Whalesbook
Negotiations Aim to Stabilize Fuel Costs
These talks aim to ease the rising costs for India's aviation sector, fueled by global instability and market swings. While the negotiations suggest cooperation, they involve complex issues like political timing, industry weaknesses, and global supply chain problems that could affect long-term stability.
Airlines Propose Crack Spread Cap
Airlines and oil marketing companies (OMCs) are discussing a cap for the 'crack spread,' a component of Aviation Turbine Fuel (ATF) pricing. They propose setting it between $10 and $22 per barrel. This aims to prevent ATF prices from reaching over ₹2 lakh per kilolitre, a sharp jump from March's price of ₹96,000. While this could protect airlines from sudden price hikes, OMCs warn that a fixed crack spread doesn't reflect true refining costs. An OMC executive noted that specialized storage and export duties also reduce refiner profits beyond the crack spread. The proposed band means OMCs could benefit if the spread drops below $10 but would absorb lower margins if it rises above $22.
Global Crisis Drives Fuel Prices Up
The West Asia crisis is heightening the need for stable prices. The conflict has disrupted major shipping routes, including the Strait of Hormuz, which handles about 20% of global oil. This has sent crude oil prices soaring, with Brent futures nearing $120 per barrel. As a result, refining margins across Asia have turned negative, dropping from highs of $40-45 to between -$5 and -$10. Jet fuel supply is particularly tight, with fewer tankers available and higher shipping costs due to war risks and rerouting.
Airlines Face Mounting Debt
India's aviation sector remains highly vulnerable to cost shocks, burdened by significant debt. Net debt, including lease obligations, is projected to reach ₹1.1 lakh crore by March 2026, increasing the debt-to-operating profit ratio to 5-5.5 times. ICRA forecasts industry-wide net losses to widen to ₹17,000–₹18,000 crore in FY2026. Past airline failures like Kingfisher Airlines and Jet Airways serve as stark warnings of the risks from high costs and debt. Although domestic passenger traffic is expected to grow, fuel costs, which make up 30-40% of operating expenses, remain a major hurdle. InterGlobe Aviation (IndiGo) faces valuation pressure despite recent profit improvements, while SpiceJet continues to report substantial losses.
Oil Companies Grapple with Pressures
Indian oil companies are operating in a difficult financial climate. While they are key to the ATF price talks, they also face pressure from the government's reluctance to raise retail fuel prices before upcoming state elections. This political sensitivity, combined with crude oil prices more than doubling, severely impacts their profits. Heavy export duties on diesel (₹21.50/litre) and ATF (₹29.50/litre) further reduce profitability. Even with the proposed crack spread cap, oil companies could still see squeezed margins if global crude and crack spread prices remain unfavorable, especially since their actual refining costs aren't fully covered by fixed components.
Export Duties Add Strain
India's decision to re-impose steep export duties on diesel and ATF has mixed effects. While intended to secure domestic supply by discouraging exports and potentially help oil companies by lowering domestic sales losses, these duties directly cut into refining margins. These levies effectively reduce export earnings, narrowing the gap between export and domestic profit margins. While strong international profit margins for refined products might still make some exports worthwhile, though with lower profits, these duties add another financial strain on refiners and oil companies.
Long-Term Challenges Remain
The proposed crack spread fix may give airlines short-term relief, but it doesn't fix the underlying weaknesses. The Indian aviation sector's high debt and past struggles with profitability mean it remains vulnerable to any sustained rise in operating costs. The West Asia crisis shows no signs of ending soon, suggesting continued price volatility and supply risks for crude oil and jet fuel. For oil companies, the need to keep domestic fuel prices steady during elections, along with export duties, creates a tough margin situation. If these pressures aren't managed well, airlines and fuel suppliers could face more financial problems, possibly needing more government help or leading to service interruptions. Analysts point to declining interest coverage ratios and significant projected losses for FY26 as signs of ongoing financial strain.
Outlook Cautious Amid Uncertainty
While ICRA predicts a drop in net losses for India's aviation industry to ₹110-120 billion in FY2027, thanks to recovering domestic travel, the immediate future is risky. The proposed ATF price adjustment is a short-term measure in a market affected by ongoing global and economic uncertainties. The success of this agreement depends on how long the West Asia conflict lasts and the government's continued management of domestic fuel price concerns. Without a stronger plan for sector debt and the volatile global energy market, more trouble is likely for Indian aviation and its fuel providers. Analysts remain cautious, stressing that the industry's ability to manage rising costs and external shocks without hurting passenger demand will be key.