Why Etihad deal is a big positive for Jet

Experts say that three pairs of Heathrow Airport parking slots sale & the deal when it comes through will be a positive for Jet Airways

The Jet Airways stock jumped 19 per cent on news the company has sold (and leased back for own use) three pairs of Heathrow Airport parking slots at London for $70 million to Etihad Airways and that talks on equity participation by the Abu Dhabi-based carrier are on track.

The company, which had reported losses in some of the recent quarters, needs the money to reduce its debt and improve cash flows. Experts say the slot sale as well as the deal when it comes through, will be positive for Jet Airways. Says Mehraboon Irani, principal & head – private client group, Nirmal Bang Securities, “The deal, if it comes through, will be positive for Jet Airways as it will partly address balance sheet concerns and boost international revenues. Jet is desperate (due to cash flow issues and leveraged balance sheet) to do the deal.”

Equity participation by Etihad is likely to result in operational benefits as well for Jet Airways. Says Deven Choksey, managing director of KR Choksey, “As with its other minority stakes in airlines, Etihad wants to leverage its resources which will result in cost reductions both on an operational (sharing infrastructure and fuel management) as well as at the financial levels by bring down the cost of funds.”

While there are positives, analysts are divided with Bloomberg data showing five analysts have a ‘buy’, while two have a ‘hold’ and four have a ‘sell’ on the stock.

Among those who are bearish, an analyst at a leading domestic brokerage firm, says, “The deal, when it comes through, will bring in $300-400 million, which will only partly tackle the $2.5 billion debt on its books. Expect a dilution upwards of 25 per cent given the equity base expansion post the stake sale. Finally, today’s sale and lease back means profitability (due to increase in rentals) is likely to be sacrificed in the short term.”

Jasdeep Walia of Kotak Institutional Equities in a note on February 26 says the deal is absolutely essential if the Jet Airways business is to remain viable. “Jet has large debt repayment of $400 million in FY2014 (similar amount in FY2013) out of which $200 million is on account of working capital. Also, there are overdue bills of Rs 500 crore, which need to be cleared,” he says. He believes that sale and lease back transactions, while they will release funds to repay debt, will also increase costs. Refinancing loans at 13-14 per cent is not an option, he says.  Wednesday’s news about Jet also suggests that the company will be getting a soft loan of $400 million at about three per cent in annual interest rate. If these turn out to be correct, along with the Heathrow deal, fund flow concerns would ease for Jet. However, analysts say there could be an upgrade for the stock if there are regulatory changes.

Says Irani of Nirmal Bang, “While the government has taken many positive steps (FDI, direct ATF import), the rationalisation of VAT for aviation turbine fuel at four per cent will be key to helping the airline keep costs under check.

On the operational front, however, business dynamics continue to operate against the airline. Fuel prices are up nine per cent over the last two months and the situation is worsened by a falling rupee, increasing fuel (which accounts for 45 per cent of Jet’s operating costs) and aircraft leasing expenses.

HSBC Global Research analysts, Rajani Khetan and Mark Webb, in a recent report say the fuel price increase is a negative for earnings prospects unless it is passed on without impacting demand. “Indian air traffic demand is price-sensitive and fare increases over the past three quarters have caused air travel demand to fall,” they add. Domestic traffic has fallen for seven months year-on-year during May to November 2012. Further, with the pricing discipline being broken, a spate of discount offers could impact yields, which have stayed strong over the past three quarter.