The turmoil in the Indian airline industry during the month of October has produced results that can be, only mildly described as, significant. In just four weeks, castles built over the last four or more years, have come crashing down.
By the end of 2008, the Indian airline industry which accounts for less than 2% of the global airline market, will contribute about $2 billion, or over 33%, of the total global losses. This dire, lop-sided situation, which can be attributed to only primary factor – gross imbalance. It is ironic, that the demand – supply imbalance in the Indian airline industry, is resulting in this imbalance between market share and losses share.
How did the situation become so dire?
Over the last 4 years, the Indian airline industry has created this imbalance thanks to rampant and blind expansion. It was all on auto-pilot, thanks to low fuel prices and a robust economy.
In 2008, along came the “perfect storm” and the reality struck home. Skyrocketing fuel prices since late 2007, married to a populist fuel pricing policy by the central and state governments in India which grossly overtaxed aviation turbine fuel (ATF), and sent the already high fuel prices in to the stratosphere, followed by a slowing economy thanks to the global financial credit crises and subsequent meltdown of demand, and uncontrolled costs.
Capt. G.R. Gopinath’s Air Deccan believed in bring airlines to the masses. To expand customer base Air Deccan expanded in to the smallest of cities, and given that, India is an extremely price sensitive country, offered fares that were at par with, or just marginally above, that of the Indian Railways, known to be one of the most economical railways in the world.
Along with with Air Deccan (now Kingfisher Red), low cost carriers (LCCs) Air Sahara (now JetLite), SpiceJet, IndiGo, and GoAir commenced. India seemed destined for low cost paradise, as even full service carriers, Indian Airlines (now Air India), Jet Airways, and Kingfisher Airlines, scrambled to develop low cost fare models of their own.
Thanks to the unbridled expansion, HR costs went in to orbit. From expatriate flight crews to the ground handlers, people were at a premium, and airlines paid, and paid way to well.
Another problem is, India does not have adequate full service airports, let alone, separate low cost airports like Europe and North America.
At all major airports across the country the skies became heavily congested, and it was not uncommon to hear an announcement from the Captain “Ladies and Gentlemen, welcome to Delhi. We are 25th in line for landing, and should land 2 hours from now”. This on a 1.5 hour flight.
The higher costs of full service airports, these delays, and systemic inefficiencies eroded the advantage LCCs in Europe and North America enjoy, i.e., making 9+ flights per day per aircraft, compared to 6 or less in India, and only added to the operating cost burden on all airlines, particularly the LCCs.
As global fuel prices rose, thanks to the fuel taxation policy in India, which makes ATF about 70% costlier than global standards, the impact on airlines was even more severe.
The airlines began to bleed profusely. Unable to sustain, airlines have been raising their prices over the last year, in some non-metro routes, by over 100%. The price sensitive Indian market, particularly in Tier II cities began to slow down.
In parallel, along came the economic slowdown. Demand slowed, and passengers across the board began tightening their belts. The bottom fell out of the market, as passengers shifted from the skies back to rail and bus. At the same time, new airports at Hyderabad and Bangalore were commissioned in the first half of 2008, these airports are far away from the city, and the long and costly commute, along with the rising air fares, totally erased demand in the regional routes, the demand-strength on which LCCs had based their massive expansion plans.
Domestic traffic has contracted over the last four months, declining by as much as 19% in Sep-08. Growth has fallen from 33%+ to over -20% within the span of just six months.
Indian domestic passenger numbers and passenger numbers growth: Jan-07 to Sep-08
In desperation, airlines have been resorting to steps, hitherto unthinkable, to stop their bleeding and cash burn.
To bolster yields per flight, airlines have cut capacity by 17% in the six months Apr to Sep 2008, and the further increase in prices have had even more impact on demand. Jet and Kingfisher entered in to an alliance, which left the jaws of most Indians agape on the floor, given the severe competition between them. Staff, including precious flight crew, started getting the axe. CEOs of three airlines are no longer there. Despite a 20%+ reduction in fuel prices (thanks to taxation cuts and falling crude prices), no fare reductions are being passed on to the passenger. The massive fleet expansions have been put on hold. Aircraft deliveries are being delayed. Aircraft already produced are being sold off to other global airlines. Aircraft in the fleet are being returned back. Disagreements and litigations will ensue, but the airlines have no choice. Their backs are against the wall.
The reduction in fuel prices will provide short term relief, but the outstanding fuel bills of the airlines are gigantic. Capacity reduction will have its impact only if properly rationalised with demand.
While, domestic demand crashed through the floor, the one bright spot was international traffic growth, which has remained consistently robust at 10% year-on-year for the first half of FY 2008-09. However, as the global economic slowdown has started taking its toll on international travel, many carriers, such as Singapore Airlines, Finnair, Austrian, British Airways, and KLM have announced capacity cuts and withdrawal of service. At the same time, with the Middle East being a robust market, Gulf carriers continue to grow. Emirates has become the largest foreign carrier in India and will aggressively expand from 132 to 163 weekly services over the next six months.
I am reminded of the Chinese saying “may you live in interesting times”. The rest of 2008 and whole of 2009 is going to be very interesting indeed. The medium term growth for the Indian airline industry is bright, but only for those who survive.
Kapil Kaul, CEO, Indian Subcontinent & Middle East, The Centre for Asia Pacific Aviation, gives us a look behind the scenes…
Jet-Kingfisher alliance – the unthinkable happens
The Jet Airways-Kingfisher alliance, which although unthinkable just a few weeks ago, is a reflection of the current fragile state of the market. The primary objective of this arrangement is to bring together the two largest players in the market, with overlapping networks, to reduce capacity and align it with demand, whilst at the same time being in a position to influence fares. At this stage, it would appear that this alliance will lead to extensive engagement and integration between the two carriers.
Key elements of the alliance will include code-sharing; interline and special prorate agreements; network rationalisation; joint fuel management; common ground handling; GDS integration; frequent flyer reciprocity and human resource sharing.
The alliance is yet to take-off in any meaningful way, to date there have been some initial meetings, but it is too soon to expect any concrete steps. The initial focus will be on network, commercial and revenue management issues. Both carriers are hoping that a reduction in capacity, optimisation of their respective networks, higher yields and lower fuel prices, together with the generally strong demand in the third quarter, should reduce losses. The future of the alliance depends on both carriers seeing equal and measurable improvements in performance.
Jet Airways restructuring
Jet Airways is similarly restructuring its domestic and international operations. Jet has reduced its capacity in H1 2008/09 by 13%. The combined seat production of Jet and JetLite has declined from around 56,000 daily seats in April 2008 to 50,000 in Sep-08.
Jet is actively pursuing a cost reduction strategy – staff rightsizing is a key element of this and has been implemented actively at JetLite. The recent attempt to do so at Jet Airways was poorly timed and managed, resulting in a significant media and political uproar. However, other measures include a zero commission structure, a focus on direct distribution and e-commerce, renegotiating GDS fees and other measures. Maintenance and operational issues are currently under intensive review.
On the other hand, investment is being made in strengthening areas considered weak, such as the overseas sales network which has not been making a sufficient contribution to the international routes. Targeted sales and marketing initiatives are being pursued to enhance revenue and yield.
The integration of Jet Airways and JetLite continues and although the process has been longer and more challenging than anticipated, positive results are expected to be seen shortly.
As a result of focusing on core operational and commercial issues over the last six months, the Jet Airways/JetLite combine has increased its market share lead over Kingfisher/Kingfisher Red and has posted much healthier load factors in the last quarter.
Seven B737s are being returned prior to the end of this year, while five B777s are being leased to Turkish Airlines, allowing for capacity on North American routes to be better aligned with demand. These routes have been under significant pressure. Deliveries due in the next 12-18 months are being deferred and no new international routes are expected during this period.
JetLite is expected to operate with a full strength of 24 aircraft shortly with the return of two CRJs from maintenance.
Kingfisher rationalising its capacity
The first steps of rationalisation can already be seen: Kingfisher Airlines has sold five A340-500s, which would suggest that plans to launch non-stop services to the US have been shelved for the time being. The current fleet of five A330s has two aircraft being used for the Bangalore-London route, with the remaining three aircraft yet to be deployed: routes under consideration are Mumbai-London; Mumbai-Singapore and Mumbai-Hong Kong.
On the domestic front, seven A320s are being returned in Nov/Dec and further reduction is still expected. Some A320s may be redeployed on short-haul international routes, primarily to the Middle East, where they can be used for back-of-the-clock operations. The ATR fleet is also under review, Kingfisher is reportedly not happy with the performance of the regional aircraft.
No expansion in the fleet is expected for the next 12-18 months.
The focus is on achieving commercial stability, stemming cash losses and addressing issues related to the integration of Kingfisher Red. The next 12-18 months will be a time of consolidation in terms of people, systems, operations and commercial issues and to restructure the cost base to compete more effectively.
SpiceJet and IndiGo consider their futures
The two largest independent LCCs are taking a cautious approach with respect to capacity expansion, SpiceJet has leased five of its aircraft to other airlines and is operating with a fleet of 15 aircraft. Its second quarter results were significantly below expectations and continued performance at this level will set the stage for further realignment.
IndiGo has also leased two A320s to Turkish Airlines and is evaluating fleet induction plans for the next 12-18 months.
Both carriers will benefit from lower oil prices and are launching some fare initiatives to stimulate the market. SpiceJet is currently the more vulnerable of the two carriers, despite its recent cash injection by a US-based private equity firm.
Air India ill-equipped to handle current environment
Air India is expected to show continued weakness in its domestic operations. The Jet-Kingfisher alliance will further accelerate this.
Air India is possibly the only domestic airline in India which does not have a modern yield management system – most fare decisions are taken manually.
Internal issues related to the merger between Air India and Indian, staff morale and a public sector mindset, continue to play havoc with its operations.
A massive cost-cutting exercise is under way which includes:
- Fuel conservation measures, for which IATA is assisting with an efficiency gap analysis;
- Older, less fuel-efficient B747s and A300s are being retired and leases on B747s and A310s are not being renewed. Of the 111 aircraft on order, 38 have been delivered, which has reduced the average age of the fleet from 14 years to ten years;
- International operations are being reviewed and the network is being restructured, including the suspension of certain loss-making routes;
- Reduction in weight and category of inflight catering.
However, Air India lacks the management strength to navigate the significant issues which it faces to be able to effectively challenge other players. Furthermore, with political impediments to rightsizing its workforce of 35,000, achieving a viable business model will remain tough.