In January 2010, Japan Airlines became the latest carrier to declare bankruptcy, joining the swelling ranks of insolvent airlines in recent years. Considering the vital nature of the service it provides and its invaluable contribution to making the world a smaller place, why is the airline industry synonymous with ongoing losses and insolvency? Four reasons why airlines are always struggling. 1. Unprofitable Airlines Continue to Fly An industry that has been unprofitable for decades would be eventually forced by market participants to undergo consolidation and rationalization in an attempt to find a better way to do business. Not so for the airline industry, for whom this basic business precept does not seem to fly, so to speak. Many unprofitable airlines continue to remain in business despite years of substantial losses, because various stakeholders cannot afford to let them close. Closing down a large unprofitable airline would involve the loss of thousands of jobs, inconvenience to hundreds of thousands of travelers, and millions in losses for the airline's creditors. Not to mention the loss of national pride if the airline in question is a national carrier. Because closing down a floundering airline is a politically unpalatable decision, governments will usually provide it with a financial lifeline to stay in business. But struggling airlines often have to resort to cut-throat pricing to fill up their excess capacity, and as a result, even the stronger players in the industry are adversely affected by this lack of pricing power. (If you're a long time air traveler, you've probably noticed that flying means pulling out your wallet a whole lot more often. Find out what's fallen off the list of airline freebies in 7 Air Travel Perks That Used To Be Free.) 2. High Fixed and Variable Costs Aircraft are very expensive pieces of equipment, and airlines have to continue making large lease or loan repayments regardless of business conditions. Airlines also need large labor forces to run their complex operations, making payroll expenses another c omponent of relatively fixed costs that have to be incurred month after month. With oil prices having quadrupled over the past decade, high fuel costs are yet another challenge that airlines have to contend with. Add in security costs that have skyrocketed after 9/11, and it is apparent that few airlines can surmount the formidable obstacle of their high-cost structure.
3. Exogenous Events Can Suddenly Affect Demand The airline industry is particularly vulnerable to exogenous events such as terrorism and volcanic eruptions, which can drastically affect their operations and passenger demand. For example, airlines are collectively estimated to have racked up losses in excess of $2 billion from the closure of European airspace in April, caused by massive ash clo uds following a volcanic eruption in Iceland. The U.S. airline industry suffered losses of about $7.7 billion in 2001 despite massive federal aid, largely due to a plunge in passenger demand after the 9/11 attacks. 4. Reputation for Hassles and Poor Service Long lines due to security procedures at check -in, cramped seating, inconvenient schedules, poor service - the list of airline travelers' complaints is a lengthy one. The perception that air travel is an ordeal continues to grow, making it very difficult for airlines to charge the higher prices that are necessary to return to profitability. (This maligned sector is in better shape than most investors believe. Don't miss Airline Stocks Look Set To Soar.)
The Bottom Line Airlines provide a vital service, but factors including the continuing existence of loss -making carriers, bloated cost structure, vulnerability to exogenous events and a reputation for poor service combine to present a huge impediment to profitability. While a handful of low -cost airlines have successfully managed to post consistent profits, by and large, profitable airlines are few and far between.
SBI leads banks on tri-strategy for airline debt
Based on Reserve Bank of India (RBI) instructions, State Bank of India, the country¶s largest lender, and its merchant banking arm, SBI Caps, have prepared the broad contours of a much-awaited debt restructuring package for the aviation secto r. The RBI suggestions include conversion of short -term loans into long-term credit, additional equity infusion by airline promoters and partial conversion of outstanding debt into equity and preference capital. Though preliminary, it will set the agenda for further discussions among the top 13 banks who have the highest lending exposure to the cash-strapped sector. It is expected that these initiatives will provide major relief for the sector¶s ballooning debt. And, especially, help the three biggest carriers -- Air India, Kingfisher Airlines and Jet Airways. Between them, they control 65 per cent of domestic passeng er traffic but have a combined debt of Rs 63,045 crore ($13.5 billion).
Three independent bankers privy to the developments told Business Standard that late last week, at a meeting in SBI, these points were discussed in detail among the 13 top lenders. The meeting discussed only the debt restructuring package of Kingfisher Airlines at length but the bankers believe it will set the basis for the bigger sectoral package. ³When we had first met Deputy Governor Usha Thorat in RBI on June 18 to seek assistance, the regulator made it clear that instead of providing relief to individual airline companies, it would prefer to review suggestions for a common sectoral package from the lender-consortiums. It was then left to SBI to take the initiative forward and last Thursday¶s meeting was the first step towards that,´ said a banker whose organisation has lent to these airlines. After this meeting, these big lenders will now come back with individual suggestions and proposals after discussing these internally. And, fina lly, they will together hammer out a comprehensive debt relief package and then approach RBI for a special dispensation. The bankers are expected to meet again in the next fortnight and take things forward.
Kingfisher boost ³The first and the biggest benef iciary of the debt relief package would be Kingfisher. Its long-term and short-term debt has huge implications for the entire aviation and banking industry. Also, RBI specifically rejected a proposal to recast Kingfisher¶s short-term debt. One can even argue some of the steps are tailor-made to help Kingfisher,´ said a banker who had attended the meeting, on condition of anonymity.
SBI Caps is advising the ailing Kingfisher to restructure its Rs 7,413 -crore debt (as on December 2009). Earlier, RBI had shot down SBI¶s proposal to recast Kingfisher¶s Rs 2,099 crore short-term debt. The remaining amount is long-term debt. For the year ending March 2009, the net loss of the airline was Rs 1,647.22 crore. The first proposal, for example, asks for conversion of th e short-term loans into longterm and then extending the repayment schedule to nine years, with a one to two year moratorium. ³The rescheduling of the repayment obligation is key, as different banks have different types of exposure. Some have given short-term debt, some long-term. The tenor and rates both vary,´ said a banker. ³So, the plan is to convert the short-term debt into nine-year, long-term debt and even look at reducing the interest rates.´ Repayment of loans now will further strain the balance sh eets of the airlines, so the idea is to give them a breathing space for the next two years and then prepare the repayment timeline over the next seven, the bankers added. Then comes the issue of additional equity infusion by the promoters. Banking sources say Kingfisher¶s management told its lenders they planned to raise $250 million via a global depository rights issue. A rights issue by the promoters or a QIP (qualified institutional placement) is also being planned. This is part of a bigger $400 million fund raising exercise the airline has been planning for a while.
Bankers say when it comes to Air India, they are not sure if the government would like to pump in more money before it notices any sizeable turnaround. The bankers say they feel the government is clear that Air India should now generate more funds through better passenger yields and cost -cutting, instead of expecting further bailouts.
Debt, plus & minus What is interesting, however, is the final point that has been suggested by some lenders. Converting part of the debt into equity and preference capital may act as a partial safeguard during distress, but most bankers are unlikely to favour such a move.
³We are not a private equity shop. We are a bank and we are comfortable with debt management. Managing equity means a lot of headache for us. Remember, unlike a PE manager, we have thousands of companies in our portfolio. Equity -linked responsibilities would mean a lot of extra time spent on one particular case and that¶s unequal distribution of our time and effort,´ said someone from a leading private sector bank. Moreover, conversion at this point will favour the promoters and not the lenders, he added. It¶s a delicate balance for the banks and the airlines that are in desperate need for a lifeline. The banks, too, want to stop own loans from turning bad, as it affects their profitability. A restructuring package would prevent the banks from setting aside money to make provisions for these bad loans. ³It¶s a win -win for all,´ said the CEO of a private sector airline company, who did not want to be identified. The challenge in Indian aviation, say bankers, is the fact that large chunks of the debt are unsecured. Take aircraft financing. It¶s the biggest piece and almost 85 per cent of that debt is backed by guarantees from the US Exim Bank or their European counterparts. Indian banks take exposure to the remaining 15 per cent, which remains subordinated. ³In case there is a default, the overseas lenders and the US Exim Bank will arrest the aircraft and sell it if required to recover their money, while Indian banks will get negligible recourse,´ said one of the bankers. This is the reason why most Indian aviation companies cannot be sent for credit restructuring programmes. ³These are not manufacturin g companies. So, you don¶t have working capital loans against current assets. It¶s against receivables. And, that for us is unsecured debt,´ said another lender.
Air India to get Rs 1,200-cr equity
The government would infuse an additional equity of Rs 1,200 crore into Air India over the next few months and review its performance to decide on the future course, civil aviation minister Praful Patel has said. He ruled out divesting government equity in the national carrier for the moment.
³It is imperative we assess the situation after (a total of) Rs 2,000 crore is infused as equity; Rs 1,200 crore will be given in the next few months,´ Patel said in an interview on the sidelines of the annual summit of the International Air Transport Association (IATA) here. The government, as Air India¶s owner, gave the airline Rs 800 crore in equity last year. Asked whether government was mulling divesting its stake in the ailing carrier, he said, ³At the moment, the decision is not to disinvest . The government¶s decision is to have a national carrier and it shall continue to be so.´ Whether government would consider a course correction on the merger of Air India and erstwhile Indian Airlines following criticis m from several quarters, Patel said, ³No. We¶ve to see how it performs (after the equity infusion). There has been no government subsidy to Air India´. He said officials of all airlines attending the IATA summit have said ³mergers do not happen overnight. It is an ongoing process. Air France -KLM have taken six years.´ As costs increase and the airlines¶ margins came under pressure, consolidation was ³inevitable and nothing unusual´. On Air India¶s financial troubles, he said there were several options b efore the government: go to the market, go for an IPO or give it equity support. ³The government chose the third option.´ On strengthening of the Directorate General of Civil Aviation (DGCA), Patel said the government was considering granting it full autonomy. He said the question of separating the regulator and an investigator of accidents was being considered. Currently, the officials of DGCA carry out investigations into incidents and accidents involving planes and choppers. ³A regulator, who makes rules, and an investigator should not be the same. The court of inquiry (into the recent Mangalore air crash) has been set up with (former vice-chief of IAF) air marshal Gokhale. He is outside the DGCA,´ he said. To questions about having an independent inv estigator into all accidents, he said, ³The intention is to move in that direction. A lot of discussion is required on the issue.´ Patel had earlier suggested that an independent accident -investigating body like the US National Transportation Safety Boar d needs to be set up in India. Asked about the Airport Economic Regulatory Authority (AERA) set up last year, he said it was making ³good progress. Issues relating to the airport development fee and other airport charges are being regulated by them. Govern ment does not come into the picture (on these issues) now.´ Maintaining that Indian aviation traffic had grown by a ³modest 15%´ this year, the
minister said there was a huge potential for air travel which existed in the country. ³In 2004, the number of people travelling by train on a single day was equal to the number of air passengers one year. Now that has changed. The number of train travellers on one day equals the number of three days of air travel.´ Due to this, the model of air travel has to be ³redefined to meet the aspirations of the middle class. The bulk of the Indian domestic traffic will have to be at a lower cost, which will have to be met by a leaner, meaner and an efficient (airline) organisation,´ Patel added.
Air India plans property, bonds sale to stay airborne
Jul 25, 2010 National Aviation Co. of India Ltd., the state-owned parent of Air India, plans to sell new bonds to sustain the company that has never posted a profit.
The Indian government will guarantee the bonds, which will help the carrier cut interest costs, Civil Aviation Minister Praful Patel said in Mumbai yesterday. The company, which has been unprofitable since its 2007 formation, will get a 12 billion rupee ($256 million) equity infusion from the government this fiscal year, he reiterated. Air India aims to fly an annual 25 million travelers domestically and 15 million on overseas routes to break even in fiscal year 2015, Chairman Arvind Jadhav said. India¶s government must restructure the airline quickly as competition from domestic companies Jet Airways (India) Ltd. and Kingfisher Airlines Ltd. intensifies and overseas carriers like Singapore Airlines Ltd. expand into the country, an analyst said. ³They are taking little steps here and there,´ said Binit Somaia, director for South Asia at the Sydney-based Centre for Asia Pacific Aviation. ³They probably need to act faster. It requires decisive measures.´ The carrier plans to monetize its land and buildings by sale or as security for raising loans, the airline said in a statement yesterday. Fine Tuning National Aviation, formed by merging Air India with its domestic counterpart Indian Airlines, boosted traffic revenue 28 percent in the first quarter to 6.38 billion rupees while cargo revenue gained by more than half to 920 million rupees, the airline said. The carrier filled 75 percent of seats in the domestic sector during quarter while flying an average 36,000 passengers daily, it said. The Indian government, which owns all of the airline, is ³fully supportive,´ Patel said after reviewing the turnaround plan with the company¶s board. The government infused 8 billion rupees as equity into the carrier last year.
³This is the start, based on which further fine-tuning of the organization will be done,´ he said. National Aviation has already cut overlapping flights to reduce costs. The government estimates Air India may have narrowed losses in the year that ended in March to 54 billion rupees from 55.5 billion rupees a year earlier. The airline may also cut costs by shedding as many as 7,000 jobs through retirements over the next three years, George Abraham, the Aviation Industry Employees¶ Guild¶s general secretary, told Bloomberg News last week. Air India isn¶t planning job cuts, Patel said yesterday. In June last year, the airline delayed salaries by two weeks to its 31,000 employees as it ran short of cash. Debt The company had a debt of 152 billion rupees as of June last year, according to the government. National Aviation is seeking to refinance $1.15 billion of debt used for the purchase of 21 Airbus SAS planes to pare interest costs, according to its website. The company extended the deadline for bank bids to refinance the debt to Aug. 31. National Aviation is the third biggest operator of domestic air passenger services with a 17.7 percent share behind Jet and Kingfisher, according to the ministry of civil aviation. Earlier this year, the government appointed Anand Mahindra, vice chairman and managing director of Mahindra & Mahindra Ltd., India¶s biggest sport-utility vehicle maker, and three others to the board of National Aviation. The airline also appointed Gustav Baldauf as its Chief Operating Officer.
As part of its financial restructuring plan to reduce debt burden, Kingfisher Airlines will infuse equity amounting to Rs 350 crore during this financial year. Besides this, the airline, which has unsecured loans and preference capital worth Rs 395 crore from the United Breweries (UB) Group, will convert them into equity during the ongoing fiscal. In an analyst presentation, the airlines also said it proposes t o seek a two-year moratorium on all its loan repayments. However, the carrier plans to repay them within a nine-year timeframe. The airline said, "SBI caps has been mandated with the task of financial restructuring. The process is expected to be complete d in 6-8 weeks' time period." Moreover, the airline has also initiated the process to raise $200 million through a
global depository receipts (GDR) issue this fiscal, for which Citibank, Morgan Stanley, CLSA and UBS have been roped in. When contacted for details, a company spokesperson said: "At this time, we have no further details to share beyond what is stated in the investor presentation available on the website of The UB Group. Any announcement will be made as and when appropriate." It is estimated that as on March 31 2010, Kingfisher has an outstanding debt of Rs 6,000 crore and bulk of them are long term loans. The debt burden, however, has come down from Rs 7,413 crore on December 31, 2009. The airline is also understood to have asked the Res erve Bank of India to relax loan norms to banks for the aviation sector. Till now, RBI has not given banks the go ahead, though it indicated on Tuesday that it will look into the issue. "One airline had approached us for some adjustment, and we said it is not our policy to address issues on company-to-company basis, or indeed on sector-by-sector basis. Then, the banks told us this is a sectoral issue and there is a problem on meeting payment schedules for the industry," RBI governor D Subbarao had said after the quarterly review of the credit policy on Tuesday. In April-June quarter, Kingfisher fared better in terms of numbers with a net loss of Rs 187 crore as against a net loss of Rs 237 crore during the same period last fiscal.