Following the surprise profits reported by two of the three listed airlines, Jet Airways and Spicejet, Bank of America-Merrill Lynch said on Monday it shows the industry is on a revival and will return to profitability next fiscal.
The American investment bank also upgraded the stocks of both these companies to 'buy' from 'underperform', saying improving industry trends such as signs of ticket price hikes and reduced capacity will improve profitability.
"These carriers will substantially lower their losses in FY13 and return to profit in FY14," Bank of America-Merrill Lynch said in a report.
"We upgrade both Jet and Spicejet to buy (from underperform). Our upgrade is led by the improved pricing power led by slower than anticipated increase in supply, a sharp jump in Ebitdar due to industry yields rising by around 15 per cent this year, and rationalisation of routes. This should see these carriers substantially lower their losses in FY13 and return to profit in FY14," BofA report said.
The domestic aviation industry is struggling with nearly Rs 1 lakh crore (Rs 1 trillion) in debts, led by the state-run Air India that is sitting on a debt pile of over Rs 67,000 crore (Rs 670 billion), followed by the market leader Jet Airways Group, which has a debt of Rs 14,500 crore (Rs 145 billion), while the crippled Kingfisher Airlines had nearly 15,000 crore (Rs 150 billion) in debt and accumulated losses.
The investment bank has also increased its price target on full service carrier Jet Airways to Rs 480 from Rs 210, and to Rs 42 for low cost airline Spicejet from Rs 21-- nearly a 30 per cent upside potential for both the counters.
Last week, the country's largest carrier Jet Group had reported a profit of Rs 35.4 crore (Rs 354 million) after being in the red for the past five quarters in the June quarter, against a loss of Rs 123.2 crore (Rs 1.23 billion) a year ago, on the back of higher yield and cost management.
Similarly, Spicejet too reported Rs 56 crore (Rs 560 million) surprised profit after five quarters of losses in a row, on the back of improved capacity, cost-cutting and better realisation.
The profits came after five successive quarter of losses, against a loss of Rs 71.96 crore (Rs 719.6 million) in the June quarter of last fiscal.
"The unexpected profits posted by Jet and SpiceJet last week have raised hopes for a turnaround in the ailing airline industry after its carriers lost a combined over Rs 10,000 crore (Rs 100 billion) last year," BofA report said.
Markets are lapping up these airlines counters too. On the days of earnings, Spicejet counter jumped over 25 per cent.
This is despite the economic weakness and solely led by slower supply growth of 5-6 per cent against our earlier forecast of under 10-12 percent growth, better pricing discipline among financially weak carriers.
"Higher ticket prices and slowing economy should see the traffic slow but still more than match the supply growth (5-6 percent in FY13 estimate against under 17 percent CAGR over the past decade," the report said.
On the much-delayed FDI, the report said even if foreign airlines are allowed to pick up stake in the domestic carriers, Kingfisher may not attract interest by anyone.
On the second largest airline around three quarters back, the Kingfisher, the report said, "one of the key investor concerns has been that Kingfisher will likely be able to get the necessary funding post changes in the foreign direct investment policy.
This would enable it to stabilise operations and bring back its grounded capacity.
"However, given the large outstanding debt and vendor payments we believe this to be unlikely. We see Jet by virtue of being a full service carrier as a key beneficiary of Kingfisher's pullout."
On who will fare better in terms of earnings, the report said "in our view Jet has more levers in terms of earnings improvement as apart from the domestic yield recovery.
"It would also gain from international route rationalisation and likely induction into a Star Alliance or Sky Team."
