The viability of low-cost airlines in India
IBA Group analyst Usman Ahmed considers the prospects of the subcontinental LCC sector.
The 4th Annual Indian and Asian Airfinance Conference was held in New Delhi on 12th & 13th March. The event was attended by over 100 delegates plus invited speakers from the local airlines, international banks, leasing companies and advisory organisations.
Most of the delegates wanted to hear two things – how are the airlines performing and Will they be able to secure finance for the new deliveries (i.e. what is the appetite amongst the banks and lessors)?
The Indian government is now preparing to relax its rules on the foreign ownership of airlines. There is a growing concern about airline access to capital at a time of falling yields, the lack of investors, and battered bank balance sheets.
Making foreign investment easier is seen as part of the fix for these ills. India’s cash-starved airlines are eager for a change, as they expect to lose up to US US$2 billion in the fiscal year ending 31st March. As a result of the changes, foreign investors would be allowed to invest in domestic carriers, which would provide the much-needed cash for these airlines.
Across all the operators there is an order backlog in excess of 450 aircraft for delivery over the next two years and industry analysts and bankers are right to ask the question: is there too much capacity? To consider this question requires a review of some of the leading airlines and how they stand.
IBA invites the reader to draw their own conclusions:
Air India, in many ways, is sitting pretty since it enjoys Sovereign Guarantees and hence can benefit from Exim Export Credit Support. This means that the chances of funding from international banks remains an almost certainty. Their 10 B777s have all been financed and deliveries run from 2009–2011, with 27 B787s also on order.
Air India controls nearly 16.3% of the domestic market, is the third major carrier behind Jet Airways and Kingfisher and is the overall second-largest airline in India in terms of passengers carried on both international and domestic routes.
The carrier is pleading for more cash and is likely to get a low-interest or no-interest loan from the government soon, but private airlines are finding it tougher and tougher to raise cash. With significant overcapacity remaining as airlines grew so quickly to gain market share, they are now deferring aircraft orders and halting ambitious expansion plans.
Air India has been going through a major transformation for over the past two years. It has been inducting new aircraft for the first time in well over a decade, has new and improved in-flight service standards, introduced new long-haul flights and in-flight products, has been merging with the former Indian Airlines. It is also modernising IT systems and is expected to become a Star Alliance member by end of March. The changes were long overdue and experts agree that without them, the airline was doomed to fail, especially when surrounded by aggressive new players in the market.
However, the carrier still has real problems and not everyone believes that the change process has addressed the core issues; Air India still has to work on its balance sheet and high staff numbers. It also acknowledges the fact that it could do with fewer employees, although this is a politically sensitive issue; unlike other countries, the government is likely to support its cause to retain staff.
The political climate certainly favours the airline and its policies - even though it is expected to lose nearly US $600 million this year. Some will argue that this can be justified as a result of merger and modernisation, and the government will ensure the airline continues to implement its new policies and has plenty of cash available to remain in operation.
Kingfisher Airlines (notable by its absence) has historically enjoyed lessor support, European ECA-backed finance and loans from several international banks. However in the last 12 months, there have been order deferrals and cancellations, aircraft repossessions by GECAS following a highly publicised court case, and reports of late payments on loans and leases. Kingfisher merged with Deccan last year and although there still remains a large orderbook with some 100 deliveries, only 17 are scheduled between 2009–2010.
The orders were placed in the booming era of the Indian airline sector, when only a year ago, annual growth hit 42%. As a result of the then traffic growth, the ambitious expansion plans from Kingfisher could be justified, it can be argued. On the other hand the consolidation in the form of merger with Air Deccan and tie-up with Jet Airways has yet to show fruit.
There is still too much capacity in the market and air fares remain low in an environment where costs, particularly from fuel taxes, can be as high as 30% in some states. Despite its size and having gained domination in both the premium and low-cost sectors, it was not immune to cash problems and rising operating costs.
Perhaps the biggest lesson learned in 2008 is that India’s market is a remarkably price-sensitive one. The unprecedented fall in demand since last June was due to the rise in air fares; the airlines were simply responding to high fuel prices and taxes.
Kingfisher has also taken a deferral option on majority of its deliveries from Airbus, including A380s, A320s and A330s. All network expansion plans are on hold and it is planning to remain mainly a domestic operator until it devises its next strategies to survive in this financial storm. An interesting fact is that out of the 82 aircraft currently in Kingfisher’s fleet, only two are owned by the airline; the overwhelming majority are leased from a diverse range of 30 lessors and banks.
In this situation the airline as it stands is not even committing to delivery dates, and it seems highly unlikely that it would seek to finance these deliveries and obtain bank backing.
IndiGo has a fleet of twenty A320s on lease from a variety of lessors including GECAS, DAE, Genesis and Allco. The business has been established on a low-cost model that has allowed for aggressive expansion, as demonstrated by an order book of 77 A320 family aircraft, scheduled for delivery between 2009 and 2012. Historically, IndiGo has been able to negotiate a higher-than-acquisition cost value when securing sale/leasebacks on some of the existing fleet, which has helped its cashflow.
Going forward into 2010/2011, it is much less likely that lessors will do A320 sale/leasebacks at such high loan to value. Has this been factored into Indigo’s growth plans or can we expect to see attempts to sell slots or defer deliveries?
IndiGo has already placed one A320 order with a new Turkish charter start-up, Turkuaz Airlines. This indicates that IndiGo is following the same course of action as other airlines in the region. The load factors at IndiGo are down 5% compared to the previous year, despite the fact that the airline carried over 4.7 million passengers in 2008, an increase of 46% in one year. IndiGo’s cash situation is likely to be weak as it was set up in 2006, and financing the deliveries are going to be extremely difficult.
Spicejet has a grown a leased fleet of B737-800 & 900ERs from five to 19 since 2006. In February 2009, it was reported as having 12% of the domestic market, compared to Indigo's 13%, Kingfisher at 27% and Air India at 17%. Spicejet has a further 9 B737-800s on order and would appear more likely to be able to take on these aircraft considering its share of the domestic market.
The airline was set up in 2005 following in the footsteps and success of Air Deccan. The airline reported 65.5% load factor at the end of 2008, down 7% compared to previous years. Passenger traffic, however, was up nearly three quarters of a million at around 4.1 million in 2008.
Spicejet, being a new carrier, has not made any profits since its first flight according to its financial results. This is likely to cause cashflow problems in the near future and it may have to defer aircraft deliveries. Reports are already suggesting that four deliveries scheduled for 2009 and five for 2010 are estimated and are yet to be confirmed. Spicejet has been able to secure finance on some late deliveries in December 2008 and is less likely to have any issues with deliveries this year.
The carrier is also reportedly in talks to merge with its smaller rival GoAir. Experts are not sure how the consolidation or merger will work as SpiceJet is publicly owned while GoAir is privately owned. Whatever the outcome may be, the main aim is to actively seek out measures to cut costs and ride safely through this financial storm.
International Bureau of Aviation Group is a UK-based independent aviation consultancy. For more information, please visit www.ibagroup.com