IndiGo may end up biting off more than it can chew

ET Intelligence Group: The steep fall of nearly 6% in the stock of InterGlobe Aviation, the company that operates IndiGo airline, on Friday , shows investor concern over its interest in buying a stake in Air India. Key factors making investors wary include Air India's large debt pile, relatively less profitable operations and lack of clarity on the possible deal structure.

According to sector experts, there appears to be a difference between the government's approach to Air India's sale and the interest of corporates like InterGlobe Aviation. The government plans to sell Air India and subsidiaries as a consolidated package. Corporates, on the other hand, are more interested in cherry-picking the airline's lucrative assets. For instance, InterGlobe has expressed interest in Air India's overseas business without any reference to the latter's debt pile.

Air India has debt of over Rs 52,000 crore. Of this, Rs 22,000 crore is backed by assets while Rs 30,000 crore is working capital debt. Some of its real estate properties in Delhi, Mumbai, Chennai and Hyderabad have been mortgaged with banks.

Its market share fell in the past five years to 13 per cent from close to 19 per cent in 2012. In 2017 till date, the airline clocked load factor of over 81 per cent, as against 85-92 per cent for its competitors.

Considering these facts, buying a stake in Air India and taking exposure to its domestic operations would not be a profitable for InterGlobe. In addition, the mixed fleet composition of Air India (Boeing and Airbus aircraft) would increase operating cost of IndiGo, a single-fleet (Airbus) operator.

Another concern is, the combined entity --if the acquisition takes place -will have more than 50 per cent market share in India. This may prompt Competition Commission of India to reduce excessive influence in ticket pricing by thwarting the deal.

This may explain InterGlobe's interest in international operations of Air India, which contribute two-thirds to the national carrier's revenue. In FY16, Air India's market share in international operations was 16.7 per cent while it was 3.3 per cent for IndiGo, show Directorate General of Civil Aviation (DGCA) data.

According to some analysts, one way to deal with Air India's debt is by creating a special purpose vehicle (SPV), which hosts its assets. The SPV will provide steady income to service debt.

Apart from the assets such as slots, brand, experienced staff, and aircraft, Air India has three profitable subsidiaries: Air India Engineering Services, the maintenance, repair and overhaul (MRO) unit; Air India Transport Services, the ground handling subsidiary; and Air India Charters, which operates the low-cost Air India Express.

The SPV structure may attract potential suitors. However, an outright sale of Air India, instead, may not serve the purpose for InterGlobe Aviation as it will stretch its balance sheet enormously. It had debt to equity ratio of 0.6 in FY17.