LCC - The High Price of Low Fare

The crisis-ridden Indian airline Industry might well reckon 2009 as the year in which the Low Cost Carrier (LCC) model finally became dominant. The global economic downturn, which has stretched several dreary months, has forced many corporate travellers to quit their plush business class seats and shift reluctantly to plain economy. With corporate travel declining precipitously, industry experts have begun questioning the very relevance of business and first classes. The emerging choice, it appears, is between economy class and video conferencing. And now even the government is turning austere, with ministers, politicians and officials travelling economy. Although it would be surprising if this fad were to last more than a few months, the market is clearly moving towards low-cost travel. Reading the writing on the wall, most airlines—notably the three biggies, Jet Airways, Kingfisher Airlines and Air India—made known their intentions of going low-cost with a vengeance (see “Low Cost Catches On”, SP’s Aviation, October 2009). The common perception was that a decisive shift to the low-cost model would save them from financial ruin. Their faith would be touching if it were not so misplaced. Lowering fares can be done with the stroke of a pen. Lowering operating costs could take months, if not years—and there is no certainty of success.

Trimming the Frills

The term Low Cost Carrier, or low-cost airline—also known as no-frills, discount or budget carrier or airline—was coined by the airline industry to refer to an airline with a lower operating cost structure than its competitors. Such an airline eliminates many traditional passenger services and consequently, is able to lower fares. The concept, pioneered in the US, soon spread to Europe and subsequently to most of the world. India’s own lowcost revolution was initiated by Air Deccan in 2003.

However, it is becoming difficult to tell an LCC from a Full Service Carrier (FSC). In many respects—fleet, network design, pricing, product offering and even cost structure—the earlier stark differences are fading. While the FSCs are rushing to embrace the low-cost philosophy, the LCCs seem eager to woo passengers by offering more and more amenities. In other words, both models are moving toward the mainstream middle. Worldwide, only a few carriers like Ryanair, Spirit and AirAsia have stayed true to the no-frills paradigm despite great temptation to go astray.

India’s pure LCCs, such as IndiGo and SpiceJet, have weathered the economic turmoil relatively unscathed. However, LCCs run by full-service players have proved less resilient. In 2007, Jet Airways purchased Air Sahara and re-branded it as low-cost JetLite. But Air Sahara wasn’t an LCC to start with. And Jet Airways’ strong pride in its product coupled with the fullservice minded management’s desire to introduce more comforts on JetLite has almost completely dispensed with low-cost wisdom. In May, Jet Airways launched yet another low-cost arm, Jet Airways Konnect. Last year, Kingfisher Airlines took over LCC Air Deccan, rechristening it Kingfisher Red. This airline doesn’t fit the classic LCC mould either.

Air India, through its low-cost subsidiary Air India Express, wished to show that going low-cost in the domestic sector is a game three can play, but financial and regulatory hurdles seem to have come in the way. This may well turn out to be a blessing in disguise because there are hardly any global examples where the ‘airline within an airline’ model has worked, particularly for LCCs. Instead, failed ‘internal low-costs’ dot the landscape.

Problems of Plenty

Job of an airline executive in India is not for the fainthearted. The industry is on a rollercoaster. Passenger volumes which hit dramatic lows a few months ago have at last begun to look up. But some of this growth is the poisoned fruit of intense competition and mindless price wars. Travellers are still paying not nearly enough for the airlines to break even, let alone recoup their accumulated losses. Consequently, in 2009, the Indian airline industry, which accounts for just two per cent of the global aviation business, is likely to suffer a collective loss of $1.5 billion (Rs 6,970 crore)—11 per cent of the worldwide total. When times were good, fares were aggressively slashed and orders for new airliners were placed by the score. Many of these orders have since been cancelled/rescheduled. Finance is still not easy to come by, which makes life difficult for an industry struggling to cope with pricey Aviation Turbine Fuel (ATF) and high airport charges. Cash flow is sometimes insufficient even to meet day-to-day requirements while growth is still a distant dream. It will take some years for the industry to wipe out its accumulated debt and be rid of the resultant interest burden.

The FSCs probably hope to cut their losses by going lowcost. However, the original LCCs are also increasing capacity in anticipation of better times. Consequently, low-cost seats now account for a whopping 70 per cent of the domestic aviation market. Is another capacity bubble building, this time in the low-cost segment? Unless revenue exceeds the cost, the outlook is likely to remain bleak. Most likely, yields are set to fall even further. Apart from the problem of the high cost of ATF, for which a solution does not appear imminent, high airport charges are generally blamed for high operating costs. Currently, charges for airport usage, navigation and other operational costs are the same for LCCs and other carriers. This is a practice that the newly-established Airport Economic Regulatory Authority would hopefully review.

Wanted: Low-Cost Airports

Shaken by the economic downturn, the global airline industry is cutting flab and turning decisively lean and mean. But airports and terminals have been slower to adjust to the new reality. An emerging trend in mature markets is that LCCs have all but exhausted viable routes and are beginning to engage in an ever more desperate search for new routes to fly. This could create significant opportunities for new airports if they were to adapt to the requirements of the LCCs. Most LCCs prefer minimal airport infrastructure so they can go in for experimental expansion without excessive financial exposure. An LCC flight at a ‘frilly’ airport is like a fish out of water.

Airport infrastructure is mostly fixed and has an economic life of perhaps three decades or more. Airline fleets, on the other hand, are highly mobile. They can switch routes in a matter of days rendering a particular airport completely uneconomical to operate. Airports and terminals based on projected airline requirements can thus quickly become unsuitable. LCCs especially detest delay. Their success depends partly on lowering costs by increasing utilisation of aircraft through lightning-fast turnarounds. How would true LCCs, and pretenders, survive in India’s increasingly congested airports? For instance, Air India flights have an average turnaround time of around 50 minutes as compared to 25 minutes for some LCCs. At present, the country does not have the airport capacity to efficiently handle the multitude of old and new LCC flights.

Some airport developers had been planning separate no-frills terminals, but with almost all domestic airlines turning low-cost perhaps entire airports will need to dispense with frills. In Europe, for instance, Ryanair’s obsession with lowering costs is legendary. It is even prepared to abandon certain routes completely rather than pay airport charges that are higher than it feels it can bear. But if the majority of Indian carriers become LCCs, and expect to be charged at LCC rates, how will airports generate sufficient revenue? What implications will it have for the level of facilities they offer at terminals? Airports will increasingly need to think of subsidising their operational costs and tapping ancillary sources of income in order to remain economically viable.