New Delhi: Not long ago, a start-up or emerging-market airline would begin service with a few old planes and wait until customer demand and profits were solid before taking on the cost of new planes.
No more. Bucking a tradition begun with Southwest, the granddaddy of low-cost start-ups, many airlines in places such as Asia, South America and Mexico are not growing slowly or cheaply. Buoyed by rapidly rising demand from consumers who are trading in long bus and train rides for the speed of air travel and by aggressive financing from banks eager for a piece of emerging markets, even the youngest companies are ordering aircraft by the handful.
The demand for planes means that the two biggest aeroplane manufacturers, Airbus and Boeing Co., are producing them as quickly as they can— and that is still nowhere near fast enough. The wait for a new Airbus 320 commercial jet is nearly five years.
The problem is that the aeroplane manufacturers have become increasingly dependent on orders from airlines in notoriously volatile developing economies, and it is inevitable that some of the new airlines will fold, or, at the least, be absorbed by bigger, stronger carriers. “Start-up airlines and low-cost airlines have become much more significant customers of Boeing and Airbus,” particularly after US and European airlines cut back ordering planes after 11 September 2001, said Philip Baggaley, an airline credit analyst at Standard & Poor’s.
“Manufacturers were all the more eager to sell planes to airlines that were still expanding, from Asia and the Middle East to the low-cost airlines in Europe,” he said. Some of these airlines are more financially stable than others.
On Tuesday, Jazeera Airways, a new carrier based in Kuwait and Dubai, ordered 30 Airbus A320 aircraft at the Paris Air Show, and Russia’s S7 Airlines ordered 25 new Airbus planes. The demographics and economic predictions for these emerging markets are so positive that no one is predicting a collapse in prices or a coming glut of aircraft. But as India’s airline industry proves, there may be a few hiccups along the way.
Kingfisher Airlines Ltd, for instance, has one of the airline industry’s most aggressive growth plans. It has five of the giant A380 planes on order and its recent purchase of another new airline with aggressive plans, Air Deccan, leaves it with orders for 150 new planes over the next five years.
On Wednesday, Kingfisher pledged to buy 50 planes from Airbus including the new A350 XWB, in a preliminary contract valued at $7.3 billion (Rs29,930 crore) at list prices. Kingfisher, owned by the brewer UB Group, plans to purchase 15 A350-800 XWBs, 10 A330-200s, five long-range A340-500s and 20 A320 series aircraft, the companies said on Wednesday at the Paris Air Show.
Extra aircraft that come onto the market can be quickly absorbed by another emerging market airline, or even one of the traditional carriers, industry experts say. But a series of similar consolidations could spell trouble. Some of the froth in the market is being fuelled by wide-open capital markets and a growing reliance on a financing tool called sale-leasebacks. Using that tool, airlines order a new aircraft, then sell it to a financier for cash when it is delivered, borrow the plane and pay rent. This type of financing has been used for decades, but it is being applied more aggressively than ever before, thanks to a model started in India.
Indian airlines have financed as much as 100% of their fleets this way, enabling them to increase the number of flights, and passengers, quickly with little cash on hand. Airlines more traditionally financed half their fleet or less. Now, lenders say, imitators are sprouting around the world. For example, 100% of IndiGo’s existing fleet of nine aircraft was financed by a sale-leaseback, after being built to the company’s specifications. The airline has another 91 aircraft on order, and is arranging leaseback financing for them as they are delivered.
Indian airlines have specialized in leasing their aircraft “soon after commencing operations”, said Michael Weiss, the head of aircraft finance at Investec bank in London. They place significant orders with airline manufacturers, which allow them to get discounts on the plane’s list price. Then, they sell the planes off to leasing companies for their market value, and put the difference towards their daily operations, Weiss said.
“Over time,” said Baggaley of Standard & Poor’s, “there has been a trend towards greater emphasis on aircraft itself as collateral, rather than the airline that uses it.”
The aircraft leasing market has finally recovered from the 2001 terrorist attacks. Leasing issues plummeted 79% in 2001 from the year before, to $2.8 billion, according to Dealogic, a market research firm.
Last year, they grew to $8.2 billion, and should equal that this year. Airbus executives say they are not concerned that much of the growth in orders is from start-ups, low-cost airlines and emerging markets.
“It is more attractive to buy a new aircraft,” said Paul Kiteley, senior vice-president of leasing markets at Airbus. “They have much lower fuel burn and they have a honeymoon period on maintenance.” Boeing executives, on the other hand, are calling for caution. “People think that the more aeroplanes I order, the more money I can take up front,” said Dinesh Keskar, Boeing’s commercial airline vice-president of sales.
Manufacturers do not disclose how much they discount their planes for big orders, but financiers estimate they may take as much as 30% off the planes’ list prices for a big order.
Traveling on a start-up airline once meant boarding a plane that had a new coat of paint but an old everything else.
Now, in many countries, the cheapest flights will be on new planes, while the established carriers are saddled with the old ones.