Indian Aviation Sector: On Borrowed Wings
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The Indian airspace is buzzing with a fresh spell of activity, with foreign players scanning the horizon for opportunities to grow their wingspan. While this indicates that foreign players still foresee value in the Indian aviation space, will it be correct to allow foreign players to capture the Indian skies? Prasanna Bidkar takes stock.
The aviation space in India has suddenly turned quite vibrant, with fresh news arriving from all quarters. Whether it is the special price cuts announced by leading aviation companies or the announcement of Kingfisher Airlines paying salaries to its employees, or for that matter approaching the aviation regulator seeking licence renewal despite being in dire straits, the developments have surprised one and all on the street. The surprise is quite natural, with aviation companies doubled over under the pressure of high debt burdens and mounting losses, and investors shying away from the aviation pack. We at DSIJ had also categorically asked our readers to stay away from the sector in a special report ‘Airline Industry: A Hard Landing After A Dream Run’ carried in Issue # 4 (dated February 10, 2013).
What has suddenly changed for the sector to be in the limelight again? As they say, change is the only constant in life and the aviation sector is no exception to it. Apart from the factors already mentioned, a lot more has happened in the sector, putting it under the spotlight again. The most significant is the world’s leading low cost carrier, Malaysia-based AirAsia, seeking permission to enter India’s domestic airspace. What makes this news more noteworthy is AirAsia seeking an alliance with the trusted and efficient Tata Group.
Here is a detailed analysis which seeks to answer that one vital question – will the aviation sector succeed in its attempt to get new wings?
Special Offers – Will They Help?
It is a known fact that all the Indian aviation players are facing a financial crunch and are always looking out for new avenues to generate cash flows. The increased FDI limit provided them a good opportunity to raise funds by diluting or selling stake to foreign airlines. However, the fact remains that not a single deal on this front has happened so far. Though Jet Airways and Etihad were reportedly close to a deal, that too seems to have fizzled out.
So, aviation players put in place a different kind of a strategy to get over the cash crunch – offering specially discounted fares. SpiceJet kicked off the trend by offering forward tickets at special rates. This was followed by other players like Jet Airways, Indigo and even the state-run Air India. While SpiceJet managed to garner around Rs 300-350 crore, Jet Airways targeted to generate Rs 600-650 crore. This, for obvious reasons, seems to be a better way of generating cash flows rather than sinking in debt. Subhash Goyal, Chairman, STIC Travel Group concurs with our view. He says, “According to me, these fare cuts by airlines are primarily tactical measures to boost business and improve their cash flows. It seems to be a better option rather than borrowing more funds from banks”.[PAGE BREAK]
Selling Of International Slots – Not A Viable Long-Term Option
Apart from special fares, Jet Airways has gone ahead and sold three of its international slots to Etihad Airways for USD 70 million (approximately Rs 375 crore). Surely this has created a good amount of reserves for this cash strapped company, but the selling of international routes will only impact the company negatively in the long run.
One of the best examples of such self destruction was Air India selling its profitable routes to private and foreign players. Since then, the financial performance of Air India has only depleted, taking the state-run airlines to an abyss. In this regard, Goyal says, “In the long run, we are weakening our position in the global aviation space by following a short-term approach. We should focus on strategic alliances, code share agreements with foreign airlines rather than surrendering our valuable routes”.
However, many investors took this move to be a positive, the simple reason for this being that they consider it a first step by Etihad Airways towards forming an alliance with Jet. But again, this seems to be highly speculative and hence, it would be prudent to not jump the gun and wait for the deal to happen in letter and spirit.
What is even more confusing is the reports suggesting that Jet has approached the DGCA to acquire six of the vacant slots (two international) belonging to Kingfisher Airlines. The question is, if Jet is interested in buying new slots, why did it sell the slots that it owned in the first place?
Now consider this. Kingfisher Airlines seems to be trying to rebuild itself. According to media reports, Kingfisher has apparently paid salaries of some of its employees that it had kept on hold since May 2012. Though the company has not mentioned anything about rejuvenating itself, payment of salaries looks like a first step towards this. However, a confirmation on this part is as elusive as the salaries have been so far. In all the scenarios that can be imagined even in the wildest of our dreams, restarting Kingfisher could cost anything around Rs 4500-5000 crore, and hence, it is better to awake from this pipe dream.
AirAsia – Will It Be A Game Changer?
The biggest surprise has been AirAsia’s decision to enter the seemingly beleaguered Indian airspace. AirAsia is the largest low cost carrier in the world and is seeking permission from the Foreign Investment Promotion Board (FIPB) to enter the Indian domestic airline space. It intends to put in 49 per cent in a joint venture, with Tata Sons contributing to 30 per cent of the capital and Arun Bhatia’s Telestra Tradeplace bringing in the remaining 21 per cent.
Will AirAsia’s entry really change the way India flies? Will it be a real game changer, particularly when most of the aviation companies are facing mid-air turbulence?[PAGE BREAK]
The opinion on this is fairly divided. A school of thought feels that AirAsia could pose a serious threat to domestic players. It has demonstrated its success in markets like Malaysia, Indonesia, Philippines and Japan, and is expected to replicate the same here too. On the other hand, another section is of the opinion that the entry of an established player like AirAsia supported by the Tatas and Telestra, both of which are strong on the local domain knowledge front, will result in the development of a long lasting business, ultimately helping the industry to build incremental passenger numbers.
In our view, AirAsia’s entry would not pose a major threat to Indian players. One needs to understand the factors which have helped AirAsia succeed in the other aforementioned markets. The key reasons for its success out there were the availability of cheap fuel and lower terminal operation costs. This is why AirAsia’s unit costs are significantly lower than those of Indian carriers. Other factors that help the company are its lower distribution costs and the fact that it operates single aircraft types. All this eventually leads to higher aircraft utilisation.
To put this in perspective, unit costs or cost per available seat kilometre (CASK) refers to the expenses on flying one seat (whether empty or occupied) over a kilometre. In case of Jet, the CASK stands at around 9 US Cents, which is more than double that of AirAsia, which operates at 4.4 US Cents. (See Figure: Airlines Unit Cost). But here, the counter argument is that the advantages as mentioned earlier will not be available to AirAsia in highly regulated markets like India. So, keeping fares lower may not be possible for a longer time unless it sacrifices some part of its bottomline.
AirAsia’s management has categorically stated that it would be initially investing USD 30 million in this venture. This does not seem to be a big bang entry. Also, it would be operating only three to four A-320 planes so as to get to know how Tier II and Tier III cities which have lower terminal costs deliver. Flying routes to and from busy routes like Delhi and Mumbai is a big no for it right now.
Will this strategy pay off? If AirAsia’s tryst so far with India, where it operates only international flights from outside to here, is anything to go by, it has definitely not been able to crack the market well. In 2008, AirAsia stirred the airline industry when it announced that it would fly into India from southeast Asia. Then, it tried what it is best known for – reducing fares to compete.Despite these aggressive offerings, it failed to make its presence felt in the Indian market and in fact, even to sustain those rock-bottom fares. In recent years, the airline has cut down its India operations, going down to six slots from nine and having moved out of key markets of Mumbai and Delhi owing to high airport taxes.
In the domestic market too, AirAsia will face stiff competition from the likes of Indigo, which follows a similar model of utilising the aircraft to its fullest capacity and reducing unit cost. Also, if AirAsia triggers a fare war, Indian players will certainly not shy away from jumping into the fray. In fact, AirAsia would have by now tasted how bitter a price war can get in India, where the bulk of consumers are more sensitive to price points than anything else. So, though AirAsia has its own strengths, it can hardly create much of an impact in the Indian markets, at least in the short run.
The airline has recently applied for a licence and would take time to scale up. Hence, on an immediate basis, we cannot say that AirAsia is a threat to Indian aviation players. Rather, you are looking at just another player in the Indian skies.
The civil aviation industry in India cannot live in isolation. The willingness of foreign players to enter the Indian skies will ultimately force our regulators and the government to understand, protect and nurture the ‘low-cost model’, which is the most apt one for the mass Indian consumer. Recent developments in the aviation sector and projections from IATA, which expects air passenger traffic to bounce back in 2013, look to be slightly positive. However, Indian players have their own set of problems like higher debt and mounting losses. Hence, we still advise investors to stay away from the aviation sector as the so-called ‘recovery’ is still far away.