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Airline bailout: an idea sans economic sense

Airline bailout: an idea sans economic sense
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First Published: Fri, Nov 25 2011. 12 31 AM IST

By Jayachandran/Mint
By Jayachandran/Mint
Updated: Fri, Nov 25 2011. 12 31 AM IST
Today, there is raging debate whether Kingfisher Airlines Ltd should be bailed out or not. At 16.7% market share, it is the country’s third largest domestic carrier. Companies as diverse as Reliance Industries Ltd to the Sahara group have been rumoured to have evaluated a stake in Kingfisher. However, the problems of the airline industry are much deeper than Kingfisher’s immediate cash crunch. It is important to understand the economic realities of this industry where all listed entities, from SpiceJet to Jet Airways to Kingfisher, have together lost over Rs1,500 crore in a single quarter, even as Air India continues to lose Rs600 crore every month. In fact, Jet and Kingfisher have together lost almost Rs6,300 crore in the last three years.
By Jayachandran/Mint
Markets are all about demand and supply, and India’s domestic skies have too much supply—2.16 lakh daily seats serving a demand of 1.51 lakh daily passengers. This has happened as Indian carriers have placed aggressive orders for hundreds of aircraft in the last four-five years. Faced with excess supply, the airline industry often witnesses a particularly peculiar behaviour—airlines discount fares further and aggressively chase market share instead. This leads to a fare war, eroding the profitability of the entire market. This is resolved when the weakest firm goes out of business or the supply in the market is reduced—this has been seen with the liquidation/sale of carriers such as Pan Am (US), Sabena (Belgium) and Mexicana (Mexico). The weakest company is typically the airline with the highest cost structure and the shakiest financials. That would typically mean Air India, in our context.
Right and wrong. Air India is indeed the weakest airline in the Indian aviation industry—its cost per available seat mile was over 50% higher than Jet in FY10 and it has accumulated Rs13,000 crore in losses in the last three years. But supported by a government decision to bail it out and working capital from Indian banks, it has continued to operate and is now aggressively seeking to regain the lost market share.
Armed with government support, Air India’s pricing is possibly driven by market share targets, instead of a cost-plus or market-determined pricing. This strategy has exacerbated losses in all firms even as fuel price remains at record highs and the rupee has lost over 10%. This has clearly pushed Kingfisher to the brink, with its share capital almost completely eroded and profitability not improving despite successive debt recasts.
That does not mean that Kingfisher should be bailed out. Clearly, its business model has been proven inferior to the one followed by other carriers such as SpiceJet, which declared profits for the last eight consecutive quarters. Compared with this, Kingfisher has never made a profit right from inception. Also, the government’s policy stance (though adversely affecting the industry) is not new. It has always favoured the national carrier and has twisted policies in its favour.
Bailing out Kingfisher does not address the root cause of the problem—it will only cause Jet or SpiceJet or even IndiGo to fail next. Therefore, the only viable solution for the industry would be to allow for consolidation and even reorganization after orderly liquidation of the failed entities. To reduce the impact on the public sector lenders, any corporate guarantees provided for the unviable entities should be encashed. This will allow for rationalization of the demand and supply scenario, adjustment of ticket prices and long-term viability of the industry.
The current government plan to support Air India is a waste of taxpayers’ money. The revised plan envisages investment of Rs37,000 crore over the next 10 years, with Rs17,000 crore required by 2015-16. The airline had previously planned to turn a cash profit by 2013—it now plans to do so only in 2018. There is little wisdom for the government to be investing tens of thousands of crores in a structurally dysfunctional industry.
With the continuing support to Air India and its market share-focused pricing policy, there can only be one logical conclusion—Kingfisher will only be the first in a series of airline failures scripted through funding Air India using taxpayers’ money, and it will certainly not be the last one.
Girish Shirodkar is a senior partner at Strategic Decisions Group.
Comments are welcome at otherviews@livemint.com
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First Published: Fri, Nov 25 2011. 12 31 AM IST