InterGlobe Aviation (Indigo) is transforming its business strategy, which is perceived as a U-turn from its already successful strategy. We met the management to understand if the investor caution is warranted. We believe the new strategy will help Indigo to be ahead of the curve in terms of gaining market share, improving profitability and efficient capital utilisation. With air passenger traffic growth at >15%, we believe, adding significant capacity will help capture further market share. Further, the resolution of A320 neo engine issues will expedite capacity expansion and improve the margin. Maintain ‘buy’.
To meet the public shareholding requirement, last week the company did a QIP of Rs 25 billion and an offer for sale (OFS) of Rs 15 billion. Indigo has been the most active user of sale-and-leaseback financing under which a lessor will purchase the aircraft from the airline and lease it back. This removes the debt from the airline’s balance sheet and allows it invest equity after some other purpose. However, recently the company announced that it will be looking at owning some aircraft instead of only operating on leases. While management mentioned lower cost of owning an aircraft vs leasing it as the key reason, the other key reason is that the A320 neos have been impacted by engine issues resulting in some lessors not keen on taking up these aircraft on their books. Lessors may find it difficult to place the A320 neos with reasonable price at least for next one year. Thus, for Indigo, it makes sense to hold onto them and capitalise later.
Further, a new accounting norm IFRS 16 will also negate the positives of leasing and staying asset-light. From January 2019, the total rental obligation across the lease duration of an aircraft will be counted as debt. It means if a plane is leased for 7 years, the current value of total lease rental payments to be made across those 7 years will be added to outstanding debt. Moreover, Indigo has no problem of capital. It sits on a free cash of `77 billion/ $1.2 billion.