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Airlines are ailing, but... Aviation Remains Robust

Monday, November 21, 2011

The Aviation Industry is in the doldrums, a fact highlighted by the current plight of Kingfisher Airlines, one of the nation’s two largest listed carriers. So what does the future hold? Mayura Shanbaug does a reality check on the industry’s travails and bring forth views from the experts on what went wrong and how could it be corrected. Their primary belief is that despite many private airlines being in the red, the industry itself remains robust and some estimate industry growth at 25% YoY, as India's civil aviation passenger growth is among the highest in the world. Her report…

Jet and Kingfisher, the nation's two largest listed carriers, have lost a combined Rs 6,300 crore ($1.2 billion) in three years. Air India has been ailing since a 2007 merger, causing it to get Rs 3,200 crore in state bailouts. It is seeking another Rs 6,500 crore before the end of March. Besides Air India, domestic airlines like Kingfisher, Jet Airways and SpiceJet have all reported losses due to high costs of operation and now face a severe liquidity crunch. Kingfisher Airlines reported a loss of Rs 469 crore for the quarter ended September compared to Rs 231 crore last year, while Jet Airways recorded its biggest quarterly loss of Rs 714 crore and SpiceJet announced a loss of Rs 240 crore against a profit of Rs 10.31 crore in the corresponding period last year.

Jet, Kingfisher and SpiceJet all the three stocks have fallen more than 60% this year on the stock market indicating the general sentiment prevalent currently.
So what went wrong?  “There are three sets of problems that are plaguing the sector,” says Dhiraj Mathur, Executive Director, PwC (PricewaterhouseCoopers), a consultancy firm. “Out of the three two namely global events and Systemic, that is policy related problems are beyond the control of airlines, where is a third set of problems that can be blamed on airlines themselves which includes irrational price wars and avoidable mergers and acquisitions,” says he.

Neither the merger of Air India and Indian Airlines could generate profit, nor has the acquisition of Sahara Airlines by the Jet Airways or Deccan Airlines by Kingfisher brought in the desired results, consequently putting a huge debt in the profit and loss account of the airlines.

According to Ankur Bhatia Executive Director, Bird Group, a technology provider company to the aviation Industry, selling below cost price has broken the back bone of the industry. “High aviation turbine fuel (ATF) prices, rising labour costs and shortage of skilled labour plus the  rapid fleet expansion, intense price competition (read low fares) and taxes are some of the other factors responsible,” he says.

“The problem was also compounded by the weakening rupee and entry of new players in the industry even before the existing players could stabilize their operations. As a result of the already weak domestic scenario, the airlines suffered even further when the recession, which exacerbated all these factors, hit,” he added. Apart from these factors, poor infrastructure at airport and high airport charges put further pressure on the operators.

Unviable Routes is another burden for the industry. Thus, the first thing Kingfisher Airlines resorted to in the face of a crises was to stop flying on unviable routes, which brings forth the unique situation of operators who continue to fly to the remote places of India even after incurring huge losses.

“ It’s a very unique situation where in the government wants airlines to continue flying the unviable routes felicitating connectivity,  without offering any cross subsidy to the airline operators, ” complains Mathur. “In fact there are additional state taxes levied upon them, “he adds. “ Why should they have a financial bail-out package only for Air India?” he questions.

Incidentally, almost all experts unanimously agree that a low fare in the era of high fuel prices is nothing but financial hara-kiri for the airlines. Fingers are being pointed towards state-owned Air India by the private players for compounding a price war that has caused industry wide losses.

"Ideally, fares should go up when oil-import costs go up. That's not happening and that's why airlines are in this situation,” says Bhatia.

“There is nothing called as low cost carriers (LCC) as apart from the meal that is not served on the flights of LCC, the rest of the cost is as it is, without any other cost benefits, just like fully -serviced carriers,” said  Vijay Mallya , Chairman , Kingfisher Airlines in a press conference recently.

Should Airlines raise fares?  
Air India fares are submitted and approved by the Directorate General of Civil Aviation (DGCA). Every other airline in India also needs to file fares with the industry regulator.

With DGCA issuing a diktat a few days ago asking private airlines not to increase fares, the option also ruled out. “The regulator isn't asking airlines to stop offering low fares, E.K. Bharat Bhushan, Director General, DGCA, said in New Delhi on Thursday. “The authority will "step in only if there is a huge aberration," he explained.

But the “Government has no business fixing fares, “laments Mathur. If the government   believes in a free market then they should allow airlines to operate in free markets,” Mathur adds. 

So Is FDI the quick fix solution?
The Government has been forced under the prevailing circumstances to take a faster decision on Foreign Direct Investment (FDI) in Indian air carriers and a decision on the same is expected in a couple of weeks.

According to the reports, the Aviation Ministry has proposed a 24 per cent investment by foreign airlines and the Cabinet is likely to take a call on the issue.

“There can never be a quick fix solution for the industry, FDI is the need of the hour to infuse the much needed capital in the sector,” says Mathur.

 Kingfisher Airlines Chairman Vijay Mallya also advocates FDI in the aviation sector.  “I am an avid supporter of FDI in the aviation sector. I don’t see any reason why foreign airlines are banned or not permitted in becoming a strategic partner in an airline here. Who else understands the airline business better than the airline itself? I hope the Government will consider FDI in aviation sector seriously,” he says.

Though Department of Industrial Policy and Promotion (DIPP) feels that allowing foreign airlines to invest in domestic carriers would help them raise the much needed equity, it does not find support among most of the domestic airlines, which feel that fledgling carriers would be susceptible to hostile takeovers as they are passing through a difficult financial situation.

While 24 per cent cap for foreign airlines doesn’t allow them voting rights, 26 per cent cap gives them the same. “Domestic airlines feel that the entry of foreign airlines will add barriers to their global aspirations. As far as FDI is concerned we should go for the higher equity and restrictive voting rights model,” explains Mathur.

The other remedies that are taken by the airlines include selling and leasing back some planes to raise capital. Jet plans to sell and lease back some planes to repay $300 million of loans within six months.

“Selling and leasing  for raising funds is not the good option as airlines loose out on their operating business,” says Ankur Bhatia. “Reducing the existing capacities to cut down losses and reconfiguration of the fleet could be the solution, “he adds.

“Government could think of giving relief to operators by lowering taxes on the fuel plus reducing sales taxes levied by states,” suggests Mathur.

The Future …
Research indicates that the global aviation industry is poised to grow at a healthy 5.6% CAGR over the next 15 years. While major conventional mature markets such as the US and Europe will witness a significant fall in market share from 61% to 52%, emerging markets, such as India, China and the Middle East, offer great growth potential.

A strong surge in demand by domestic passengers continues, primarily due to the burgeoning middle class with its massive purchasing power, attractive low fares offered by the low cost carriers, the growth of domestic tourism in India and increasing outbound travel from India. In addition, the Government has also focused on modernizing non-metro airports, opening up new international routes, establishing new airports and renovating existing ones. Some estimate industry growth at 25% YoY.

Despite many private airlines being in the red, the industry itself remains robust. According to the views expressed by Kapil Kaul, CEO India & Middle East, Centre for Asia Pacific Aviation (CAPA) a few days ago, India's civil aviation passenger growth is among the highest in the world.

 “The sector is slated to cruise far ahead of other Asian giants like China or even strong economies like France and Australia. The number of passengers who will be airborne by 2020 would be a whopping 400 million,” he adds.

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