Rationale

 The reaffirmation of ratings for InterGlobe Aviation Limited's (IAL, operator of IndiGo airlines) factors in the expectation of improvement in passenger volumes (both domestic and international) that, given the company's scale, extensive network, low-cost and cost competitive positioning, will likely translate into improved cash flowsstarting FY2023. It also reflects IndiGo's strong liquidity position, with sizable free cash balances and access to undrawn lines of credit, which provides it healthy flexibility to absorb some short-term weakening in industry conditions due to elevated crude prices and transient Covid-variant waves. The passenger traffic volumes improved in a swift manner post the abatement of infections during the second wave and led to an improved performance of the aviation sector in Q3 FY2022. Even as the industry was impacted by the Omicron wave during December 2021-January 2022, the recovery in demand following the decline in infections has been swift and raises confidence about the efficacy of vaccination and reduced travel averseness among the populace. IndiGo, being the largest domestic passenger airline remains relatively strongly placed to benefit from a recovery in air travel. This is reflected in the sustained market share of 55% in 10M FY2022 (up from 49% in FY2020, viz. pre-pandemic), healthy load factors (averaged at 80% in Q3 FY2022) and a 113% YoY increase in its revenues in 9M FY2022. Going forward, with international operations opening- up (scheduled to commence from March 27, 2022), pent-up demand from leisure and business segments, improving global vaccination coverage and easing international travel restrictions, are expected to aid higher capacity utilisations and yields. Despite the muted demand due to the pandemic, IndiGo's healthy operating efficiencies and recalibrated cost management strategies have aided it in sequentially reducing its cash burn; the company reported net profits in Q3 FY2022, a first after seven consecutive quarters of losses on account of increased capacity deployment (as DGCA lifted domestic capacity restrictions from October 18, 2021), improved load factors observed due to swift pickup in air travel demand and stronger yields. It was able to shore-up incremental liquidity of nearly Rs. 6,600 crore in FY2021 and Rs. 2,600 crore in H1 FY2022 through various cost rationalisation initiatives, monetisation of owned aircraft and engines and additional credit lines from banks. The company had received shareholders' approval to raise up to Rs. 3,000 crore from the capital market to augment liquidity in Q1 FY2022 in case required; however, the faster than expected recovery in demand led to improved cash flows and mitigated any need to do so in FY2022. Nevertheless, the sharp surge in aviation turbine fuel (ATF) prices in CY2022, due to the ongoing geopolitical crisis, is expected be an overhang on the company's profitability and liquidity position in the nearterm. However, ICRA takes comfort from IndiGo demonstrated ability to maintain adequate liquidity, and its strategy to induct fuel-efficient NEO aircraft and retire older CEOs from its active fleet will partially offset the impact of higher fuel price. The competitive intensity in the domestic airline industry is expected to increase in the near-term, with entry of new players and sizable fleet addition by incumbent players. While the recovery in passenger traffic to pre-pandemic levels could be faster in FY2023 with opening-up of commercial international operations, industry cashflows are likely to remain impacted due to the record high ATF prices and limited ability to pass on the cost pressures to passengers in the form of increased fares. While the positive trend in yields, as observed in Q3 FY2022 gives hope of industry maintaining some pricing sanity, sustainability of the same going forward remains to be seen. Additionally, the muted demand over the past two years led to extensive cash losses for IndiGo (and the industry) since the onset of the pandemic, thereby weakening company's credit metrices. While ICRA expects a modest improvement in the company's financial leverage and coverage indicators as the operations ramp-up (and cash flows turn positive), the high fuel prices and possible INR depreciation may keep the metrices stretched in FY2023 and will remain a monitorable. The Negative outlook on IAL's rating reflects ICRA's view that while passenger traffic recovery is expected to witness a pick-up in FY2023, the elevated ATF prices, uncertainty regarding crude prices and increased competition will keep the credit metrics of airline players, including IndiGo, under pressure. A reversal in ATF prices to more sustainable levels would be a key rating sensitivity in the near-term.