Pies in the sky

MARKET INSIGHT

The spurt in M&A activities in the aviation sector is likely to make it more efficient and develop new revenue streams.

A couple of months ago, the Sahara-Jet deal finally came through. Around the same time, modalities for the Indian-Air India merger were worked out. And then, Kingfisher bought a significant stake in Air Deccan.

Jet and the rebranded JetLite will be the first off the ground operationally. In early 2006, before the union turned messy, Jet had already started the integration process. That will make it easier to reintegrate. Synergies and differences in corporate culture are already known.

There is a strategy in place to turn JetLite into a middle-class airline, which offers more in the way of tender loving care than the low-cost carriers. At the same time, Jet will retain its full-service branding.

Indian-Air India will certainly be very messy. There could be back-and-forth on details for another year. There are too many politicians and bureaucrats with personal empires at stake. It may go through eventually. My mental cut-off would be some six months before the next general election is due in mid-2009. If it hasn't happened by then, it may not happen at all.

The Kingfisher-Deccan combine have branding incompatibilities. Deccan is a low-cost carrier; Kingfisher is full-service. But there is synergy. Combined operations could save an estimated Rs 300 crore per annum. The senior partner understands financial engineering while the junior partner knows more about aviation operations.

Between them, these three alliances control about 85 per cent market share. They can pretty much squeeze out or buy the other players over the next few years. So there will be a clear trend of consolidation.

As far as financials go, the two PSUs have balance sheets out of a Ramsay Brothers horror film. Neither would survive without implicit sovereign guarantee and the overt advantage of state-ownership. The IPO, as and when it occurs, will be a circus. The others are no great shakes either "� Jet has about the best financials and it is struggling.

Consumers and industry analysts alike believe that the mergers will act as a lever to drive prices upwards. That could help balance-sheets if it doesn't impede traffic growth. Traffic has grown fast through the last three years "� India is the fastest-growing aviation market in the world. However despite more warm bodies on seats, losses are endemic. ARPU, to borrow a term from telecom, is too low to be remunerative.

Personally I don't think consolidation will be enough to cause a serious hardening in fares. Not without cartelisation though that cannot be ruled out in any Indian market, which lacks a tariff regulator.

The regulatory issue will take sorting out. It will mean pruning and delinking powers from DGCA and AAI, passing legislation to that effect and creating a tariff authority for airports and airlines. The fuss and bother in creating TRAI, IRDA etc should be a pointer to the pitfalls in this process.

The reason why fares are unlikely to harden is simple. In the past two years, the Indian civil aviation industry has placed aircraft orders to the tune of some $40 billion. Both Airbus and Boeing have benefited, and there have been order for smaller planes such as Embraers and ATRs as well.

That will mean some 450-odd new aircraft with average capacities in excess of 200 seats each will enter Indian airspace over the next three-four years. Even with phase-outs of older planes being converted to freighters, it means an additional 75,000-80,000 seats. Indian domestic traffic has grown at around 20 per cent per annum but there will be a supply overhang.

It's not as though orders will stop flowing. Boeing hopes to sell 1100-odd aircraft over the next 20 years to Indian carriers. If there are that many seats to flog, instead of developing pricing power, carriers will have to cut costs and develop new revenue streams.

There are several key areas where costs are exorbitant and beyond the carriers' control. Indian airports charge the earth in parking and landing fees and aviation turbine fuel (also called kerosene) is taxed at variable and high rates. Plus, congestion at airports means fuel is also wasted.

The airport renewal plan should ease congestion and that in itself could mean 10-15 per cent fuel savings. If states agree to rationalise and impose even ATF tariffs, that would also help.

However, even in well-run markets with high per capita incomes, low aeronautical fees and low ATF taxes, civil aviation has a track record as a value-destroyer.