India’s loss-making airlines received some good news in the Reserve Bank of India’s (RBI) new credit policy: after months of lobbying, they will finally be allowed to hedge the price of aviation turbine fuel.
But that is not likely to drive down the airlines’ fuel costs—which make up almost 40% of the operating costs of airlines in India—over a long-term period.
“It allows you to smooth out the price increases, giving you a more constant fuel price,” said Bruce Ashby, the chief executive of IndiGo, a low cost airline operated by Delhi-based InterGlobe Aviation Ltd. “The higher prices will eventually creep up on you, but it gives you time to adjust.”
Ashby said that he had not yet decided how IndiGo would go through the process of hedging its future purchases of fuel, but that he was supportive of the idea.
Vijay Mallya, the chairman and managing director of United Breweries Ltd-owned Kingfisher Airlines Ltd, said it was not likely that ticket prices would drop in the near future.
“The decision will enable us to lower costs,” he said, without specifying exactly how much the airline could save. “However, the stand-alone monopoly of oil firms would also have to be addressed.”
Hedging allows a company to promise to purchase a fixed amount of fuel in the future at an agreed-upon price—irrespective of whether the market price at the time of delivery is higher or lower.
Many airlines internationally hedge some percentage of their annual fuel consumption since it helps them ride out the sudden peaks in international oil prices during political crises or weather disturbances like hurricane season or harsh winters. Usually, over a long-term period, most consumers average out the prices of fuel: paying more than market price as often as they underpay.
Southwest Airlines Co., the biggest low-cost American carrier, saved almost $118 million (Rs495.6 crore) on its fuel costs for the last quarter of 2006, primarily because it hedged 95% of its annual fuel consumption at a price cap linked to $50 a barrel.
Oil prices peaked at $75 a barrel that year, helping the airline rake in $499 million in profit in 2006, an example that several of India’s airline officials cited.
But it will take some time before India’s airlines are able to take advantage of this hedging process. Airlines were earlier allowed to hedge fuel purchases used for their international operations, and the new policy will take a while to get into place. For one, the airlines can’t hedge the prices directly with the government-owned oil suppliers, but must work through authorized banks.
“It will be a long while (before) we can take a call,” said N. Srikumar, a spokesman for Indian Oil Corp. Ltd, which sold 65% of the aviation fuel consumed in 2006. “We need to see the RBI guidelines before we proceed.”
India’s airlines pay considerably more for aviation turbine fuel than the international price of such fuel; excise and customs duties, and varying sales tax add almost 45% of the cost. So, the possibility of saving any money at all was a welcome proposition.
“Any step which can even distantly reduce the burden of high fuel costs for the Indian airline industry is in the right direction,” said V. Thulasidas, managing director of state-owned Air India, India’s biggest international airline. Thulasidas, as the current chairman of industry body Federation of Indian Airlines, had lobbied for this concession.
Deccan Aviation Ltd-owned Air Deccan, one of India’s top three airlines by market share, uses almost 24,000 kilolitres of aviation fuel a month, said Mohan Kumar, an ex-finance director of the airline who still consults with it on a regular basis.
“Even if you save 1%, it’s a substantial saving to have on your balance sheets,” he said. “Every airline would like to have that kind of savings, given the current market scenario.”