New carrier's entry: Turning point for Indian aviation?

AirAsia was the first global airline to seize the opportunity of FDI in domestic airlines in India. That was in February 2013.  It took another 15 months for it to receive its Air Operator Permit (AOP).  ‘Pioneer’s curse’ perhaps? 

As expected, the entry of AirAsia India, with just one aircraft, has shaken the domestic market.  A price war has been triggered. AirAsia CEO Mittu Chandilya claimed that his ‘nano-fares’ will be 35 per cent lower than current levels, and was immediately panned by competitors.  After all, nearly 90 per cent of airline costs in India – Aviation Turbine Fuel (ATF), aircraft leases, airport charges, staff salaries, Maintenance Repair and Overhaul (MRO), interest cost, office rentals, sales and distributions – are of a nearly fixed nature, leaving very little margin to play around.  In the highly competitive ASEAN market, AirAsia is known for its low turnaround time, high aircraft utilisation, avoidance of large airports, high ancillary revenue and an extreme focus on cost.

 The budget airline may decide to offer lesser freebies and cut down on check-in counters, ground staff, ferry buses, aerobridges and trade commissions.  They may rely on parent AirAsia for aircraft, MRO, training and other synergies.  All this may help reduce base fare and bring in incremental flyers. The DGCA may facilitate removal of all restrictions on ancillary revenue – like preferred seat fee, free luggage allowance, airport check-in fee etc.  It may be best to let the passengers decide – they have half a dozen domestic airlines to choose from. 

The Indian passenger should make most of the deeply discounted fares while it lasts.  Once the din dies out, airfares need to be hiked in line with the high operating cost prevailing in India, else the financial distress in the sector may prolong.  Unless the new government goes for bold reforms, we may see worsening losses, leading to the exit of one or two players in the next 12-18 months.

According to International Air Transport Association (IATA) head Tony Tyler, in 2014, airlines are expected to report US$ 18 billion of net profits on revenues of US$ 746 billion.  This translates to 2.4 per cent of net margin, making one wonder why would anyone run an airline in the first place!

The situation in India is even worse.  According to the FICCI-KPMG Indian Aviation Report 2014, nearly 99.5 per cent of India’s population is yet to see the inside of an aircraft.   This is despite India being the third largest economy and among the top 10 aviation markets globally.  There is a widespread perception that aviation is a luxury service and hence supporting it may be considered elitist.  India sells one of the costliest ATFs in the world - nearly 60 per cent dearer than competing nations in the Gulf and ASEAN region.  

This is why a domestic flight ticket is, at times, costlier than an all-expenses paid weekend trip to Thailand and Malaysia.  Foreign Tourist Arrivals (FTA) in India is an abysmal 7 million per year.  Singapore gets 14 mn, Malaysia 24 mn and China 58 mn.  India should be doing numbers similar to China, given that India is blessed with a wide variety of historical, cultural and natural attractions.

What gives us optimism is that most of India’s challenges are related to policies, procedures, regulations, taxation and perceptions. These are man-made problems and hence surmountable. 

The last few years have seen a series of far-reaching reforms.  Global routes were opened to private Indian carriers, leading airports were privatised, FDI was permitted in airlines, direct import of ATF was allowed, external borrowing permitted for airlines and MRO, import duty on aircraft parts scrapped, the Aircraft Acquisition Committee abolished and 24x7 customs operations started at cargo terminals at leading airports. In the recent past, the government decided to allow entry of A380s, provide visas-on-arrival for tourists from several countries etc.  

More reforms needed

These are welcome developments. But a lot more needs to be done.  Pending reforms include reduction of excessive taxes on ATF and MRO, abolition of the discriminatory 5/20 rule (that a domestic airline should be five year old and possess 20 aircraft to start international operations), promotion of no-frills airports in Tier 3 and 4 cities, revision of the airport tariff structure, complete overhaul of DGCA and creation of an independent Air Navigation Services organisation.  Equally important are privatisation of Air India, promotion of aerospace manufacturing, consolidation of ground handling, flexible use of defence airspace besides greater support to aviation training, cargo and general aviation.  

The government should consider an experimental ‘Open skies policy” (OSP) for the next five years, a la the OSP agreement India has with the US and in the air-cargo industry.  The OSP appears scary initially, but will help us in the long run.  India has the sovereign right to withdraw it anytime it wants.  The Gulf and ASEAN countries have seen the impact of aviation as a driver of investment, tourism, economic growth and employment.  That’s the reason it receives strong policy support and fiscal and monetary incentives. 

The NDA government, with its massive mandate, is expected to make bold policy reforms in aviation and tourism. The focus on ‘India First’ may facilitate greater support from ministries like home, defence, finance, tourism, environment etc on aviation matters.  

Indian aviation is a long term play, despite the short term, man-made challenges.  That's the reason foreign carriers are looking at India favourably, and many Indian carriers, despite low profitability, are placing large aircraft orders.  If all goes well, we should be the world’s third largest aviation market by 2020, behind US and China; and then fight hard to be number one in 2030.   Sounds crazy.  But we’ll get there. 
(The writer is Partner and India Head, Aerospace and Defence, KPMG and Chairman (Aviation), CII.  He was assisted by Kunal Sinha, Senior Consultant, Aerospace and Defence, KPMG)

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