Momentum unlikely to last for SpiceJet, rating neutral

SpiceJet's stock price has risen 25% since the company announced its Q1FY13 results on July 30. In our view, both the surprise profits and the recent favourable policy change regarding FDI have led to the rise. However, the fundamental support is weakening again. Jet fuel prices have risen 13% since August 2012, now just 4% below their 2012 peak.

Meanwhile, the rupee has stayed weak. Latest domestic traffic statistics by the Directorate General of Civil Aviation suggest that domestic demand has been weakening and registering negative growth. All this suggests that the profit surprise seen in Q1 results may not last in Q2, which is also the weakest quarter for domestic travel, seasonally. Although carriers will enter the seasonally strongest period in Q3, we argue the performance will be capped by negative movements in these financial and share price drivers.

Finally, although the policy change removes a key regulatory hurdle and associated overhang from aviation stocks, the still unattractive aviation economics in India (heavily taxed fuel, constrained infrastructure, still weak pricing power due to price-sensitive demand and a government supported flag carrier) may deter potential foreign investments in the sector. While it remains a potential upside risk at this stage, the considerable uncertainty around it warrants caution in the medium term.

We continue to value SpiceJet on its average one-year forward EV/ebitda multiple of 9x and maintain our target price at R40.

After the recent performance, the stock offers limited upside from these levels. We, therefore, downgrade our rating on the stock from overweight to neutral.

The key upside risk at this stage is a potential investment interest from a foreign airline. A fall in fuel price and a strengthening of the rupee versus the US dollar are other upside risks to our estimates, rating and target price. The key downside risk is a sharp demand slowdown.

... contd.

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