Tuesday, September 20, 2011

The air fares conspiracy theory?

IIPM Mumbai Campus

The last time domestic airlines were allowed to decide fare levels, they went into a hand-wringing war to death. This time, the government has intervened. But the players aren't amused. steven philip warner answers why.

Every time one scuttles across data-laden scrolls that predict “hope” for airlines in India, the claims are dismissed as wishful thinking. This situation has not changed in a long time now and under such a circumstance, even a good P&L account does little to ease the broad populist anger. Hardly mattered therefore, that the two largest domestic airlines – Jet Airways & Kingfisher – reported improved financials in recent times. Painful memories of Rs 260 billion in losses in the past five years is hard to wipe out. The ever-increasing debt load of the high-fliers is another sore. Rs 582.73 billion and counting it is, of which Jet accounts for Rs 138.97 billion and Kingfisher for Rs 79.22 billion (as on March 2010). There is worry in the air, and the airlines have suddenly realised that they are sinking faster than stone. And their hurried to ensure profits by increasing fares by at least 200% over the past month (since November 15, 2010).

The airlines had put forward a distance-based pricing cap “logic” to the Directorate General of Civil Aviation (DGCA), for its approval. The following were the fare slabs proposed: distance less than 750 km, 750-1,000 km, 1,000-1,400 km and more than 1,400 km. Had the DGCA given its nod, an IndiGo ticket priced at Rs 6,581, purchased on the day of travel, between Delhi and Mumbai, would have sky-rocketed by 244.3% i.e Rs 22,000 (distance of 1,407 km). For JetLite passengers, the spot fares would have risen by 289.1% from the current Rs 7,967 to Rs 31,000. Thus the fares of even the low-cost carriers (LCCs) would have become about 100-200% higher than the ongoing economy fares charged by the Full-Service Carriers (FSCs). Bad news for an environment which saw air traffic grow rapidly only after the advent of the LCCs in 2003. Says John Siddharth, Aerospace Expert, Frost & Sullivan to us, “LCCs have been successful in India due to their low cost strategy. Assuming the LCCs do not have a good competitive pricing in place, it would first reflect in their load factors, which would take a nose dive from the current average of about 85%. The Indian airline sector is on the verge of transforming into a luxury which would result in a negative growth of air passenger traffic.”

Not to forget, the pleading lot this time too, is the same, which went about illogically doling tickets at throw-away prices some years back (which resulted in the state of the domestic sector that is today), forming cartels, requesting relief from the government on all possible fronts and begging for deadline extensions on the billions of rupees due on jet fuel payments. [As on December 3, 2010, Jet & Kingfisher still owed Rs 10.50 billion.] So why is this lot requesting the government to stay home this time? The answer lies in understanding that these preachers of “Free-market Economics” desire to make every inch count. For them, this is the chance to garner windfall profits in unbelievable quick time.

Count the maths. Given the improved conditions of demand in recent months, which have proved a setback for LCCs to an extent, even if we assume that a 200% increase in fares across the board leads to a 50% fall in top line (considering 0% change in op. expenditures & ATF bills for the players), at the H1, FY2010-11 levels of top line, depreciation and interest on loans, Jet would have reported a net profit of a massive Rs 31.73 billion in the remaining two quarters of FY2010-11 – wiping out the nightmares of Rs 11.20 billion in losses garnered since FY2007-08 and lighten its existing debt burden by 91.33% over the next six quarters! Kingfisher, on the other hand, would have reported profits of Rs 52.13 billion during H2, FY2010-11 – enough herb to soothe the Rs 42.04 billion burn accumulated in five years, and wipe clean its total debt by Q2, FY2011-12. Given that the airline has never made profits since it began operations in FY2005-06, it clearly viewed the fare hike as an apt redemption from the societal pressure of not having broken-even yet. It wasn’t to be.

For now though, the government has put its foot down, to restrain the worst of corporate behaviours. It has already set up a tariff analysis unit to monitor route-wise fares of airlines, and the fares across various routes have already fallen by up to 70% since the DGCA made its intentions clear. As for the domestic aviators, they would do themselves good, even if they try and imitate the act of American LCC SouthWest Airlines (SWA) – the only airline that has never made losses in the past three decades! Even in 2009, while “all” airlines in the US reported negative bottom lines, it made $99 million in profits. SWA has made money by no wizadry. It plays with volumes (not price-hikes), offers just what a stripped down LCC aircraft can, and operates its fleet of 550 aircrafts only on profitable routes. Today, Indian carriers which deploy about 70% of their fleet in the budget model (as of October 2010), are close to getting it right. And some like CAPA have even forecasted profits to the tunes of $300 million this year. Says David Bentley, Joint MD, Big Pond Aviation, to us, “There is a demand for competitively priced tickets in the US. The same is the case in India. India is not physically as big as the US but there is the opportunity to follow the same path...”

To stop day-dreaming about fare hikes and do what profitable airlines do around the world, would be quite a change. It would also be some sign that airlines in India have learned a lesson after being stung for years by their own acts of “independent fare-fighting”.

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