Rip van Winkle's Guide to Indian Aviation

India's civil aviation passenger growth stands at 20% -- among the highest in the world -- saturating most metro airports and a handful of fast-growing smaller cities. Many airlines are bulking up on capacity as well: Ten Indian carriers recently placed orders for about 400 aircraft worth $15 billion. But this good news is marred by looming overcapacity along with the fact that, given new competitive pressures, most airlines are losing money.

So what exactly is happening in the Indian aviation sector?

For many years the Indian aviation market had been grossly underserved with only 0.01% of the total population using air transport. But in the past few years, a rash of new low cost carriers has been tapping into the growing passenger traffic. We have seen the newspapers replete with ads trumpeting air tickets for less than a hundred bucks. ‘Visionaries’ who wanted to make every Indian fly expected that the railway ac passenger would gravitate to the skies if the costs of flying were lower. Thus was born the low cost model – a no frills airline can substantially cut costs by operational efficiencies like a quicker turnaround time which enables them to fly longer hours, all economy seating configuration which means more seats per aircraft, no free catering etc.

While axing the embellishments off full service carriers and creating a new low cost carrier seems to be a sane idea the numbers definitely narrate a different story. Reason – the aviation sector has been plagued by stiff competition, resulting in ridiculously low pricing and airline companies emasculating each other.

One of the key parameters in analyzing the state of any airline is the cost and revenue per available seat kilometer (ASKM), which is the total seats available multiplied by the number of kilometers flown by the airline in any given period of time. Another metric is the seat factor, which is the number of seats for which tickets were sold divided by the total number of available seats expressed as a percentage.

An analysis reveals some intriguing facts. Firstly every airline manages only a seat factor of 70 – 80%, which means that unbridled expansion has led to overcapacity and tickets which were not sold translate directly into losses. Secondly, the revenue generated per ASKM is much lower than the cost per ASKM, which means every ticket is sold at a loss. For example the cost per ASKM of Air- Deccan is 46% more than the revenue generated, i.e. they lose 146% of what they make. This means that while the ticket costs are lower, the cost incurred by the airline is not really low and tickets are given away for a pittance only to avoid bigger losses and not to make profits owing to an intelligent business model.

The recent consolidation in the industry is considered by many as the only optimal solution to prevent the bloodbath. The consolidation culminated with the marriage of Air Deccan and Kingfisher with the latter picking up a twenty six percent stake of the former. The other merged entities are Air India–Indian Airlines, and Jet-Sahara. There are still some small players existing like Go-Air etc. but given the market dynamics and scale of the behemoths they will either be gobbled up by them or will have to merge amongst themselves. So in a matter of time we can see four or five large players in the industry.

When this in itself could end the price war this could also lead to cartelization of the industry. A cartel is when these airlines (except the national carrier of course) sit together and decide not to undercut each other’s fares. This type of a cartel among companies in a free market is illegal but nevertheless is bound to happen as they will do it covertly and not overtly. Probably one of the best known cartels in the world is OPEC. An organization consisting of the world's major oil-exporting nations, OPEC was founded in 1960 to coordinate the petroleum policies of its members and to provide member states with technical and economic aid. OPEC is a cartel that aims to manage the supply of oil in an effort to set the price of oil on the world market, in order to avoid fluctuations that might affect the economies of both producing and purchasing countries. Legal or not, we can clearly expect the consolidation to perk up the profitability of the airline companies.

In what can be seen as the beginning of the convalescence, airline stocks have started to improve slowly on the bourses. Spicejet has been the favorite and it is not quite surprising if we look into some data. The cost per ASKM of Spicejet is Rs. 2.60 and the revenue per ASKM is Rs. 2.04. These are by far the best figures in the industry in the worst of the times. What do these numbers mean? Given that Spicejet is a low cost carrier and it has the lowest cost per ASKM, it evidently is the only airline to execute the low cost model rigorously. The lower costs are obviously due to the operational efficiencies of Spicejet and if the health of the industry improves as a whole Spicejet will win in a big way.

As for Air Deccan which is suffering serious injuries it will take some more time (maybe around two years) recover. The high costs in spite of being a low cost carrier is a serious issue for Air-Deccan and it needs to change a lot if its profitability is soar ahead of the industry average.

Here is the key takeaway: After some teething problems Indian aviation has changed for the better. Sit up and take note.