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Q3 good on expected lines; demand-supply outlook is improving, but macro overhangs remain

Better yields in Q3FY22 came as a welcome surprise, generating Rs1.2bn PAT for InterGlobe Aviation (IndiGo). We take cognisance of the Rs4.09 RASK in Q3, which reflects the demand for travel. We earlier highlighted our relatively constructive position in the near-term demand-supply equation of the Indian airlines (link) and believe gross spread can remain high. The combination of continued availability of advance sales (there has been no complete lockdown) and Airbus neo inductions also put the balance sheet in a stronger position (Rs34.2bn net free cash as of Q3FY22 vs Rs15.8bn Q2FY22). However, the uncertainty of repeat covid waves and high crude prices remain significant overhangs. Upgrade from Sell to HOLD with a revised target price of Rs1,871 (Rs1,650 earlier), based on 20x (unchanged) FY24E EPS of Rs93.5 (earlier, FY23E EPS of Rs82.4).

Better employee management can be an under-appreciated competitive advantage: The need for tactical management of flight schedules and maintaining customer expectations are difficult tasks during covid times. Better management of these tasks can create cost efficiencies as well as a better customer proposition, which can be a competitive advantage at least in the medium term

Q3 was always expected to be a good quarter, but >Rs4 RASK is a key takeaway. The high RASK is a combination of pent-up demand (both international and domestic), Government cost floors, which remain valid for current 15 days’ window and better fares in connecting routes in India beyond metro markets. The beyond-metro markets in India normally have better fares and could benefit IndiGo as some of its LCC peers are forced to spread thin across their network. It is difficult to expect sustainability of RASK at >Rs4, but can happen in seasonally strong Q3/Q1 quarters in the future.

We factor-in operating spread (RASK-CASK) at Rs0.32/ASK for a steady-state year (FY24E). This can be split between gross spread (RASK-fuel) of Rs2.95 (25% higher than average Rs2.35 between FY16-FY20) and the CASK ex-fuel of Rs2.63 (21% higher than average Rs2.17 between FY16-FY20). The increase in gross spread is expected from rationalisation in supply along with fuel efficiency achieved through new fleet, while increase in CASK ex-fuel will be driven by cost inflation

Demand-supply equation can tighten over the medium term in absence of any more covid waves FY23E onward. This tightness is coming principally from the replacement cycle of aircraft inducted during FY14-FY18, exit of Jet Airways and gradual expansion of all domestic airlines into the international segment. However, the salience of the demand-supply equation is valid only if there is no further covid-related impact FY23E onward and there is complete international traffic resumption from FY24E (see our detailed thematic link).

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