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Indian aviation sector woes, Jet Airways facing the brunt

  • Indian aviation sector, the fastest growing in the world
  • Indian market is unique and is a buyer’s market
  • Jet Airways facing the liquidity crunch and is on the block

 

India is currently the seventh largest and the fastest growing civil aviation market globally, it has witnessed a healthy passenger traffic growth of 13.4% CAGR (2012-13 to 2017-18) and is poised to become the third largest market by 2024 (Source: IATA). Global carriers have been lured by the domestic travel boom and have flocked the Indian aviation landscape, with the likes of the Singapore Airlines and Air Asia forming alliances with the Tata Group.

The Indian civil aviation industry is dominated by four large carriers, with IndiGo leading the pack. However, the overall industry is highly fragmented with around 17 carriers, which compete intensely with each other to grab any scant, potential revenue opportunity in order to survive.

Moreover, despite witnessing a double-digit growth in the number of passengers and the passenger load factor in the past five years, the Indian market (unlike other markets globally) is unique and challenging for carriers. The market is a buyers’ market, with a high price sensitivity of consumers. It is because of the cut-throat competition and a constant price war to gain the market share, the passenger fares have remained painfully low. While any input shocks (especially fuel costs accounting for almost 34% of the overall cost structure) are not readily passed on to consumers and results in huge losses for carriers. Further, the Indian taxation on jet fuels is the highest in the world, which is further aggravating the problem vis-à-vis other nations.

The Indian civil aviation industry has always been in the shake-out mode. It has been witnessing nothing short of a bloodbath, with the likes of debt-burdened ‘Kingfisher Airlines’, which ended operations in 2012 and ‘SpiceJet’ almost faced a closure in 2014. While SpiceJet lost the market share, IndiGo was the major gainer.

The situation improved for the carriers in 2015-17 due to historically low jet fuel prices, resulting in carriers like Jet Airways to post a positive PAT (profit after tax) in over a decade. However, the situation again worsened for the Indian carriers during the last few quarters following a sharp increase in the jet fuel prices, this was coupled with depreciation of currency with respect to the US dollar, resulting in a spike in fuel costs.

The Indian carriers like IndiGo reported a net loss for the first time in Sep. 2018 quarter (since its IPO in 2015), while SpiceJet also reported a net loss for the first time in June 2018 (since co-founder Ajay Singh took over the leadership in 2015). Although IndiGo maintained a positive cash position, SpiceJet had net debt position. The situation has been grim for Jet Airways, which reported net debt positions, coupled with mounting losses and liquidity crunch.

Hence, it can be stated that on one hand, carriers need to aggressively invest in new capacity and retire old uneconomical aircraft to cater to huge passenger demand and become cost-efficient, respectively. While on the other hand, these are marred by mounting losses due to excessive price competition plaguing the industry.

Likewise, most carriers have increased capacity during the past five years on the anticipation of a strong demand within the industry, as seen below. Further, almost all major airlines have placed huge orders, wherein total orders from Indian airlines are forecasted to account for 5% of the global demand for new aircraft until 2036.

  

  

*ASK – Available Seat Kilometres (passenger carrying capacity), RPK - Revenue Passenger Kilometres

Further, with the cash-strapped Jet Airways (which has delayed salaries to pilots and key executives), which is in talks with strategic and financial investors to sell a major chunk of its business along with the frequent flyer business (‘JetPrivilege’) to stay afloat, India’s turbulent aviation sector might be entering a long pending phase of consolidation.

Jet Airways trouble:

The Indian aviation industry has been reeling under the effects of fuel price hike and currency devaluation, Jet was worst affected due to its operating differences with other domestic carriers. As it carried the burden of being a full-service carrier (higher overhead costs for in-flight meals and entertainment), Jet Airways was bogged down with costs that were higher than its rivals.

  

Although Jet Airways benefits by purchasing more cheap fuel outside of India, the average age of its fleet is almost nine years vis-à-vis IndiGo’s six years, which costs more for maintenance. In addition, the majority of the expenses are in the US dollar and hence are susceptible to currency depreciation in the domestic economy. The net debt of the carrier was INR 73.6 billion as of June 30, 2018, 65% of which was denominated in the US dollars. Addedly, the proportion of the short-term to the long-term debt is the highest for Jet Airways as compared to its Asian peers, resulting in liquidity pressure for the carrier. Further, Indian banks in the past have suffered while lending to Vijay Mallya led Kingfisher Airlines and are wary to roll out short-term debt in case of a liquidity crunch for Jet Airways. Furthermore, in the last five years, the airline’s salary expenses have risen by 53%, overtaking the aircraft lease payments as its second-largest expense after fuel.

All this has led to defaulting on its plane-lease payments as well as holding salary payments of pilots and executives.

Recovery plan for Jet Airways:

  1. Immediate cost reduction: firing of high-cost resources (payroll optimisation), giving an option to pilots to leave the company without serving the notice period, grounding planes on unprofitable routes and salary cut (up to 25%) for top-level executives.
  2. Inducting consultants for turnaround strategy: it has inducted McKinsey & Co. for cost-cutting measures across various functions and Boston Consulting Group to help with revenue enhancement measures.
  3. Mid-term cost reduction: monetisation of a stake in the frequent-flier program (JetPrivilege), capital infusion, the paring of debt and cost reduction by as much as INR 20 billion in the next two years.
  4. Induction of strategic or financial investor: Jet Airways has been in talks with TPG Capital, Tata Group and Reliance Group to offload 25% of the shares owned by the Goyal family. However, the preference from investors could be for substantial majority for a complete buy out. As per the latest information Tata Group has started due diligence process.

Besides, it has the potential to raise about INR 58.6 billion from the sale and leaseback of its owned fleet.

In conclusion, it can be said that the Indian aviation sector has been marred with excessive competition and no pricing power. Vistara, Singapore Airline’s JV (joint venture) with Tata started in 2015, but it is yet to make any money. AirAsia, which entered in 2014 with a view to break-even in 4 months is still nowhere close to its goal. SpiceJet almost collapsed in 2014. Air India is surviving on bailouts by the Indian government. Jet Airways is feeling the latest brunt. If Jet Airways is unable to recover from the same, it might lose the market share to other carriers as SpiceJet did in 2014. The Indian aviation market is in dire need for consolidation to streamline capacity and reduce competition, so that the carriers can pass on the impact of any external shock directly to the consumers, without worrying about losing the market share, thus making a shift from a buyer’s market to a seller’s market. Lastly, the carriers need to re-think on the quantum and pace of increasing their capacity, while keeping a close tab on the pace of growth expected in demand in the medium-term.

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