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Financing of Indian airline losses approaching a dead-end

13th February, 2012

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India’s beleaguered airline sector will increasingly have to seek innovative sources of funding as traditional options dry up. With the sector having already accumulated losses of USD6 billion in the last five years, which will be compounded by a record USD2.5 billion loss in the 12 months to 31-Mar-2012, existing providers of capital are increasingly nervous about the sector’s viability.  

Indian banks, which have USD6-6.6 billion in working capital debt with airlines are worried about their exposure to the sector and are reluctant to restructure loans (some of which have already been classified as non-performing assets) to carriers, including Air India. The deteriorating operating performance and the uncertain regulatory environment mean that there is limited interest from private equity funds. And placement of American and Global Depository Receipts is extremely challenging given the weakness in international capital markets. Most carriers have limited non-aircraft assets that can be monetised, with the exception of Air India which has substantial property interests.

Air India is one carrier which faces a relatively easier task with respect to funding, as the issue is within the control of the Government. Last week the Government approved a debt restructuring package, which included the conversion of INR74 billion (USD1.5 billion) of loans to government-guaranteed bonds, which should provide the carrier with some breathing space.

However, there are few grounds for optimism about the airline’s ability to make progress on the more challenging task of turning around the airline at an operational level. In the absence of addressing the underlying performance of Air India, the deteriorating financial losses of recent years are expected to continue.

Air India financial losses: FY2007/08 to FY2011/12 (estimated)

Indian carriers need to raise up to USD2.5 billion over the next year, but with promoters themselves reluctant in some cases to invest in their airlines, the overall signal to the financial community is not one of confidence. This is likely to impact the growth prospects of the entire sector.

Time for a new airline system

Under these circumstances, the natural instinct might be to try and ‘protect’ the incumbent carriers because of their fragile state. This would be the worst possible approach. Propping up the weak will resign India to years, perhaps decades, of missed opportunities. It has not worked for Air India and it will not work for the sector as a whole. Such a strategy would have negative implications for India’s economic development, would cede the international competitive advantage to foreign carriers and would damage India’s prospects as a global aviation hub.

Instead, the situation calls for a bold approach to create a regenerated airline system, with new and strong players. In order to achieve this, the Government must first pursue an aggressive reform agenda to implement a policy and regulatory environment which generates positive sentiment and establishes a level playing field.

We note positively that the Government is preparing to permit foreign airlines to take up to a 49% shareholding in Indian carriers. Existing carriers may be able to attract strategic investors as a result, however, CAPA is of the opinion that the most important outcome from this change would be the potential for new airlines to be launched, combining capital, global expertise and local business know-how, along the lines of the Tata-Singapore Airlines JV that was proposed and knocked back in the 1990s. Low-cost carriers, such as AirAsia and Jetstar, which have pursued a cross-border JV model in various parts of Asia will also be watching developments with interest.

Barriers to efficient operations to be dismantled

CAPA calls for a dismantling of the negative fiscal framework (e.g. excessive taxation on aviation turbine fuel, and unhelpful tax on third party maintenance and aircraft lease payments) and regulatory distortions which act as a barrier to efficient operations (e.g. the requirement that airlines must complete five years of domestic operations before commencing international services; route dispersal guidelines which force carriers to operate unviable routes to remote regions; the right of first refusal which Air India enjoys with respect to applications for bilateral entitlements and the restriction on foreign carriers investing in Indian airlines). This is the time to introduce a liberal licensing regime permitting market entry by new, well-funded players with sound business plans. The growth of India’s aviation sector cannot be left dependent upon the fortunes of weak incumbent airlines.

For more in-depth analysis of the direction of Indian aviation, you may be interested in the CAPA India Aviation Outlook 2012. For a copy please download the order form attached top left or for more information contact Shuchita Gupta on sg@centreforaviation.com or +91 11 2341 4440. The form outlines special discounts for CAPA Members.

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