Indian Aviation Sector - Overview

7/31/2019 Indian Aviation Sector - Overview

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Indian Aviation Sector Overview

Aviation is an important part of national infrastructure and one of the prime movers for economic

growth and an important strategic element of employment generation. Aviation sector in India has been

transformed from an over regulated and under managed sector to a more open, liberal and investment

friendly sector since 2004. Adoption of global standards has made aviation a safer way to travel.

Growth Drivers

The factors contributing to the air traffic growth can be broadly classified into economic and policy

factors. Entry of low cost carriers, higher house hold incomes, strong economic growth, increased FDI

inflows, surging tourist inflow, increased cargo movement, strong business growth and supporting

government policies are the major drivers for the growth of aviation sector in India.

Economic Factors:

Liberalization and economic reforms undertaken by the government Fast expansion of industries in consonance with economic reforms Emergence of service sector Average GDP growth of around 8.9% during the last 5 years Increase in inbound and outbound tourists and medical tourism Over 300 million strong middle class Disposable incomes expected to increase at an average of 8.5% p.a. till 2015 Emergence of low cost airlines The organized retail boom that would require the need for timely delivery thus contributing to

the growth in the air cargo segment

Corporate showingPolicy Factors:

Modernization and setting up new airports across country City side development of non-metro airports Providing international airport status to major tier I and tier II cities Open sky policy Policy of license to new scheduled operators Permission to acquire new aircrafts Permission of private operators to operate on international sectors Encouraging private investments in airlines and airport infrastructure Facilitative foreign direct investment norms Liberal bilateral service agreements Emphasis on development through PPP mode


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Passenger / Cargo forecast till 2016-17

Evolution & Recent Updates

Air travel now is getting transformed into a mode of mass transportation and is gradually shedding its

elitist image.

Strong passenger traffic growth aided by buoyant economy, favorable demographics, rising disposable

incomes and low penetration levels

India aviation industry promises huge growth potential due to large and growing middle class

population, favorable demographics, rapid economic growth, higher disposable incomes, rising

aspirations of the middle class, and overall low penetration levels (less than 3%).


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Industry evolution

However domestic airlines operate under high cost environment; intense competition has constrained

yields; aggressive fleet expansions have impacted profitability and capital structures

Despite reforms, the domestic aviation sector continues to operate under high cost environment due to

high taxes on Aviation Turbine Fuel (ATF), high airport charges, significant congestion at major airports,

dearth of experienced commercial pilots, inflexible labor laws and overall higher cost of capital.

FDI regulations


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Low-cost model now dominating the skies; viability remains to be seen

Majority (~60-65%) of an airline cost are dependent on external factors, which cant be managed by an

LCC. This includes the fuel cost (~40%), maintenance cost (~12%) and ownership cost (~12-15%). LCCs try

to achieve a cost advantage in other ways by avoiding the in-flight services, operating from secondary

airports, selling tickets through the internet, higher number of seats in the aircraft, inventory reductionthrough use of similar aircraft and lower employees per aircraft.

Growing LCC market share

However, longer term viability of LCCs models in India remains to be seen (Kingfisher exited the segment

recently) as airport charges are same for FSCs and LCCs in India. Besides, the fuel costs forms a larger

proportion of overall costs as compared to international standards due to higher central and state

government levies (viability of direct ATF imports remains to be seen due to lack of supporting

infrastructure) and high congestion at major airports (half an hour hovering at major airport could

increase fuel costs by Rs.60,000 to Rs. 115,000 depending on aircraft, besides impacting aircraft

utilizations).

LCC strategies


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Proposed FDI relaxations

FDI in Aviation: Feasibility and Impact Analysis for various stakeholders

FDI Proposal: The Civil Aviation Ministry is expected to soon circulate a proposal before the union

cabinet to consider allowing up to 49% equity investment by foreign carriers in domestic airlines. Incase

of listed airlines, if the proposal does not get a waiver from SEBIs Takeover Code, foreign carriers may

have to first make an open offer of 26% stake to public shareholders and later acquire up to 23% stake

(from promoters or fresh equity), such that their stake remains within the 49 % cap.

Indian Carriers: The movie would help bring global expertise and best industry practices over the

medium term.

Foreign Carriers: Not only will it provide entry into one of the fastest growing aviation market globally,

but also an opportunity to establish India as their hub for connections between US/Europe and South-

East Asian countries.

Consumers: New players could enter the market as they could now have a strategic foreign player with

deep pockets to support the airline in difficult times. Besides, it would provide more flexibility in

international travels when one travels through the same airline domestically as well as internationally.

Factors that support investments in Indian Aviation Sector:

Strong growth prospects: Passenger traffic growth has grown at a CAGR of 16% in India over thepast 10 years

Relative underpenetrated market: Penetration of air travel at


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Poor financial health of most airlines: Intense competition, sharp fluctuation in ATF prices andhigh debt burden continue to weigh on the financial performance of Indian airlines; foreign

exchange fluctuation and lack of adequate hedging mechanism (for fuel) have added to the

woes

Highly competitive & Price Sensitive traveler baseForeign carriers already enjoy significant share of international traffic; domestic access through code

sharing agreements

As per DGCA data, foreign carriers already enjoy ~65% market share in international traffic and hence

~27% of total passenger traffic (Domestic + International). An estimate is that the foreign carriers have

already garnered 42-48% of total airline revenues (inbound, outbound & within India).

Foreign Carriers Pax market shares in International Routes (FY10 Data)

Dilutions at current market capitalizations unlikely to solve issues of staggering debt levels and

mounting losses

Since the airlines stocks have corrected significantly over the last two years, fresh equity infusions at

current market capitalizations (although 50-100% higher YTD) could lead to considerable stake dilution

for the existing promoters who have built these businesses over the years.

Promoter stake dilution incase in fresh equity infusion


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Direct ATF Imports: Benefits and near term feasibility remain misty

In addition to the proposal on FDI, the empowered group of Minister has also recently approved the

proposal for airlines to import Aviation Turbine Fuel (ATF) directly, a demand that the airlines have been

lobbying for quite some time now. The impact of this development is though expected to be a mixed

bag. Although the taxation differential (between currently applicable sales tax rates and likely import

duty) certainly suggest a large potential saving for airlines, the availability of infrastructure is likely to be

a considerable roadblock. Given the monopoly of OMCs at major airports, airlines would have to resort

to a fee-based structure for utilizing their infrastructure for fueling, storing and transporting ATF. At the

same time, airlines will also have to engage a fair bit of working capital in sourcing imported ATF as

against credit period available from OMCs. Given the current liquidity constraints, managing additional

credit lines from banks is also likely to be a challenge for airlines and overall would reduce the potential

savings being envisaged.

International Routes: Freeze on international permissions to private carrier removed

In another major boost to private airlines (especially IndiGo and SpiceJet), the Civil Aviation Ministry has

lifted the freeze on their overseas expansions. The government had imposed the freeze in Mar-2011

with the objective of protecting the financially strained Air India from more competition on foreign

routes. However, lower utilizations of maximum permissible limits under the bilateral Air Service

Agreements (ASAs) have prompted the move to allow eligible domestic airlines (with more than 5 years

experience) expand their international operations. The move will benefit the private carriers (although

may increase competition and losses for the national carrier) as international flights provide better

margins owing to the availability of fuel at international rates, higher auxiliary revenue through in-flight

sales and higher fleet utilization, as international operations could happen during the otherwise idlenight hours.


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Key operating indicators and valuations for the global airline industry

Prevailing sentiment

Aviation to continue growth trajectory in Asia

In a recent survey conducted by L.E.K. Consulting, initiated by Aviation Business Asia Pacific, the results

seem to favor a growth trajectory in the APAC region for the aviation industry. The sentiment however is

to be cautiously optimistic.

43 % of respondents in the survey reported that 2011 was better than the long term average,and only 29% said it was worse

53% think 2012 will be better than 2011 and only 15% worse and fully 62% are planningsignificant investment in physical infrastructure or new products and services in the year ahead


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Issues & Challenges ahead

High fuel prices and the new carbon tax failed to make the list of the top 5 challenges to respondents for

2012. . Even the airlines, who will bear most of the cost, were relatively unmoved by the issue, rating its

importance well below more pressing concerns such as labour costs It appears that the airline industry

can adapt to sustained over-US$100 per barrel oil prices, as long as the price is stable and predictable.

A far bigger challenge than fuel costs will be government regulation (rating three times more

important). Regulation is particularly critical for smaller airports, who have been struggling with high

taxes and increasing security burdens, which by some estimates, cost regional and rural airports $30million last year alone.


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Survey findings


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India, China to boost aviation industry

As per market estimates, the European airlines are going to be hit the hardest in 2012 but it is expected

that Asia Pacific, led by expanding Indian and Chinese markets, will provide the boost to the sector. This

trend is likely to continue over the next few years, shifting aviation's centre of gravity eastward. By

2015, the Asia-Pacific is expected to account for 37 percent of the passenger traffic, while trafficassociated with Europe and North America will fall to 29 percent. The global aircraft fleet is expected to

double by 2030 and the Asia-Pacific will account for about a third of all new aircraft deliveries. The APAC

region is projected to account for two third of the profit forecast for 2012.

By 2020, India which is the fastest growing civil aviation market in the world, is estimated to beamongst first three markets with about 420 million passengers being handled by the Indian

airport system against 140 million in 2010. As the cargo handled at Indian airports witnessed an

growth of CAGR 10.9 per cent in the last five years, with international cargo accounting for two-

thirds of the total, the Civil Aviation Ministry is formulating an Air Cargo Promotion Policy which

is to be brought forward for consultation.

Corporate aviation likely to struggle

With 154 aircraft, India may still have the Asia Pacific regions second largest business jet fleet (China

has an estimated 215 jets), but the industrys growth continues to be stunted by a lack of a policy

framework that applies to it, as well as by inadequate infrastructure and regulatory barriers. This

although comes in between of a recently released report that estimates the commercial aviation sector

in India and West Asia to achieve overall annual growth of 9 per cent and 10 per cent, respectively, for

several years to come and will account for 11 per cent of the total aircraft deliveries worldwide over the

next decade. "However, both markets face immense challenges in meeting the expected future growth

in passengers and aircraft operations, which require massive expansion of infrastructure and high-performing aviation systems," the report said. However, with new business aircraft sales of around $12

billion expected in India by 2020, the government appears to recognize the need to be transparent and

to provide clarity in its policy. The report also highlights a complete lack of recognition for the business

aviation sector in Indian government policy, compounded by a shortage of skills and training capacity

that is even more acute than it is for the countrys commercial airline industry. On top of this, the report

said, Indias financial institutions, which already stand accused of having failed to back the countrys

commercial aviation sector, have shown limited interest in stimulating business aviation.

Documents

Indian Aviation Sector - Overview