hole in SpiceJet’s cash reserves.  Since the start of the pandemic, the company’s cash burn was Rs 2,000 crore, Khurana said. In February 2021 (at 2.6 lakh passengers a day), SpiceJet was burning Rs 16 crore per day with crude oil at $62 a barrel. In Q1FY22, with operations reduced, the daily cash burn rate dropped to Rs 10 crore.

In order to boost cash reserves, SpiceJet is looking to raise funds. In September, the airline received shareholder approval to raise Rs 2,500 crore through a qualified institutional placement (QIP). However, the QIP has not been completed yet, and Khurana said this was because the company has not found the right price to raise funds. SpiceJet’s stock is down by 30% in 2021, trading close to Rs 75 levels. 

Khurana notes because the market has not found the right price for airline shares even IndiGo has not raised funds yet. Back in May during the peak of the second wave, InterGlobe Aviation’s shareholders approved a QIP of Rs 3,000 crore. However, IndiGo was facing difficulties convincing investors to invest in a cash-strapped and stressed industry.

SpiceJet’s logistics business SpiceXpress and Logistics (SpiceXpress) is being overlooked by investors, according to management. The airline transferred its cargo business to SpiceXpress for Rs 2,555 crore on a slump sale basis. Analysts said this sale would reduce SpiceJet’s negative net worth to Rs 745 crore in Q2FY22 from Rs 3,300 crore in Q1FY22. 

Khurana expects SpiceJet’s cargo business to be more important in the coming quarters due to increasing e-commerce shipments. SpiceXpress generated a net profit of Rs 30 crore in Q1FY22, while the core passenger business posted a net loss of Rs 731 crore. In FY21 SpiceXpress’ revenue was Rs 473 crore, a 2.8X growth YoY, with margins of 10-12%. Based on strong fundamentals and the increasing importance of cargo, the company believes the business is worth over $1 billion (Rs 7,500 crore). 

Competition intensifies: Air India buyout and Akasa’s entry

Just when the market thought the airline industry was getting back to normal, it would seem another inflection point is near. Two major airlines — Air India and Jet Airways — are going through a massive ownership change and the Rakesh Jhunjhunwala-backed Akasa Airlines (Akasa) is all set to enter the highly competitive commercial airline market. The two main bidders in the Air India sale are the Tata Group and SpiceJet’s founder and promoter Ajay Singh. However, unconfirmed reports suggest that the Tata Group’s bid has been accepted by the government.

Khurana called Air India the “jewel in the crown” for its eventual owner for two reasons. First, the government-owned airline’s international market share (12% as of FY20 among Indian and international airlines) will help the buyer scale international operations. Second, the airlines’ high belly cargo (air freight on passenger airlines) capacity among passenger airlines would provide synergies with domestic carriers’ logistics services.

SpiceJet is apparently not worried about the entry of another low-cost carrier (LCC) in Akasa. In the analysts call Khurana said, “Akasa only has 20 confirmed planes in its fleet, and it would gain a 2% market share initially. Even when its fleet jumps 3X to the proposed size of 60-70 planes, it will not pose a threat to LCCs for at least two years.” He added that even with the re-introduction of Jet Airways, SpiceJet will not lose market share. 

In SpiceJet’s eyes, the real threat and the Godzilla it needs to overcome is the market leader IndiGo. Out of domestic airlines’ 570 operational planes, IndiGo owns 51% of them. For Spicejet, that’s the uphill battle it currently faces.

Watch the full analyst call.