"The tax regime is critical for MROs"

Q&A/ William Blair

The Indian maintenance, repair and overhaul (MRO) market is small and fragmented and there are tax issues. Yet, there have been a spate of announcements "" at last count, eight "" with varying levels of investment commitments on plans to set up MRO facilities in India. As the aviation industry in the country develops, will the MRO sector also develop as in the rest of the world? Anjuli Bhargava spoke to GE Aviation's country director for India, William Blair, to find out :

How big is the MRO market in India "" $400 mn?

There is a very big difference between engine overhaul and airframe maintenance and the two are often confused. The reason it's important is that aircraft maintenance is typically 60-70 per cent labour and 40 per cent material cost. So, India could add a tremendous advantage with trained, efficient and, maybe, lower cost labour. But when you talk of engine overhaul, it's the inverse. So, when you think of this equation, you are even more sensitive to what it may cost to bring that material into India. For instance, what is the taxation structure in terms of customs duties and so on?

The other important distinction is that engines are pretty portable. It may not seem that way, but you can take an engine off a wing and transport it anywhere at a fraction of the cost of duties and taxes on materials you may need to import to overhaul it. This makes the global market relatively smaller and much more competitive.

So an Indian airline may actually find it cheaper to send an engine overseas?

That's why it's hard to estimate the size of the market. We know the commercial global MRO market was around $38.8 billion in 2005. The Asia Pacific portion is $8.8 billion or 23 per cent of the total. India is 4 per cent of the Asia Pacific market, which brings us to around $400 million. So, your figure appears correct. This is expected to go to around $14.5 billion, so an average annual growth rate of around 5.1 per cent for Asia Pacific and India is expected to reach around $1 billion by 2015.

North America is a net exporter of engine overhaul. The MRO demand exceeds the MRO supply and the airlines have to export engines to get them overhauled. This is true for Asia too. Europe has more MRO supply than demand. Engine MRO is expected to be the fastest growing segment, with India and the Middle East among the fastest growing markets.

GE estimates show that Indian carriers in 2006 made a relatively low number of shop visits "" just over 100. With 700-1,000 new aircraft entering into service, the number of shop visits will grow to nearly 300 in 2016 and just over 500 in 2025. The question now is how many shop visits does it need to make an efficient shop? That's really what you want to arrive at. So, only when you start to talk of the 2016 numbers do you begin to talk of a relatively significant number of shop visits.

But then, to make the MRO successful, you need to know how many of those shop visits you can possibly put under one roof. Remember, a lot of private airlines may already have entered into long-term service agreements because they can commit to a dollar per hour type of maintenance agreement. It's like an insurance policy.

Does that reduce the pool for third party work?

Yes. That's why the way to make MRO successful in India is to take advantage of trained manpower, achieve some cost advantage but not give up the global advantage vis-a-vis the financial pressures that are placed through the tax structure.

So, a successful MRO in India would have to attract substantial third party work from other countries.

Exactly. It starts with having enough scale to make it efficient just like with any other business.

But there's another point here. Engine MRO as against aircraft MRO requires a pretty large investment: it requires a test cell that costs tens of millions of dollars, it requires specific tooling for each specific type of engine. Aircraft MRO requires land space, hangar space and specific aircraft tooling but the expenditure for engine MRO actually is a very big investment that has to be amortised over the engine overhaul.

As an airline in India, I will see what it costs me to keep my engine here and get it overhauled or do I send it out where it may be cheaper. We found that tax levels can easily add up to 30-35 per cent, which can be a critical factor.

So, is it viable?

It is viable, but is it sustainable? Let me step back. We are committed to support Air India to develop its own MRO capability. They have the technical capability and can continue to overhaul their own engines. The question then is whether they can scale up these operations to gain a commercial advantage. To do that, they need to attract third party work.

And the conclusion here, which came out of an MRO roundtable held recently, is that there has to be a recognition at the government level that unless the commercial solutions are in place "" not incentives, but just a level-playing field "" why should the engines or airframes not be sent out to China or the Middle East?

Where can an India MRO hope to get business from?

You can pull in from the rest of Asia Pacific (other than China, where most of the work remains within), Middle East and Africa. But do you have an advantage to do the work in India compared with a duty-free zone in the Middle East?

It's really a question of capability, capacity and competitiveness. India has the capability, but it has to be scaled up; it has some capacity, which can be scaled up; but the question is whether it can be competitive.