The aviation industry in India has to overcome several challenges before a turnaround happens, since capital infusion can seldom be a solution to a weak business model, say aviation analysts.

While FDI in aviation may bring in much-needed long-term financial and strategic capital and expertise, the aviation industry has to overcome high fuel costs, stiff competition and its capital-intensive nature with high fixed costs.

Analysts said fuel costs, the largest cost component for airlines, considerably impacts operating margins, but are beyond their control. Aviation turbine fuel (ATF) prices are driven by fluctuations in global crude oil prices.

Currently, national sales tax average is 25-30 per cent on ATF, which is a major burden for Indian carriers as fuel costs account for over 45-50 per cent of costs.

“If aviation turbine fuel is categorised as a declared good, it would reduce sales tax from an average of 24 per cent to four per cent and have a substantial positive impact on airline financials,” said Kapil Kaul, India Head of Centre for Asia Pacific Aviation (CAPA).

Also, the airlines industry is capital-intensive, with high fixed costs for aircraft acquisition, leasing and maintenance. Additional costs incurred on training pilots, technical support staff and crew members are also fixed, says a Crisil report.

Aviation analysts said that the effect of FDI will not be immediate. Carriers from the Gulf, as well as IAG and Singapore Airlines have all been watching the sector with interest and informal discussions have taken place in some cases.

“But the balance sheets of most of the incumbent carriers are relatively weak and the sector faces numerous structural challenges. So foreign airlines will make their own assessments about whether they consider a carrier to be a suitable investment at this time,” Kaul said.

Analysts have alluded to the sector’s past, for in the 1990s, when deregulation allowed the entry of private carriers on domestic routes, India permitted up to 40 per cent FDI, including those by foreign airlines. At that time, both Gulf Air and Kuwait Airways acquired 20 per cent stake in Jet Airways.

However, in 1996, the Government announced that foreign airline shareholdings were not in the interests of India’s aviation sector and scrapped the policy.

Ostensibly, this was because private carriers were still relatively small and the concern was that foreign airlines would control their development in such a way as to feed their offshore hubs, relegating the Indian carrier to a regional status.

In reality though, analysts said, it was a move designed to thwart the Tata Group and Singapore Airlines’ plans to jointly launch a domestic carrier in India. Jet Airways also had to buy back the shares from its Gulf investors.

So what has changed? The crisis in Indian aviation, which has resulted in almost every carrier, except IndiGo, facing some form of financial stress, has created an environment in which all measures to support the recovery of the sector had to be considered, even those which have been off the table so far.

Analysts add that the floodgates of investment are unlikely to open in the short term.

“If the Government is serious about granting new licences to well-funded, professional start-ups, we could in due course see the launch of greenfield joint ventures by carriers such as AirAsia, Jetstar and Tiger Airways,” Kaul said.

(This article was published on September 16, 2012)
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