Security checks for aviation industry

Ashish Sharma | Updated on February 10, 2013

Ground reality: The complexities inherent in the aviation business, together with the highly regulated environment, leave an airline exposed to several risks.   -  Business Line

Fare discounting has historically been a less productive strategy for the airline industry.

India is the ninth-largest aviation market in the world, according to research company RNCOS’s report titled ‘Indian Aerospace Industry Analysis’. The civil aviation market is expected to register more than 16 per cent compound annual growth during 2010-13.

Today, 87 foreign airlines and five Indian carriers provide connectivity to 40 countries. Domestic airlines served 43.8 million passengers during January-September 2012, according to data from the Directorate General of Civil Aviation.

The Vision 2020 statement announced by the Ministry of Civil Aviation envisages infrastructure to handle 280 million passengers by 2020.

While the outlook is upbeat, there are obvious challenges. The industry is facing multiple headwinds — high oil prices, high debt burden and liquidity constraints — and most airlines need significant equity infusion to improve their balance sheet. Therefore, it is critical for an airline to identify its business risks and mitigate them through effective strategies.

The inherent complexities in the aviation business, together with the highly regulated environment, expose an airline to several risks in the areas of branding, strategy, finance and operations. An airline Board is entrusted not only with identifying risks and mitigating them but also capitalising on opportunities that arise.

Strategy Risk

The Government’s ‘open sky’ policy has attracted many foreign players, and the industry is growing in the number of players and aircraft. An airline faces direct competition from other airlines on its routes, as well as from indirect flights, charter services, and other modes of transport.

Also, mergers and acquisitions amongst competitors can adversely affect the market position and revenue of an operator.

Some airlines may want to concentrate more on international operations. While it is important for an operator to constantly increase its network, it is crucial to ensure that it continuously calibrates its network and optimises its spread.

Fare discounting has historically been a less productive strategy. An airline should implement adequate measures to safeguard against the temptation of discounting to acquire new customers.

Failure to adopt an integrated strategy can directly impact revenues. The Board has to ensure that strong risk management procedures are integral to strategy formulation, as well as their execution.

Finance Risk

Given the nature of the industry, an airline operator may carry substantial debt. Ability to finance ongoing operations, committed aircraft orders, and future fleet growth plans may be affected by various factors, including market conditions. Future capital requirements/ funding may be asset-related, but there can be no assurance that the aircraft will continue to provide attractive security for lenders.

Fuel constitutes about 40 per cent of an airline’s expenditure. Volatility in fuel price can impact operating results. The price risk may partially be hedged through the purchase of oil and petroleum derivatives in forward markets, but an airline is still exposed to currency risk on revenue, purchases and borrowings in foreign currencies.

A majority of the airlines in India have seen a dip in revenue despite an increase in traffic. A sound financial management system, coupled with greater operating efficiencies has helped some airlines maintain sustainable margins.

Operations Risk

Metro sectors have seen sizeable traffic in India, and these have been growing steadily.

However, the high cost of landing bays and other infrastructure, delays in ground clearances, and higher turnaround times have made these operations less profitable.

There has been a constant struggle between the unionised workforce and airlines, and a breakdown in the bargaining process has disrupted operations and adversely affected business performance. The airlines’ effort to reduce employment costs, through increased productivity and competitive wage awards, may not provide the impetus expected.

The airline industry, in general, is also becoming increasingly regulated, in areas ranging from infrastructure (slot capacity and route flying rights) to new environmental and security requirements. An airline’s ability to comply with the regulations is key to maintaining operational and financial performance.

Brand Risk

Erosion of an airline’s brand could adversely impact its market position, and affect future revenue and profitability.

Some key factors that impact an airline brand are customer service, safety standards, crisis management, communication strategy, corporate governance, regulatory compliance and personnel management (employees and contractors).

Road Ahead

The Indian aviation industry is exploring opportunities to improve connectivity and enhance the number of Indian carriers. The fast-growing tourism industry has boosted the market, as well as the airport industry’s outlook. It is, therefore, critical for an organisation to be risk intelligent to sustain operations in this highly competitive and regulated market.

Ashish Sharma is Senior Manager, Deloitte Touche Tohmatsu India Pvt Ltd

Published on February 10, 2013

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