InterGlobe Aviation Ltd is in an envious spot. The shares have skyrocketed a whopping 80% in the past one year, driven by its strategic position in the underdeveloped Indian aviation market.
InterGlobe runs the IndiGo airline, which is India’s largest and also among the top five aviation companies across the world by market capitalization.
FY24 was a milestone in the company’s journey as it swung to profit after incurring losses for four consecutive years. Net profit of over ₹8,000 crore was its best yet.
FY25 could be better than last year with the management expecting an early double-digit capacity growth, provided prices of fuel, which form a large chunk of operating costs of airlines, remain stable.
In Q1FY25, the company is likely to see 10-12% growth year-on-year. This growth would restore capacity to levels seen before the accelerated inspection of engines due to the powder metal issue, which had grounded 35 aircraft (12% of its fleet) in Q4FY24. By the end of FY24, the company operated 367 aircraft.
The company plans to launch business-class service on India’s busiest routes by the end of the year, a move aimed at increasing revenue rather than attracting a larger customer base.
Currently, IndiGo operates flights without differentiation. With high load factors exceeding 80% over the past two years, this move aims to boost yield through premium pricing rather than merely attracting more passengers. Yield is the price per passenger for one kilometre.
Further details about the business-class offering, routes, and launch dates will be disclosed in August. Initially, the pricing for business class may not be significantly higher to avoid competition with Tata group airlines, potentially resulting in a muted impact on the airline’s yield.
There are also plans to start business class service on international routes, including flights from Delhi to the Gulf.
Why premiumization?
The pertinent question here: Why the need for this initiative when the airline has been doing well on operational and financial parameters? Even when the yield remained flat in FY24, the volume growth in terms of revenue per kilometer (RPK) stayed strong at 27%.
This was aided by lower aviation turbine fuel costs, a derivative of crude oil. The average Brent crude price for FY24 was $82/barrel, down from $95/barrel in FY23. Consequently, IndiGo’s aircraft fuel cost dropped to ₹1.72 per available seat kilometer (ASK) from ₹2.07 in FY23, significantly improving profit margins (spreads) to ₹0.43 from a negative ₹0.11.
Oil’s not well
To be sure, crude oil prices are volatile and unpredictable. IndiGo’s earnings are highly sensitive to these fluctuations, which is one reason for the stock’s low valuation multiple. Thus, it is necessary for the management to consider yield enhancement strategies.
If crude price rises sharply, there is limited scope to increase airfares despite IndiGo’s 60% market share of domestic air passenger traffic. Moreover, if airfares increase steeply, consumers with non-urgent travel needs start evaluating other transport options for travel such as rail and road, which adversely impacts the load factor of the airline. Load factors are critical as the fixed cost of aircraft fuel stays constant irrespective of the number of passengers carried in a flight.
IndiGo’s shares trade at a price-to-earnings multiple of 20x based on Bloomberg consensus FY25 earnings per share estimate. While IndiGo’s strong financial health and superior profit metrics put it in a sweet spot, the sharp rally in the stock may be factoring near-term positives adequately, for now.
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