India's airlines could save USD400 million this year on lower fuel prices: CAPA India Summit 3/4-Feb

CAPA’s India Aviation Summit will take place in Mumbai on 3/4-Feb-2015 and is ideally timed for aviation businesses with an exposure to the market to understand first-hand the rapidly changing market dynamics. The Summit will draw the who’s who of Indian aviation including key government figures and the leadership of virtually every airline and airport operator in the country.

The decline in fuel prices has contributed significantly to India's improved outlook

Aviation turbine fuel (ATF) in India is subject to a multiplicity of taxes and fees, the end result of which is that domestic carriers pay up to 50% more for fuel than in say Dubai or Singapore. Between Sep-2014 and Jan-2015 into-wing ATF prices in India declined by 24%.

Aviation turbine fuel prices for domestic carriers at Delhi Airport Jan-2014 to Jan-2015

Source: CAPA – Centre for Aviation, Indian Oil Corporation

With fuel accounting for around half of operating expenditure for Indian carriers this represent a 12% reduction in costs. India’s oil companies have yet to pass on the full extent of the decline in global fuel prices so further reductions are expected by the end of Jan-2015. The decline in oil prices is perhaps the greatest single reason for the improved sentiment in the industry.

Meanwhile, some progress is being achieved in tackling the high levels of sales tax on ATF, which is levied at a state level. The Central government has been actively encouraging states to reduce sales tax to 4%, arguing that the economic benefits from increased connectivity and traffic will far outweigh any loss in revenue. Several smaller states have already cut the tax rate and have benefited from an increase in frequencies and fuel uplift. Consequently tax revenue has not declined as much as might have been expected.

As a result, several other states, such as Punjab, Karnataka, Telangana and Uttarakhand, are expected to follow.

However the key to achieving a meaningful impact at an industry level is a reduction in tax at three of the largest airports – Delhi (tax at 20%), Mumbai (25%) and Chennai (29%) – which also levy some of the highest taxes. The state governments in all three cases have (or in the case of Delhi is likely to have following an upcoming election) close ties with the Central government. As a result, with a concerted effort it may be possible to convince them of the benefits of providing a lower cost environment that will stimulate business and tourism flows.

States implementing recent reductions in sales tax on ATF

State	Earlier Sales Tax	Revised Sales Tax
Andhra Pradesh	16%	1%
Chhattisgarh	25%	5%
Jharkhand	20%	4%
Goa	24%	12.5%
Madhya Pradesh	23%	4%
West Bengal (Kolkata)	30%	15% for incremental ATF uplift above FY13 levels
West Bengal (non-metro e.g. Bagdogra)	30%	0% for three years

Source: CAPA – Centre for Aviation

Furthermore, most airlines negotiate a discount on the published ATF prices which is usually expressed as a fixed amount. As a result, as ATF prices decline, the discount effectively becomes larger in percentage terms.

The reduction in the cost of fuel due to a combination of declining base prices, higher discounts and lower tax is very welcome. But it will be vital that this does not create complacency; there is still an overriding need to address structural challenges in the aviation sector. The government should take this opportunity to push through with bold decisions such as classifying ATF as a ‘declared good’ that would result in a uniform sales tax of 4% across the country. Combined with the fall in base prices this could reduce airlines operating costs by a game-changing 30% that would stimulate growth and set the industry on a more viable long term trajectory.

Business and consumer confidence has been steadily improving

The election of a new administration in May-2014, voted in with an agenda of kick-starting economic growth has had a major role in this.

There are strong expectations that the Central government budget in Feb-2015 will introduce some bold measures aimed at setting a long term direction for India’s economic growth story.

GDP is expected to expand by 5.5% in the 12 months ending 31-Mar-2015, increasing to 6.0% in FY2016 and possibly sustain levels of 7.0% thereafter until the end of the current administration’s term in 2019.

India Real GDP Growth and Forecasts 2012-2017

Source: CAPA – Centre for Aviation, World Bank

With inflation coming under control a small cut in interest rates was announced in Jan-2015 and further cuts are likely. Investor sentiment is improving which could see numerous stalled projects resuming. Travel management companies report that business travel is picking up, which is reflected in the increased focus by Air India, Jet Airways and Vistara on the full service market.

Government decisions play a significant role in the health and direction of the industry

The aviation sector has lacked a clear policy vision and has historically been subject to numerous distortionary, and often unnecessary, regulations. However, recent actions by the Ministry of Civil Aviation suggest that the government is keen to play a more positive role and to work with the private sector to create a more viable industry.

For example, the Ministry played a decisive role in facilitating the rescue of SpiceJet in a transparent manner by encouraging creditors to provide some breathing space for the airline to secure an investor. This approach was a very welcome departure from the past and averted the closure of the airline and the potential loss of jobs and confidence.

In previous instances, distressed airlines have generally found the government unwilling to help in any way. Even in SpiceJet’s case there were initially a couple of poor decisions on the part of the government e.g. restricting the airline from selling more than 30 days out, but the Ministry recognised this and recovered quickly.

In the case of Vistara the Ministry agreed to provide a waiver on Route Dispersal Guideline obligations for the first six months in recognition of the impracticalities of this while operating just a couple of aircraft. The Central government has also been aggressively pushing the states to reduce sales tax on fuel. There also appears to be a strong intent to abolish the 5 year/20 aircraft rule, while misguided proposals such as the regulation of fares have been dropped.

There has also been decisive progress in the last six months on issuing No-Objection Certificates for long pending airline license applications and tenders have been launched for PPP concessions for four airports at Chennai, Kolkata, Ahmedabad and Jaipur.

There appears to be a genuine intent to develop a comprehensive civil aviation policy and the Ministry is engaging closely with industry participants to seek their inputs.

The peak 3Q2015 was stronger than expected

Capacity growth in 3Q2015 (to 31-Dec-2014) was moderate due to significant but gradual reduction in capacity by SpiceJet which offset much of the expansion by other carriers. SpiceJet’s challenges in Nov/Dec-2014 also led to many passengers choosing to book on other airlines. This resulted in improved yields for SpiceJet’s competitors which should drive better than expected financial results in 3Q2015. SpiceJet’s operating fleet is expected to stabilise at around 20 737s. Overall India’s carriers could add 12 aircraft in 4Q2015 and more than 30 aircraft in FY2016.

Pegasus may shortly launch as a small, regional operator, but other new airline start-ups are likely to be delayed due to the tightening and consequent lengthening of the regulatory process involved in securing an Air Operator’s Certificate.

Of the six ventures that obtained a No-Objection Certificate in Aug-2014, Premier Airways is the most active in terms of going ahead with its start-up plans but even its launch may be later than initially planned.

India should end the current financial year with double-digit growth, which should endure into FY2016

At the beginning of FY2015 CAPA projected that domestic traffic would grow at 6-8% while international would expand by 10%. The actual domestic result for the 12 months ending 31-Mar-2015 is now on track to be in the range of 10-12% while international traffic will likely be as forecast. The stronger than expected domestic growth is largely due to the stimulatory impact of lower fares arising from the reduction in fuel prices.

International traffic growth is robust despite being constrained by the 5/20 rule and bilateral restrictions, suggesting that underlying demand is very strong. It will receive a further boost going forward from the introduction of electronic visas for key source markets. India received just under 7.5 million foreign visitors in 2014, a surprisingly small number for a country that has a large diaspora and a wealth of historical, cultural and natural attractions.

Cumbersome visa restrictions have been one of the deterrents to visitors which the government is trying to address. In Nov-2014 India made electronic visas available to 43 nationalities accounting for approximately 40% of visitor arrivals. This is expected to be rolled-out to 180 countries over the next couple of years and has the potential to transform inbound tourism flows. Tourism has been identified as a priority industry by the government and the sector is expected to see increased funding.

To develop tourism as hoped, India requires a bilateral policy strategy aligned with its growth targets

The encouraging response to electronic visas in the first few weeks has led the Ministry of Tourism to develop some very ambitious internal targets for visitor arrivals growth. But if these are to be achieved there needs to be sufficient air capacity to carry these passengers. However there is no clarity on what approach the government plans to take in terms of assessing requests for increased seat entitlements from markets such as Dubai, Sharjah, Qatar, Turkey, Singapore, Malaysia and Hong Kong.

Not only are several foreign operators constrained from increasing international services to India, but similarly so are several Indian carriers due to the 5 year/20 aircraft rule.

Strong yields in 3Q2015, lower fuel prices should reduce industry losses

At the start of the financial year CAPA had estimated that India’s airlines would post a combined loss of USD1.3-1.4 billion for the 12 months ending 31-Mar-2015. However, as a result of the improved operating environment this is now likely to decline to close to USD1 billion. IndiGo is expected to report significantly higher profits than last year, while GoAir could report record profits subject to its performance in the fourth quarter and excluding extraordinary items.

Jet Airways is likely to see a modest loss, not taking into account extraordinary items.

The outlook is more optimistic than it has been for several years

Nevertheless challenges do remain and the industry faces a long and complex road ahead. Despite the government’s more positive role in recent times, a clear long term policy roadmap which is aligned to the industry’s requirements is yet to emerge.

Airlines may need to add around 30 aircraft just to meet their route dispersal obligations. The new Route Dispersal Guidelines (RDG) designed to encourage regional connectivity may be impractical and require excess capacity to be deployed on routes that are not commercially viable.

Regional connectivity is an important issue but the RDG and plans to encourage general aviation operators to launch commuter services are not well directed. Ultimately viability rather than complex formulas are the key to sustainable connectivity.

The 5 year/20 aircraft rule must be abolished, but should not be replaced by an equally distorting regulation. The proposed Domestic Credit Formula which is intended to determine how much international capacity carriers can operate is unnecessarily complex and poorly thought through. Domestic and international operations are subject to distinct and often unrelated market dynamics.

And the formula requires significant domestic operations to be developed in order to be able to commence even a limited international operation. Linking capacity on international routes to capacity on domestic routes is not logical and may force carriers into making poor commercial decisions in order to meet an arbitrary regulatory requirement.

The purpose of regulation should be to ensure that the industry is viable and competitive, subject to meeting safety standards and achieving certain regional connectivity objectives. Ease of business should be the objective. Instead India’s regulatory framework sometimes seems to go out of its way to make life difficult.

CAPA India Aviation Summit, Mumbai, 3/4-Feb-2015
For more information and to register https://www.capaevents.com/ehome/index.php?eventid=111116&

As Indian aviation prepares for the next growth phase, the CAPA Summit has been convened to help shape critical decisions. Key issues to be discussed at this must-attend event include:

• Will India's airlines return to profitability in the next 12 months?
• Do investors have the appetite to fund airline restructuring, growth and start-ups?
• If fuel tax can be slashed, could India become the lowest cost market in the world?
• Will a focus on ancillaries transform the viability of airlines in India?
• Which is the right airline business model for the Indian domestic and international markets?
• How much of a boost will inbound tourism receive from the introduction of electronic visas?
• Can Gulf and Asian carriers expect to secure increased access to the Indian market?
• What has been the experience of PPP airport operators in India?
• How much interest is there in the privatisation of airports in Chennai, Kolkata, Ahmedabad and Jaipur?
• Could Air India and the Airports Authority of India really be privatised?
• Is the government finally ready to give India the civil aviation policy it deserves?

CAPA’s India Aviation Summit enables participants to understand the real situation on the ground and to meet the industry and government leaders that influence the direction of the market. Ideas and contacts generated at this event will drive strategy, planning and investment decisions in 2015. Can you afford not to be there?