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Five factors to watch out when investing in airline companies
Spicejet, a listed low-cost airline, recently announced that promoters would inject capital into the company. Jet Airways is reported to be in the process of raising capital from an overseas investor. Kingfisher Airlines is also said to be talking to investors to get started all over again.
Fundamentals of an airline company are just like any other business. However, there is an underlying risk of not managing an airline well. Recent history shows that dabbling in the glamorous business of aviation has often proven to be an expensive mistake for many.
Here are 5 key factors investors should watch out for:
Profit/Loss: Most airlines in the world make losses. So if an airline has been bleeding, yet somehow it has managed to continue to keep flying, rest assured that it is an airline funded by the government like Air India, India's state-owned carrier. A private airline making losses hurtles to a shutdown very quickly. Case in point- Kingfisher Airlines. The company posted heavy losses for over two years until it had no money to pay salaries, its suppliers or even its tax dues. The operational performance of the airlines can be measured by EBIDTAR- Earnings Before Interest, Tax, Depreciation, Amortisation and Rentals/Restructuring costs. Since airlines do not own all of their aircrafts but take them on lease, EBIDTAR gives a better picture of their profitability than EBIDTA (without rental costs). For example, cost cutting steps by Jet Airways like reducing rentals on its aircrafts by leasing out some of those aircrafts and withdrawing flights from loss-making routes led to its EBIDTAR growing by a whopping 250% to Rs 651 cr for Sept 2012 quarter over the same quarter last
Yields and Load Factors: Before the company slips into losses, what begins to take a hit are the airlines' "yields". In other words "yields" are like profit margins for airlines. They are calculated on the basis of how much revenues an airline earns for flying a passenger for a mile. Revenues for an airline are high if the company is flying more passengers. An indicator of how many passengers an airline is flying is Load Factor. For instance when an airline has a load factor of 81.3% it means on average 81.3% of its seats on a flight were occupied with paying passengers. Currently, aviation turbine fuel (ATF) costs are so high in India that it has pulled down yields for airlines.
Fleet Size and Market Share:An airline gets more passengers and makes more revenue when customers prefer to fly the airline over others. Hence, airlines are frequently seen engaging in a battle for "market share", which represents how many people chose an airline out of a given set of customers. If an airline has more aircrafts, it would be able to get more customers and its market share will go up. Yet, in the airline business, it is just not so simple. The total number and type of aircrafts or the fleet of an airline is critical. For example, an aircraft that's big but not fuel efficient can severely hurt an airline's profitability. This is perhaps the reason why Air India recently inducted the Boeing 787 Dreamliner. The plane saves fuel costs. Managing a fleet size is very important in managing costs for an airline. So just because an airline has higher market share or has many planes does not mean it has the financial strength to survive.
Airfares: Airfares determine the yields for an airline. Even when costs are high, higher airfares can help the airline recover their costs. But the regulator in India - Director General of Civil Aviation (DGCA) monitors local airfares. Airlines are often careful not to increase fares to such an extent that the regulator steps in to protect consumer's interest. A regulatory intervention puts a cap on the ability of airlines to make more profits.
Debt Levels:Two years of slowing economic growth has put a lot of pressure on airline companies. Airlines have had to borrow more from banks to sustain operations. Banks on the other hand have demanded owners to put in their own money as equity in the airline to pay off debt. Globally, when airlines see a gap between assets and liabilities, they file for bankruptcy protection. For example, in US, AMR, the holding company for American Airlines filed for bankruptcy when it found debt levels rising. Lenders then have to work out a formula to make it possible for an airline to run its operation and manage repayment of debt. In India, Kingfisher Airlines stopped operations due to rising debt.
India's aviation sector employs 340 foreign pilots, according to a report in the Wall Street Journal. This is 35 per cent lower than last year. The report argues that foreign pilots add to high costs of operation on domestic carriers. The cut in the number of foreign pilots could save valuable cash for Indian domestic carriers struggling to raise capital.