Budget 2018: How rising oil prices impact govt and aviation industry

There have been concerns over rising crude oil prices putting pressure on the Budget, but more worrying could be an impact on industry, especially aviation, since its cost of operations is steadily going up.

The benchmark Indian crude oil basket crossed $66 a barrel last week. Aviation turbine fuel is at a three-year high of Rs 57,349 a kilolitre, while the diesel price is at an all-time high of Rs 60.12 a litre (both for Delhi). With little fiscal room available for the government to manoeuvre on duties, the days of high-fuel cost are threatening to be back again. 

For the Centre, which had estimated $55 a barrel of average crude oil prices for the current year, the price rise is, nonetheless, not very discomforting since the Indian crude oil basket is below that average and was $54 till December 2017. 

Pointing out that the price rise was a big challenge for the government, Union Petroleum Minister Dharmendra Pradhan said the Centre had agreed in principle to include petroleum products within the GST ambit. “There is a consensus gaining momentum in India to bring petroleum products into GST. The GST Council is debating on it,” the minister stated at a Business Standard event.

Subsidies on kerosene and liquefied petroleum gas (LPG) crossed Rs 120 billion in the first five months against a budgetary estimate of Rs 250 billion. For the next year, however, the government’s medium-term expenditure framework had earlier estimated a drop in petroleum subsidies at Rs 180 billion in 2018-19, but that needs to be significantly revised. The current year’s trend could see the Budget keeping $65 as the average crude oil price for the next fiscal year.

What, however, helps the government are the pricing reforms undertaken since 2010 and stopping cooking gas subsidies for people above an income and consumption threshold. Subsidies are available only for 12 LPG cylinders a year and to those who earn less than Rs 1 million annually.

For industry, however, the increase in the retail price of fuel is a major concern especially since its ability to pass on the cost is limited. In the aviation industry, the recovery period for airlines began in 2015. Jet fuel, which accounts for almost 70 per cent of airline expenses, is priced at Rs 57,349 a kilolitre, compared to Rs 46,513 a kilolitre in February 2015. 

SpiceJet Chief Executive Officer (CEO) Ajay Singh said while he did not see an immediate increase in fares, there would be a long-term impact of the increase in fuel costs. “The fourth quarter is a traditionally weaker season for airlines, we might see fares going up for tickets booked closer to departure date during that time,” Singh said. Increasing fares, especially on metro routes, is easier said than done. In a highly competitive market in which a Bombay-Delhi ticket now sometimes sells cheaper that the Rajdhani 2AC fare, airlines would like to rein in other costs before increasing fares. Analysts say aggressive capacity addition by airlines leaves little room for them to increase fares. For instance, in the past one month, Indian carriers have stepped up aircraft induction from an earlier run-rate of 1.1 aircraft every week to 2.3 every week.

Growth has been led by IndiGo and GoAir, which have added more aircraft in the quarter ended December 2017.

“With the aviation turbine fuel (ATF) currently comprising 30 per cent of airline revenues, a 20 per cent increase in ATF prices would require an average increase of 7-7.5 per cent in passenger yields. A marked slowdown in passenger growth from the current 16-17 per cent range poses a risk to industry yields and hence profitability,” Santosh Hiradesai of SBI Caps wrote in a research report.

Vistara CEO Leslie Thng said: “Nobody likes an increased fuel price and especially airlines, which operate on wafer-thin margins. We had hedged some of our fuel when the price was low.” Thng said the airline, which is looking to expand internationally this summer, would like to rein in its other operating costs by taking steps such as increasing the utilisation of aircraft and reducing maintenance costs.

For state-run Air India, the rise in fuel costs could be one more problem in its disinvestment. The airline’s financial metrics improved significantly (recording an operating profit in two consecutive fiscal years) but rising fuel prices will strain its debt-laden balance sheet further. The airline’s fuel bill can increase by almost 20 per cent to Rs 75.9 billion by March 31, 2018, from Rs 63.3 billion in FY17, according to the government data. The high-diesel price is also adding to the transportation costs of other industry and agricultural commodities. For instance, for most cement companies freight expenses were higher in the first half of FY18, with nearly seven per cent increase in diesel prices. This, coupled with increase in pet coke and power prices, increased costs, said Sabyasachi Majumdar, senior vice-president and group head, Icra Ratings. 

“With expectations of higher power and fuel and freight costs in FY18 likely to continue, the same will put pressure on the profitability margins and debt metrics of the cement companies in the coming quarters. Hence, the industry players’ ability to secure increases in cement prices remains critical from the profitability perspective.”

On October 3 last year, the Union government had to cut the excise duty on both branded and unbranded petrol and diesel by Rs 2 a litre in the face of public pressure. “We have also requested states to reduce their VAT (value-added tax) component,” said Pradhan.

The excise duty cut in October was estimated to translate into a revenue loss of Rs 260 billion on an annualised basis and Rs 130 billion for the two quarters starting from then. Another excise duty cut could shave off an additional Rs 65 billion for the remaining year, which is a tough call for a government trying hard to keep the fiscal deficit at the budgetary target of 3.2 per cent of gross domestic product.